With the slowdown in the economy and unprecedented business disruption due to Covid 19, several Indian listed companies, which were already heavily leveraged, will soon be looking at avenues for further funding to meet working capital requirements and liquidity challenges. Given the current regulatory regime surrounding raising of equity capital, it is possible that some of the over-leveraged ones may become insolvent. With a view to facilitate fund raising by such listed companies that have stressed assets, the market regulator has come up with a consultation paper, that provides certain procedural relaxations to the SEBI (Issue of Capital and Disclosures Requirements) Regulations, 2018 (ICDR Regulations) and SEBI (Substantial Acquisition of Shares and Takeovers) Regulations, 2011 (SAST Regulations).

Before we go into the specific proposals, the paper states that the relaxations will only be available to listed companies that satisfy any two out of the following three conditions:

• The company has made disclosure of defaults on payment of interest/ repayment of principal amount on loans from banks / financial institutions and listed and unlisted debt securities for two consequent quarters in terms of SEBI Circular dated November 21, 2019;

• Existence of inter-creditor agreement in terms of Reserve Bank of India (Prudential Framework for Resolution of Stressed Assets) Directions 2019 dated June 07, 2019. As per the RBI Directions, cases where the resolution plan (RP) is to be implemented, all lenders shall enter into an inter-creditor agreement within 30 days of the default, to provide for ground rules for finalisation and implementation of the RP in respect of borrowers with credit facilities from more than one lender;

• Downgrading of credit rating of the listed instruments of the company to “D”.

Companies that meet the above threshold, are free to raise equity capital on a preferential basis from persons who are not part of the promoter or promoter group, with the following relaxations under the ICDR Regulations and SAST Regulations:

• The floor price for the preferential issue will be based on the average of weekly high and low for two weeks preceding the relevant date. The 26week lookback period under the ICDR Regulations will not apply. This is similar to the prevailing pricing norms for Qualified Institutional Placements.

• The allottees of the preferential issue will be exempted from making an open offer under Regulation 3(1) of the SAST Regulations even if allotment takes their shareholding to 25% or more of the voting rights in such company.

Any such preferential issue is required to be approved by the majority of minority shareholders of the company (i.e., the promoters, the promoter group and any proposed allottee in the preferential issue that may already hold securities in the company cannot vote). The proposed use of preferential issue proceeds has to be disclosed in the explanatory statement sent for purposes of the shareholders’ resolution. A monitoring agency shall be appointed for monitoring the use of such proceeds. Moreover, allottees will be subject to a three-year lock-in of securities, as opposed to the existing one-year time period.

The proposed relaxation to the pricing guidelines for preferential allotment under ICDR Regulations is timely, given that the historical 26-week look back price is no longer reflective of the current valuations. The sharp fall in share prices since the advent of Covid 19 related disruption, has made the existing floor price for preferential issues untenable. In fact, this relaxation should be made available for all companies and not just stressed companies, as a large number of them will be looking to inject more capital. In our view, given that the Covid 19 related disruption may not be temporary in nature, limiting the relaxation to stressed companies is short sighted. SEBI could also consider alternative methods of fixing the floor price for non-stressed companies which are in keeping with current market conditions.

The relaxations under the SAST Regulations,are available for an investor who acquires substantial stake in excess of 25%, but does not acquire control over the company. It is not clear if this is the intent, as in some parts, the consultation paper has mentioned about the investor taking operational control of the company. The current relaxation is, therefore, limited to white knights who may rescue existing promoters by investing substantial capital in the company, without acquiring any control. However, investors who are willing to invest above 25% without control rights are few and far between. Therefore, this relaxation may not find many takers.

Given that preferential issuances that avail of these relaxations are to be approved by majority of the minority shareholders, it is recommended that they be available to promoters who may want to infuse equity capital in the company on the basis of a less onerous floor price. If the objective is to alleviate stress and avoid heavy leverage, the said relaxations should also be made available to promoter infusions that are approved by majority of the minority shareholders.

The intention behind increased lock-in period is unclear. It unnecessarily colours the benefits provided by the proposed relaxations. The existing regime of one-year lock in period is sufficient for the purpose. Any further increase in this period may possibly reduce investor appetite to make such investments in these troubled times.

The consultation paper is open for comments from the market participants and the public until May 13, 2020.