The Effect of an Increased Free Float on India’s Promoter-Controlled Companies

[Shiluti Walling is a 4th year B.A., LL.B. (Business Law Hons.) student at National Law University, Jodhpur]

The Union Finance Minister recently proposed the increase of the minimum public shareholding (MPS or free float) from 25% to 35%. Prior to the proposal, public shareholders of a listed company were required to hold at least 25% of the paid-up capital of the company as free float, pursuant rules 19(2) and 19A of the Securities Contracts (Regulation) Rules, 1957 read with the Securities and Exchange Board of India (Listing Obligations and Disclosure Requirements) Regulations, 2015.

The growth of the Indian capital market ecosystem is a relatively recent phenomenon. The emergence of Securities and Exchange Board of India (SEBI) as the capital market regulator coupled with the establishment of National Stock Exchange (NSE) have been the most pivotal milestones in India’s almost three decade long capital market journey. While the number of companies listed on the two national exchanges — the Bombay Stock Exchange (BSE) and the NSE is well over 5000, the market depth is low. This can be attributed to the high promoter holdings that cause a truncated float available for trading by the public. For example, the average promoter holding among publicly traded Indian firms in 2015-16 as per Prowess, a database maintained by CMIE (which includes almost all publicly listed firms), was 55.6%, with the median closer to 58%.

Before September 1993 A minimum public offer of 60% of issued share capital of the company was required for a company to get listed on a recognised stock exchange board. Securities up to 11% out of those 60% could be taken by the Government or any other financial institution.
After September 1993 A minimum public offer by a company for getting listed was brought down to 25%; however the Government and Financial Institutions were also included in the same. The power of relaxation was available in the case of Government and financial institutions only.
May 2001 SEBI directed stock exchange to amend clause 40-A of the listing agreement, to provide that a company shall maintain the minimum public shareholding on a continuous basis and companies were asked to raise the non-promoter shareholding to at least 10% within next one year or to buy back the shares.
August 2005 All the listed companies were required to maintain at least 25% shareholding with the public for the purpose of continuous listing.
2010 The criteria of 25% of public shareholding, in the form of rule 19-A was inserted by way of the Securities Contracts (Regulation) (Amendment) Rules, 2010. Rule 19-A of the Regulations reads as:
19-A. Continuous listing requirement.—Every listed company other than public sector company shall maintain public shareholding of at least twenty-five per cent:
Provided that any listed company which has public shareholding below twenty-five per cent, on the commencement of the Securities Contracts (Regulation) (Amendment) Rules, 2010, shall increase its public shareholding to at least twenty-five per cent, within a period of three years from the date of such commencement, in the manner specified by the Securities and Exchange Board of India.

Reasons for the high promoter holdings stem from the need to maintain control over public listed companies. This phenomenon, however, is not limited to the Indian context alone. South Korea’s transformation into one of the world’s leading economies owes much of it to its sprawling family-run conglomerates called chaebols. Examples include household names such as LG, Hyundai and Samsung. Critics argue that the cultural relic of a different era is not well tempered or suited to the 21st century economy. What is colloquially termed as the “Korea discount” entails the trading of shares of chaebol linked companies at lower prices than their counterparts in foreign jurisdictions such as US or Europe. Additionally, corruption within the families controlling the chaebols have long plagued the said Korean companies which have been buttressed by tight lids on financial and management information, and a fondness for cross-holdings and related-party transactions among affiliates.

Global Free Float Standards

Jurisdiction Initial Listing Requirement Continued Listing Requirement
Australia (ASX) 20% 20%
Canada (CSE)
20%
20%
Hong Kong (HKEx) 25% public shareholding; at least 300 public shareholders and not more than 50% of the shares in public hands at the time of listing can be beneficially owned by the 3 largest public shareholders.  
Singapore (SGX) Decreases in the range of 12-25% as market capitalisation increases over S$ 300 million. 10%
UK (LSE) 25% 25%
USA (NYSE) Domestic companies: 1.1m publically held shares and at least 400 shareholders holding 100 shares or more;
Foreign companies: 2.5m publically held shares and 5,000 shareholders holding 100 shares or more.
0.6m publically held shares.

An analysis of the tabulated free float rates would indicate the global norm to be 10-25%. India’s free float rate has not seen a variation in recent times. The surprise increase of free float rates is expected to affect the economy by increasing market depth by preventing the concentrated holding of shares. This in turn reduces the vulnerability of stocks to market manipulation. On the opposite side of the spectrum, there is an apprehension that promoters would opt to delist as opposed to giving up equity.

Promoters tend to influence the verdict whenever special resolutions are moved. If promoter shareholding moves down below 75%, public shareholders will have relatively larger say in such resolutions. Besides, raising public holding to 35 per cent will lead to a supply of high-quality papers in the market and will provide an excellent opportunity for investors waiting on side-lines for further investment in stocks. While we need to await SEBI regulations regarding how much time will be given to these companies to meet with this minimum public shareholding norms, the regulator needs to provide sufficient time in the form of a staggered multiyear process to meet the requirement so as not to flood the markets with stake sales by promoters.

Shiluti Walling

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