Reinvigorating Rights Issues: SEBI Consultation Paper on Faster Rights Issue with Flexibility of Allotment to Selective Investors.

Reinvigorating Rights Issues: SEBI Consultation Paper on Faster Rights Issue with Flexibility of Allotment to Selective Investors.

Introduction

Recently, the Securities and Exchange Board of India (“SEBI”) released a Consultation Paper on Faster Rights Issue with Flexibility of Allotment to Selective Investors (“the Consultation Paper”) for public comments. The consultation paper is aimed at simplifying the regulatory framework surrounding Rights Issue in the country for enabling faster Rights Issue with flexibility of allotment to selective investor.

The consultation paper highlights that in the last 3 Financial Years i.e. F.Y 2021-22, F.Y 2022-23 and F.Y 2023-24 the amount raised through Rights Issues was less than the amount raised through other available modes, such as QIPs and Preferential Allotments. It was observed that despite the apparent benefits associated with the Rights Issue viz. tradability of rights entitlement, proportional treatment for existing shareholders, Rights Issue is still not a preferred mode of fund raising among the Companies in India.

This note briefly discusses the existing process and legal framework for Right’s issue and highlights the changes proposed by SEBI in its Consultation Paper.

Existing Right’s Issue framework

1. Rights issues are currently regulated by Section 62(1)(a) of the Companies Act, 2013, which mandates that companies offer additional shares to existing shareholders proportionally. For listed entities, Chapter III of the SEBI (Issue of Capital and Disclosure Requirements) Regulations, 2018 (“ICDR Regulations”) outline the specific requirements for Rights Issues exceeding ?50 crore, including eligibility criteria, disclosures, and procedures.

2. Further, companies have the flexibility to choose the appropriate mode based on their specific requirements and the size of the Rights Issue. Presently, Right’s issue can be conducted through three methods:

(i) Fast Track Mode: Filing a Letter of Offer ("LoF") with the stock exchange.

(ii) Non-Fast Track Mode: Filing a Draft Letter of Offer ("DLoF") with SEBI.

(iii) Small-Scale Rights Issues: For issues under fifty crores rupees, the provisions of Chapter III of the SEBI ICDR Regulations, 2018, do not apply.

3. Lastly, under the present framework requires several Intermediaries/Market Infrastructure Institutions (MIIs) to perform various functions during the Rights Issue Process (from announcement of issue till trading and listing). These include Merchant Bankers, Registrar to the Issue (RTA), Self-Syndicated Banks (SCBCs), Stock Exchanges and Depositories.

SEBI’s proposed changes to the Right’s Issue Framework

A. Detailed Disclosures requirement at the time of filing Draft Letter of Offer (DLoF) or Letter of Offer (LoF) under ICDR Regulations:

The present framework requires companies conducting Right’s Issue to prepare a detailed DLoF/LoF which is a time-consuming exercise and makes the Right’s Issue process lengthy. Further, the due diligence process by Merchant Bankers for Rights Issues typically takes 50-60 days, which lengthens the overall process. The paper notes that this drawback prompts issuers to prefer alternative fundraising methods like preferential issues, which require less documentation and time despite the fact that the preferential issues prioritize selective investors over existing shareholders, potentially diluting their shareholding.

The consultation paper deliberated that investors in Rights Issues primarily rely on public domain information for decision-making. Only additional information like the issue's purpose, price, entitlement ratio, and promoter participation are needed and hence, Rights Issues may not require extensive information aggregation beyond the specific details mentioned above.

Given this, it was proposed to discontinue the current requirement of filing DLoF with SEBI and a simplified LoF was recommended that requires companies to disclose only the relevant information regarding the Rights Issue such as object of the issue, price, record date, entitlement ratio, etc.

B. Requirement of appointment of Merchant Bankers.

The present framework requires companies conducting Right’s Issue to appoint one or more registered Merchant Bankers (MBs) as lead managers for Rights Issues for drafting offer documents, application forms, advertisements, managing marketing efforts, finalizing the basis of allotment, and coordinating with various agencies. It was noted that due diligence and document preparation by Merchant Bankers typically take 50-60 days and the lack of specific timelines for these processes contributes to significant delays in Rights Issues which impacts the fundraising efficiency.

Accordingly, it was proposed to dispense with the requirement of appointing a Merchant Banker by an issuer for Rights Issue and assign the several activities which are presently carried out by the Merchant Banker to the Issuer, Registrar to issue and Stock Exchanges/Designated Stock Exchange (DSE).

C. Requirement of appointment of Registrar to the issue (RTA)

The present framework requires companies conducting Right’s Issue to appoint a Registrar registered with SEBI. These Registrars perform various activities like identifying blocked demat accounts, determining Rights Entitlements (REs), assisting in opening Escrow demat accounts, validating with depositories, and sharing data with stock exchanges. It was noted that the ICDR Regulations do not explicitly outline specific activities for RTAs to perform independently, apart from issuing a certificate to the lead manager that subscription of the offer has become at least 90% of the offer. It was deliberated that most activities performed by RTAs are based on information received from Stock Exchanges and Depositories.

Accordingly, it was proposed that Stock Exchanges and Depositories could handle activities like application validation and finalization of allotment, which are currently performed by Registrars. This could streamline the Rights Issue process and reduce reliance on Registrars for these tasks.

D. Streamlining the timelines involved in Rights Issue Process.

The consultation paper proposes streamlining the timelines for Rights Issues. Currently, Non-Fast Track Rights Issues take an average of 317 days, while Fast Track Rights Issues take 126 days. The paper takes note of the average time taken for various stages of the Rights Issue process, including board meetings, due diligence, filing of documents, and issue opening and closing and identifies that the lack of specific timelines for certain activities contributes to the lengthy process.

To streamline the process, it was proposed to reduce the overall timeline to T+20 working days from board approval to issue closure. Additionally, it was proposed to reduce the time from issue closure to trading to T+3 working days for finalizing the basis of allotment, listing applications, and transferring funds.

E. Enabling allotment to selective investors in Right Issue

Under the present regulatory framework, promoters are restricted from renouncing their Rights Entitlement (“REs”) outside their group if the issue has not met the minimum subscription criteria or if it falls under a Fast Track Rights Issue. Another issue is the rigidity of the allotment process as outlined in Regulation 90(2) of the ICDR Regulations which prioritizes allotment to original RE holders and their renouncees but does not explicitly address the possibility of allocating unsubscribed shares to investors other than those holding Res. As a result, it was noted that companies often prefer preferential allotments, which allow for quicker fundraising and the ability to target specific investors without the regulatory hurdles and timelines associated with Rights Issues.

Accordingly it was proposed to relax the restrictions with respect to renunciation by promoters to allow promoters to renounce their REs to selective investors, provided that detailed disclosures are made through advertisements and stock exchange notifications. These disclosures would include the names of the selective investors, the promoters renouncing the REs, and the number of REs involved. Furthermore, it was proposed to allow for the allotment of any unsubscribed portion of the issue to selective investors at the issuer's discretion, with similar disclosure requirements as for the initial renunciation. However, the present restriction that where the issuer or any of its promoters or directors is a wilful defaulter or a fraudulent borrower, the promoters or promoter group of the issuer are not allowed to renounce their rights except to the extent of renunciation within the promoter group, would continue.

F. Other proposed changes

1. It was proposed that issuer may be mandated to disclose in the proposed simplified LoF the details of the non-compliances, if any, with the listing agreement or the SEBI LODR Regulations, percentage of investor complaints resolved and reasons for any unresolved complaints, details of any show-cause notices issued by SEBI against the issuer, promoters, or directors and lastly confirmation that the issuer's equity shares have not been suspended from trading in the past three years.

2. It was proposed that in case the trading in the shares of the issuer is suspended at the time of making Rights Issue, such issuer may not be allowed to make Rights Issue.

3. It was proposed that ICDR Regulations would be applicable to all Rights Issue irrespective of issue size and the appointment of Monitoring Agency be made mandatory to monitor the use of issue proceeds for all types of Rights Issue.

Way Forward

The proposed changes to Rights Issue regulations aim to streamline the capital-raising process, making it more efficient for companies by reducing the regulatory burden and minimizing the need for intermediaries such as merchant bankers. While this could enhance the attractiveness of Rights Issues for issuers, it may also lead to fewer business opportunities for merchant bankers and raise concerns about the quality of disclosures in offer documents, as the absence of third-party scrutiny might increase the risk of incomplete or misleading information reaching public shareholders. Despite this, top-tier merchant bankers may still retain their relevance, as corporate entities might prioritize comprehensive disclosures and seek their expertise to maintain investor confidence. The overall impact on the role of merchant bankers and the efficiency of Rights Issues will largely depend on the implementation and enforcement of these regulatory changes.

CS Chirag Singhal

Merchant Banking || Company Secretary || IPO

2 个月

Insightful

Thanks for sharing, Shubham!

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