A robust continuing disclosure regime is a sine qua non for maintaining efficient capital markets. Over the years, the Securities and Exchange Board of India (SEBI) has developed and enhanced a continuing disclosure regime for Indian listed companies, which is now encapsulated in regulation 30 of the SEBI (Listing Obligations and Disclosure Requirements) Regulations, 2015 (the ‘LODR Regulations’). In order to strengthen the framework, SEBI last week issued a consultation paper with suggestions to amend the LODR Regulations. This is purportedly based on feedback that SEBI has received from stakeholders (both investors as well as companies) regarding the deficiencies of the current system. If operationalised, the changes could have a significant impact on the manner in which companies are required to make disclosures of material events. While changes are proposed on a number of fronts, here I discuss some of the key proposals.
Regulation 30(1) of the LODR Regulations requires listed companies to make disclosures of events or information that are, in the opinion of the board of directors, material in nature. The regulations bifurcate the disclosure requirements into two categories. The first (Para A) relates to events that are deemed to be material, and must therefore be disclosed. These items are specified in Para A of Part A of Schedule III to the LODR Regulations, and they are to be disclosed without the application of any specific materiality guidelines. They relate to matters such as capital structuring (or restructuring), mergers and acquisitions, corporate governance, and insolvency.
The second category (Para B) is where disclosure is to be made only if the event or information satisfies the ‘materiality’ test set out in regulation 30(4), wherein a listed entity shall consider various criteria while deciding whether to disclose the relevant information. Such events and information are specified in Schedule III, Part A, paragraph B, SEBI LODR Regulations.
The main prong of proposed reform emanating from SEBI relates to Para B disclosures, essentially because the determination of ‘materiality’ is left to the materiality policy to be put in place by each company. Here, SEBI found that ‘most entities are seen to be following a very generic Materiality Policy, simply reproducing therein merely the regulatory provisions under LODR Regulations, affording them a lot of discretion to decide as to whether or not to disclose an event specified in Para B’. Hence, and in order to attenuate (and even eliminate) the discretion available with company boards, SEBI seeks to impose disclosure requirements based on quantitative criteria. Once an event or information triggers any of the following materiality thresholds, the listed company has no option but to disclose the information:
- two percent of turnover, as per the last audited standalone financial statements of the listed entity;
- two percent of net worth, as per the last audited standalone financial statements of the listed entity;
- five percent of three-year average of absolute value of profit/loss after tax, as per the last three audited standalone financial statements of the listed entity.
The materiality policy of each company ought to incorporate these trigger thresholds. While it is open to companies to impose more stringent disclosure triggers, they are not permitted to dilute the requirements prescribed in the LODR Regulations.
The effect of this change, if implemented, is that it will significantly constrain the ability of corporate boards to determine whether or not Para B disclosures ought to be made. Decision-making will rather be based on whether these quantitative thresholds are activated. In that sense, there is a transition from a more subjective approach to Para B disclosures, as existing under the current regime, to a more objective framework under the proposed regime. This appears largely aimed at removing any uncertainty in the disclosure obligations, and to generate greater clarity in the minds of both the companies as well as the investors.
At the same time, it has the effect of creating an artificiality, such that events or information that fall marginally beneath the thresholds can escape disclosure even if they may be ‘material’ in the overall sense. Another related question would be whether the figures presented in the consultant paper are too low, thereby spawning considerable information in the market and producing an information overload which, in itself, could be counterproductive to enabling easier accessibility of disclosures to investors with a view towards efficient markets.
Market rumours and speculation generate complexities when it comes to continuing disclosures. This is because companies often have a reactive role to play as the generation of rumours and speculation may have been outside their control. The current regime, in regulation 30(11), provides that a company ‘may on its own initiative also, confirm or deny any reported event or information to the stock exchange(s).’ This is in addition to the obligation to respond to specific queries raised by the exchange. In the consultation paper, SEBI has observed that such a regime may be insufficient to keep pace with the rapid development of digital media, which might require a more proactive response on the part of the companies.
Hence, under SEBI’s proposal, the top 250 listed companies (on the basis of market capitalisation as at the end of the immediate previous financial year) ‘shall necessarily confirm or deny any event or information reported in the mainstream media, whether in print or digital mode, which may have material effect on the listed entity’. Here, confirmation or denial would be obligatory and not merely optional for companies.
This would make the disclosure regime considerably onerous. First, companies would be required to build up adequate capacity to track rumours in the mainstream media, and to respond appropriately from time to time, failing which they could be subject to liability for non-compliance. Note, though, that the SEBI proposal refers explicitly to mainstream media and not to social media in general. Second, as observed by commentators (here and here), any rumours or speculation about material events could require companies to take a stand and make some form of disclosure even though the information may not be ripe enough for disclosure. For instance, if a material contract is still under active negotiation (with no certainty as to whether the contract will fructify at all), any premature statement by the company as required by the proposed disclosure regime could alter the negotiating positions of the parties.
Truncation of Timelines
Staying with the developments relating to the digital media, SEBI recognises the need for a more rapid dissemination of information by companies. Hence, the timeline of disclosure of information emanating from a listed entity is reduced from 24 to 12 hours. Furthermore, for decisions made at a board meeting, the disclosure under the proposal is required to be made within 30 minutes from the closure of such meeting. The consultation paper carries a detailed Annex II, which sets out the specific timelines for different types of disclosures.
Depending upon the final form these proposals take, the changes would have a significant impact on the manner in which the continuing disclosure requirement operates. This would in turn require companies to modify their organisational mechanisms to deal with the altered continuing disclosure regime.
SEBI has invited comments on the consultation paper, which are due on 27 November 2022.