A widely dispersed shareholding structure in listed entities is essential to ensure effective and efficient functioning of capital markets. It helps in provisioning of greater liquidity to investors and discovery of fair prices. Also, a dispersed shareholding significantly reduces the scope for price manipulation. Keeping this and other benefits in view, the government has recently notified the Securities Contracts (Regulation) (Amendment) Rules 2010 to raise the threshold for non-promoter, public shareholding for all listed entities.We welcome the revised norms and believe that these norms will promote greater transparency, widen the equity ownership, improve corporate governance and eventually lead to more efficient price discovery in Indian equities.
Salient features of the amendment
Prior to the notification of these amendments, rule 19(2)(b) of the Securities Contract (Regulations) Rules 1957 (SCRR) allowed entities satisfying the following three criteria to offer a minimum of 10% of its listed securities to the public:
(a) At least 2 million securities (excluding reservations, firm allotment and promoters’ contribution) were offered to the public.
(b) Size of offer to the public, i.e., the offer price multiplied by the number of securities offered to the public, was minimum INR100 crores (INR1 billion).
c) Issue was made only through book building method with an allocation of 60% of the issue size to the qualified institutional buyers as specified by the Securities and Exchange Board of India (SEBI).
Entities, which did not meet one or more of the above criteria, were required to offer at least 25% of its listed securities to the public for subscription.
The revised thresholds are as below:
(a) For a new listing, at least 25% of each class of equity shares or debentures convertible into equity shares issued by the entity will be offered and allotted to the public. However, for entities with post-issue capital, calculated at offer price, of more than INR 4,000 crores (INR40 billion), this limit has been currently fixed at 10%. Also, the increased threshold of 25% will not currently apply to an entity whose draft offer document is pending with the SEBI on or before the commencement of the Securities Contracts (Regulation) (Amendment) Rules 2010, if it satisfies the conditions prescribed in rule 19(2)(b) of SCRR for applicability of the 10% threshold.
(b) An entity with an option of 10% public shareholding at (a) above will need to bring the public shareholding to the level of at least 25% by increasing its public shareholding to the extent of at least 5% per annum beginning from the date of listing of securities.
(c) The entities, which are already listed, need to maintain public shareholding of at least 25%. If any listed entity has public shareholding of less than 25% on the commencement of the Securities Contracts (Regulation) (Amendment) Rules, 2010, it will bring the public shareholding to the level of at least 25% by increasing its public shareholding to the extent of at least 5% per annum from the date of such commencement.
(d) Where the public shareholding in a listed entity falls below 25% subsequently, such entity will bring the public shareholding to atleast 25% within a maximum period of 12 months from the date of such fall.
(e) “Public shareholding” means equity shares of the company held by public and excludes shares held by a custodian against depository receipts issued overseas. The term “public” means persons other than (i) the promoters and promoter group, and (ii) subsidiaries and associates of the entity.
The amendment does not separately prescribe penal or other implications that will arise in case of any non-compliance with the new public shareholding requirements. We therefore believe that the same will be governed by the regular provisions of the Securities Contracts (Regulation) Act 1956 (SCRA) and the Securities Contract (Regulations) Rules 1957 (SCRR). Attention is particularly drawn to rule 21(f) of SCRR regarding delisting of securities. According to the rule, if public shareholding in a listed entity falls below the minimum level applicable to it and the entity fails to raise the public holding to the required level within the specified timeframe, the stock exchange may delist the securities. This will, among other implications, make the entity, its promoter and directors liable to purchase the outstanding securities from holders who wish to sell them at a fair price determined in accordance with regulations made by the SEBI.
Any listed company failing to comply with new public shareholding requirements will need to consider its potential implications with the help of legal experts. From the financial statements perspective, the following key aspects may be considered:
(i) Whether there is a need to create provision for the potential financial consequences, such as fines and penalties.
(ii) In extreme cases, such non-compliance may severely impact the liquidity position of the entity and give rise to other regulatory challenges. To illustrate, this may be a case if there is a continuing failure to meet the public shareholding requirement, which is likely to result in delisting of securities and substantial purchase of securities from the existing holders.
(iii) Irrespective of the nature and extent of non-compliance, it will be a healthy practice to bring the non-compliance and its potential implications to the attention of users by giving an appropriate note in the financial statements.