The consultation paper covered two very significant issues – first, the proposed reduction in lock-in periods for minimum promoters’ contribution and that of other shareholders in public issue; second, shifting from the concept of ‘promoter’ to the concept of ‘person in control’.
Promoter shareholding lock-in conditions
At present, Sebi prescribes a minimum promoters’ contribution of 20% to be locked in for three years from the date of listing. Additionally, any other pre-IPO capital is required to be locked in for one year, except some exempt categories.
The purpose of the lock-in clause is to restrict the controlling shareholders from disposing of their holdings after listing the company, to ensure that they have ‘skin in the game’, and to make them take responsibility to deliver on the promises made in the offering circular.
This rule has its roots in the pre-1991 licence raj, when industries were being set up based on special permissions. In those days, the licence conditions used to prescribe a minimum equity contribution by the promoter to be locked up until the lender’s money gets paid off.
The same thought found resonance in the regulations for capital markets and a minimum of 20% equity contribution from promoters was made compulsory with a lock-in period.
Sebi has now proposed to reduce the lock-in period on the 20% minimum promoter shareholding to one year and on other pre-IPO shares to six months, except in situations of project financing. This reduced lock-in period is a welcome first step.
This regulation certainly required a rethink, and the regulator has now put this out for public consultation. However, we may also need to take the final step of letting market forces determine the lock-in period, instead of prescribing a uniform fixed rule.
As Sebi noted in its consultation paper, the Indian capital markets have not only matured over the years, but have also adopted the best international practices.
When we look at the international standards, a number of these provisions are determined by the market forces in most global markets. It is left to the market forces to decide and create the equilibrium between the number of shares required in the market to create proper liquidity and the promoter lock-in period immediately after a transaction.
It is left to the underwriters to make a call on the promoter lock-in period based on market feedback. These underwriters are regulated entities with deep understanding and wide experience of the markets. If the market is willing to accept a shorter lock-in because of the liquidity in the stock, then we should have that flexibility.
Similarly, if the market feedback suggests a longer lock-in is required for a certain type of issuer, then the issuer will have to build that in to ensure a smooth transaction. One should not underestimate the power of market as a decision maker.
Shift from ‘Promoter’ to ‘Person in control’
The concept of ‘promoter’ and the argument for promoter having a skin in the game is historical. Given the pace at which the nature of businesses and business ownership is changing in India, regulations must match the stride.
Recognizing these evolved business scenarios, Sebi is proposing just that – to remove reference to promoter from various Sebi regulations and instead introduce the concept of ‘person in control’ over a transition period of three years.
Today, the concept of a promoter is blurred. Several Indian companies are now owned by financial investors, rather than by a controlling family. Some businesses are owned by a group of professional investors. In such situations, there is no identifiable promoter, and the company is largely board-controlled. Most banks, some large financial institutions and even companies from other domains are today board-controlled entities.
Though the proposed simplification will necessitate reorientation of enforcement strategies and will have implications on other laws, it will facilitate more board control on companies tapping Indian capital markets.
This will eventually add further depth to the market and bring it at par with the global standards.
Both these steps are in the right direction and would take us closer to the global standards. However, we need to walk one more step to let the market forces determine the lock-in period instead of prescribing a uniform timeline for all!
