The year 2021 has been a bumper period for the Indian primary market. A total of 63 companies collectively raised Rs 1.2 lakh crore through initial public offerings which was a record performance for any calendar year in Indian stock market. The investors participated vehemently in majority of these IPOs despite the monetary policy taking a hawkish turn and covid19 adding one more variant Omicron into its family. Many of the top IPOs of the year 2021 are trading below the list price yet there are some others who have sailed through.
In the midst of the IPO rush, a concern was raised regarding the appropriate pricing of the Issue in the light of the need to strike a proper balance between the issuer’s aspirations and investor’s interest. SEBI expressed an opinion that the merchant bankers need to engage with a wider set of potential investors. This was followed by some major changes in the IPO Rules to fix the gap between the expectations of the issuers and the interest of the potential investors.
SEBI seems to have decided to tighten the IPO Rules in an attempt to tackle the regulatory gaps and extreme stock price volatility. Some major changes are likely to be effected in the SEBI (ICDR) Regulations and SEBI (LODR) Regulations as discussed below:
Changes in Draft Red Herring Prospectus (DRHP)
(a) Objects of the Issue:
If an the issuer company has set out an object for future inorganic growth in its offer documents but it has not identified any acquisition or investment target, the amount for such objects and amount for general corporate purpose (GCP) shall not exceed 35% of the total amount being raised.
Further, if the issuer company has not identified acquisition or investment target, as mentioned in objects of the issue in the draft offer document and the offer document, the amount so earmarked for such objects shall not exceed 25% of the amount being raised by the issuer.
However, no such limits shall be applicable if the proposed acquisition or strategic investment object has been identified and suitable specific disclosures about such acquisitions or investments are made in the offer document at the draft and final stages.
(b) Conditions for Offer for Sale (OFS)
In the case of an offer for Sale (OFS) to public in an IPO where Draft Red Herring Prospectus (DRHP) is filed by issuer without track record; if the selling shareholders, individually or with persons acting in concert, hold more than 20% of pre-issue shareholding of the issuer, they shall not be able to offer more than 50% of their pre-issue shareholding and if they hold less than 20% of pre-issue shareholding of the issuer, the OFS shall not exceed more than 10% of pre-issue shareholding of the issuer.
This is a move away from the existing norms where large shareholders can sell their entire shareholding through the OFS route. The restrictions are being brought about in order to avoid a possible crisis of confidence among retail investors if there is a complete exit of the promoters in cases where the companies do not have any track record.
(c) Monitoring of the IPO spends
Credit Rating Agency (CRAs) registered with SEBI, shall henceforth be permitted to act as Monitoring Agency instead of Scheduled Commercial Banks (SCBs) and Public Financial Institutions (PFI). Further, such a monitoring shall continue till 100% utilization of issue proceeds (increased from the present requirement of 95%). In addition, the amount raised for general corporate purpose (GCP) shall also be brought under monitoring and utilization of same shall be disclosed in monitoring agency report and the monitoring agency report shall be placed before audit committee for consideration “on a quarterly basis” instead of “on an annual basis”.
Changes in the Price Band in a Book Built Issue
In case of book built issues, a minimum price band of be at least 105% (At present it is 120%) of the floor price shall be applicable for all issues opening on or after notification of this rule in the official gazette.
Lock-in for Anchor Investors
The existing lock in of 30 days shall continue for 50% of the portion allocated to anchor investor and for the remaining portion, lock in of 90 days from the date of allotment shall be applicable for all issues opening on or after April 01, 2022.
Revised allocation methodology for Non-Institutional Investors (NIIs)
In the case of a book built issues opening on or after April 01, 2022, one third of the portion available to NIIs shall be reserved for applicants with application size of more than two lakh rupees and up to ten lakh rupees and two third of the portion available to NIIs shall be reserved for applicants with application size of more than ten lakh rupees: The basis of allotment of securities in case of NII category shall be on ‘draw of lots’ much on the same lines as currently applicable for retail individual investors (RIIs) category.
Changes in Conditions of Preferential Issue
In the case of all preferential issues where relevant date is after the notification of proposed changes in the official gazette, the following factors shall be considered for determining the floor price for all preferential issues:
(a) Frequently traded security
The floor price for preferential issue shall be higher of 90/10 trading days’ volume weighted average price (VWAP) of the scrip preceding the relevant date or as per any stricter provision in the Article of Association of the issuer company.
(b) Infrequently traded security
The valuation report by a registered independent valuer shall be required for pricing the Issue.
(c) Change in Control cases
An additional requirement for a valuation report from a registered independent valuer shall be required in case of change in control/ allotment of more than 5% of post issue fully diluted share capital of the issuer company to an allottee or to allottees acting in concert. Further, a committee of independent directors shall be required to provide a reasoned recommendation along with their comments on all aspects of preferential issuance including pricing. The voting pattern of the committee shall also be disclosed to shareholders/public.
(d) Lock-in Provisions for Promoter holdings
The lock-in requirement for promoter holding for allotment up to 20% of the post issue paid up capital shall be reduced to 18 months from the existing 3 year and for allotment exceeding 20% of the post issue paid up capital it shall be reduced to 6 months from the existing 1 year.
(e) Lock-in Provisions for Non-Promoter holdings
The lock-in requirement for allotments for Non-promoters shall be reduced from 1 year to 6 months.
(f) Conditions for Pledge of the Shares locked-in pursuant to a Preferential Issue
Promoters would be permitted to pledge the shares locked-in pursuant to a preferential issue provided if pledge of such specified securities is one of the terms of sanction of the loan granted by certain financial institutions and the said loan is to be sanctioned to the issuer company or its subsidiary(ies) for the purpose of financing one or more of the objects of the preferential issue.
(g) Preferential Issue for Consideration other than Cash
Consideration for preferential issue, “other than cash” shall be permitted only for share swaps backed by a valuation report from an independent registered valuer.
(h) Timelines for seeking in-principle approval from Stock Exchanges by Issuer Company
Issuer company shall necessarily apply for in-principle approval from stock exchanges on the same day as the date of dispatch of notice for AGM/ EGM to shareholders.
New IPO Rules: A Balancing Act
Indian Primary Market is already considered as a heavily regulated Market. The new pricing rules will further tighten the measures that are resorted to by the market regulator to achieve the twin objective of safeguarding the investors’ interest on one hand and to provide for more transparent, resilient, stable and secured financial markets on the other hand. In a nutshell, the regulator is simply trying to enhance the checks and balances in the matter of funds raised through IPOs, OFS and Preferential Issues and the utilization thereof.