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This article is written by Srishti Pareek who is pursuing a Diploma in M&A, Institutional Finance, and Investment Laws (PE and VC transactions)  from Lawsikho.

Introduction

When a company is at its initial stage it creates a base for its idea with the help of early investors like the founder, family, friends etc. and when the company reaches a certain level where its idea has sailed, and now demands more sweat in the form of investment that’s when a company decides to raise funds from the public for further growth and expansion of the company. The concept of raising funds through the public comes into the picture and carries with it two methods through which a company can raise capital. 

Initial Public Offer and Direct listing are two methods through which a company can get raise interest-free capital from the public by listing its share on a public exchange. An Initial Public Offer is a way through which the company raises money from investors for its future projects and gets listed on any of the recognised stock exchanges, or we can say that Initial Public Offer (IPO) is the process of selling securities in the primary market. 

IPO provides the company with an opportunity to create new shares and sold them in the market, While in Direct Listing there is no issue of new shares instead only existing, outstanding shares are sold to the public without any underwriter.  

Therefore, a Public Company can get listed on a Stock Exchange without an IPO, this can be done in two ways-

  • Direct listing process
  • Demerger from parent company

What is the Direct listing process (DLP)

Direct Listing is a process through which a private company can go to the public for the issue of funds without an IPO. A direct listing is not only limited to a private company even a public company can go for Direct Listing, Companies having low financial model, but no resources to pay the underwriters, not willing to dilute the existing shareholding pattern with the introduction of new ones, or may want to avoid lockup agreements can also go for Direct Listing. 

The Direct Listing Process is also known as Direct Public Offering (DPO). With the Direct Listing process, the business sells its shares directly to the public without the need of any intermediaries i.e., it does not provide for any involvement of underwriters. The most important part of this method is that there is no issue of new shares and no lockup period. 

The goal of the companies going public through Direct Listing has a different goal, the focus is not only on raising additional capital instead they are looking for other perks of being a public company which includes an increase in the liquidity of existing shareholders. The existing promoters, investors or employees already holding shares of the company can directly sell their shares to the public.

The process of Direct Listing allows a company to raise capital directly without the guidance of an underwriter or broker-dealer firm. Such public offering generally comes in handy to small and medium-sized companies or non-profit organisations who are more interested in raising funds from and within the community rather than going to financial institutions or venture capitalists. 

These company creates their own pathway by creating a condition similar to crowdfunding through a direct listing, however, the process is simple but requires certain regulatory approvals that are mandatory for them to be registered. Direct listing provides a platform to the companies for crowdfunding as well. 

The companies undergoing DLP, neither assumes the status of a public traded company nor does it subject themselves to the requirements of the security board. The price of a stock in direct listing depends majorly upon the market demand and hence works on the concept of demand and supply. 

Direct Listing may involve brokers to manage its function but their roles and responsibilities are limited only to the performance of compliance in accordance with the laws applicable to securities and assist with organising these offerings. This enables the company to sell its shares to anyone which includes even a non-accredited investor like customers, employees, suppliers, family, friends, relatives etc. provides stock options to the existing employees. 

As per the guidelines issued by SEBI a Direct Listing can be done in the case of a public Company already listed on BSE and NSE if the stock is already trading in another stock exchange. SMC Global Securities had made a direct listing on the National Stock Exchange and was already listed on regional stock exchanges such as Calcutta, Delhi, Guwahati, Ludhiana and Ahmedabad. 

Direct Listing can be performed by any company or non – profit organisation, accomplishment of particular standards like sales, profits, asset or related paperwork are not required.

Certain documents that are necessary for Direct listing are-

  • A statement of disclosure called an offering memorandum or prospectus that provides complete information of potential investors.
  • Regulatory Approvals of states
  • Audit report 

This is the reason why it is called cost-savvy but it sometimes turns out to be great trouble for the company as no support or guarantee for the sale of shares, no promotion, no possibility of Green Shoe Option, no long-term investor, and most important is more volatility.

Startups, SME Listing with an IPO

SEBI has permitted SMEs to list their securities on the new Institutional Trading Platform (ITP) of a stock exchange recognised by SEBI without an IPO. For the purpose of the same SEBI has specified a new set of regulations, the SEBI ( Listing of Specified Securities on Institutional Trading Platform) Regulation, 2013 (ITP Regulation) as a new chapter to the SEBI (Issue of Capital and Disclosure Requirements) Regulation, 2009 (ICDR Regulation). 

Demerger from parent company 

A demerger is a concept of corporate restructuring in which a business is divided into different pieces, either to operate on its own or to be sold to another company like divestiture. Divestiture is a technique through which a portion of the business is sold to an outside party, generally resulting in an infusion of cash to the parent company. A demerger allows a company to adopt different types of demerger techniques which are Spin-off, split-off, equity carve-out, divestiture etc. 

These techniques provide the conglomerates with an opportunity to invite or prevent an acquisition, to raise funds for the company by selling off component or part of the business that held no profit for the company or for the purpose of creating a new entity whose source of management would be separate from that of the parent company but would be a great technique for the earning of the shareholders.  

Demerger stands out to be of great strategic importance for the companies that want to divert their focus on the main source of business, reduction of risk and greater return on investment for the shareholders. It is also a good strategy for the companies for separating out the business units that are non-performing and are creating an adverse effect on the profit earning of the company. 

Demergers can create a lot of burden on the companies with regard to accounting and finance but at the same time, it is beneficial for the companies in terms of tax or other efficiencies. Demerger can be an effective technique for a public company to get listed in a stock exchange without an IPO. 

In the past few years, various companies got listed on the stock exchange as a result of a demerger from the parent company. The parent company is already listed on the stock exchange; thus, the newly formed company does not require to do an IPO to get listed in a recognised stock exchange. 

As per the guidelines issued by the Securities Exchange Board of India (SEBI), a public limited company should have at least 25% of the public shareholding. The companies complying with the guidelines need not go through the route of IPO to get listed in the stock exchange. 

The shareholder of the parent company will be having a certain amount of shareholding in the newly formed demerged entity. 

Some of the examples of companies that got listed on the stock exchange without an IPO-

  • Reliance Home Finance got listed as part to give additional value to its shareholders.  Link
  • Sintex Industries 
  • Arvind Fashion demerged entity that got listed without an IPO
  • Aditya Birla Group company “Aditya Birla Capital” listed in stock exchange
  • 5 Paisa capital, India’s first trading firm to get listed on exchanges

Conclusion

For a Public Company to expand its area of growth and funding, it is essential for the company to go for IPO. But what comes with IPO is the high cost of an advertisement, completion of compliances and a lot more, thus, with the recognition of the Concept of Direct Listing, it has become easier for the initial stage companies to raise funds from the market by getting listed in the recognised stock exchange. 

The scope of direct listing has seen a two-fold expansion, the companies incorporated in India can directly list their equity shares on the foreign stock exchange. Another aspect that companies follow is Demerger, as per the guidelines of SEBI a Demerged Entity can get directly listed on a stock exchange without going for IPO. Thus, the companies are at ease to raise funds without doing certain additional expenses. 

 References

 


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