SEBI Gives A Positive Nod For Lucrative Changes To Preferential Issues

The Securities And Exchange Board Of India (SEBI) is the regulatory body for securities and commodity market in India under the ownership of Ministry of Finance, Government of India. It was established on 12 April 1988 and given Statutory Powers on 30 January 1992 through the SEBI Act, 1992. India’s market regulator has tightened disclosure requirements for raising capital from the primary market amid a record initial public offering boom. It also changed rules to improve transparency in preferential allotments while easing mop-up via such share sales. The board of Securities and Exchange Board of India approved changes that will cap spending on unspecified growth objects while raising funds in an IPO. SEBI lowered lock-in for promoters in preferential allotments, while adding fresh disclosures.

The regulator also introduced provisions related to appointment or reappointment of directors who fail to get elected. The reappointment of such directors, including a director or managing director can only be made with the prior approval of the shareholders.

The SEBI board has recommended a set of changes that will be applicable for the draft red herring prospectus after the changes are notified in the gazette. These include:

A 35% spending cap from the total amount being raised in the IPO on future inorganic growth and general corporate purpose. The 35% cap will be applicable when the company has not identified any acquisition or investment target.
The amount spent on objects where company has not identified acquisition or investment target shall be limited at 25% of the amount being raised
When there is an offer for sale by an issuer without a track record, majority shareholders can only sell 50% of their shareholding in the offer for sale. Majority shareholders are those which hold above 20% of the pre-issue shareholding.
Credit rating agencies can act as monitoring agencies for utilisation of money raised in the IPO. Anchor investors can sell 50% of their shares after 90 days of the IPO. The remaining 50% will be continued to be governed by the current lock-in period of 30 days.
The change will be applicable from April 1, 2022. The minimum price band of at least 105% of the floor price will come into effect after the change is notified in the official gazette.

Changes To Preferential Allotment

Valuation report will be needed for change in control and where 5% of post-issue fully diluted share capital allotted to one entity.
In the event of change of control in a company, independent directors will have to provide reasoned recommendations and vote details.
In preferential allotment, the lock-in period for promoters holding up to 20% of the post-issue paid up capital will be reduced to 18 months from the current period of three years. For promoters holding above 20% paid-up capital, the lock-in period shall be reduced to six months from the current one year.
For non-promoters, the locked-in period for allotments reduced from one year to six months. Promoters can pledge locked-in shares as pledge for loans only if a such pledge is a specified term for sanctioning of the loan.
Such a loan should also be approved by the issuer company for achieving the objects mentioned in the preferential issue. Share swap backed by a valuation report allowed as consideration for a preferential issue.

Impact:

As sometimes, companies could turn out to remain vague regarding the usage of IPO funding, and/or were raising money not because they had any specific requirement, but only because the market was soaring high and the demand for IPOs was strong, this new rule involving closer scrutiny may make the companies a bit more judicious towards how much money they want to raise and why.
Earlier, rating agencies did not monitor the funds raised through IPOs. But with the new rule by SEBI, rating agencies can monitor the usage of IPO proceeds till 100% of it is utilized. This move is likely to prevent companies from misusing IPO funds. But it remains to be seen how this rule is enforced, with some market watchers of the view that this rule will have limited impact and just adds to the compliance layers.
As price brands in book building exist to ensure proper price discovery, this rule is expected to ensure that companies price their IPO more realistically and aptly.Early investors, who were holding the advantage of higher valuations due to the booming market, will now be forced to have some skin in the game. Indirectly, this can result in better pricing of the IPO, as any debacle in the secondary market can make it difficult for these investors to sell their remaining stake.
Like many companies used to allot shares to big named anchor investors with the aim to create a positive image and ensure that their IPOs received good response from retail and other institutional investors, this resulted in anchor investors exiting their investment after 30 days of lock-in. This often hurt the non-institutional investors who had bought shares in the IPO and were still holding them.
So, this rule by SEBI would impact those non-genuine anchor investors, as they will think twice before investing just for the sake of endorsing the issue and playing along until lock-in ends.