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New Pricing Guidelines for Issue and Transfer of Shares
The Reserve Bank of India ('RBI') recently issued notifications amending the pricing guidelines that are applicable to the issue of shares to non-resident investors and transfer of shares from / to non-residents as stipulated in the Foreign Exchange Management (FEMA). Prior to the notifications, the FEMA Regulations required every Indian company to issue shares to non resident investors at a price higher than the price worked out in accordance with the applicable Securities and Exchange Board of India ('SEBI') Guidelines, if the shares of the Indian company were listed, and in all other cases, based on the fair valuation of shares in accordance with the erstwhile Controller of Capital Issues Guidelines ('CCI Guidelines').
The amendments have updated the FEMA Regulations on the pricing methodologies to make them more in line with current business valuation practices and have provided more clarity in the Regulations on rights issues to non-resident investors. Taxand India details the main changes below.
The RBI has amended the FEMA Regulations to mandate every Indian company to issue shares to non-resident investors at a price, which shall not be lower than:
- the price worked out in accordance with the applicable SEBI Guidelines, if the shares of the Indian company are listed on a recognised stock exchange in India
- the fair value of shares as per the Discounted Free Cash Flow ('DFCF') method, if the shares of the Indian company are not listed in India
- the price as applicable to transfer of shares from an Indian resident to a non-resident investor, as per the pricing guidelines laid down by the RBI from time to time, where the issue of shares is on a preferential allotment basis
In case of rights issue by Indian companies to non-resident investors, the FEMA Regulations have been amended to state that the offer on a rights basis shall be
- at a price as determined by the company, in case of shares of a listed company
- at a price which would not be lower than that at which the offer is made to Indian resident shareholders, in case of shares of an unlisted company
With regard to transfers of shares from a resident to a non-resident investor, the minimum floor price has been fixed at:
- the price at which a preferential allotment of shares can be made in accordance with the applicable SEBI guidelines, if the shares of the Indian company are listed
- the valuation of shares as per the DFCF method, in the case of unlisted shares
Further, the ceiling price in case of transfer of shares from a non-resident to a resident will also be in line with the minimum price as prescribed in the case of transfer of shares from a resident to a non-resident.
The effect of these notifications is that the pricing norms for investments in unlisted shares of an Indian company and for transfer of shares between a resident and non-resident are aligned to a single DFCF valuation basis.
Since DFCF valuation is a forward looking exercise, it could lead to higher valuations than under the erstwhile CCI guidelines. However, the new pricing guidelines do not prescribe any other aspects of valuation such as the discount rate to be applied or the number of years for which the cash flows are to be projected etc. Further, since the DFCF method is applicable without any exception and would apply to loss making companies, start up ventures, long gestation projects, etc. Several practical challenges arise while issuing Convertible debentures or preference shares and in cases of investment into holding companies. These pricing norms are not specifically aligned to the transfer pricing provisions and this could create challenges in transfer of shares between two related parties.
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