Amalgamation: Where ignorance is bliss

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A blending and fusion of two companies and continuance as a single company

It is evident that there is much ambiguity and ignorance looming in the business circles and statutory authorities in Sri Lanka with regard to the concept of amalgamation. This article demystifies and sheds light on the concept as the exact legal nature thereof is of paramount importance in determining the associated tax consequences Modes of combining companies Perhaps an apposite beginning to the analysis would be the judicial dicta pronounced by the Supreme Court of Canada in the case of R. vs. Black & Decker Manufacturing Co. “There are various ways in which companies can be put together. The assets of one or more existing companies may be sold to another existing company or to a company newly incorporated, in exchange for cash or shares or other consideration. The consideration received may then be distributed to the shareholders of the companies, whose assets have been sold, and these companies wound up and their charters surrendered. In this type of transaction a new company may be incorporated or an old company may be wound up but the legal position is clear. There is no fusion of corporate entities. Another form of merger occurs when an existing company or a newly-incorporated company acquires the shares of one or more existing companies which latter companies may then be retained as subsidiaries or wound up after their assets have been passed up to the parent company. Again there is no fusion. But in an amalgamation a different result is sought and different legal mechanics are adopted, usually for the express purpose of ensuring the continued existence of the constituent companies. The motivating factor may be the Income Tax Act or difficulties likely to arise in conveying assets if the merger were by asset or share purchase. But whatever the motive, the end result is to coalesce to create a homogeneous whole. The analogies of a river formed by the confluence of two streams, or the creation of a single rope through the intertwining of strands have been suggested by others.” – R. vs. Black & Decker Manufacturing Co decided by Supreme Court of Canada What is an amalgamation? Amalgamation has been referred to as a fusion of companies, union of companies and blending of companies in decided case laws in foreign jurisdictions. Halsbury’s Laws of England, 3rd edn., Vol. 6, p 764, refers to amalgamation “as a blending of two or more existing undertakings in to one undertaking, the shareholders of each blending company becoming substantially the shareholders in the company which is to carry on the blended undertaking.” The notion that in an amalgamation, an old company is extinguished and a new company is created was specifically rejected in a Canadian Supreme Court Judgment. "The incidence of amalgamation not only preserves the rights and the privileges of the amalgamating company in the amalgamated company, the liabilities and obligation of the amalgamating company flows in to the blended company in the process"

The Court of Appeal of New Zealand in the case of Carter Holt Harvey Ltd. vs. McKernan in 1998 has pointed out that “continuance is of the corporate entities, not of the undertakings and operations of those entities. They merge into one corporation which is to be regarded as their equivalent or, more loosely, their successor. The entity ‘succeeds’ to property and liabilities which have been its property and liabilities beforehand, as well as succeeding to those of the other entities. But, as the parent continues and is not deemed to be dissolved, it is clear that ‘succeeds’, a word used in Canadian case law though not in the legislation in that country to which we have been referred, is not to be read as requiring that there be a predecessor and a successor. The merged entity succeeds to the assets and liabilities because that is where they are to be recognised as being or remaining as a result of the continuance of all parties to the Amalgamation.” Though the aforesaid extract from the Carter Holt Harvey Ltd. vs. McKernan may raise some eyebrows, the author does not intend to set out the analysis herein. It is simple to say that Section 245 of the Sri Lanka Companies Act No. 7 of 2007 and the New Zealand Companies Act of 1993 do not contain the phrase ‘dissolution’ in the amalgamation process. The word ‘succeeds’ is used in both the Sri Lankan Companies Act of 2007 as well as the New Zealand Companies Act of 1993. It should be mentioned that the New Zealand Court pronounced the aforesaid notwithstanding the phrase “New Company” is used at Section 219 and 224 of the New Zealand Companies Act of 1993 identical to Section 239 and 244 of the Sri Lankan Companies Act of 2007. In the Canadian case of Black & Decker, it was pointed out that “the purpose is economic: To build, to consolidate, perhaps to diversify, existing businesses; so that through union there will be enhanced strength. It is a joining of forces and resources in order to perform better in the economic field. If that be so, it would surely be paradoxical if that process were to involve death by suicide or the mysterious disappearance of those who sought security, strength and, above all, survival in that union. Also, one must recall that the amalgamating companies physically continue to exist in the sense that offices, warehouses, factories, corporate records and correspondence and documents are still there, and business goes on. In a physical sense an amalgamating business or company does not disappear although it may become part of a greater enterprise.” Courts take the view that an amalgamated company simply stands in the shoes of the amalgamating company. Hence it’s a fusion of two or more companies and continuance as a single entity. Legal effect of amalgamation The provisions found at Sections 239-245 of the Companies Act 2007 of Sri Lanka are far from being novel to our jurisdiction. Either identical or similar wording is to be found in many company law regimes such as New Zealand Act of 1993, Mauritius Act of 2001, Singapore Companies Act of 1967 (amended in 2013) and Canada. Due to the strong similarities of these statues, the judgment delivered by Courts of these countries with regard to the legal nature of amalgamations, would carry very high persuasive authority in Sri Lankan Courts if someday the legal nature of the amalgamation is to be contested in our jurisdiction. Section 239 of the 2007 Companies Act of Sri Lanka which is identical to Section 219 of the 1993 New Zealand Act and Section 244 of the Mauritius Act of 2011, emphasises on two companies continuing as one company “Two or more companies may amalgamate and continue as one company, which may be one of the amalgamating companies or may be a new company.” The legal effect of amalgamation is set out at Section 245 of the Companies Act of 2007. Section 245 consists of nine limbs where barring one limb, all others are similar to the corresponding Section of the New Zealand Act of 1993 (Section 225). In a nutshell, the effect of amalgamation is that by operation of law, assets and the liabilities contractual rights and obligations of amalgamating companies continues to vest in the amalgamated company. Further proceedings by or against, judgments in favour or against amalgamating companies would continue by/in favour or against the amalgamated company. The following subsections therein are significant; (d) The amalgamated company succeeds to all the property, rights, powers, and privileges of each of the amalgamating companies; (e) The amalgamated company succeeds to all the liabilities and obligations of each of the amalgamating companies; The legal impact of the aforesaid has been subject matter and scrutiny of many cases decided in other jurisdictions. In a case decided by the Supreme Court of Mauritius in 2013, the amalgamated company successfully invoked the above section to sustain that it was entitled to enjoy the lower electricity tariff even after the amalgamation (Soniwear vs. Central Electricity Board). In this case, Soniwear the plaintiff, amalgamated with Soniastyle Ltd. in 2008. Soniastyle held an account with the Central Electricity Board (CEB) and it enjoyed a beneficial tariff. It was only on 24 February 2011 that the Soniwear company wrote to the defendant informing of the amalgamation requesting that the name of the holder of account (Soniastyle Ltd.) be changed to that of Soniawear Ltd. The CEB contested that the old account in the name of the amalgamating company (Soniastyle) should be closed down and a new account to be opened in the name of the amalgamated company, by placement of a new security deposit and payment of connection fees. CEB adopted the stance that the amalgamated company was not entitled to the lower tariff enjoyed by Soniastyle. The Court held in favour of the amalgamated company and in the judgment it was pointed out by the Supreme Court of Mauritius that the amalgamating company continues by way of the amalgamated company and there was no necessity to close the old account. This is authority for the proposition that any right or privilege enjoyed by the amalgamating company could be enjoyed by the amalgamated company as well. In the New Zealand Court of Appeal case of Carter Holt Harvey Ltd. vs. McKernan it was held that the amalgamated company is not to be treated as a different entity or a new party to the contractual arrangement and it was further held that the continuance is of the corporate entities and not the operation or undertaking of those entities. Whether a personal guarantee given by McKernan to the amalgamating company could be enforced by the amalgamated company was the bone of contention in the aforesaid case. The defendant (McKernan) had given a personal guarantee to a subsidiary of Carter Holt Harvey in respect of a trading account, no mention being made of assigns or successors of the subsidiary company. Thereafter the subsidiary company was amalgamated with the plaintiff company. Credit continued to be supplied, and when the company of which the defendants were shareholders and directors was placed in liquidation, the plaintiff sought to enforce the defendant’s guarantee. The contention was that change in the identity of the creditor terminated the liability of a guarantor under a continuing guarantee, and that the amalgamated company is a different entity from the individual companies which amalgamated to constitute it. It was held that an amalgamated company should not to be treated as a different entity or as a new party to the contractual arrangements but is to stand in the same position as each of the amalgamating companies in respect of all their rights and obligations, so that after the amalgamation, the plaintiff had the benefit of the defendant’s guarantee. The New Zealand Supreme Court’s decision in Elders New Zealand Ltd. vs. PGG Wrightson Ltd. is authority for the point that in the case of an amalgamation, there is ‘no transfer’ or ‘disposition of property’. As per the New Zealand Supreme Court, amalgamation entails fusion of two amalgamating companies. The amalgamated company holds the property of the amalgamating company by operation of law as if it were the amalgamating company. This judgment may resolve many disputes with regard to tax implications on amalgamations in Sri Lanka. In the case of Elders New Zealand Ltd., it was contested in the Supreme Court that an amalgamation entails a voluntary disposition by the amalgamating company. The Court held that amalgamation does not involve the vesting of the rights and obligations of the amalgamating companies by operation of law in a ‘new entity’. Court pointed out that the incidence of amalgamation entails the process of the amalgamating companies continuing in existence as part of the amalgamated entity. Amalgamating company continues as part of the amalgamated company after the amalgamation, notwithstanding the name of the amalgamating company being struck off the register. As the assets and the liabilities of the amalgamating company continues in the amalgamated company, the Supreme Court of New Zealand pointed out that there is ‘no disposition or transfer to the amalgamated company’. As per Section 25 (3) read in conjunction with Section 25 (7) of the Inland Revenue Act No. 10 of 2006 where any person disposes of any capital asset used by him, results in deemed trading profit liable to income tax accruing on such person. The ambiguity prevalent in the tax arena in Sri Lanka at present is whether an amalgamation triggers income tax within the ambit of the aforesaid provisions of the Inland Revenue Act. Furthermore, according to financial statutes enacted by various Provincial Councils established under the 13th Amendment to the Constitution of Sri Lanka stamp duty is applicable on “every instrument relating to a transfer of immovable property” situated in the respective province. In addition, the aforesaid statutes also levy stamp duty on “every transfer of motor vehicles” effected in the respective province. It is evident that “a transfer” is a prerequisite, for imposition of stamp duty referred to above payable to Provincial Councils. As amalgamation is based on operation of law and as set out in the ratio decedendi of the Elders case decided by New Zealand Supreme Court, the incidence of amalgamation does not involve a “disposition or transfer”. Stamp duty payable to provincial councils on land and motor vehicles would not be triggered. The decision in the case of Soniwear perhaps is of persuasive authority for a BOI company to sustain that the incidence of amalgamation does not deprive the tax holiday and other concessions that it enjoys in the process of amalgamation. As mentioned previously, Supreme Court judgments of New Zealand and Mauritius would have very strong persuasive authority in Sri Lankan Courts as applicable legal provisions are similar. The incidence of amalgamation not only preserves the rights and the privileges of the amalgamating company in the amalgamated company, the liabilities and obligation of the amalgamating company flows in to the blended company in the process. Where the amalgamated company try to shield itself against the criminal prosecution for offences committed by the amalgamating company on the premise that it is a new and a distinct company, was rejected “in toto” by the Canadian Supreme Court in the case of RV Black & Decker Manufacturing Co. The conclusion by the Canadian Supreme Court in the aforesaid case would be apposite conclusion for this analysis as well. “The effect of the statute, on a proper construction, is to have the amalgamating companies continue without subtraction in the amalgamated company, with all their strengths and their weaknesses, their perfections and imperfections, and their sins, if sinners they be” (The writer holds an LLB, is an Attorney at Law and is the ACMA Principal, Tax & Regulatory at KPMG)

Amalgamation: Where ignorance is bliss

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