Cos bill opposes new treasury stocks

Dec 19, 2011

Treasury stocks, which at times crop up after the merger of two group companies with cross-holdings, could soon become a thing of the past if the provisions in the companies bill are passed by Parliament. The change in the law, corporate lawyers said, may have been necessitated by India's commitment to move to International Financial Reporting Standards (IFRS), a global accounting practice, in the process of being adopted by several countries. IFRS does not recognize creation of treasury stocks. At the international level, treasury stocks could be created when a company goes for buyback of shares. In India, however, in case of buyback of shares the rule requires such shares to be extinguished within seven days. The new law, however, will not have any impact on the existing trusts which hold treasury stocks. At Monday's closing prices, the total value of holding in treasury stocks in six Indian companies was close to Rs 17,000 crore. Of this, nearly Rs 9,000 crore worth of these shares was in Reliance Industries. The other companies which also have treasury stocks are Mahindra & Mahindra, Bharat Petroleum, Indian Oil, Jaiprakash Associates and United Spirits. In case of RIL, the treasury stocks were created when it got full control of IPCL. Before RIL merged IPCL with itself, it held 46% in the company through four of its fully-owned investment subsidiaries. Then RIL merged IPCL with itself through a stock swap deal under which all IPCL shareholders got RIL shares. So RIL's four investment arms also got RIL shares. However, since a company cannot hold its own shares, a trust was created to hold these shares which were under the control of RIL. Such trusts were created by the other five companies also to deal with similar merger issues. At present the company law is not specific about creation of treasury stocks. Hence these stocks are created after mergers and when required, promoters often use them to raise funds for the company. "The new companies bill has eliminated the concept of creation of treasury stocks in case of mergers within the group," said Pavan Kumar Vijay, MD, Corporate Professionals Group, a Delhi-based corporate law and advisory firm. "At present trust shares give indirect control to the promoters and also the flexibility to the management to raise funds by selling them in the open market without seeking approval of shareholders. The new provision will bring more transparency and protect the interest of small shareholders as creation of trust shares, which are freely transferable by the board, will be barred," Vijay said. The earlier law was silent about the creation of treasury stocks. So a company going for a merger with a subsidiary either had the option to extinguish the shares that came because of cross holdings or create a trust to hold these shares. Although Indian companies have used such shares in the past, there is also a history of misuse of the same, brokers said.

The new provision in law 'will tighten the loose ends' by prohibiting creation of treasury stocks, brokers said. Once this is in place, in case of mergers the companies will have to extinguish the shares that they get from cross holdings. For shareholders, this will mean lower equity capital leading to higher earnings per share. One of the prime advantages of creation of treasury stocks is that these shares remain part of a company's paid-up capital and when the company requires some funds, it can simply sell them in the open market or through a private deal to get money. Compared to this, if the company has to raise money through other regular ways like rights issue, follow-on offering, private placement, institutional placement (QIB) or some other method, it becomes a lengthy and time consuming process.

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