Ghar Wapsi - The Growing Trend Of Reverse Flipping For Indian Startups

Flipping, or externalization, is a process of transferring the entire ownership of an Indian Company to an overseas entity, accompanied by a transfer of intellectual property rights and data owned by the Indian company. Common destinations for this move include Singapore, the Cayman Islands, the United States, and the United Kingdom. This strategy enables companies to capitalize on favourable tax policies, access a broader pool of international investors, expand into larger markets and benefit from more favourable regulatory environments.

Recently, however, there has been a shift toward reverse flipping, where overseas start-ups are shifting their domicile to India. Companies are now attracted to India for various reasons such as India's favourable economic policies (tax breaks, funding assistance), expanding domestic market, growing investor confidence in the country's start-up ecosystem, an expanding digital infrastructure and a large consumer market. Additionally, lower regulatory compliance and growing investor interest have made India a more appealing place for business. This trend shows how companies are leveraging India's improving business environment for better growth and financial opportunities.

Ways of Reverse Flipping:

There are two main methods for reverse flipping (i) Inbound Merger and (ii) Share Swap Arrangement.

1. Inbound Merger: In this method, a¹ foreign company merges with its wholly-owned subsidiary situated in India, with the Indian wholly owned subsidiary absorbing the foreign company's assets and operations. The shareholders of the foreign company receive shares in the Indian company. This approach is often straightforward but requires careful legal and regulatory management.
2. Share Swap Arrangement: This involves shareholders of the foreign company swapping their shares for shares in the Indian company. It offers flexibility but may involve complex negotiations and regulations around valuation and fairness of the exchange.

Regulatory Considerations for Reverse Flipping:

To carry out cross-border mergers and acquisitions (M&A), companies are required to follow the guidelines of Section 234 of the Companies Act, 2013, and other related rules. For an inbound merger, prior approval from the Reserve Bank of India ("RBI") is required, as well as compliance with sections 230 to 232 of the Companies Act, 2013. The process also involves approval from the company's board of directors, members, and creditors, along with a final approval from the National Company Law Tribunal ("NCLT"). Additionally, the foreign company is also required to submit a declaration in form CAA-16, if the foreign company is from a country sharing a land border with India.

In share swap arrangement, the shareholders of the foreign entity transfer their shares in the Indian company. In exchange, the Indian entity issues shares to the shareholders of the overseas holding company and the post the swap, the Overseas holding is liquidated.

Both methods of reverse flipping come with challenges. The share swap arrangement can lead to substantial tax liabilities. Inbound mergers can face significant delays due to NCLT approval backlogs, making the process longer and more expensive. The merger of Pine Labs' Singapore entity into its Indian counterpart, got complicated due to multiple regulatory approvals across different countries.

To promote the concept of reverse flipping, recently, the Ministry of Corporate Affairs ("MCA") amended the Companies (Compromises, Arrangements and Amalgamations) Rules, 2016. This change introduced a new sub-rule for inbound mergers, requiring both the foreign holding company and its wholly owned Indian subsidiary to obtain prior approval from the RBI. The Indian subsidiary must then file an application with the Central Government ("Regional Director") for restructuring under Section 233 of the Act instead of submitting application under section 230-232 of the Act where the application is entertained and finalised by NCLT. This amendment aims to simplify the process and encourage reverse flipping by offering a faster approval route.

The Economic Survey of 2022-23 highlighted that the ease of accessing capital, changes in regulations around round-tripping, and India's maturing capital markets have slowed down traditional flipping and encouraged reverse flipping. To further promote reverse flipping, the survey suggested simplifying processes for startups, reducing taxation on employee stock options (ESOPs), and streamlining tax procedures to reduce legal uncertainty.

In line with these recommendations, the government introduced measures such as the removal of Angel Tax, changes to Long-Term Capital Gains tax, and reduced corporate tax rates. The new regulatory amendments are expected to facilitate reverse flipping by speeding up approvals for inbound mergers, particularly for small companies and holding-subsidiary structures. This simplified approach removes the need for NCLT involvement and only requires approval from the Regional Directors.

Conclusion:

The government's efforts to streamline regulations and encourage investment in India are fostering the trend of reverse flipping. By simplifying the approval process and removing certain regulatory hurdles, India is positioning itself as a more attractive place for companies to relocate their headquarters, ultimately helping them grow and access greater financial opportunities.

Footnote

1. As per the explanation provided under section 234 of the Companies Act, 2013, a foreign company means any company or body corporate incorporated outside India whether having a place of business in India or not.

This publication is intended for informational purposes only and does not purport to cover every aspect of the laws, regulations, or procedures relating to reverse flipping in India. This publication should not be construed as legal, financial, or professional advice. Readers are encouraged to seek appropriate professional guidance before making any decisions.