The Securities and Exchange Board of India (SEBI) issued a directive (SEBI Directive) to the Association of Investment Bankers of India (AIBI) and some of its members on ways in which IPO bound companies could seek exemptions in relation to ‘promoter group’ disclosures in IPO offer documents.
In addition to introducing a further layer of complexity to the process of taking a company public, the SEBI Directive has reignited discussions on the relevance and significance of ‘promoter group’ as a concept.
A brief history
Promoter group as a concept has existed under various iterations of SEBI regulations for over 25 years. Over time, the definition of promoter group, and attendant disclosure requirements, have undergone several amendments, basis market feedback to make them more practical. The 10% identification thresholds have been revised to 20% to reduce the number of entities that get identified and disclosed as promoter group. The carve-outs from being identified as promoter group, which were earlier applicable only to financial institutions, scheduled banks, FPIs and mutual funds, are now also applicable to insurance companies, FVCIs and AIFs. In the case of corporate promoters, identification of promoter group based on common control/ shareholding (a difficult standard) has been omitted altogether.
Notwithstanding the changes, the underlying intent has always been to protect the interests of investors at all times against any unscrupulous ‘fly-by-night’ operators, looking to tap the public markets.
On the disclosure front, following the introduction of the ‘group companies’ concept, disclosure requirements in relation to promoter group have reduced substantially, with only a handful of confirmations (albeit critical ones[1]) required to be included in offer documents.
However, despite the steps taken by the regulator, in the right direction, by its nature, the concept of promoter group has continued to be a sore point for most issuers looking to access the public market.
What ‘promoter group’ means today
For Individual Promoters
For Corporate Promoters
Set out above is a diagrammatic representation of the scope of promoter group under the SEBI ICDR Regulations, 2018. Evidently, this universe of persons and entities is fairly expansive, especially in case of issuers with multiple promoters or complex holding structures. The sheer logistics involved in putting together the promoter group list, and getting the requisite confirmations from each member is a Herculean task at the outset. However, ensuring that the list is complete and exhaustive becomes a tricky proposition in many cases.
This is because historically and even today, Indian corporates have been predominantly family owned. It is not uncommon for successful businesses to have second, third or fourth generation scions at the helm. With large families and complex family dynamics at play (especially where stakes are high), it is increasingly difficult for all extended family members (see chart above) to be on amicable terms at all times, or to be in a position where they will cooperate with the issuer and promoters to sign due diligence certifications and undertakings. There are times when the various limbs of joint families drift apart due to passage of time, and it may be very difficult for current promoters to trace and reach out to all relatives, without causing impediments to deal timelines.
A related tricky aspect is the sheer number of entities floated and held by large, extended business families. Regardless of whether such entities undertake any business activities, or their relevance to the issuer or its promoters, the SEBI definition requires them to be classified as promoter group.
In the past, the only way out for issuers was to use the SEBI exemption route to exclude ‘aggrieved’ or ‘disconnected’ promoter group persons or entities from being identified or disclosed. Issuers that have sufficiently established grounds for exemption and their own bona fide best efforts have managed to obtain the requisite exemptions from SEBI in most cases.
The SEBI Directive, however, appears to have put a new spanner in the works on this option.
What the SEBI Directive means for existing and future issuers
In summary, the SEBI Directive provides issuers seeking to exclude ‘certain relative(s) in promoter group due to family reasons’ with three options:
(i) Accompany the exemption application with a reference/ affidavit from the relative stating in clear terms that the person does not want to be part of the promoter group; or
(ii) Accompany the exemption application with a memorandum of understanding duly signed between the promoter group and the said relative; or
(iii) Identify the relative as part of the promoter group and put such relative to notice, stating that a response is imperative from them, failing which such person will continue to remain a part of the promoter group, and their details will be included in all publicly available information with respect to the issuer.
The SEBI Directive also imposes additional conditions in relation to any promoter group exemption being sought. First, the relative against whom exemption is being sought, should not hold any interest in the issuer, including through equity/ debt, or as a vendor/ supplier/ client of the issuer. Second, the exemption shall be obtained prior to the filing of the DRHP. Interestingly, while the SEBI Directive appears to related to individual promoters and their relatives, the tacit understanding is that it is equally applicable to corporate promoters and promoter group members.
Unsurprisingly, all aspects of the SEBI Directive have been met with consternation from key stakeholders in the public markets’ ecosystem. For individual promoters, promoter group related issues come in all shapes and colours, including issues with parents, children, siblings, and spouses. In the face of genuinely strained relations (or in some cases, ongoing legal disputes), to expect a relative to sign an affidavit or an MoU is generally out of the question. Similarly, when it comes to corporate promoter group entities, there may be situations (say, if the entity is under liquidation), where it may not be practically feasible to obtain either of the documents prescribed under the SEBI Directive.
The alternative option provided by SEBI does not help either – naming such persons or entities as promoter group in the offer document comes with its own risks. The list of promoter group entities is likely to be incomplete (e.g. investee concerns of a sibling where the sibling is not approachable). But most critically, in the absence of an exhaustive promoter group list, and in the absence of self-certifications and undertakings from each promoter group member, it will not be possible for the issuer to confirm its own eligibility to undertake an IPO. From the perspective of merchant banks, the absence of a public, centralised database of SEBI debarred entities means that there is limited scope to undertake any independent due diligence in this aspect. Additionally, naming any ‘aggrieved’ persons as promoter group will pose its own set of challenges to the issuer in the form of post-listing compliances.
The additional conditions summarised earlier bring with them their own set of challenges – pressure on promoters and issuers to align interests in case of cross holdings or dependencies, impact on IPO timelines on account of exemption being a pre-DRHP filing requirement – but these seem less pertinent when compared to the issues highlighted above.
Way forward – Emphasis on simplification and relevance
So far, the SEBI Directive has been interpreted by the regulator in the strictest terms possible, with limited flexibility available to issuers to make a case, even in instances where prior exemption applications were pending for the regulator’s consideration.
Whilst SEBI’s concerns are appreciated, it would perhaps be a good idea to go back to why promoter group related requirements became relevant in the first place. Through ‘promoter group’ and the attendant confirmations, SEBI wanted to: (i) monitor cross holdings of persons or entities connected to the promoters, and their capital contribution to the issuer; and (ii) test the quality of such connected persons and entities against pre-defined thresholds (e.g. debarment). If the regulatory thought process is still the same, then the way forward could perhaps be based on practicality and relevance, as opposed to technicality.
For instance, as a starting point, promoters may provide undertakings in offer documents and to underwriters that in the share capital build up of the issuer, no funds were invested by or borrowed from the promoter group (directly or indirectly). Similarly, promoters can also provide undertakings in relation to such ‘aggrieved’ promoter group not holding any shares (directly or indirectly) in the issuer. As a corollary, promoters should then be required to provide confirmations in relation to debarment, eligibility, etc., only in cases where a promoter group does hold shares, or where there has been a contribution in the capital build up. But here too, the promoter himself should be provided flexibility to provide these confirmations, without any dependence on promoter group (at the IPO stage, and post-listing). Additionally, in case there are cross-holdings with such promoter group, the promoter should have the ability to wind-up such holdings prior to the IPO, without any prejudice to the IPO timelines. Alternatively, ‘aggrieved’ or ‘disconnected’ persons and entities should not be identified or disclosed as promoter group altogether, for reasons mentioned above.
The decision to undertake an IPO is a huge step in the lifecycle of a company, and results in a complete shift in the mindset of promoters and management. It is an inherently time-consuming, extensive and collaborative exercise. As such, pressures on promoters and the management should not be exacerbated on account of technicalities, and the IPO should not serve as an opportunity for any person to settle scores against the issuer or promoters.
For further information, please contact:
Yash J. Ashar, Partner, Cyril Amarchand Mangaldas
yash.ashar@cyrilshroff.com
