The Securities and Exchange Board of India’s (SEBI) new set of norms are aimed at bringing greater transparency into the capital market. The new rules – including tightening of disclosure requirements for initial public offers (IPOs); bringing mutual fund units under the ambit of insider trading; and allowing companies to make confidential IPO filings, among others; – are likely to provide a further boost to the capital market.

Over the last six months, the SEBI had been actively examining areas of concern across various market segments. Public comments had been invited for a number discussion papers floated by the market regulator. In its board meeting on September 30, the SEBI went ahead and unveiled wide-ranging norms to address some thorny issues.

A section of market analysts opines that tighter norms would encourage more companies to list overseas. However, SEBI Chairperson Madhabi Puri Buch has brushed aside such fears. “Regulations and legal liabilities in foreign jurisdictions are even more stringent than they are here,” Ms Buch adds.

More IPO disclosures  

The highlight of the SEBI’s new norms is tougher disclosure requirements for IPOs. Besides traditional metrics, companies will henceforth have to disclose key performance indicators (KPIs) that are normally not covered in their financial statements.

“The indicators that companies have already been sharing with private equity investors are relevant to retail investors as well. The new rules will give investors a better basis to make their decisions and ensure (that) there is no information asymmetry,” stresses Ms Buch.

IPO issuers will now also have to reveal the details of pricing of shares in transactions carried out prior to the listing of their shares. In other words, promoters floating IPOs will have to disclose the prices at which they had sold their shares to investors – mainly private equity (PE) and venture capital (VC) investors – 18 months before their IPOs.  

These disclosures will be applicable to all companies and not merely for new-age technology or loss-making companies as it was earlier speculated. The universal application of the new norms for all companies tapping the primary market is a good decision. This takes away the possibility of any ambiguities cropping up in the future from companies claiming that they are non-tech or profitable for a certain period.

The market regulator’s mandate that the price per share used in past fund-raising rounds and stake sales by promoters should be disclosed in the offer document will help investors evaluate the IPO price in a better manner. The regulator has also stipulated that a committee of independent directors should recommend if the IPO price is justified. This mandate seems a little off the mark because it puts a lot of responsibility on independent directors. Moreover, not all independent directors would be well versed in judging the viability of pricing of public offers.

The SEBI’s past prices-per-share disclosure comes at a time when one in three IPOs of last year are now trading way below their issue prices. It is no secret that companies often raise money before IPOs by pricing their share sales at comparatively reasonable levels. But they jack up prices at unreasonably-high levels in the name of premium. Ultimately, after listing, investors who have bet on the shares in the primary market end up bearing the brunt of miserable performance of these shares. The past prices-per-share disclosure rule is likely to bring transparency and rationality to pricing of public issues.

“The regulator had for several months increased the questioning on the pricing of issues and the details of previous issues, including key performance indicators. They have now made this disclosure mandatory, including for secondary transfers,” points out Yash Ashar, a partner and head of capital markets of Cyril Amarchand Mangaldas.

Pre-filing a boon

The SEBI has also approved confidential pre-filing of IPO documents. Under this measure – a concept borrowed from the US market – a company’s Draft Red Herring Prospectus (DRHP), which has a lot of confidential information, will be kept out of bounds of the public until the company decides to launch an IPO. Pre-filing of IPO documents will give issuers more flexibility and help them withhold sensitive information from their competitors.

Analysts expect a lot of blue-chip companies and startups choosing the route of confidential IPO filings. This effectively gives the issuer a window to test the waters for a filing without letting in competition on sensitive financial information. Prior to this option, the DRHP containing all the details concerning the offer used to be hosted on the SEBI’s website for several weeks, giving an unfair advantage to competitors of the issuer. The confidential pre-filing of IPOs will be conducive to companies in case their offers are not approved or postponed or cancelled.

“Pre-filing is a good move as companies may not want to disclose sensitive information at an early stage, while full disclosure can definitely happen at a later stage,” notes Pinak Rudra Bhattacharyya, a senior vice-president and head of corporate finance of IIFL Securities.

Regulating mutual funds

One of the new norms is related to mutual funds. The SEBI’s board has accordingly brought purchase and sale of mutual fund units under the ambit of the SEBI (Prohibition of Insider Trading) Regulations, 2015. The SEBI wants connected persons to disclose their and their immediate relatives’ transactions and holdings in mutual funds every quarter. The objective is to ensure parity between mutual fund units and other securities with regard to insider trading rules.

According to the rules, any person associated with the fund who has direct or indirect access to unpublished, price-sensitive information or any immediate relative of the connected person officials or employees will be subject to the insider trading rules. The unpublished, price-sensitive information includes likelihood of change in investment objectives, accounting policy, valuation of assets, winding up of a plan and restrictions on redemption, among others.

The SEBI’s latest decision follows the Franklin Templeton episode in 2020, in which a few executives of the fund house were accused of redeeming their holdings in the schemes ahead of six debt schemes shutting for redemptions.

Inclusion of trading in units of mutual funds in the insider trading regulation was long overdue and will stop those working in fund houses from gaining unfairly from unpublished price sensitive information. But analysts caution that the regulations must be careful not to be unduly restrictive, hampering the decisions of fund managers.

OFS, REITs &...

Many other decisions taken by the SEBI’s board too will have great impact on various segments of the market. The regulator has eased rules around Offer For Sale (OFS), currently used largely by promoters to allow non-promoters such as PE investors to liquidate their holdings. At present, non-promoters holding less than 10 per cent of equity are not allowed to use the OFS route. According to the new norms, any entity offering shares worth at least Rs 25 crore will be allowed to use the OFS route.

Besides, the cooling-off period between two OFS issues has been reduced from 12 weeks to two weeks. Retail investors have been allowed to bid for unsubscribed portion of non-retail segment in the OFS. These measures will significantly boost the OFS segment, especially for voluminous deals. This will particularly benefit consumer-facing companies and public sector undertakings (PSUs) that seek wider retail participation. Shareholders looking to offload shares through block deals may also increasingly opt for the OFS route, add the analysts.

The market regulator has reduced the minimum holding requirement of Real Estate Investment Trust (REIT) units by sponsors from 25 to 15 per cent. This will encourage more companies to bring out REITs. Investors have been allowed to go for net settlement of their transactions in equity cash and derivatives segments. This will enable investors to use their margins across segments and reduce substantially the amount of cash investors will have to bring for their transactions.

The market regulator has turned its focus on utilisation of funds mopped up through the Qualified Institutional Placement (QIP) route. A new norm mandates companies tapping the QIP market to appoint a rating agency to monitor utilisation of funds raised the QIP route. The rule will be applicable to companies mopping up more than Rs 100 crore. This will help shareholders know the status of fund utilisation as against the disclosed objectives. But many analysts see this norm widening due diligence obligations of merchant bankers and law firms and impacting issue timelines.

PSU disinvestment process has got a leg-up with the SEBI relaxing the open offer pricing formula. The requirement of calculating 60 days’ volume-weighted average price for determination of an open offer price during disinvestment has been scrapped. The rule, however, will still be applicable for open offers of private sector companies.

Boosting market mood

After a dazzling 2021, the IPO market has hit a trough in the ongoing financial year. The calendar year of 2021 saw 63 companies raising a record over Rs 1,20,000 crore. That euphoria appears to have faded away, going by the numbers available for the first half of FY23 (April-September 2022). During this period, 14 companies mopped up Rs 35,456 crore via public offers. The fund collection is around 32 per cent lower than Rs 51,979 crore raised through 25 IPOs in the first half of FY22 (April-September 2021).

A lot of factors are responsible for the muted performance of the primary equity market. Fears of impending recession in major developed economies, tightening of monetary policies by central banks across the globe, rising inflation and surging interest rates, resulting in high cost of funds, have all certainly dampened the market sentiment.

The SEBI’s tough norms perhaps come at the right time. They may bring in the much-needed transparency and rationality in a market still being driven by irrational exuberance on many occasions. The new rules also look to clean up the mutual fund industry, which is a large and decisive player in the capital market today. Moreover, measures aimed at boosting other market segments, such as REIT and OFS among others, can have a desirable effect on the market as a whole.