The Hindu Business Line : Creeping increase in public holdings

Higher public holding may not necessarily be done through unloading of shares by promoters. Instead, the company may make a public offer in which the promoters would not participate.

S. Murlidharan

The Finance Minister has walked the talk again. First he was true to his word by placing in the public domain the Direct Taxes Code and now he has asked all listed companies to achieve the stipulated 25 per cent public participation mark gradually, by increasing their stake incrementally by not less than 5 per cent each year. The minimum 25 per cent public stake applies as much to public sector companies as it does to the private sector listed companies.

It is well-known that in several leading private sector companies, the promoters and their families have a vice-like grip, often an 80-90 per cent stake, thus making a mockery of the public character of such companies, which is a prerequisite for listing.

The creeping increase in public participation bears comparison to the creeping acquisition permitted by the SEBI takeover regulations — the existing promoters can acquire up to 5 per cent in a financial year without triggering the public offer requirement till they reach the 75 per cent mark. Now the same percentage would work in the opposite direction wherever the public participation falls short of the 25 per cent mark.

Raising public holding

But unlike in the case of creeping acquisition where the promoter acquires the additional shares upfront, the higher public holding may not necessarily be done through unloading of shares by the promoters. Instead, the company may be called upon to make a public offer in which the promoters would not participate.

For example, if in a public company the existing promoters control 85 per cent of the equity, they have to shed 10 per cent to the public in a phased manner, which in this case cannot exceed two years. This can be done either upfront by making an offer of shares of 10 per cent so as to bring down the promoter holding to 75 per cent and correspondingly increase the public stake to 25 per cent or through public offer of shares that would increase the share capital of the company by, say, 10 per cent in which offer the promoters would not participate.

The upshot is that the promoters will now be owning 85 out of 110, which converts to 77.27 per cent with the public participation going up to 22.73 per cent. The remaining work can be done the next year through either of the processes. Which one will the promoters plump for? If the market conditions are in their favour, they may not mind unloading their holdings but if things are not propitious in the market, they might as well call upon the company to beef up its capital even if that might be uncalled for in terms of the requirement of funds by the company. This may pull down the earnings per share (EPS) but the promoters may not lose sleep over it.

Debenture route

It is also possible for promoters of companies controlling more than 75 per cent of the equity to call upon the companies under their control to issue debentures convertible into shares when things start looking up. For example, if the promoters’ holdings are 90 per cent, the requisite number of convertible debentures may be issued that may be converted into shares during the second and third years.

The danger of this course of action is that the move may boomerang if the public does not exercise the conversion option because the market has not moved in the manner and direction desired by the promoters thus rendering conversion into equity unattractive. Should this happen, the promoters will have to do something in the eleventh hour to conform to the new requirement.

But the convertible debenture option has quite a few advantages. First, it will garner immediate funds for the company for which it has to pay interest, of course without causing the capital to expand immediately. But this course will be useful only if a company is confident of producing greater profits when debts are converted into equity.

Buyback mechanism

Yet another course, which seems to be open, is to activate the buyback mechanism, this time round for a wholly new purpose — all along buyback has been resorted to for beefing up the promoters’ control over the company but now buyback could be done to clip the wings of the promoters. For this, the terms of the buyback must be sufficiently unattractive so as to put off the public shareholders.

Of course, the promoters’ stakes will be purchased on unattractive terms but they may not mind if this is the best in the circumstances which could be the case when the market is depressed but the deadline is staring in their face.

In fact, the promoters may end up getting a price that is better than offered by the market. The promoters cannot be blamed for enriching themselves at the company’s expense because the same offer would also have been made to the public shareholders.

(The author is a Delhi-based chartered accountant.)

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