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Ensuring Confidentiality

Sandeep Parekh

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Co-authored with Rahul Das & Parker Karia, respectively, senior associate and associate, Finsec Law Advisors

The Securities and Exchange Board of India has been taking several steps to ensure that the process for companies to list their securities on stock exchanges is rationalised for issuer companies, investors, and all other stakeholders. In the same stride, in a recently issued consultation paper, SEBI has proposed a revised framework under which companies intending to come out with an initial public offer (IPO) can privately file their relevant documents with SEBI and concerned stock exchanges for review and observations, without disclosing the same to the general public. An IPO can entail a fresh issue of shares by a company or an offer for sale of shares held by the existing shareholders of the company or a combination of the same.

Presently, companies desirous of getting listed have to first file a draft red herring prospectus (DRHP, or offer document) with SEBI. The DRHP is a public document to clarify the purpose behind raising money from the public, the manner it is to be utilised, and the risks involved. Thus, the DRHP includes information about the company’s financials, business operations, standing in the industry, its promoters, and its listed or unlisted peers. The DRHP is subjected to public scrutiny and SEBI’s observations/changes, if any, for 21 days (a bit longer in reality), pursuant to which the stock exchange may provide an ‘in-principle approval’ to the issuer. Thereafter, SEBI issues its observations in relation to the offer document, if any. At this juncture, the issuer is faced with two choices— to pursue the listing of its shares by filing with the registrar of companies the red herring prospectus (which includes SEBI’s observations and updated information of the issuer), or withdraw from the IPO process and choose not to list its shares.

Currently, issuers who opt to withdraw from an IPO process face a disadvantage, as sensitive information about the company, which otherwise would not have been made public, becomes available to its competitors. If a listing does not materialise, it could lead to the divulsion of sensitive information of the company for no purpose. Further, under the current framework, the entire process of the IPO takes upto two and a half months, and public comments, including those from institutional investors, are received right from the moment the DRHP is filed. On account of a long timeline, the relevance or accuracy of comments received from institutional investors can come into question, which may have a cascading effect on the size of the issue as well as the offer price for the securities. SEBI’s consultation paper also notes that when an issuer files its red herring prospectus which incorporates responses to public comments and Sebi’s observations along with the updated financials and information of the company, the same is available usually for only 2-5 days before the IPO, giving investors very little time to comprehend the changes and updates made in the offer document.

Thus, SEBI has now proposed a new framework for IPOs— an issuer would first submit apre-filed document with SEBI and the stock exchange(s) for initial scrutiny,which will contain relevant disclosures to be made under the SEBI (Issue of Capital and Disclosure Requirements) Regulations, 2018. However, this document would not be accessible to the public. Instead, the issuer will make a public announcement stating that it has submitted a pre-filed document and would interalia make it clear that the pre-filing will not necessarily lead to an IPO. Further, the issuer will not be allowed to advertise or undertake any marketing campaign to promote the IPO. Thereafter, SEBI may seek clarifications and the stock exchange would provide an in-principle approval to the same. Post approval, Sebi will have to issue its observations on the pre-filed document within 30 days. Thereafter, the issuer, based on market conditions, financial status, and any other relevant factor(s) can decide to proceed with the IPO or withdraw. In case of the latter, the issuer’s sensitive information remains confidential, as it has not been made public at this stage. If it decides to proceed with the IPO, the issuer files the DRHP, which would contain the SEBI’s observations. This document would now be publicly accessible for 21 days. Pertinently, advertising and marketing campaigns can be undertaken only after filing of the DRHP and not at the stage of pre-filed document. Thereafter, the issuer shall file an updated DRHP with Sebi which is expected to contain the changes on account of comments received from the public as well as the latest and updated information of the issuer. It is only after receiving SEBI’s approval can the issuer proceed with filing the red herring prospectus with the relevant authorities.

SEBI’s proposal addresses some of the major concerns stakeholders have in the current framework—confidentiality of sensitive information in case the issuer withdraws from the IPO process, the relevance of comments of institutional investors on account of delays between the receipt of comments, and actual listing and short time available with the market to analyse any changes made to the DRHP. By introducing the pre-filed document concept, confidentiality will be maintained till the issuer is sure of proceeding with the IPO. Secondly, the time-frame between receipt of public comments and listing will be reduced, thus ensuring that the comments remain relevant at the time of the IPO. Thirdly, investors and analysts will get more time to analyse SEBI’s observations and information about the company.

SEBI’s recommendations appear to be based on a review of the position of law in the UK, the US, and Canada. At the stage of filing the pre-filed document, Sebi may consider allowing issuers to test the waters by approaching qualified institutional buyers, accredited investors, and other such institutions to try and gain a better understanding of the potential market reaction to their proposed IPO. This could help save time and expenses of the company and also help avoid unwanted public scrutiny. However, sufficient checks and balances must be put in place to ensure that this does not lead to/ amount to a violation of securities laws, including gun-jumping or conditioning the market beyond the usual impact.

SEBI’s proposal, if implemented, will certainly be a move in the right direction and will contribute to the ease of doing business in India by further rationalising the listing process. If the revised IPO framework is implemented, the risk of disclosure of sensitive information of companies that finally decide not to go ahead with the IPO will reduce significantly.

(This article was first published in Financial Express)