Private Placements And Pre-Ipo Advantage

On 18th July 2024, the Central Registrar of Cooperative Societies (CRCS) online portal launched by the Cooperative Ministry to refund Sahara investors would mark its 1st anniversary.[1] An unconventional measure by the Supreme Court to transfer move funds recovered by the Securities and Exchange Board of India (SEBI) to the Union Cooperation Ministry for efficient processing is now on an extension of an additional six-month deadline. In light of the same, we delve into a tool misused to carve out “The Alleged Sahara Scam”: Private Placements and pre-IPO advantage.

Tracing the Concept

Section 42 of the Companies Act 2013 mentioned Private Placements as an invitation to subscribe to the shares of a company to a selected group of people, subject to numerous restrictions.[2]Although these restrictions did not exist prior to this Act, if they existed, they were blatantly violated by the Company. SEBI claimed Sahara to have raised funds through unsecured Optionally Fully Convertible Debentures by private placements without informing the public.[3] A Memorandum of Information under Section 60B of the Act was circulated. But the Section deals with the issue of information memorandum to the public, and hence any Company giving circular under this would be treated as a listed public company as per the interpretation of Section 60B(9) of the Companies Act.[4]The proviso to Section 67(3) restricted private placements up to 49 persons, was blatantly violated by Sahara.[5]

The Act of 2013 has sought to curb its misuse to a large extent but has still failed to address the issue of insider trading and price inflation. The disclosure requirements are now made stringent by making private placements only to “identified persons,” among various other checks established.[6]Through private placements, the selected few stand a pre-IPO advantage. Market manipulation through short selling in case of information of a discounted share, to buy it again would defeat the purpose. Additionally, the selection of “anchor investors” that commit a significant capital accumulation and accrue the public’s confidence in the Company inflates the price of the share. Certain lock-up agreements that restrict privately placed investors from selling their shares can portray an illusion of limited liquidity and increase the price.

The seriousness of threats posed by private placements outweighs the benefits it has. It may be beneficial for small companies as it will provide the company with targeted, specialized, and long-term investors. However, these advantages cannot undermine the repercussions it has in the case of big companies. Sahara is one such example, where the provision, which had a vague existence till then, was flagrantly flouted. A thousand Crores of the public’s hard-earned money was taken and misappropriated in the name of private placements.

The Contemporary Landscape

As per The Securities and Exchange Board of India (Issue of Capital and Disclosure Requirements) Regulations, 2018 (ICDR), companies enlisted for IPO are allowed to make “pre-placement offers” between the date of filing Draft Red Herring Prospectus (DHRP), required to declare the intention to launch an IPO and completion of listing with Securities and Exchange Board of India (SEBI). [7] The process should end before filing DHRP with the Registrar of Companies. The amount accumulated cannot be more than 20% of the fresh issue of the IPO.[8]

This seems to fill the lacuna to a larger extent. Neither is there an arbitrary embargo on pre-placements nor is there a wide room for misuse. The permitted time duration is decided in a manner that there will be stringent scrutiny by the SEBI as well as the Registrar of Companies after this. The sanctioned amount does not have the capacity to inflate the price of shares. Initially, these investors enjoyed numerous special rights and powers, which put them on a pedestal and gave them an upper hand on the company’s shares and market information. However, the advisory sent out on 24th June 2024 abridged this right by dissolving the special rights given to their shareholders under the Article of Association (AOA) of the company and the Shareholder’s Agreement (SHA) on the date of listing.[9]Now pre-investment players cannot influence IPO Pricing. But, on the other side, this could forfeit the interests of these investors if the IPO does not materialize. Reassigning the special rights in case the IPO does not crystallize is left at the discretion of the company, which can counter the interests of the investors.[10]

Conclusion

The recent amendments in law seem to prima facie curb the fault. It looks prejudicial for the interest of pre-IPO investors and more toward those who invested through private placements. But, in order to further the collective interest of the masses, the interests of these investors need to be compromised to some extent. In order for the market to operate fairly and solvently, a stringent check needs to be placed on investors who are given a pedestal, so that they cannot misuse this financial windfall at the cost of others.

Author:– ANANYA TRIPATHI, in case of any queries please contact/write back to us at support@ipandlegalfilings.com or   IP & Legal Filing.

References

[1] Amit Shah launches portal to refund money of four Sahara Coops investors, The Economic Times, Jul. 19, 2023, https://economictimes.indiatimes.com/news/india/centre-starts-process-to-refund-rs-5000-crore-to-investors-of-4-sahara-group-cooperative-societies/articleshow/101867720.cms?from=mdr (last visited Jul 18, 2024).

[2] Section 42, Companies Act,2013

[3] NishithDesai, https://www.nishithdesai.com/generateHTML/5962/4 (last visited Jul 18, 2024).

[4] Section 60(B)(9), Companies Act,2013

[5] India – Shareholders – Sahara vs. SEBI-An In-Depth Analysis Of The Landmark Supreme Court Ruling, https://www.mondaq.com/india/shareholders/203796/sahara-vs-sebi-an-in-depth-analysis-of-the-landmark-supreme-court-ruling (last visited Jul 18, 2024).

[6] Section 42, supranote 2.

[7] SECURITIES AND EXCHANGE BOARD OF INDIA (ISSUEOF CAPITAL AND DISCLOSURE REQUIREMENTS) REGULATIONS, 2018, (2018), https://www.sebi.gov.in/legal/regulations/jan-2022/securities-and-exchange-board-of-india-issue-of-capital-and-disclosure-requirements-regulations-2018-last-amended-on-january-14-2022-_56069.html.

[8] Id

[9] Ashley Coutinho, SEBI Rolls Back Diktat to End Special Rights before IPO, BusinessLine (2024), https://www.thehindubusinessline.com/markets/sebi-rolls-back-diktat-to-end-special-rights-before-ipo/article68328367.ece (last visited Jul 24, 2024).

[10] Id