REJECTION OF DRAFT OFFER DOCUMENTS BY SEBI

[Mr. M. GOVINDARAJAN]

Section 11A(1)(b) of SEBI Act provides that without prejudice of provisions of the Companies Act, 1956 the Board may, for the protection of investors by general  or special orders-

• Prohibit any company from issuing prospectus, any offer document, or advertisement soliciting money from the public for the issue of securities;
• Specify the conditions subject to which the prospectus, such offer document or advertisement if not prohibited, may be issued

The Board does not regulate on merits or approve document of offer/issue of securities, but only mandates true, fair and adequate disclosures including the possibility of a sanction where entities are put on notice for applying due diligence and caution while taking a decision to subscribe to the issue. The Board issues a letter of observation(s) specifying changes about disclosures and accordingly, the offer document is required to be modified. taxmanagementindia.com

By virtue of powers conferred under Section 11A (1) (b) of SEBI Act read with Section 4(3) the Board issued a general order and laid down general criteria to which the draft offer documents filed with the SEBI for the issue of securities, may be rejected where the Board has reasonable grounds to believe that the adequacy and quality of disclosures in such offer documents are not satisfactory or where an investor may not be able to assess the risks associated with the issue. The said general order is called as SEBI (Framework for rejection of Draft Offer Documents) Order, 2012. The order came into effect from 09.10.2012. The rejection criteria are as follows:

• Capital structure;
• Object of the issue;
• Business model of an issue;
• Financial statements;
• Existing litigation;
• Other general criteria.

CAPITAL STRUCTURE:

The draft offer document will be rejected if capital structure involves the following:

• Existence of circular transactions for building up the capital/net worth of the issuer;
• Ultimate promoters are unidentifiable;
• Promoters’ contribution not complying with SEBI (Disclosure of Capital and Disclosure Requirements) Regulations, 2009.

OBJECT OF THE ISSUE:

The draft offer document will be rejected if the object of the issue-

• Is vague for which a major portion of the issue proceeds are proposed to be utilised;
• Is repayment of loan or inter corporate deposit or any borrowing of similar nature and the issuer is not in a position to disclose the ultimate purpose for which the loan was taken or demonstrate utilisation of the same by the disclosed purpose;
• Is such where the major portion of the issue proceeds is proposed to be utilised for purpose which does not create any tangible asset for the issuer, such as, expenses towards brand building, advertisement, payment to consultants etc., and there is not enough justification for creation of such assets in terms of past performance, experience and concrete business plan of the issuer;
• Is to set up a plan and the issuer has not received crucial clearances/licences/permissions/approvals from the required competent authority which is necessary for commencement of the activity and because of such non receipt of clearances/licences/permissions/approvals, the issue proceeds might not be utilised towards the stated objects of the issue;
• Is such where the time gap between raising the funds and proposed utilisation of the same is unreasonably long.

BUSINESS MODEL:

The draft offer document will be rejected where the business model of the issuer is exaggerated, complex or misleading and the investors may not be able to assess the risks associated with such business model.

FINANCIAL STATEMENTS:

The draft offer document will be rejected where scrutiny of financial statements shows-

• Sudden spurt in the business just before filing the draft offer document and reply to clarifications sought is not satisfactory. This will include spurt in line items such as income, debtors/creditors, intangible assets etc.,
• Qualified audit reports or the reports where auditors have raised doubts/concerns over the accounting policies. This would also be applicable for the subsidiaries, joint ventures and associate companies or the issuer which significantly contributes to the business of the issuer. This would also be applicable for the entities where the issue proceeds are proposed to be utilized, 
• Change in accounting policy with a view to show enhanced prospects for the issuer in contradiction with accounting norms;
• Majority of the business is with related parties or where circular transactions with connected/group entities exist with a view to show enhanced proposes of the issuer.

EXISTING LITIGTION:

The draft offer document will be rejected where there existing litigation including regulatory action:

Which is so major that the issuer’s survival is dependent on the outcome of the pending litigation;

Which is wilfully concealed or covered.

OTHER GENERAL CRITERIA:

• Failure to provide complete documentation in terms of requirements of /ICDR regulations;
• Non furnishing of information or delay in furnishing of information or furnishing of incorrect/vague/misleading/incomplete/false/non satisfactory information to the Board;
• Failure to resolve conflict of interest, whether direct or indirect, between the issuer and merchant banker appointed by the issuer to undertake the book building process. Quantification of conflict of interest may not be always possible but it would largely depend upon the Board’s assessment on whether such conflict of interest may affect the judgment and ability of the merchant banker in conducting due diligence activity of issuer.

APPLICABILITY OF THE ORDER:

This order is applicable to all draft offer documents filed with the Board for issue of securities. 

ONE TIME WITHDRAWAL OPPORTUNITY:

The order gives concession to the issuers for withdrawing the offer documents which are pending with the board for consideration as one time opportunity to withdraw the offer document. Such withdrawals should be done within 30 days from the date of issue of this order.

REJECTION:          

The criteria specified for rejection in this order is illustrative and prescribes only general standards. The Board may reject any draft offer document if it is of the opinion that the issuer has not adhered to the criteria contained in this general order. Such scrutiny by the Board may be based on relevant information pertaining to the period of past five years from the date of filing the draft offer document with the Board or any other period as deemed appropriate by the Board in exceptional cases. Non adherence of any of the criteria in the order does not automatically the ground for rejection of the draft offer document. Final view on rejection shall be taken after considering the materiality of the findings and facts and circumstances of each case.

CONSEQUENCES OF REJECTION:

If the offer document is rejected the issuer shall not access the capital market for one year from the date of such rejection and the same may be increased depending upon the materiality of the omissions and commissions.  There shall be no refund of filing fees in such rejection. The rejection shall be without prejudice to the right of the Board to initiate any action which may be undertaken against issuer or merchant banker, in accordance with law. The rejection of such offer documents with reasons for such rejection shall be disseminated by the Board in public domain by hosting on its website.