Revival of the Start-up Capital Market : The Road Ahead

The whole procedure of initial public offering (“IPO”) entails a lot of time and money. SEBI (Issue of Capital and Disclosure Requirements) Regulations, 2009 (“ICDR Regulations”) require issuers making public issue of specified securities to comply with extensive requirements prescribed therein which include appointment of merchant banker, Registrar to issue, filing of draft offer document with Securities and Exchange Board of India (“SEBI”), satisfying eligibility requirements such as maintenance of track record, minimum promoter’s contribution, lock-in requirements, requirement to have a monitoring agency, etc., apart from detailed disclosure requirements.

Start-ups in India were reluctant to go through the cumbersome process of IPO as disclosure requirements were high and the availability of cheap funds abroad made it easier for them to get the securities listed there. SEBI introduced a platform in the ICDR Regulations under Chapter XC where the provisions were less strict than the traditional platform. An exclusive platform for the start-ups and technology-oriented companies to get their securities listed, with or without an IPO, known as institutional trading platform (“ITP”) was launched. However, ITP also couldn’t thwart the start-ups from getting their securities listed in foreign markets. Lack of interest shown by the start-ups, even after the introduction of relaxed norms under ICDR Regulations, can be determined by the fact that not even a single start-up got its securities listed on the special platform. Therefore, a strong need was felt to revive the norms as start-ups gushing away abroad didn’t let India participate in the success story of start-ups. It further excluded India from having a share in terms of economic growth.

To modify the existing regulations, SEBI has suggested various proposals in its recent discussion paper on review of framework for institutional trading platform, and has invited comments on the same which has been discussed later in the article. This is certainly a move in the right direction. But apart from these proposals, India needs other alternatives like raising capital from crowdfunding which SEBI has planned to scrap a few days back, declaring it to be illegal. This platform would have enabled small start-ups to raise their capital without going through the extensive procedure and without having to fulfil the requirements like pre-issue capital holding by qualified institutional buyers, which deters many small start-ups to get the securities listed on ITP. India also needs to come up with provisions which will enable the start-ups to gauge interest from prospective investors to know if there is sufficient interest from the investors before filing for the initial public process, similar to a process adopted by the US under the provision of Regulation A+ from the Jumpstart Our Business Startups Act.

SEBI’s discussion paper on reviewing the existing platform : The current framework is specified under Chapter XC of the ICDR Regulations under the head “Listing on Institutional Trading Platform”. It is proposed to be renamed as “High-tech Start-up & Other New Business Platform”. There are a few grey areas regarding this as the classification of the “technology-oriented companies” is rather vague since an innovative business model can be subjective.

The definition of “institutional investors” has been widened which now includes investors other than qualified institutional buyers. Category III foreign portfolio investors, family trust, non-banking financial corporations can also participate in pre-issue shareholding. This provision would save the start-ups from the risk of big end losses which exits in the initial stage. SEBI tried to bring retail investors as well under the ambit but they cannot participate individually in the whole process.

A provision for market-making has been added for a minimum period of 3 years for issue size of less than 100 crores. This would give a sort of assurance that few number of shares of a particular security would be traded, irrespective of the number of investors that a company has managed to gauge interest from.

Lock-in period would remain the same for all types of shareholders for a period of three years. This would ensure a promoter’s role in the game even after the completion of public issue of shares. Lock-in of shares determines that the promoters have faith in the company’s shares and its future prospects.

Encouragement for crowdfunding in India which produces an incredible amount of start-ups : According to a report of NASSCOM, India ranks third globally in terms of the number of start-ups established, crossing 4200 approximately. To foster the needs of these start-ups, India should allow fund raising, seeking help through the digital platform which would provide a wider reach to investors for the start-ups.

Crowdfunding can be defined as a means of raising money for a creative project (for instance, music, film, book publication), a benevolent or public interest cause (for instance, a community based social or cooperative initiative) or a business venture, through small financial contributions from persons who may number in the hundreds or thousands. Those contributions are sought through an online crowdfunding platform, while the offer may also be promoted through social media. The minimum base requirement, disclosure and due diligence requirement is not as harsh on this platform as it is on the traditional platform which restrains many start-ups to approach the investors through that route.

SEBI had come up with a discussion paper of crowdfunding where it laid down the requirements and the provisions concerning raising of funds through social media but couldn’t take it forward owing to the divergent views of the market and lack of interest shown by the start-ups towards the ITP platform. It was also considered to be too restrictive. It only allowed “accredited investors” to participate in such an activity and companies could raise only up to Rs 10 crores in a year via this route. Apart from these restrictions, companies were prohibited from using multiple platforms to raise capital in a year.

Instead of scrapping the concept of crowdfunding, SEBI should come up with a new regulation which would guard the interests of the investors like keeping capital reserves to cushion the effects of default. Small investors should also be allowed to participate. To check fraud and other fraud-related risks, periodical checks on the businesses of the start-ups and sufficient information of issuers should be appropriated through the internet.

Securing sufficient interest from the potential investors in advance: Before going through the extensive requirements of filing and disclosures to be made, the companies can file certain documents with the stock exchange and communicate with their potential investors, explain their business plan and see if they have sufficient takers in the market. The start-ups could be allowed to generally discuss about the company, its industry and other business matters.

Conclusion: India still has a long way to go in terms of capital raising and catching up with countries such as USA, Singapore and Luxembourg which are preferred destination for stock listing. Without taking risks and letting people get familiar with concepts like crowdfunding, it would be difficult to assess which business model is best suited to the economy. As said by J.N. Gupta, founder of Stakeholder Empowerment Services,  “Risk never travels alone, rewards are its permanent companion.” Also, it would be very helpful if the start-ups come to know in advance whether or not their model is worthy enough to attract enough investors in the capital market so that any changes in the business model can be predetermined and revamped accordingly, for which an interaction with them before they enter the market is of utmost importance.

* 4th year student of Hidayatullah National Law University, Raipur

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