Example 1- Company wishing to acquire a rival business

The facts

Jellyco Pty Ltd (Jellyco) operates two businesses: an importing/wholesaling business in electrical components and a business of manufacturing lamps. It is an Australian resident company. The shareholders of Jellyco are made up of Australian resident individuals and one company. Fred, Sally, Cameron and Simon are all directors of Jellyco. Fred and his wife Sally own the majority of shares in Jellyco.

Jellyco owns all the issued capital in Zapco Pty Ltd (Zapco). Zapco owns real property currently valued at $1,000,000. Shares in both Jellyco and Zapco were acquired post 20 September 1985.

Jellyco decides to undertake a corporate restructure so it can solely focus and expand its core business of importation and distribution rather than its manufacturing business. Accordingly, Jellyco transfers its manufacturing business (including plant, equipment, key intellectual property and staff) to Zapco at market value, with the intention that Zapco operate an independent business of manufacturing lamps.

Jellyco also wishes to expand its importation/distribution business by acquiring the business of a rival which it has been negotiating with. Part of the purchase price Jellyco is offering to acquire the rival business is granting the owners of the rival business an equity stake in Jellyco via a new issue of shares. Certain venture capitalists will also be provided an equity stake in Jellyco for providing funds to help acquire the rival business.

If the takeover of the rival business is successful, key employees in both Jellyco and the rival business will also be given the opportunity to buy shares in Jellyco.

To help effect its corporate restructure and business expansion, Jellyco wishes to conduct a demerger of Zapco, which it claims will facilitate the takeover of the rival business and enhance the long term business prospects of both Jellyco and Zapco.

Currently, Jellyco has paid up share capital of $45,000 and a net market value of $4,300,000. The net market value of Zapco is $2,000,000 ($1,000,000 of this value relating to its real property). Zapco's real property is used 50% for its business operations and the other 50% is rented to Jellyco for its business. Fred is Zapco's sole director.

Jellyco shareholders have no plans to dispose of any of their shares in Jellyco or a demerged Zapco after the demerger.

Applicant's stated reasons for demerger

Jellyco states a demerger would provide the following commercial benefits:

  • A demerger would help facilitate Jellyco taking over the rival business. Currently, the pre-demerger price of Jellyco is unduly high due to its ownership of Zapco. This hinders the owners of the rival business, their key employees and venture capitalists acquiring an interest in Jellyco, as they would be required to pay a premium to acquire an indirect stake in Zapco. A demerger would allow these parties to acquire an interest in the business of Jellyco only. This is important as offering equity in Jellyco to the above parties is a key factor to help the company take over the rival business;
  • A demerger would assist key employees in both Jellyco and the rival business to acquire an equity interest in Jellyco. This should assist the profitability of Jellyco, as these employees have extensive experience and skills in importing and wholesaling electrical products. Without the demerger it would be difficult to grant employees an equity stake, as it would mean giving employees an indirect interest in Zapco's real property and business; and
  • Asset protection - as Zapco is a wholly owned subsidiary of Jellyco, its real property and other assets are indirectly exposed to Jellyco's creditors in the event that Jellyco is subject to liquidation.

Commissioner's analysis and decision

On examination of the proposed demerger together with the "relevant circumstances" set out in subsection 45B(8), the Commissioner accepts the Applicant's stated reasons above are positive "relevant circumstances" that are likely to improve the business structures of both Jellyco and Zapco. The applicant's statement that the shareholders of Jellyco have no current intention of disposing of any of their interests in either Jellyco or Zapco post demerger is also a relevant factor (paragraphs 73 to 78 of PS LA 2005/21).

Accordingly, absent any evidence that is inconsistent with the above, the Commissioner would not make a determination under subsection 45B(3) that sections 45BA or 45C of the ITAA 1936 apply to the proposed demerger.

    Last modified: 03 Feb 2016QC 22770