A Round-up on Recent SEBI Reforms

Earlier this week, SEBI announced a slew of capital market reforms. This comes in the wake of recovery in the markets as well as the Government’s intention to undertake disinvestments in public sector undertakings (PSU). The principal reforms and their impact are discussed below.

Small and Medium Enterprises (SMEs)

SEBI has established a separate regime for listings by SMEs. Companies listing on the SME segment need not comply with the eligibility norms for initial public offerings (IPOs) and follow-on public offerings (FPOs) that are applicable to other companies. However, in order to ensure that only financially sound investors invest in these markets, a minimum application size of Rs. 100,000 has been prescribed. SMEs are eligible to access capital markets under this category so long as their paid-up capital is no more than Rs. 25 crore (Rs. 250 million). If the paid-up capital exceeds this amount, then such company’s listing would be transferred to the main board. In addition, provision has been made for a market-making mechanism for SMEs, and some relaxations have been made for accounting and financial disclosure requirements

These moves are expected to enable companies in the SME segment to access capital markets without being subject to onerous conditions.

Price Discovery in FPOs

In a significant move, SEBI has introduced an additional method of book building for FPOs. Under this scheme, there would only be a floor price set by the company, and bidders would be free to bid at any price above that. Bidders would be allocated shares on the basis of the price they have quoted. In other words, different bidders will be allocated shares at different prices, a novelty in the Indian scenario. However, there is one exception, and that is retail investors would be allotted shares at the floor price. This not only protects retail investor interest, but also pays some regard to the sophistication of institutional investors who are comparatively financially savvy.

While the motive for the introduction of this method may perhaps be relatable to the government’s embarkation on the road to disinvestment and the need to fetch as high a price as possible for its shares in PSUs, its success in broader terms may not be free from doubt. It is not clear why companies may adopt the FPO route (which tends to be quite elaborate) rather than use the qualified institutional placement (QIP) route which has been offered to listed companies in a simplified form (and has indeed gained popularity).

One significant question that has been raised pertains to why this option has been made available only to FPOs and not to IPOs. Curiously enough, the price of shares of listed companies is readily available through the discovery mechanism in the secondary markets, which is itself some indication of the value of the company’s shares. On the other hand, unlisted companies that are proposing to undertake an IPO do not have the benefit of such a price set by the markets. The current mechanism for IPOs requires the issuing company to indicate a price band, which the investors are bound by. The IPO mechanism does not call for investors bidding at differential rates, although it is precisely in that case that such a mechanism may be more useful than in the case of an FPO where the market price itself provides some guidance. It is possible though that if this additional mechanism is successful in FPOs, there would be a strong case for its introduction in IPOs as well.

(Update – November 14, 2009: The Financial Express has a column by Rajesh Chakrabarti that examines the new FPO pricing option in detail, which also refers to a research paper by Amit Bubna and Nagpurnanand Prabhala)

Miscellaneous Matters

Several other measures have been introduced to enhance the capital markets. These include:

– streamlining the timing of financial disclosures by listed entities;
– interim disclosures of balance sheet items by listed entities;
– simplification of requirements for fast track issues for listed companies desirous of undertaking FPOs or rights issues; and
– voluntary adoption of IFRS by listed entities having subsidiaries.

Other Reforms

Prior to this, SEBI also announced certain secondary market reforms. These are based on the recommendations of the Secondary Market Advisory Committee:

1. A discussion paper outlines the guidelines for incorporating conditions or clauses in powers of attorney issued by clients to the stock brokers or depository participants; and

2. A circular allows SEBI registered stock brokers to provide access to clients through authorised persons. The detailed eligibility conditions for authorised persons as well as the roles and responsibilities of the relevant parties are set out in detail.