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Revitalizing The Depository Receipt Route!

Published on Fri, Jun 20,2014 | 23:15, Updated at Fri, Jun 20 at 23:28Source : CNBC-TV18 |   Watch Video :

In 2013, companies worldwide raised 9 billion dollars via depository receipt route. India’s contribution to this figure stood at 40 million dollars with only two Luxembourg listings. Regulatory constraints such as capital controls, choice of underlying securities, end use restrictions on the funds raised and voting rights on DRs have resulted in corporates making little or no use of this route.  So last year, the Finance Ministry set up a Committee- chaired by Former SEBI whole time member - to suggest relevant changes to India’s regulatory framework for Depository Receipts. Payaswini Upadhyay reports on the top 5 proposed changes and whether they will serve the purpose of revitalizing the DR route.

RBI’s Foreign Exchange Management Act is the governing framework for Depository Receipts or DRs. The regulations were first introduced in 1993 and since then, have evolved to expand or contract the pool of companies allowed to issue DRs, harmonized the DR regime with the FDI policy and developed links between international and domestic market. The existing framework allows companies to do a capital raising sponsored DR issue. In a Sponsored Issue, an Indian issuer enters into an agreement with a foreign depository for creation or issue of DRs on the back of shares. In an unsponsored DR, there is no involvement of an issuer and person can deposit securities on which DR is issued

The first key suggestion by the Sahoo Committee intends to deepen the DR market. It has proposed DR issuances on the back of all securities such as shares, scrips, stocks, bonds, debentures, debenture stock or other marketable securities. And issuances not just by depositories but all entities such as a company, mutual fund or government.

Ashish Mishra
Director- Markets & Securities Services, Citibank
“Existing instruments are capital raising instruments. So they were restricted to a set of Indian companies who want to raise capital. That is a complex process and there are various compliance requirements – be it US GAAR, US Sox compliance. Now what the Sahoo Committee recommendations around Level 1 DR does it that it gives Indian companies a very easy way to have the stocks traded in overseas jurisdictions because under Level 1 unsponsored DRs, there is no need to comply with US GAAR, there is no need to be SOX compliant. It’s a fairly simple listing and trading process. It allows the Indian companies to test the waters. So in a very easy fashion and gauge the demand and interest for their stock and should the response be good, it can be a step to do a full fledged capital raising programme.”

Pratibha Jain
Partner, Nishith Desai Associates
“I think the one really positive move from the expansion of the DR eligibility criteria – including both listed and unlisted companies; sponsored programs and unsponsored programs; capital raising or not capital raising purposes- there has always been a demand for Indian single stocks, whether its HNIs or Institutions that are not directly regulated in India but want some limited exposure to Top 100 listed stocks for example. For those purposes if they don’t have a sponsored DR, for eg in the US, it helps them to have exposure to Indian stocks directly. Currently the only way you would do it would be through the P-note route which neither the investors particularly like because it’s expensive, there is counter party risk and definitely as we’ve seen, the regulators don’t like it either. So this would be a good avenue for meeting that demand.”

The second important suggestion relates to pricing. Under the existing regulations, unlisted companies are allowed to price DRs based on DCF valuation. The Committee recommends that pricing norms can be subverted and so no pricing guidelines should be prescribed. This suggestion is in line with the regulations in mature jurisdictions like the US and the UK.

Pratibha Jain
Partner, Nishith Desai Associates
“I think any sort of pricing norm doesn’t work. We’ve done them in the past purely for protectionist policy towards domestic industry which is understandable as the economy is growing. But if you’re really allowing such broad based globalization of our capital markets, then for them to really work, we have to do away with the pricing restrictions. They just don’t work; all they do is create a lot of complications which people outside India don’t understand – that’s now how global markets work.”

The third proposed change is on the purpose for which DRs can be issued. The existing regulations place end use restrictions on money raised via DRs- the funds cannot be used to invest in the stock market and real estate. The suggestion is to removes these restrictions which, experts say, may not be acceptable to the RBI.

Prashant Gupta
Partner, Amarchand Mangaldas
“I would be very surprised if they did away with that just on the basis of the recommendation from the Sahoo Committee. I think they don’t want people to be raising money outside India and investing in real estate or putting it in public markets. It is a good step; it generally opens it up but on the DR side, that is still pretty open. I don’t think a lot of people want to raise money outside and invest it in real estate or public markets. Effectively what it meant was real estate companies couldn’t probably raise money but given, there are already restrictions in real estate, those are not going to be companies who will do DRs anyway.”

In the fourth proposed change, the Committee has examined the issue of public shareholding in relation to DRs. In a sponsored DR where a company is the issuer, the consequences of the DR issue on the shareholding are known to it. But in an unsponsored DR where any public shareholder can transfer the underlying shares to a depository may cause concerns for the company in the context of minimum public shareholding norms. To address this concern, the Committee has suggested that the underlying shares can be counted as public shareholding if the DR holders have a voting right on it.

Prashant Gupta
Partner, Amarchand Mangaldas
“Currently also, issuers can decide whether the want the DRs to be voting or not voting. I think the way it generally works is the depository has the right to decide- in the depository agreement, it says the Board of Directors can decide on behalf of the depository. I think what the Committee has said which is interesting and which positively impacts listed companies in India looking to do an outside listing that those DRs will count as public shareholding in India if the underlying holder has the right to vote. So I think that has been one of the reasons why a lot people have not been wanting to DRs on top of an India list company because you have to do 25% public float and then on top of that you do a DR program. So for a large issuer, you’re looking at a 30-35% of public float.”

Ashish Mishra
Director- Markets & Securities Services, Citibank
“In an unsponsored DR, the company doesn’t involve or appoint any one bank. So, theoretically there could be multiple banks issuing unsponsored DR on the same underlying security- tt does become a become challenge. I think one of the ways to do it is, let’s say there are 3-4 big depository banks having the bulk of DRs out there, they can may work together to see what’s the best way but there are challenges around this one and globally as I said, it’s not done. So I think it will be something unique.”

The fifth and last important proposed change relates to taxation of DRs. The Committee has recommended that DR returns and transactions should be treated similar to that of any other underlying security. The current regime imposes a capital gains tax and the recommendation is that DR transactions should taxed similar to sale of shares on a stock exchange on which STT is applicable. The experts who you’ve heard in this story told me if these recommendations of the Sahoo Committee are implemented, it will put India way ahead of other emerging markets in terms of a friendly regulatory framework!

In Mumbai, Payaswini Upadhyay

 
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