Private Placement

In one line

A company may sell securities privately to a limited, identified group without a prospectus, but the moment the offer reaches more than the statutory number of persons it becomes a public issue whatever the company calls it, and everything the public-issue regime requires follows.

In exam wording: under section 42(2) a private placement shall be made only to a select group of persons identified by the Board, whose number shall not exceed fifty or such higher number as may be prescribed, excluding qualified institutional buyers and employees offered securities under an employees stock option scheme under s.62(1)(b), in a financial year; and by Explanation III, if a company, listed or unlisted, offers, invites subscription for, allots or agrees to allot securities to more than the prescribed number of persons, whether or not payment has been received and whether or not it intends to list, the same shall be deemed to be an offer to the public and governed by Part I of Chapter III.

Why the law has this at all

The prospectus regime exists to protect people who cannot investigate for themselves. A company negotiating with four institutional investors needs no such protection: the investors have their own advisers, can demand information, and can walk away. Applying the full public-issue machinery to that transaction would raise the cost of capital for no benefit.

So company law everywhere permits a private placement, and everywhere faces the same avoidance problem: an issuer who wants public money without public disclosure will describe a public offer as a series of private ones. The answer is a numerical line with a deeming provision behind it, and Sahara is the case in which that line was tested at the largest scale India has seen.

The 2013 Act, and its 2017 recast of s.42, learned the lesson. The section now identifies who may be offered (persons the Board has identified, recorded by name and address), how many (fifty or the prescribed number in a financial year), how the money moves (banking channels only, into a separate account), when allotment must happen (sixty days), and what may never be done (public advertisement). Each of those was a feature of the Sahara scheme.

The case worked

Facts. Sahara India Real Estate Corporation Ltd. v. Securities and Exchange Board of India, decided on 31 August 2012, concerned two Sahara group companies which raised over twenty-four thousand crore rupees from millions of subscribers by issuing optionally fully convertible debentures. They filed red herring prospectuses with the Registrar of Companies but did not have them approved by SEBI and did not list the securities, contending that the issues were private placements to persons associated with the group, that SEBI had no jurisdiction over unlisted companies, and that the Registrar was the appropriate authority. SEBI came to know of the collection while processing a draft red herring prospectus filed by another group company, and ordered refund.