When investing in a company, investors need to consider exit strategies that can help them realize profits. There are several exit options available to investors, including strategic sale, IPO, secondary sale, and buyback.
A strategic sale involves selling a company to another business that can benefit from the acquisition. This type of exit can offer higher returns than other options, but it requires finding a buyer who sees the value in the acquisition. In a strategic sale, the promoters of the company usually sell their entire stake in the company to the acquiring business, thereby exiting the business altogether.
Another popular exit option is an Initial Public Offering (IPO), which allows a company to sell shares of stock to the public for the first time. This exit option provides liquidity for investors, but it is subject to market conditions and regulatory requirements. In an IPO, the company becomes a publicly traded entity, and the promoters can exit the business by selling their shares to the public.
A secondary sale involves selling shares to another investor, often a private equity firm or another financial institution. This exit option can provide liquidity and flexibility for investors, but it may not offer the highest returns. In a secondary sale, the promoters of the company sell their shares to the new investor, who becomes the new shareholder.
A buyback is an exit option where the company buys back shares from the investor at an agreed-upon price. This option can provide liquidity and certainty for investors, but it requires the company to have adequate financial resources. In a buyback, the company can buy back a portion or all of the shares from the investor, thereby enabling the promoter to exit the business.
Each of these traditional exit options provides investors with a different set of advantages to optimize, but also come with different sets of problems that must be addressed. The success of an IPO and the continued success of business post-IPO maybe heavily influenced by market factors, while the feasibility of a share buyback as an exit option varies greatly between jurisdictions since it depends on the legal framework governing buybacks. Similarly, concerns related to synergy and cultural integration may need to be addressed before a strategic/secondary sale is considered.
Once investors have considered these exit options, they may decide to use put options as an exit strategy. Put options allow shareholders to sell their shares at a pre-determined price, which can be useful when regulatory approvals are required or when a buyer is not immediately available.
However, it is important to carefully structure put options to comply with applicable regulations and to ensure that they do not result in a violation of foreign exchange laws or securities regulations. The case of NTT Docomo Inc. v. Tata Sons Ltd. demonstrates the importance of compliance with foreign exchange laws when using put options as an exit strategy. NTT Docomo sought to enforce a put option to sell its stake in Tata Teleservices Ltd. at a pre-determined price, but the Reserve Bank of India (RBI) disallowed the use of put options in this case on the grounds that the pre-determined price violated foreign exchange laws.
Investors must consider the implications of foreign exchange regulations when using put options as an exit strategy and ensure that the option is carefully structured to comply with applicable regulations.
Another important case related to exit strategies is the case of Pioneer Embroideries Ltd. v. Income Tax Officer. In this case, the use of put options was challenged on the grounds of tax evasion. The Income Tax Department argued that the put option amounted to a “sham transaction” and should be disregarded for tax purposes.
The court ruled in favor of the taxpayer, stating that the put option was a genuine transaction and could not be disregarded for tax purposes. However, this case demonstrates the importance of carefully structuring put options to comply with applicable regulations and to avoid potential disputes or legal issues.
In conclusion, investors must consider a range of exit options when investing in a company and must carefully structure their exit strategy to comply with applicable regulations and to avoid legal issues. The cases of NTT Docomo Inc. v. Tata Sons Ltd. and Pioneer Embroideries Ltd. v. Income Tax Officer highlight the importance of careful planning and structuring of exit strategies to avoid potential disputes or legal issues.