(1) In this article, two recent developments in the field of Securities Laws are covered. One relates to clarifications issued by SEBI on creeping acquisitions under the Takeover Regulations. The other relates to a public interest litigation petition in relation to issue of Share Warrants particularly to Promoters and SEBI’s order on the matter pursuant to directions of the Bombay High Court. Let us consider the clarifications relating to creeping acquisitions first.
(2) Readers may recollect that SEBI had amended the Takeover Regulations in October 2008 and permitted an aggregate maximum of 5% creeping acquisition of shares under the Takeover Regulations for acquirers who held shares between 55-75%. It may also be recollected that in the normal course, persons holding substantial shares in a listed company of more than 15% can acquire another 5% shares in a financial year. However, this is possible only so long as cumulative holding is 55%. SEBI had allowed in October 2008 what was felt to be a temporary measure to allow holders to acquire another 5%, even beyond 5%, considering the reces-sionary phase of the capital market at that time. Ap-parently, there were certain areas where clarifications were needed and now, after about 10 months, after the fact that the Sensex has almost doubled, SEBI has issued a Circular dated August 6, 2009, clarifying on some issues relating to the amendment. Some comments on the clarifications made :
(a) The clarifying Circular is issued under Regulation 5 of the Takeover Regulations, which permits SEBI to, inter alia, issue directions to remove difficulties in interpretation. S. 11 of the SEBI Act is also relied on.
(b) It is seen that some of the interpretations given go clearly beyond the plain wording and meaning of the dispensation given in October 2008. It is possible that in the future, a legal issue may come up whether such ‘clarification’ can go beyond the express and unambiguous wording of the Regulations. An example of this is given later herein.
(c) It is clarified that the 5% acquisition may be made in one or more tranches. Thus, the acquisitions can be made in one or more tranches so long as the aggregate is not more than 5%.
(d) Further, the acquisitions need not be made in a single financial year — it can be made any time in as many tranches as found convenient.
(e) For calculating the 5% acquisitions, sales cannot be netted off. Thus, only gross purchases would be counted. For example, the acquirer cannot purchase 4%, then sell 3% and then acquire another 4% and claim that the net purchases are within the 5% limit. This is not really brought out by the plain reading of the amendment though, one must accept, this is the well-accepted interpretation for other similar clauses.
(f) The cumulative holding of the acquirer cannot exceed 75%. Thus, a person holding, say, 73% can acquire only a further 2%.
(g) The cumulative holding limit of 75% is irrespective of the minimum public shareholding that is required to be maintained under the Listing Agreement. Thus, e.g., in respect of a company having a 10% minimum public shareholding, the upper limit for this Regulation will still be 75% and not 90%.
(3) Public interest litigation relating to abuse of Share Warrants and SEBI Order pursuant to the Bombay High Court decision :
(a) I had written earlier in the BCAJ issue of April 2009, particularly on the inequity relating to Share Warrants. Essentially, I had argued that Share Warrants were heavily being misused by Promoters. They allotted, almost exclusively to themselves, Share Warrants at a price and terms that appeared to be absurdly below their fair value. Had a really independent Board been deciding the issue in each case, the Companies would almost never have allotted Share Warrants to an outsider on such sweet terms. Issuing Share Warrants to Promoters in this manner causes serious loss to the Company and its non-Promoter, i.e., public, shareholders.
(b) Of course, while this issue was a concern for many years, the article referred to earlier was in connection with the amendment by SEBI of its DIP Guidelines in February 2009, whereby the upfront non-refundable amount payable on Share Warrants was increased from 10% to 25% of the Conversion Price.
(c) It did not help, hence promoters of numerous companies gladly allowed their Share Warrants to lapse considering that the market price had fallen far below the Conversion Price of the Share Warrants and thus forfeited their 10% deposit. Many of them actually issued fresh Share Warrants paying the higher 25% deposit but on a Conversion Price that was far lower.
(d) A public interest litigation was filed by Rajkot Saher/Jilla Grahak Suraksha Mandal in the Bombay High Court and the Hon’ble Court had directed SEBI vide order dated June 18th 2009 to hear the petitioner and pass appropriate orders within 6 weeks of the order. SEBI has passed an order dated July 30, 2009 on the matter.
(e) SEBI’s order dated July 30, 2009 is available on SEBI website. In this 23-page order, SEBI has essentially concluded that there is nothing wrong in the current law and safeguards :
(f) Readers may go through this 23-page order for more detailed reasoning; however, I offer quick comments on some observations/decisions of SEBI.
1. SEBI, justifying the low 10% deposit amount on Share Warrants, says “I also note that in other jurisdictions, the option premium is generally in the range of 10% to 15% for trading of long dated options.”. I find this justification difficult to accept in the Indian context. The basic important elements of the Black-Scholes option valuation formula (who, I believe, got the Nobel Prize for this) are interest rates and volatility. Is it plausible that interest, in India, is only 10% for a total period of 18 months? It is even less plausible — in fact consistently found untrue in every option valuation I have come across — to believe that the volatility is 10% over an 18 month period. And mind you, option value is at least the total of the interest and volatility (and a few other factors).
2. Then, SEBI says that, from just 8 companies listed, a sum of Rs.1515 crores received as deposits from Promoters have been forfeited when they did not exercise the Share Warrants. SEBI seems to imply that far from the Company and the public losing, the Company has actually gained such a huge amount – it says – “it may be incorrect to argue that the Promoters stand to gain at the cost of the Company and its shareholders.” But is not the reality exactly the opposite? In fact, this shows that the companies granted options to exercise Rs. 15150 crores since the deposit amount is just 10%.
3. Further, of these Rs.1515 crores, effectively a significant portion goes back to the Promoters to the extent of their holding in the Company. If the average holding is, say, 50%, then Rs.758 crores goes back effectively to the Promoters!
4. SEBI then goes on to say,
“It is also noted that of the 4934 listed companies, there had been 1108 preferential allotments since April 2007, of which only 360 were preferential allotments of warrants. Out of the said 360 cases, there were only 100 companies where promoters did not fully exercise the option on the warrants issued to them. Considering the total number of listed companies and number of preferential allotments made during the above period, it is seen that the instances of reissue of warrants to the promoters have not been significant or frequent.”
5. Again, I find it disturbing that as many as 360 companies allotted Share Warrants apparently to Promoters since April 2007. Further, in as many as 100 companies, the Promoters allowed their deposits and Share Warrants to lapse. While the 8 companies referred to ear-Her may be the larger of these companies, note that in just 8 companies, the amount lapsed was totally Rs.1515 crores!
6. On the issue raised by the petitioner that ‘issue of further securities should be only against full payment’, SEBI says, “the same would discourage the companies to raise funds through the allotment of warrants and also indirectly restrict the issue of capital to only shares of the company. Considering the nature of the said instruments (warrants) and the fact that only a few instances (as brought out in Para 10 above) were noticed where the warrants issued to the Promoters had not been exercised, it would be a retrograde step to disable a product which is accepted universally as a fund-raising tool. Such a restriction on issuance of warrants may also deprive the operational and capital structuring flexibility for Indian companies.” I find it difficult to believe that there would be anything wrong in prohibiting the issue of Share Warrants at a mere 10/25% deposit exclusively to Promoters – I find it even more difficult to believe it would be a retrograde step and would “deprive the operational and capital structuring flexibility for Indian companies”. What is wrong with a demand that if Share Warrants are to be issued, issue them to all shareholders – let each shareholder decide whether he wants to subscribe or not? Why are Promoters being preferred and given an exclusive deal and why banning such exclusive sweet deals will be a retrograde step? 7. In the end, SEBI does not find that the circumstances warrant any immediate ban and on a related aspect has stated that it “initiates a consultative process …. to suggest policy changes, if required …. “,
Conclusion:
All in all, while I personally feel SEBI has missed an opportunity to carry out a complete rehaul, it is also true that SEBI on its own cannot prevent mis-use of such instruments by the Promoters. The Promoters should remember that they would suffer in the long run if they lose their credibility and loss of credibility will eventually impact the capital market as a whole. Having said that, I raise a question:
‘Isn’t retaining and restoring the credibility of the capital market the function of SEBI?’
I feel SEBI has failed so far as the question of issue of Share Warrants to Promoters is concerned.