Issuing shares is at the heart of company law, which enables companies to raise capital from investors. Shares are ownership interests in a company, and their issuance can be done in several ways, depending on different legal principles in various jurisdictions, organizational structures, and the firm’s capital-raising needs. The main streams through which shares are commonly issued are public issues, private placements, rights issues, bonus issues, and preferential allotments.
A public offer of shares is made available to the public through an initial public offering (IPO) and/or a further public offering (FPO). In contrast, a private placement is the polar opposite, where shares are sold through private offers to a small number of investors, such as financial institutions or wealthy individuals. With rights issues, existing shareholders are given the opportunity to purchase shares at a lower rate. In contrast, bonus shares allow existing shareholders to utilize the company’s surplus by being given shares free of charge. Shares are allotted under preferential allotment to select investors at a fixed rate.
All of these methods must comply with the relevant regulations to ensure transparency and protect investor interests.
What is Private Placement?
In placing a private company according to section 42 of the Companies Act, 2013, and the Companies (Prospectus and Allotment of Securities) Rules, 2014, the company puts shares or securities for a few selected investors rather than to the general public.
A letter of offer regarding a private placement (PAS-4) must be issued in respect of the securities being offered to certain classes of persons, such as institutional investors, venture capitalists, or high-net-worth individuals. The company, however, cannot issue shares to more than 200 persons in a financial year, unless the shares are held by a qualified institutional buyer (QIB) or are offered through an employee stock option scheme.
The primary requisites for private placements are:
- Shareholder Consent: A special resolution has to be sanctioned by a general meeting.
- The firm has to release an offer letter (PAS-4) and file PAS-3 with the Registrar of Companies (ROC) within 15 days from the date of allotment.
- Subscription via Banking Channel: Investors must make payments via bank transfers, as cash payments are not accepted.
- Minimum Investment and Lock-in: A required minimum investment value and lock-in period may apply to the securities.
Private Placement is an effective mechanism for corporations to raise funds, ensuring compliance with regulations and avoiding the intricacies of public offerings.
What is Preferential Allotment?
A preferential allotment is the allocation of shares or other securities by a company to a specific class of investors at a fixed price. The Companies Act, 2013 governs it: Sections 62(1)(c) and 42, as well as the Companies (Share Capital and Debentures) Rules, 2014. Preferential allotment is considered a targeted approach compared to a public offering, allowing companies to raise funds more efficiently and in a better-controlled manner without diluting control.
Some key features of preferential allotment are:
- Eligible Investors: The shares may be allotted to the promoters, existing shareholders, institutional investors, and other defined parties.
- Requirement for Approval: The company must obtain approval from shareholders by a special resolution at a general meeting.
- Pricing Guidelines: The securities will be priced in accordance with the SEBI valuation norms for listed companies or in consonance with a report from a registered valuer for unlisted companies.
- Mode of Payment: Payment must be made by account payee cheques, demand drafts, or banking channels. Cash would not be accepted.
- Lock-in Period: Securities so issued under preferential allotment would have a lock-in period mandatorily applied, depending on whether the company is listed or unlisted.
- Compliance: The company shall file Form PAS-3 with the Registrar of Companies (ROC) within 15 days after the allotment.
Preferential allotment is a relatively quick and tactical method that firms usually prefer for raising capital, making it a favored means among those seeking to approach primary investors or promoters without losing control.
Private Placement Vs. Preferential Allotment
The Private Placement and Preferential Allotment of Shares for a private company are available methods of raising capital under the Companies Act of 2013. Although both involve offering securities to a limited number of investors instead of the general public, they differ in their objectives, processes, and regulatory environments. Both methods are suitable for companies to raise funds while maintaining control over the selection of investors. Private placements are typically for a wide range of securities proposed for institutional or select investors. At the same time, preferential allotment is primarily intended to issue shares to promoters or strategic investors at a predetermined price. There is more flexibility in private Placement, whereas preferential allotment typically has tighter pricing and lock-in conditions that apply to publicly listed companies.
Organisations must seriously consider these methods in relation to capital requirements, investor representation, and regulatory mechanisms for access to healthcare, ensuring compliance and financial stability.
1. Definitions and Explanation
- Private Placement means that for the limited number of investors, not exceeding 200, from among any of the following, except Qualified Institutional Buyers (as defined by SEBI) and Employee Stock Option Plans (ESOPs), securities such as shares or debentures are issued under Section 42 of the Companies Act, 2013.
- The Companies Act, 2013, in Section 62(1)(c), defines preferential allotment as the issuance of shares or convertible instruments to identified classes of persons at a fixed price, usually meant for share distribution to promoters, strategic investors, and financial institutions.
2. Objective
- Private Placement is a method of raising capital from institutional investors, venture capitalists, or private individuals without going through a public offering.
- Preferential allotment is utilized to increase promoter control, attract strategic investors, or introduce capital into a firm while maintaining control.
3. Investor Limitations
- Private placements are limited to 200 persons in a financial year, other than Qualified Institutional Buyers (QIBs) and Employee Stock Ownership Plans (ESOPs).
- Preferential Allotment: This is available to selected individuals, promoters, or institutions, with no limit on the number of investors.
4. Approval Process
- Private Placement requires a special resolution of a general meeting and filing of PAS-4 (Offer Letter) and PAS-3 (Return of Allotment) with the Registrar of Companies (ROC).
- For publicly listed companies, preferential allotment requires a special resolution and adherence to SEBI’s pricing guidelines. Unlisted companies need to get a valuation report from a certified valuer.
5. Security Pricing
- Pricing for Private Placement is decided by mutual consent between the investors and the company.
- In the case of preferential allotment, pricing is governed by SEBI guidelines for listed companies or determined by a registered valuer for unlisted companies.
6. Mode of Payment
- For private Placement, the payment is to be made by cheque, demand draft, or electronic funds transfer. Cash is not acceptable.
- For preferential allotment, payment must be made through banking channels, as cash payments are not allowed.
7. Lock-in Period
- The securities issued through private Placement are not subject to lock-in under the Companies Act.
- Securities allotted on a preferential basis have a lock-in period: For listed companies, SEBI rules mandate a lock-in period of one year for non-promoters and three years for promoters for allotments of more than 20% of the post-issue capital. Unlisted companies can place restrictions according to their company policies, though not mandated by the Companies Act.
8. Regulatory and Compliance Submissions
- Private Placement requires providing a Private Placement Offer Letter (PAS-4) and filing PAS-3 with the Registrar of Companies (ROC) within 15 days from the allotment date.
- For preferential allotment, Rule 13 of the Companies (Share Capital and Debentures) Rules, 2014, with a valuation report and PAS-3 filing with the ROC, is required.
9. SEBI and ROC Guidelines
For private placements, only the requirements of the ROC must be followed by unlisted companies. SEBI rules are to be followed by all listed entities.
SEBI’s ICDR Regulations must be complied with by listed companies for preferential allotments, pricing, transparency, and lock-in periods.
10. Advantages and Disadvantages
Private Placement
- Advantages: The procedure is usually faster and simpler than public issues. It is especially apt for startups and individual companies that require immediate investment. There is less regulatory pressure compared to initial public offerings (IPOs).
- Disadvantages – The size of the investors is limited, with a maximum of 200 participants. Companies can be forced to issue securities at a discount to attract prospective investors.
Preferential Allotment
- Benefits: This route enables companies to increase promoter shareholding and avoid the threat of hostile takeovers. It attracts strategic investors who bring with them relevant expertise. It offers a mechanism to raise finances without drastically diluting control.
- Drawbacks: There are strict pricing and compliance rules that have to be followed. The interests of current shareholders can be diluted.
Conclusion
Private Placement and preferential allotment are two efficient methods for firms to raise capital without the complexities associated with public offerings. Private Placement is a more general mechanism that allows companies to issue securities to a small set of investors (limited to 200 per year), facilitating a more straightforward process of raising capital. By contrast, preferential allotment is primarily used to issue shares to promoters, existing stakeholders, or strategic investors at a fixed price, accompanied by a lock-in period to ensure financial stability.
Although private Placement offers greater freedom in choosing investors, preferential allotment is subject to stricter pricing and regulatory guidelines, especially in the case of listed companies regulated under SEBI regulations. Both approaches require shareholder approval and compliance with ROC disclosure requirements.
To maximise capital acquisition with control and transparency maintained, all corporate organisations need to carefully consider their capital requirements, regulatory obligations, and long-term ownership structure, and accordingly comply with all applicable and relevant rules and regulations.
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