LISTED COMPANIES REQUIRED TO INCREASE AND MAINTAIN 25% PUBLIC SHAREHOLDING

A recent amendment dated 4th June 2010 to the Securities
Contracts (Regulation) Rules, 1957 (‘the Rules’) requires that existing
companies whose public shareholding is less than 25%, shall increase such
holding to that level in a phased manner. For companies seeking listing for the
first time, the initial level of public holding would need to be at least 25%
with one exception discussed later herein.

This amendment is not a major policy change except that it is
one more effort — in the background of consistent earlier failures — to increase
the public holding to 25%. However, one change — and effectively it is a major
change at least in terms of impact on capital markets — is that now even the
government companies would be required to attain and maintain 25% public
holding.

It will have to be seen whether this fresh attempt is
successful in achieving the objective. If it is, a substantial quantity of
equity shares would flow into the market raising funds, as per some reports, of
nearly Rs.2 lakh crores over a period of the next few years. However, as we will
see later on, the provision relating to public shareholding is mentioned at
multiple places and unfortunately this is an amendment of just one provision of
law, leaving others untouched resulting in overlap, contradiction and confusion.

While a detailed historical analysis of this issue may not be
of interest here, generally, it can be stated that the level of public holding
has been the subject of continuous change. At an early stage the level of public
holding required was 60%, then it was 25% and an exception was made for a group
of industries, particularly emerging ones such as software, etc., to allow 10%
public holding. There were also some conditions and exceptions to these
holdings.

Note also that there was a distinction in the provisions for
minimum public holding at the time of public issue and minimum public
shareholding thereafter. The problem gets complicated not only because these
requirements at these two stages were different, but also that the regulators
was different. The initial listing requirement is prescribed by
the Central Government through ‘Rules’, while the continuing listing
requirements are prescribed by SEBI through the listing agreement and other
regulations.

The situation in law and facts today is thus as follows. The
old Rules prescribed initial listing requirements and while it generally
required a minimum initial public issue of 25%, under certain situations, such
issue could be of just 10%. Logically, the provisions of law, though prescribed
by SEBI, should state that after the public issue, the company should maintain
these respective percentages. However, partly on account of changing policies
and partly on account of poor drafting, the requirements of law as contained
particularly in the listing agreement are ambiguous. Essentially, the intention
was that not only the 25/10% public shareholding should be maintained, but that
even those companies who had a lower public shareholding for any reason should
also raise their holding to such percentages. In practice, owing to poor
drafting, poor enforcement, practical problems, keeping exceptions, etc., this
was not achieved.

Thus, to reiterate, the objective of the law-makers was to
ensure that the public holding should be of a reasonable minimum level so as to
serve the purposes of listing. The amended law now provides that this minimum
level is 25% uniformly for all companies. The intention also is that the
ambiguities in the provisions be eliminated partly by better drafting and partly
by simplifying by not allowing any exceptions to this Rule.

In the light of general discussion as above, let us now
consider the amendments made.

A clear time frame to achieve 25% public shareholding has
been prescribed. However, what happens if the company does not comply with such
requirement for any reason ?

Now let us see some of the concerns with regard to the
amendment.

A major puzzle is that the provisions of Clause 40A of the listing agreement have not been repealed/ modified. It can be seen that this is the provision, howsoever defective, that specifically deals with requirement of increasing the public holding to the specified levels. As can also be seen, this Clause is plainly contradictory with the new requirements. For example, the new requirement requires all companies to maintain/increase their public holding to a common 25%, while Clause 40A has many exceptions. In fact, the scheme of the law till now was simple that is the Rules dealt with ‘initial listing’ while ‘continuing listing’ was dealt with by the listing agreement. However, now there is overlap that does not serve any purpose. While one could technically take a view that a later provision of law overrides an earlier one, this can hardly be a happy approach to take either for the company or even for SEBI.

Unlike the existing Clause 40A, there is no provision for an exception or extension. No exception is given to any type of company. No power is also given to SEBI or the stock exchanges to make any exception or granting any extension to the time schedule for raising public holding.

A major concern is how can the public shareholding be increased?? What are the permissible methods — or, to put it the other way, are any methods prohibited?? SEBI has been authorised to specify the manner in which the public shareholding shall be increased. The common methods may be a fresh public issue, offer for sale by the Promoters, offloading of shares by Promoters in the open market or through off-market deals, etc. One will have to wait for SEBI to prescribe these methods.

The scheme of having a minimum public shareholding has to be built in not only in the Rules and the listing agreement but also in other provisions of law such as the ‘Takeover Regulations’. These will also need amendment to achieve 25% public shareholding.

For the record, it may be recollected that the definition of ‘public’ itself was criticised. It was stated that the inclusion of FIIs, etc. in public effectively resulted in the net holding of the remaining ‘actual public’ to be quite small. Thus, removing such entities from this category was seriously considered. However, no such exclusion has been made and thus holding of FIIs, NRIs, FIs, etc. would be included in ‘public’ shareholding.

It is seen from various published reports that basically companies that would be affected would be the large government companies. In fact, these reports estimate that almost all of the issues in terms of amount would come from such companies. However, it is also true that such companies have not always been found to be wholly compliant with listing requirements. For example, many of government companies have not yet complied with the requirements of ‘corporate governance’. SEBI

has actually passed orders recording this and while it has not awarded any punishment, the orders have highlighted the plight of companies which are effectively at mercy of the government.

Companies that made a public issue of 10% in recent years can rightly air a grievance that had they known that they would be required to make a 25% public issue, they would not have made a public issue in the first place. I think this is a serious and a fair concern and an exception would have to be made for such companies. Having made a public issue of, say, 10%, they can now neither stay, nor exit easily without causing problems to many. To put it simply, they cannot delist and they cannot dilute?!

In conclusion, it appears that unless the new provision is strictly implemented and enforced, it would be merely another half-hearted paper attempt. Newspapers are already reporting that the Finance Ministry is considering tweaking with the new rules. If this happens, it will be another instance of lack of co-ordination between the Government and the Regulator, and perhaps yet another attempt and opportunity going waste.