The past few decades have witnessed the increased internationalisation of various firms through cross listings on international exchanges. This has been facilitated by market liberalisation, which has led to greater integration of global securities markets. Cross-border listing has become one of the avenues for the integration of global securities markets. There are two forms of cross-border listing, namely, direct listing and indirect listing. Direct listing implies that the firm concerned offers ordinary shares to the public. Indirect listing on exchanges is through Depository Receipts (DRs). Depository receipts are a negotiable certificate issued by a bank in a domestic country that represents ownership of shares in companies of other countries. Cross listing, particularly through DRs such as American Depositary Receipts (ADRs) or Global Depositary Receipts (GDRs), is a popular way of internationalisation among firms from emerging economies. In addition to Europe and America, International firms are allowed to cross list in other countries through the DR programme. There could be several reasons for a domestic company to cross-list, such as an expanding investor base, the desire to improve stock liquidity through its highly liquid secondary market, the increasing visibility of the company, a growing customer base, and the wish to take advantage of higher valuations. From the perspective of investors, cross listing mitigates some of the uncertainties and costs involved in making direct purchases in foreign markets (Edison & Warnock, 2003). Cross listing through DRs has more advantages compared to direct listings as it offers an easier and flexible mechanism with less stringent regulations for individual companies to enter foreign markets according to their needs. The listing of a company on a foreign exchange through a DR framework exempts the firm from many stringent regulatory requirements compared to those required for direct listings on foreign exchanges, thereby enabling the investors to realise dividends and capital gains in another market.
Previously, companies from emerging economies listed either on the US exchanges or on the European exchanges through ADRs or GDRs, respectively. However, the phenomenal success of DRs in the US and in European countries combined with the evolving liberal conditions that are conducive for capital market development in Latin American and Asian countries prompted the securities market regulators to allow DR programmes in these countries. Another factor that contributed to the popularity of DRs is that investors are looking beyond their national borders to take advantage of new opportunities for diversifying their portfolio. Even many multinational firms are interested in the local DR programmes to take advantage of the growth prospects of Latin American and Asian countries.
The concept of introduction of Indian Depository Receipts (IDRs) was conceived in the year 2004 but the actual action or implementation is happening only now, with the first ever IDR issue by Standard Chartered Bank which opened on May 25, 2010 and closed on May 28, 2010. The Central Government, in exercise of powers available with it under section 642 read with section 605A of the Companies Act, 1956 had prescribed the Companies (Issue of Indian Depository Receipts) Rules, 2004 (IDR Rules) vide notification number GSR 131(E) dated February 23, 2004. The said Rules provide, inter alia, for eligibility for issue of IDRs, procedure for making an issue of IDRs, registration of documents, conditions for the issue of prospectus and application, listing of IDRs, procedure for transfer and redemption and other conditions related to the same. It has also been provided in such rules that an issuing company shall also fulfil the eligibility criteria laid down by the Securities Exchange Board of India (SEBI) from time to time in this behalf. The SEBI, in view of authorisation available to it under IDR Rules, had originally issued a Circular No. CFD/DIL/IDR/1/2006/3/4 dated April 30, 2006 through which it has specified the Model Listing Agreement for listing of IDRs and subsequently the SEBI simplified the said Listing Agreement vide its Circular dated June 16, 2009.
1.1 Raising capital - New Avenues
Indian companies have reached out to the global equity markets in the past by issuing American Depository Receipts (“ADRs”) / Global Depository Receipts (“GDRs”). It now appears that the time is ripe for a role reversal. For overseas companies seeking to raise capital from the Indian stock markets, the Indian Depository Receipt (“IDR”) mechanism offers a way to do so. IDR is not a new concept. It was introduced almost nine years ago on December 13, 2000 via Section 605A of the Companies Act, 1956 (“Act”) and detailed guidelines governing IDRs were first released on February 23, 2004 via the Companies (Issue of Indian Depository Receipts) Rules, 2004 (“IDR Rules”). In this project paper I have detailed the mechanism how the funds may be raised by the foreign companies in India by issuing IDR’s in India.
2- DEPOSITORY RECEIPTS
A company can raise capital from overseas markets through listing instruments on an overseas stock exchange with its domestic securities as underlying. This preferred instrument for raising capital is referred as depository receipt (“Depository Receipt”). A Depository Receipt is a negotiable (transferable) financial instrument listed and traded publicly on a local stock exchange representing underlying shares of a foreign listed company. It enables investors to hold shares in foreign companies. The most common types of Depository Receipts issued in the global capital markets today are the ADR and GDR. A Depository Receipt contains features of equity shares and carries rights, which are similar to rights attached to equity shares. The Depository Receipt holder, thus, enjoys the right to appropriate disclosures by the foreign company issuing Depository Receipts; the right to corporate benefits/ dividends attached to the Depository Receipts; and the right to vote under certain circumstances.
Depository Receipt‘ (DR) means a negotiable security issued outside India by a Depository bank, on behalf of an Indian company, which represent the local Rupee denominated equity shares of the company held as deposit by a Custodian bank in India. DRs are traded on Stock Exchanges in the US, Singapore, Luxembourg, etc. DRs listed and traded in the US markets are known as American Depository Receipts (ADRs) and those listed and traded anywhere/elsewhere are known as Global Depository Receipts (GDRs).
"Depository" means a company formed and registered under the Companies Act, 1956 (1 of 1956) and which has been granted a certificate of registration under sub-section (1A) of section 12 of the Securities and Exchange Board of India Act, 1992 (15 of 1992);
2.1 Indian Depository Receipts:
In the Indian context, a Depository Receipt is referred to as an Indian Depository Receipt. IDRs are transferable securities listed on Indian stock exchanges in the form of depository receipts. Conceptually, the IDRs shall be issued by the Issuing Company, i.e., a foreign corporation desirous of raising capital in the Indian markets through an Indian depository participant. The last mile issuance of actual instrument is done by an Indian depository participant. The Indian depository participant will issue depository receipts against the underlying equity shares of the foreign corporation.
Each IDR is essentially a receipt, representing a share, or part of
a share, in a foreign company. In simple words, the company floating the issue appoints an Indian Depository, which, in turn, issues the receipts to investors. The actual shares represented by the receipts are held by an overseas custodian. The issuing company can decide the number of IDRs that make up a share in the company.
A Depository Receipt (DR) is a negotiable instrument in the form of securities that is issued by a foreign public listed company and is generally traded on a domestic stock exchange. For this, the issuing company has to fulfil the listing criteria for DRs in the other country. Before creating DRs, the shares of the foreign company—which the DRs Represent—are delivered and deposited with the custodian bank of the depository creating the DRs. Once the custodian bank receives the shares, the depository creates and issues the DRs to the investors in the country where the DRs are listed. These DRs are then listed and traded in the local stock exchanges of the other country.
Figure 1. WORKING OF DEPOSITORY RECEIPTS PROGRAMME
Listing of DR’s on the S.E
MONEY DR’S DIVIDENDS
"Indian Depository Receipt"
Domestic Depository means any instrument in the form of a depository receipt created by Domestic Depository in India against the underlying equity shares of issuing company.
"Issuing company" means a company incorporated outside India, making an issue of IDRs through a domestic depository.
The introduction of IDR has created a new route for foreign companies to advantageously tap into Indian sources of capital at better valuations and cheaper administrative costs.
3. INDIAN DEPOSITORY RECEIPTS: LEGAL FRAMEWORK
Regulatory framework of IDR’s:
Ø The Securities and Exchange Board of India
Ø The Ministry of Corporate Affairs
Ø The Reserve Bank of India
Statutes Governing IDRs
Ø Section 605A of the Companies Act, 1956
Ø Companies (Issue of Indian Depository Receipts) Rules 2004
Ø Chapter X of SEBI (Issue of Capital and Disclosure Requirements) Regulations, 2009
3.1 Chronological evolution of IDR Provisions:
Since 2000, the Indian Government has taken steps to liberalize India’s corporate and securities laws to permit foreign companies to raise capital in India. As the ADR and GDR instruments became popular among investors globally, the Indian Government amended the Companies Act, 1956 by implementing Section 605-A which permits a foreign company to make a public offer of its shares to Indian investors in the form of IDRs. This amendment gives the Central Government the power to create the rules, regulations and conditions governing:
Ø The offer and issue of IDRs by a foreign company;
Ø The disclosure requirements in the prospectus issued for IDRs;
Ø The rules and regulations governing the treatment of IDRs by the Depository, Custodian and Underwriters; and
Ø The manner of sale, transfer or transmission of IDRs in the stock exchanges.
In 2004, the IDR Rules were introduced and set the framework for the issuance of IDRs. Additionally, the SEBI introduced guidelines to list IDRs on Indian stock exchanges under Chapter VIA of SEBI (Disclosures and Investor Protection) Guidelines, 2000 (“DIP Guidelines”), which have recently been replaced by the by SEBI (Issue of Capital and Disclosure Requirements) Regulations, 2009 (“ICDR Regulations”). Since then various amendments have been made in the regulatory framework of IDRs , including the recent Circular dated July 22, 2009 (“RBI Circular”) issued by the RBI, the exchange control regulator in India, which renders clarity on the exchange control implication for investment in IDRs -- the major ones are detailed in the accompanying table.
December 13, 2000
Ministry of Corporate Affairs, Government of India, (MCA)
Insertion of section 605 A to the Companies Act, 1956
Enabling section to permit foreign companies to issue IDR’s as security to investors in India
February 23, 2004
Created Framework for issue of IDR’s
April 3, 2006
Disclosure requirements for listing IDR’s specified
April 3, 2006
Model Listing Agreement
Provided the model terms and conditions of an agreement between the issuing company and the stock exchanges for listing IDR’s on Indian stock exchange
July 11, 2007
Relaxation of eligibilty criteria for issue of IDR’s
November 29, 2007
Permitting retail investors to subscribe to IDR’s
January 19, 2009
(January 2009 Amendments)
· Removal of one (1) year lock in for conversion from IDR to Equity Shares
· Permitting issue of IDRs to persons other than persons resident in India.
· Overseas Custodian Bank need not have a place of business in India.
April 13, 2009
Approving proposal in its Board Meeting
Enable a) mutual funds and FIIs to invest in IDRs subject to the Foreign Exchange Management Act, 1999 (“FEMA”);
(b) electronic holding of
(c) issue of IDRs by
custodians on behalf of issuers.
June 9, 2009
SEBI/IMD/CIR No. 1/ 165935/2009 dated June 9, 2009
Clarification for Mutual Funds for
investing in IDRs
June 16, 2009
dated June 16, 2009
Simplified Model Listing Agreement for Issuing Companies, whose securities
market regulators are signatories to the Multilateral Memorandum of Understandings of International
Organization of Securities commission
June 19, 2009
(Facilitation of Issuance of Indian
(Amendment) Regulations, 2009
.Permitting FIIs to invest in IDRs;
· Enabling electronic holding of IDRs; and
· Enabling issue of IDRs by Custodians on behalf of Issuing Company
July 22, 2009
RBI Circular RBI/2009-10/106
A.P. (DIR Series) Circular No. 05
dated July 22, 2009
· Prior approval required for
banking/ finance companies having presence in India
· Clarity on procedure for repatriation of IDR proceeds
· One year lock-in on
redemption of IDRs
·Permitting Investment by FIIs / NRIs in IDRs;
·Guideline for redemption/ conversion of IDRs.
July 31, 2009
7 dated July 31, 2009
· Pro rata allotment of IDRs
· Audited Financial Statements to be prepared in accordance
with Indian GAAP or with the International Financial Reporting Standards or US
GAAP, for a period of three (3) financial years immediately
preceding the date of
September 3, 2009
Replace the DIP guidelines in entirety
September 22, 2009
Approving proposal in its board meeting
Permitting issue of IDR’s to anchor investor
August 28, 2012
RBI/2012-13/178 A. P. (DIR Series) Circular No. 19
(SEBI) has allowed partial fungibility of Indian Depository Receipts (IDRs) — redemption or conversion of IDRs into underlying equity shares — in a financial year to the extent of 25 per cent of the IDRs originally issued.
3.2 Regulatory framework under Companies (Issue of IDRs) Rules, 2004 (Central Govt)
G.S.R-131(E).~ In exercise of powers conferred by clause (a) of sub-section (1) of section 642 read with section 605A of the Companies Act, 1956, the Central Government makes these rules.
.- Without prejudice to anything contained in the Securities and Exchange Board of India Act, 1992, an issuing company may issue IDRs only if it satisfies the following conditions:-
(a) Its pre-issue paid-up capital and free reserves is at least US$ 100 million and it has had an average turnover of US$ 500 million during the 3 financial years preceding the issue.
(b) It has been making profits for at least five years preceding the issue and has been declaring dividend of not less than 10% each year for the said period.
(c) Its pre-issue debt equity ratio is not more than 2:1.
(d) It shall fulfil the eligibility criteria laid down by SEBI from time to time in this behalf.
(i) (a) No issuing company shall raise funds in India by issuing IDRs unless it has obtained prior permission from the SEBI.
(b) An application seeking permission under clause (a) shall be made to the SEBI at least 90 days prior to the opening date of the issue, in such form furnishing such information as may be notified from time to time with a non-refundable fee of US $10,000:
Provided that, on permission being granted, an applicant shall pay an issue fee of half a percent of the issue value subject to a minimum of Rs.10 lakhs where the issue is up to Rs.100 crore in Indian rupees:
Provided further where the issue value exceeds Rs.100 crore, every additional value of issue shall be subject to a fee of 0.25 percent of the issue value.
(c) The SEBI may, on receipt of an application, seeking permission under clause (a), call for such further information, and explanations, as may be necessary, for disposal of such application.
(d) The issuing company shall obtain the necessary approvals or exemption from the appropriate authorities from the country of its incorporation under the relevant laws relating to issue of capital, where required.
(e) The issuing company shall appoint an overseas custodian bank, a domestic depository and a merchant banker for the purpose of issue of IDRs.
(f) The issuing company shall deliver the underlying equity shares or cause them to be delivered to an Overseas Custodian Bank and the said bank shall authorize the domestic depository to issue IDRs.
(g) The issuing company shall file through a merchant banker or the domestic depository a due diligence report with the Registrar and with SEBI in the form specified.
(ii) (a) The issuing company shall, through a merchant Banker file a prospectus or letter of offer certified by two authorized signatories of the issuing company, one of whom shall be a whole-time director and other the Chief Accounts Officer, stating the particulars of the resolution of the Board by which it was approved, with the SEBI and Registrar of Companies, New Delhi, before such issue.
(b) The draft prospectus or draft letter of offer shall be filed with SEBI, through the merchant banker, at least 21 days prior to the filing under clause (a).
Provided that if within 21 days from the date of submission of draft prospectus or letter of offer, SEBI specifies any changes to be made therein, the prospectus shall not be filed with the SEBI/Registrar of Companies unless such changes have been incorporated therein.
(iii) The issuing company, seeking permission under sub-rule (i) above, shall obtain in-principle listing permission from one or more stock exchanges having nationwide trading terminals in India.
(iv) The issuing company may appoint underwriters registered with SEBI to underwrite the issue of IDRs.
- (i) The repatriation of the proceeds of issue of IDRs shall be subject to laws for the time being in force relating to export of foreign exchange.
(ii) IDRs shall not be redeemable into the underlying equity shares before the expiry of one year period from the date of the issue of the IDRs.
(iii) IDRs issued by any issuing company in any financial year shall not exceed 15 per cent of its paid-up capital and free reserves.
(iv) Notwithstanding the denomination of securities of an issuing company, the IDRs issued by it shall be denominated in Indian Rupees.
Ø Registration of documents.- (i) The Merchant Banker to the issue of IDRs shall deliver for registration the following documents or information to the SEBI and Registrar of Companies at New Delhi, namely:-
(a) instrument constituting or defining the constitution of the issuing company;
(b) the enactments or provisions having the force of law by or under which the incorporation of the issuing company was effected, a copy of such provisions attested by an officer of the company be annexed;
(c) if the issuing company has established place of business in India, address of its principal office in India;
(d) if the issuing company does not establish principal place of business in India, an address in India where the said instrument, enactments or provision or copies thereof are available for public inspection, and if these are not in English, a translation thereof certified by a responsible officer of the issuing company shall be kept for public inspection;
(e) a certified copy of the certificate of incorporation of the issuing company in the country in which it is incorporated;
(f) copies of the agreements entered into between the issuing company, the overseas custodian bank, the domestic depository, which shall inter alia specify the rights to be passed on to the IDR holders;
(g) if any document or any portion thereof required to be filed with the SEBI/Registrar of Companies is not in English language, a translation of that document or portion thereof in English, certified by .a responsible officer of the company to be correct and attested by an authorized officer of the Embassy or Consulate of that country in India shall be attached to each copy of the document.
(ii) The prospectus to be filed with the SEBI and Registrar under clause (ii) of rule 5 shall contain the particulars as prescribed in Schedule and shall be signed by all the whole-time directors of the issuing company and by the Chief Accounts Officer.
Ø Conditions for the issue of prospectus and application.- (i) No application form for the securities of the issuing company shall be issued unless the form is accompanied by a memorandum containing the salient features of prospectus in the specified form.
(ii) An application form can be issued without the memorandum as specified in clause (i) above if it is issued in connection with an invitation to enter into an underwriting agreement with respect to the IDRs.
(iii) The prospectus for subscription of IDRs of the issuing company which includes a statement purporting to be made by an expert shall not be circulated, issued or distributed in India or abroad unless a statement that the expert has given his written consent to the issue thereof and has not withdrawn such consent before the delivery of a copy of the prospectus to the SEBI and Registrar of Companies, New Delhi, appears on the prospectus.
(iv) The person(s) responsible for issue of the prospectus shall not incur any liability by reason of any noncompliance with or contravention of any provision of this rule, if-
(a) as regards any matter not disclosed, he proves that he had no knowledge thereof; or
(b) the contravention arose in respect of such matters which in the opinion of the Central Government were not material.
Ø Listing of Indian Depository Receipt.- The IDRs issued under this Rule shall be listed on the recognized Stock Exchange(s) in India as specified in clause (iii) of rule 5 and such IDRs may be purchased, possessed and freely transferred by a person resident in India as defined in section 2(v) of Foreign Exchange Management Act, 1999, subject to the provisions of the said Act.
Ø Procedure for transfer and redemption.- (i) A resident holder of IDRs may transfer the IDRs or may ask the Domestic Depository to redeem these IDRs, subject to the provisions of the Foreign Exchange Management Act, 1999 and other laws for the time being in force.
(ii) In case of redemption, Domestic Depository shall request the Overseas Custodian Bank to get the corresponding underlying equity shares released in favour of the Indian resident for being sold directly on behalf of Indian resident, or being transferred in the books of issuing company in the name of Indian resident and a copy of such request shall be sent to the issuing company for information.
A holder of IDRs may, at any time, nominate a person to whom his IDRs shall vest in the event of his death and Form No: 1 annexed to these rules may be used for this purpose.
Ø Continuous Disclosure Requirements. - (i) The Issuing company shall furnish to the Overseas Custodian Bank and Domestic Depository, a certificate obtained by it from the statutory auditor of the company or a Chartered Accountant about utilization of funds and its variation from the projections of utilization of funds made in the prospectus, if any, in quarterly intervals and shall also publish it or cause to be published in one of the English language newspapers having wide circulation in India.
The quarterly audited financial results should be prepared and published in newspapers in the manner specified by the listing conditions.
Ø Distribution of corporate benefits.- On the receipt of dividend or other corporate action on the IDRs as specified in the agreements between the issuing company and the Domestic Depository, the Domestic Depository shall distribute them to the IDR holders in proportion to their holdings of IDRs.
Ø Penalty.- If a company or any other person contravenes any provision of these rules for which no punishment is provided in the Act, the company and every officer of the company who is in default or such other person shall be punishable with the fine which may extend to twice the amount of the IDR issue and where the contravention is a continuing one, with a further fine which may extend to five thousand rupees for every day, during Which the contravention continues.
Ø Repeal and savings.- On the commencement of these rules, all rules, orders or directions in force in relation to any matter for which provisions are made in these rules shall stand repealed, except as respects things done or omitted to be done before such repeal.
Ø Power of Central Government to decide certain Questions :-If any question arises on the applicability and interpretation, such question shall be decided by the Central Government.
Schedule annexed to the Rules contains the matter to be specified in the prospectus along with certain forms.
3.3 RBI Circular on operational guidelines which govern and facilitate investment by various categories of investors in IDR issuances.
RBI issues a circular on the Issue of Indian Depositories receipt RBI/2009-10/106
A.P. (DIR Series) Circular No. 05 dated 22 July, 2009.
2. In order to facilitate the eligible companies resident outside India to issue Indian Depository Receipts (IDRs) through a Domestic Depository and to permit persons resident in India and outside India to purchase, possess, transfer and redeem IDRs, it has been decided to operationalise the IDR Rules, notified by the Government of India, as amended from time to time, with immediate effect.
3. Accordingly, eligible companies’ resident outside India may issue Indian Depository Receipts (IDRs) through a Domestic Depository. The permission has been granted subject to compliance with the Companies (Issue of Depository Receipts) Rules, 2004 and subsequent amendments made thereto and the SEBI (DIP) Guidelines, 2000, as amended from time to time. In case of raising of funds through issuance of IDRs by financial/banking companies having presence in India, either through a branch or subsidiary, the approval of the sectoral regulator(s) should be obtained before the issuance of IDRs.
4. Investment by Persons resident in India / FIIs / NRIs in IDRs
The FEMA Regulations shall not be applicable to persons resident in India as defined under section 2(v) of FEMA, 1999, for investing in IDRs and subsequent transfer arising out of transaction on a recognized Stock Exchange in India. Foreign Institutional Investors (FIIs) including SEBI approved sub-accounts of the FIIs, registered with SEBI and Non-Resident Indians (NRIs) may also invest, purchase, hold and transfer IDRs of eligible companies resident outside India and issued in the Indian capital market, subject to the Foreign Exchange Management (Transfer or Issue of Security by a Person Resident Outside India) Regulations, 2000 notified vide Notification No. FEMA 20 / 2000-RB dated May 3, 2000, as amended from time to time. Further, NRIs are allowed to invest in the IDRs out of funds held in their NRE / FCNR (B) account, maintained with an Authorised Dealer / Authorised bank.
5. Fungibility: Automatic fungibility of IDRs is not permitted.
6. Period of redemption: IDRs shall not be redeemable into underlying equity shares before the expiry of one year period from the date of issue of the IDRs.
7. Procedure for transfer and redemption of IDRs: At the time of redemption / conversion of IDRs into underlying shares, the Indian holders (persons resident in India) of IDRs shall comply with the provisions of the Foreign Exchange Management (Transfer or Issue of Any Foreign Security) Regulations, 2004 notified vide Notification No. FEMA 120 / RB-2004 dated July 7 2004, as amended from time to time. Accordingly, the following guidelines shall be followed, on redemption of IDRs:
Listed Indian companies may either sell or continue to hold the underlying shares subject to the terms and conditions as per Regulations 6B and 7 of Notification No. FEMA 120/RB-2004 dated July 7, 2004, as amended from time to time.
Indian Mutual Funds, registered with SEBI may either sell or continue to hold the underlying shares subject to the terms and conditions as per Regulation 6C of Notification No. FEMA 120/RB-2004 dated July 7, 2004, as amended from time to time.
Other persons resident in India including resident individuals are allowed to hold the underlying shares only for the purpose of sale within a period of 30 days from the date of conversion of the IDRs into underlying shares.
The FEMA provisions shall not apply to the holding of the underlying shares, on redemption of IDRs by the FIIs including SEBI approved sub-accounts of the FIIs and NRIs.
8. The proceeds of the issue of IDRs shall be immediately repatriated outside India by the eligible companies issuing such IDRs. The IDRs issued shall be denominated in Indian Rupees.
9. AD Category –I banks may bring the contents of this circular to the notice of their constituents and customers.
10. Necessary amendments to the Foreign Exchange Management (Transfer or Issue of Security by a Person Resident outside India) Regulations, 2000 and Foreign Exchange Management (Transfer or Issue of Any Foreign Security) Regulations, 2004, are being issued separately.
11. The directions contained in this circular have been issued under Sections 10(4) and 11(1) of the Foreign Exchange Management Act, 1999 (42 of 1999) and are without prejudice to permissions / approvals, if any, required under any other law.
3.4 Eligible Companies and Eligible investor for IDRs
3.4.1 Eligible Companies:
The IDR Rules specify that the Issuing Company would need to fulfill the following conditions in order to issue IDRs:
i. Minimum paid-up capital and free reserves: The Issuing Company is required to have pre-issue paid-up capital and free reserves of at least USD 50 million and a minimum average market capitalization (during the last 3 years) in its parent country of at least USD 100 million.
The eligibility criteria for an Issuing Company were relaxed on July 11, 2007 by way of an amendment to IDR Rules. Prior to this relaxation, an Issuing Company was required to have at least USD 100 million of paid up-capital and free reserves and an average turnover of USD 500 million during the five preceding financial years preceding the issue. Also, the Issuing Company was required to have a pre-issue debt equity ratio of not more than 2:1.
The July 11, 2007 IDR Rule amendments aligned the requirements for an Issuing Company to have a track record of declaring dividends under the IDR Rules with the Companies Act, and to bring the same at par with certain domestic issues and condition. Further, the requirement to declare a minimum rate of dividend for the previous five years and a minimum 2:1 debt equity ratio were omitted as these conditions were specific to individual companies who may have adopted different dividend policies as per their respective jurisdictions.
ii. Continuous trading record: The Issuing Company is required to have a continuous trading record or history on a stock exchange in its parent country for atleast three (3) preceding years.
iii. Track record of distributable profits: Pursuant to the relaxations made in the IDR Rules on July 11, 2007, the Issuing Company is required to have a track record of distributable profits in atleast three (3) out of the preceding five (5) years.
This has been a significant shift from the MCA’s earlier requirement of declaring dividends of not less than 10 per cent each year for at least five (5) years preceding the issue – a benefit to several small-cap and mid-cap companies, which prefer to reinvest their profits and strengthen their reserves, instead of distributing such profits among the shareholders by way of declaring dividends.
iv. Overseas Financial/ Banking companies having presence in India: Until now, the extant IDR Rules and DIP Guidelines did not require an Issuing Company to seek any specific approval from sectoral regulator prior to issuance of IDRs. The RBI Circular has created an exception for financial and banking companies and provides that financial and banking companies having presence in India, either through a branch or subsidiary, would be required to seek prior approval of the sectoral regulator(s) before the issuance of IDRs.
Additionally, as IDRs are listed on the Indian stock exchanges, the Issuing Company is required to adhere to the provisions of Chapter X of ICDR Regulations 2009. The ICDR Regulations require an Issuing Company to fulfil the following prerequisites:
i. Mandatory listing in home country: The Issuing Company is required to be listed in its home country (in the country of its incorporation);
ii. No regulatory prohibition: The Issuing Company should not be prohibited from issuing securities by any regulatory body; and
iii. Good track record: The Issuing Company should maintain a good track record with respect to compliance of securities’ market regulations.
3.4.2 Eligible Investors:
The January 2009 Amendments have provided leeway to the Issuing Company to offer IDRs to persons other than resident Indians as it would enable the Issuing Company to issue IDRs to a person other than a person resident in India. Prior to this, only resident Indians were eligible to subscribe to IDRs. The Issuing Company can issue IDRs to non-residents after seeking prior approval from RBI and would be required to comply with the policy or guidelines that may be issued by RBI in this regard. Prior to issue of notification of ICDR Regulations, the DIP Guidelines provided for list of categories of investors who could invest into IDRs, which were later complemented by the RBI Circular, operanalising the IDR Rules and providing clarity on the exchange control regime governing investment by different category of investors and subsequent redemption of IDRs into equity shares of the Issuing Company by such investors. At present the following categories of investors are permitted to subscribe to IDRs:
i. Subscription of IDRs by Foreign Institutional Investors: Initially under the erstwhile DIP Guidelines Foreign Institutional Investors (“FIIs”) required special permission from the RBI to purchase or possess IDRs. The proposal to provide less stringent implications to this restriction was considered by SEBI in board meeting dated April 13, 2009 and approved proposals to enable (a) mutual funds and FIIs to invest in IDRs subject to FEMA; (b) electronic holding of IDRs; and (c) issuance of IDRs by custodians on behalf of issuers. These proposals were subsequently notified via an amendment to the DIP Guidelines. With the introduction of SEBI (Facilitation of Issuance of Indian Depository Receipts) (Amendment) Regulations, 2009 dated June 19, 2009, SEBI amended the SEBI (Foreign Institutional Investors) Regulations, 1995 enabling FIIs to invest in IDRs. With the notification of the aforesaid proposals by SEBI, FIIs are not required to seek prior permission from RBI to purchase or possess IDRs. The subscription of IDRs by FIIs, however, would be governed by FEMA regulations. The subsequent RBI Circular proposes to make express provisions in FEMA permitting FIIs including their sub-accounts to invest in IDRs, thus bringing investment by FIIs/ sub-accounts in IDRs under the automatic route. The RBI Circular operationalises the IDR Rules and the consequent amendments to FEMA (Transfer or Issue of Security by a Person Resident outside India) Regulations, 2000 (“TISPRO Regulations”) are expected to include IDRs as instruments that can be subscribed to by FIIs. Presently, the ICDR Regulations do not create any specific restriction on any category of investors for their investment in IDRs; therefore, investments into IDRs would be governed by the specific regulations governing such investors and the exchange control provisions provided by the RBI.
ii. Subscription of IDRs by Non-Resident Indians: Under the erstwhile DIP Guidelines Non-Resident Indians (“NRIs”) required special permission from the RBI to purchase or possess IDRs. With the operationalisation of IDR Rules vide the RBI Circular; investment in IDRs by NRIs has been included under the automatic route. The RBI Circular further mentions that NRIs may invest, purchase, hold and transfer IDRs of Issuing Companies subject to ODI Regulations. The RBI Circular further provides that NRIs are permitted to invest in IDRs out of the funds held in their Non-Resident (External) Rupee Account Scheme (“NRE Account”) which is essentially an Indian currency denominated account and Foreign Currency (Non-Resident) Account (Banks) Scheme (“FCNR (B) Account”), which is a foreign currency (Pound Sterling, US Dollar, Japanese Yen, Euro, Canadian Dollar and Australian Dollar) denominated account.
iii. Subscription of IDRs by Qualified Institutional Buyers: Under the ICDR Regulations at least 50 per cent of the IDR issued is required to be allotted to qualified institutional buyers on proportionate basis. Issuing Company can draw a reference to illustration given in Part C of Schedule XI of ICDR Regulations. While, the balance 50 per cent may be allocated among the categories of non-institutional investors and retail individual investors including employees at the discretion of the issuer and the manner of allocation shall be disclosed in the prospectus. Allotment to investors within a category shall be on proportionate basis;
iv. Subscription of IDRs by retail investors: Under the ICDR Regulations, in an issue of IDR the remaining 50 per cent quota (other than quota for QIBs) can be subscribed to by non-institutional investors, which includes investors other than QIBs and retail individual investors. As per ICDR Regulations, employees of the Issuing Company are covered under the category of retail investors and are eligible to subscribe to IDRs.
v. Subscription of IDRs by Mutual Funds: Until now, under SEBI (Mutual Funds) Regulations, 1996 domestic mutual fund schemes registered with SEBI were permitted to invest only in:
b. Money market instruments;
c. Privately placed debentures;
d. Securitized debt instruments, which are either asset backed or mortgaged backe securities;
e. Gold or gold related instruments; or
f. Real estate assets.
Pursuant to SEBI’s aforesaid board meeting, SEBI has vide Circular13 dated June 9, 2009 clarified that IDRs are regarded as securities for the purposes of SEBI (Mutual Funds) Regulations, 1996. Thus, domestic mutual funds registered with SEBI can freely invest in IDRs, subject to the investment restrictions provided under the SEBI (Mutual Funds) Regulations, 1996.
At present the following entities might not be able to invest in IDRs:
i. Subscription of IDRs by Foreign Venture Capital Investor
A Foreign Venture Capital Investor (“FVCI”) registered with SEBI is included in the definition of QIBs. FVCIs, however, are required to primarily invest in venture capital undertakings, which are unlisted domestic companies. Since FVCIs are restricted to only investing in IPOs of domestic companies, they may not be able to subscribe to IDRs.
ii. Subscription of IDRs by Insurance Companies:
Insurance Companies registered with the Insurance Regulatory and Development Authority of India (“IRDA”) are regarded as QIBs under ICDR Regulations. However, the investment of policy holders’ funds either directly or indirectly outside India is prohibited under the current Indian insurance laws. Thus, insurance companies despite being categorised as QIBs might not be able to subscribe to IDRs.
Minimum subscription amount
Investments made by Indian Companies in IDRs must be within the investment limits, if any, prescribed by applicable laws. The minimum application amount in an IDR issue is prescribed as INR. 20,000. The Issuing Company is under an obligation to disclose the manner of allocation and the procedure to be followed by each class of applicant that applies in the prospectus.
4. IDR MECHANISM – THE PROCESS
4.1. Procedure prior to issue of IDR
4.1.1 Process: The actual process for the issuance of IDRs by a foreign company is similar to the process followed by companies looking at listing an ADR on American stock exchanges and GDR on the European stock exchanges. The IDR is a negotiable instrument denominated in Indian Rupees representing the underlying securities of the foreign company, which are listed in an international stock exchange. Hence, the foreign company would issue its securities in IDRs to an Overseas Custodian Bank, which in turn authorizes the Domestic Depository in India to issue IDRs to investors. As part of the IDR process, the Issuing Company will is required to appoint a Merchant Banker and file a due diligence report with SEBI and the Registrar of Companies. Such a requirement is similar to the domestic IPO process where Merchant Bankers are required to file due diligence reports in a prescribed format per SEBI regulations prior to the IPO.
4.1.2 Condition of an IDR issue
Along with the eligibility criteria required to issue IDRs as applicable to the Issuing Company and the investors, the IDR Rules specify the following mandatory conditions:
i. Minimum Size of Issue: The size of an IDR issue cannot be less than INR 500 Million (Approximately USD 11 million at current exchange rates);
ii. Number of underlying equity shares offered: The number of underlying equity shares offered in a financial year through IDR offerings cannot exceed 25 per cent of the post-issue number of equity shares of the Issuing Company (prior to the July 11, 2007 amendment to the IDR Rules, this limit was capped at 15 per cent)
iii. Minimum subscription required: SEBI has provided for a classification in respect in respect minimum subscription requirements for underwritten and non-underwritten IDR issues.
§ Non-underwritten IDR issues: If the minimum subscription of 90 per cent of the issued amount the date of closure of the issue is not received by the Issuing Company, a refund become inevitable. Failure to refund the entire subscription amount within fifteen (15) days from the date of the closure of the issue imposes a liability to refund the entire amount with interest to the investors at the rate of 15 per cent per annum for the period of the delay.
§ Underwritten IDR issues: If the minimum subscription is below 90 per cent of the net offer to public including devolvement of Underwriters within sixty (60) days from the date of closure of the issue, the Issuing Company is required to refund the entire subscription amount received with interest to the investors at the rate of 15 per cent per annum for the period of the delay beyond sixty (60) days.
iv. Indian Rupee Denominated: Though the ICDR Regulations provide that at any given time, there shall be only one denomination of IDR of the issuing company, the RBI Circular specifies that it is mandatory that the IDRs are rupee denominated.
Filing of draft prospectus:
In order to raise funds in India by issuing IDRs, an Issuing Company is required to obtain prior written approval from SEBI on an application made in its behalf along with the draft prospectus at least ninety (90) days prior to the opening date of the IDRs issue, in such form and furnishing specified by SEBI from time to time. SEBI may, within thirty (30) days of receipt of the application call for such further information and explanations, as it may deem necessary, for the disposal of the application. SEBI is required to dispose the application within sixty (60) days of its receipt. However, if within sixty (60) days from the date of submission of application or draft prospectus, SEBI specifies any changes to be made in the draft prospectus, the prospectus cannot be filed with SEBI or Registrar of Companies unless the desired amendments have been incorporated.
Conditions for issue of prospectus and application:
No application form for the securities of an Issuing Company can be issued unless the form is accompanied by a memorandum containing the salient features of the prospectus in the specified form. However an application form may be issued without the memorandum if it is issued in connection with an invitation to enter into an underlying agreement with respect to the IDRs. The contents that must be specified in the memorandum (abridged prospectus) are specified in Part B of Schedule XIX of the ICDR Regulations.
The IDR Rules prohibit circulation of the prospectus for the issuance of IDRs which contain a statement purported to be made by an expert, unless the statement by the expert is coupled with a statement by him/her that that he/her has given his/her written consent to the issue and has not withdrawn such consent before the delivery of a copy of the prospectus to SEBI or the Registrar of Companies.
4.1.3 Other procedural requirements
An Issuing Company is also required to carry out the following procedures in order to obtain a grant of approval from SEBI.
(i) Approval in home country: The Issuing Company is required to obtain necessary approvals or exemption from the appropriate authorities from the country of its incorporation under the relevant laws relating to the issuance of capital, if required under the laws of that jurisdiction;
(ii) Appointment of underwriters: The Issuing Company is required to appoint underwriters registered with SEBI to underwrite the issue of IDRs, if applicable;
(iii) Filing of certified prospectus: The Issuing Company is required to file prospectus, certified by two authorized signatories of the Issuing Company, one of whom shall be a full-time director and the other the Chief Accounts Officer, stating the particulars of the resolution of the Board by which it was approved, with the SEBI and Registrar of Companies, New Delhi, before such issue. At the time of filing of the prospectus with the Registrar of Companies, New Delhi, a copy of approval granted by SEBI and the statement of fees paid by the Issuing Company to SEBI are required to be attached.
4.1.4 Regulatory Cost
The Issuing Company is required to pay a non-refundable fee of USD 10,000 to SEBI along with the application seeking prior written approval for raising funds in India through an IDR mechanism. Further, upon the approval being granted, the Issuing Company is required to pay SEBI an issue fee of half a per cent of the issue value subject to a minimum of INR 10 lakhs where the issue is up to INR 1000 million. In the event the issue value exceeds INR 1000 million, every additional value of issue is subject to a fee of 0.25 per cent of the issue value.
4.1.5 In-principle listing permission
The Issuing Company is required to obtain an in-principle listing permission from one or more stock exchanges having nationwide trading terminals in India, prior to raising funds in India. At present, the NSE and BSE have nationwide trading terminals and therefore would be the only eligible exchanges for listing IDRs.
4.1.6 Appointment of intermediaries
The Issuing Company, for the purpose of issuing IDRs, is required to appoint:
· an overseas custodian bank;
· a domestic depository; and
· a merchant banker.
The role and duties of each of them are stated as follows:
A merchant banker is primarily entrusted with the responsibility to structure the issue and arrange for marketing. The Issuing Company is required to appoint a Merchant Banker for filing purposes or for providing the Domestic Depository a due diligence report with the Registrar of Companies and with SEBI.
Overseas Custodian bank
An overseas custodian bank is a banking company which acts as custodian for the ordinary shares of an Issuing Company. The Overseas Custodian Bank acts in coordination with the domestic depository. When the shares are issued by Issuing Company, such shares are registered in the name of the domestic depository and physical possession is handed over by the Issuing Company to the Overseas Custodian Bank.
The Domestic Depository appointed by the Issuing Company is authorized to issue IDRs against the issue of ordinary shares of the Issuing Company.
4.1.7. Matters to be specified in the Prospectus
The Issuing Company is required to mention certain information in the prospectus to be filed with SEBI. The contents to be specified in the prospectus are provided under the Schedule of IDR Rules.
4.1.8. Disclosure Requirements under ICDR Regulations
Additionally, ICDR Regulations provide for certain mandatory disclosures which are required to be made in the prospectus. These disclosures are similar to the disclosures required by an Indian company for an Indian listing. The said disclosure requirements are provided under the Part A of Schedule XIX of the ICDR Regulations. There are also additional disclosures required in relation to the Issuing Company’s compliance with the foreign securities exchange on which it is listed.
The IDR Rules also permit for the Issuing Company to choose if it wishes to file its prospectus publicly or file it confidentially. Interestingly, this option is not currently available for Indian companies listed in India.
4.1.9. IDR Issue Price
The price of an IDR usually corresponds to the price of the foreign share in the stock exchange in which it is listed, adjusted to the ratio of the IDRs to foreign company shares. Under the ICDR Regulations, the basis of pricing the IDRs needs to be disclosed in a prescribed format and must contain, among other disclosures, information such as earnings per share for the past three (3) years, price earning pre-issue, minimum return on increased net worth required to maintain pre-issue earnings per share, etc. The issue price is conditional upon the fact that the projected earnings will not be used as a measure for the issue price in the prospectus but that the accounting ratios disclosed in the prospectus should support the issue price.
4.1.10. Registration of Documents
The Merchant Banker appointed for the issue of IDRs is required to deliver for registration, the following documents or information to the SEBI and Registrar of Companies in New Delhi, namely:-
a. instrument constituting or defining the constitution of the Issuing Company;
b. the enactments or provisions having the force of law by or under which the incorporation of the issuing company was done, a copy of such provisions attested by an officer of the company to be annexed;
c. if the Issuing Company has an established place of business in India, the address of its principal office in India;
d. if the Issuing Company does not establish a principal place of business in India, an address in India where the said instrument, enactments or provision or copies thereof are available for public inspection, and if these are not in English, a translation thereof certified by a responsible officer of the issuing company shall be kept for public inspection;
e. a certified copy of the certificate of incorporation of the Issuing Company in the country in which it is incorporated;
f. copies of the agreements entered into between the issuing company, the overseas custodian bank, the domestic depository, which shall inter alia specify the rights to be passed on to the IDR holders. if any document or any portion thereof required to be filed with the SEBI/ Registrar of Companies is not in English language, a translation of that document or portion thereof in English, certified by a responsible officer of the company to be correct and attested by an authorized- officer of the Embassy or Consulate of that country in India, shall be attached to each copy of the document. The prospectus to be filed with the SEBI and Registrar of Companies, New Delhi should be in accordance with the particulars as prescribed in the Schedule to IDR Rules and shall be signed by all the full-time directors of the issuing company and by the Chief Accounts Officer.
4.1.11. Provisions as to establishment of place of business of India
As per the provisions of Companies Act, in instances where the Issuing Company has an existing place of business in India, the Issuing Company would be required to furnish, within a period of 30 days of the establishment of the place of business is required to deliver to the Registrar of Companies for registration information relating to the foreign company including the certified copy of the charter documents of the Issuing Company, the full address of the registered office of the registered or principal office of the Issuing Company, a list of the directors and secretary of the Issuing Company and the name and address of one or more persons resident in India, authorized to accept notices and other documents on behalf of the Issuing Company. Additionally, the Issuing Company is also required to furnish financial statements, prepared as the provisions of the Companies Act, with the Registrar of Companies.
4.1.12 Reservation in IDRs
According to current regulations, at least 50% of the Issue is to be allocated to qualified Institutional Buyers (QIBs), 30% of the issue to the retail individual investors and balance 20% of the issue to non-institutional investors and employees. The ratio of non-institutional investors and employees is at the discretion of the company to decide. The issue will fail if the company does not get QIB investors to the extent of 50% of the issue size.
4.2 POST – IDR ISSUES
4.2.1 Listing of IDRs
The IDRs will be listed on a recognized stock exchange in India and may be purchased, owned and freely transferred by holder of IDRs. Issuing Company would be required to enter into an agreement with the stock exchange for listing of IDR. In this regard a Model Listing Agreement has been specified by SEBI.
4.2.2. Repatriation of IDR proceeds
Under the IDR Rules, the proceeds of issue of IDRs collected by the Domestic Depository are repatriable in favour of the Issuing Company, with prior approval of RBI. The proceeds collected from the issuance of IDRs would be converted into a foreign currency and then remitted in favour of the Issuing Company. As per the RBI Circular, the proceeds of the issue of IDRs are to be immediately repatriated outside India by the Issuing Company. The RBI Circular specifically provides that the IDRs issued shall be denominated in Indian Rupees.
4.2.3. Distribution of Dividends Attached to IDRs
Upon receipt of dividends or any other corporate benefit payable with respect to IDRs as specified in the agreements between the Issuing Company and the Domestic Depository, the Domestic Depository is required to distribute the dividends/ corporate benefits to the IDR holders in proportion to their holdings of IDRs.
4.2.4. Transfer of IDRs
Under the ICDR Regulations as well as RBI Circular, automatic fungibility of IDRs is not permissible, i.e., conversion of IDRs into equity shares or vice versa. Further, under the IDR Rules, a holder of an IDR may transfer the IDR or may ask the Domestic Depository to redeem the IDR, subject to the provisions of FEMA and other laws in effect.
4.2.5. Redemption of IDRs for equity shares in the Issuing Company
In case of a redemption of IDRs for equity shares in the Issuing Company, the Domestic Depository is required to request the Overseas Custodian Bank to obtain the corresponding underlying equity shares released in favour of the holder of an IDR and transfer the shares in the books of the Issuing Company to the name of holder of such IDR and forward a copy of the request to the Issuing Company for information purposes. A holder of an IDR has the discretion to nominate a person to whom his/her IDR shall vest in the event of his/her death. Form No: 125 prescribed under the IDR Rules may be used for such purpose.
4.2.6. Period of redemption of IDRs
Initially, IDRs were not redeemable into equity shares before the expiry of one (1) year period from the date of the issue of the IDRs. In the January 2009 Amendments were made to the IDR Rules, wherein the aforesaid one (1) year lock-in period on redemption of the IDRs into equity shares was removed. However, the RBI Circular has once again provided for a lock-in on redemption of underlying equity shares into IDRs before the expiry of one (1) year from the date of issue of the IDRs.
4.2.7. Continuous Disclosure Requirements
Initially an Issuing Company was required to furnish to the Overseas Custodian Bank and Domestic Depository, a certificate obtained from the statutory auditor of the company or a Chartered Accountant about the utilization of funds raised and its variation from the projections of the utilization of funds made in the prospectus, if any, at quarterly intervals. Further, the Issuing Company was required to publish such certificate in an English language newspaper having wide circulation in India. The quarterly audited results or unaudited results were then subjected to limited review by the auditors of the company, and were also subject to approval by the Board of Directors of the issuing company. The quarterly audited financial results were to be prepared and published in the manner specified in the listing conditions.
The January Amendments have eliminated the aforesaid continuous disclosure requirements, and the Issuing Company is now only required to adhere to such disclosure requirements prescribed by SEBI. It appears that the said provisions were omitted in order to provide less stringent requirements to the Issuing Company. SEBI provides for such continuous disclosure requirements that are more favourable to the Issuing Company from an administrative perspective.
4.2.8. Penalty for Contravention
Under Section 598 of the Companies Act, if any foreign company having a place of business in India, fails to comply with the provisions applicable to them under Part XI of the Companies Act, would be liable to fine which may extend to INR 10,000 and in case of a continuing offence, with an additional fine which may extend to INR 1,000 for every day during which the default continues. In respect of the wilful disclosures made in the prospectus or the form of application for IDRs, which are in contravention of provisions of Companies Act, a minimum punishment of imprisonment which may extent to six months or with to a maximum of INR 50,000 or both may be levied. Additionally, civil liability imposed under Section 607 of the Companies Act. As per Section 607 of the Companies Act instances of wilful misrepresentation are to be dealt with as per the provisions of Section 62 of the Companies Act. As per Section 62 of the Companies Act, every person who subscribes for any shares or debentures on the faith of the prospectus is entitled to compensation for any loss or damage sustained by reason of any untrue statement included in the prospectus. As per Section 62 of Companies Act, unless otherwise proved, following persons are liable to compensate the investors of IDRs, in respect of the loss suffered by them:
a. Every person who is a director of the company at the time of the issue of the prospectus;
b. Every person who has authorized himself to be named and is named in the prospectus either as a director, or as having agreed to become a director, either immediately or after an interval of time;
c. Every person who is a promoter of the company; and
d. Every person who has authorized the issue of the prospectus
if an Issuing company or any other person contravenes any provision of the IDR Rules for which no punishment is provided in the Companies Act, the Issuing Company shall be punishable with a fine which may extend to twice the amount of the IDR issue and where the contravention is a continuing one, with a further fine which may extend to INR 5,000 rupees for each day during which the contravention continues. In addition, every officer of the company who is in default shall be punishable with the fine which may extend to INR 1,000,000 million and where the contravention is a continuing one, with a further fine which may extend to INR 1,000 for every day, during which such contravention continues.
4.2.9 Conversion of IDRs into shares
IDRs can be converted into shares but for this purpose, a separate application must be made to RBI. Only on receipt of approval from RBI, the conversion can happen. Once the IDRs are converted into shares, then these shares can be traded only on the foreign stock exchange in which the issuing company is listed. Further, after conversion of IDRs into shares, the said shares cannot be held for more than 30 days from the date of conversion. The outer limit restriction is that the conversion of IDRs is not allowed for a year from the date of issue. Further, the IDR holder should have enough IDRs to convert it into shares. Partial conversions are not allowed. e.g., taking the IDRs of Standard Chartered, the IDR holder can convert 10 IDRs into one share. Suppose a total of 44 IDRs are there, then only 40 IDRs can be converted into 4 shares and the remaining 4 IDRs cannot be allowed to be converted as it did not represent a whole share.
5. LACK OF CLARITY ON TAX ISSUE
The lack of clarity on the issue of taxation is another very important factor that has led to the lack of interest in the IDRs. The IDRs are not subject to securities transaction tax. Dividends received by IDR holders are not subject to dividend distribution tax. Currently, exemption from long-term capital gains tax and concessional short- term capital gains are not available for secondary sales on the stock exchanges. This issue needs clarity and is expected to be resolved with the implementation of the Direct Tax Code.
Presently, the Income Tax Act and other regulations do not specifically refer to the taxation of IDRs. The IDRs may therefore, be taxed differently from ordinary listed shares issued by other companies in India. If an IDR is sold within a year of purchase, the gains would be taxed at the income tax rates applicable to the seller. For exits made after a year, the tax rate would be 10% without indexation, and 20% with indexation. However, this is likely to change with the implementation of the Direct Tax Code, which will change the computation period of the assets.
Since the IDR does not deduct dividend distribution tax, dividends are taxed your hand as per the seller’s income tax rates. In emerging countries like Taiwan, the tax laws for both equity shares as well as depository receipts are the same. This provides clarity to investors as well as issuers.
6. Case Study on the IDR of Standard Chartered Plc.
The first Indian Depository Receipt (IDR) was that of Standard Chartered Plc. (henceforward referred to as StanChart), launched on May 13, 2010. This was done to boost the company’s market visibility and brand perception in India. There was an issue of 240 million IDRs where every 10 IDRs represented one share of StanChart. This was their third listing, following their listing on the London Stock Exchange and the Hong Kong Stock Exchange. The StanChart IDR issue was opened for subscription on May 25, 2010 until May 28, 2010. Though the price band of the IDR was between INR 100 and INR 115, most of the bids were between INR 100 and INR 104. The bank issued 240 million IDRs (including the anchor investor’s share of 36,000,000 IDRs).The total number of bids received at the NSE and the BSE were 312,025,000 and 137,680,000 IDRs, respectively, while the total number of bids received at cut-off price was 15,033,200. At the BSE, the IDR issue of StanChart was subscribed 2.2 times, while at the NSE, the issue was subscribed 1.53 times.
Problems faced by Standard Chartered during the issue
1. The two risks faced by StanChart were:
• Interest rate risk due to short term borrowing to fund long term assets; and
• Currency risk due to the strengthening of the US Dollar vis-à-vis local currencies in the countries of its presence.
2. The pricing and price movement in IDRs was directly linked to the share price of StanChart in the London Stock Exchange; this led to apprehension because any slowdown in the European economy would in turn affect the valuation of the bank, which would hamper its price movement in IDRs.
3. Tax issues.
1. Redemption: The StanChart IDR fell by almost 20% after the issue of SEBI’s ircular (CIR/CFD/DIL/3/2011) on June 3, 2011 that disallowed redemption after one year except in cases where the shares were illiquid.
2. The bulk of the investor base for StanChart was composed of Foreign Institutional Investors (FIIs). The only reason for FIIs to invest in this IDR was that they could be obtained at lower rates in India compared to London. The purpose of the IDR was to broaden the investor base in India. However, this objective was clearly not achieved because FIIs were allowed to invest in the issue.
7. BENEFITS OF IDRs
The new route to enter Indian markets by listing IDRs on Indian stock exchanges and providing exposure to Indian investors of foreign securities is not only beneficial for the Issuing Company, but also for the investors.
7.1. Benefits to the Issuing Company
ü Provides access to a large pool of capital: India boasts arguably of the largest population of middle class families, which collectively have a substantial amount of savings. In the last two decades, the Gross Domestic Savings rate has increased consistently to reach close to 25 per cent of household income adding net amount of about USD 240 billion worth new savings each year10. Combined with India’s 135 years of experience in investing in the stock markets, the opportunities are ample for foreign companies to tap into this large pool of capital for their equity needs.
ü Brand recognition in India: Using IDRs as a fund raising and investment diversification strategy is expected to bring significant intangible benefits. Instant visibility and sustained brand recall among Indian investors is a sure gain from an IDR listing as has already been proven in the case of Indian debutants in the global markets (eg. Infosys in NASDAQ, Wipro on NYSE etc.)
ü Facilitates acquisitions in India: Since an IDR is a rupee denominated instrument, foreign companies, which intend to acquire business or assets in India, can use it to finance acquisitions of any business or asset in India through share swap. Also, IDRs can be used as an instrument to structure various investments and acquisition transactions in India. With the option of being redeemed for equity shares of the Issuing Company, IDRs may prove to be a useful instrument for the Issuing Company to raise capital without actually providing management control to financial investors, while the investor still has economic interest in the Issuing Company along with an opt ion to redeem IDR for equity shares at a later date, after the initial lock-in of one year from the date of issue of the IDRs.
ü Provides an exit route for existing shareholders: At present it appears that the regulations governing IDRs do not require an Issuing Company to make a fresh issuance of equity shares in order to list IDRs. Therefore, existing shareholders of Issuing Company can seek an exit by tendering their shares as underlying equity shares for issuance of IDRs.
ü Enables participation of Indian employees: Employees of Indian subsidiaries of foreign companies have an additional option to participate in the capital of such foreign company by subscribing to IDRs as part of a foreign company’s employee benefit scheme. Subscribing to IDRs provides a more flexible option than subscribing to the equity shares of the foreign company which involves compliance with foreign exchange regulations. While, the Issuing Company has the benefit of expanding its investor base, with the help of IDR offerings.
ü No obligation to pay an assured return: Unlike debt instruments, the Issuing Company is not under any obligation to provide assured returns on IDRs. As IDRs derive their values from the underlying common equity shares of the Issuing Company, this provides flexibility to the Issuing Company in managing its cash flow situation.
ü Provides access to well regulated, open Indian stock markets: The history of Indian stock markets goes back to the year 1875, when the first stock market ‘The Native Share and Stock Brokers' Association’ was established in Bombay, now known as The Bombay Stock Exchange. Since then Indian stock exchanges have come a long way. In 1995, the BSE moved from a physical trading system to a seamless electronic platform, which provided the necessary fillip to the growth of the Indian stock markets. The year 2006 saw the introduction of corporatization and demutualization of stock exchanges. Corporatization and demutualization of stock exchanges have ensured proper demarcation between the ownership and management of the stock exchanges and paving the way for industry professionals to manage the governance of the stock exchange in a proficient manner.
ü An efficient system comprising regulated market intermediaries: Market intermediaries’ viz. stock brokers, custodians, depositories and clearing houses are equally important constituents of the Indian stock markets as they are highly sophisticated and adequately regulated by SEBI and thus ensure seamless functioning of the Indian stock exchanges.
7.2 Benefits to investors
The benefits of IDRs for investors are as follows:
ü Portfolio Diversification: Indian investors can achieve a better investment portfolio diversification, as IDRs provide the ability to invest in foreign companies, a completely new asset class, without the restrictions stipulated under LRS or the ODI Regulations.
ü Ease of investment: Indian investors interested in investing in foreign companies in the pre-IDR regime were required to open brokerage accounts in foreign countries and remit money. The need for knowledge of the prevalent and necessary procedures relating to trade, clearance and settlement was therefore essential. IDRs being traded on the Indian stock exchanges eliminate these complications and improve the ease of investing in foreign companies for Indian investors.
ü Better enforcement of investor rights: Prior to listing IDRs, SEBI requires the Issuing Company to enter into a listing agreement with the Indian stock exchanges. The Issuing Company is required to adhere to conditions prescribed under the listing agreement and continuous disclosure norms. By virtue of the compliance with the terms of the listing agreement by the Issuing Company and the stock exchanges (regulated by SEBI), better enforcement of investor rights is possible as compared to enforcing rights in a foreign jurisdiction.
ü Arbitrage opportunity: An Indian investor with the ability to hold both the underlying equity shares as well as the corresponding IDR would be in position to take advantage of any arbitrage opportunity arising out of unsynchronized price fluctuations in both types of securities.
ü Disclosure standards at par with IOSCO standards: The disclosure standards specified for IDRs are at par with the guidelines prescribed by the International Organization of Securities Commissions (“IOSCO”) relating to cross-border offerings and initial listing of foreign issues.
The utility of Depository Receipts as an instrument for raising capital is acknowledged worldwide and has been extensively used by companies to raise capital in overseas jurisdictions. In the Indian context, the concept of raising capital through the Depository Receipts route is not novel to Indian companies either. Several Indian companies viz., Rediff, Infosys have tapped overseas pool of capital by listing ADRs/ GDRs of their companies on overseas stock exchanges. With the introduction of the IDR regime, not only is there an additional avenue for foreign companies to raise capital in India, but also, an additional flexible route for Indian investors to invest in global corporations in an easy manner. With the ambit of eligible investors being expanded to include foreign investors as eligible investors to subscribe to IDRs, one can expect a surge in popularity of IDRs as a route for foreign companies reaching out to India as a destination for raising capital.
Furthermore, from the recent amendments it can be said that the Government and regulatory authorities have been taking progressive steps to facilitate issue of IDRs by doing away with several stringent requirements that were applicable to certain category of investors, viz., domestic mutual funds, NRIs and FIIs from investing in IDRs and by introducing simplified procedure for listing of IDRs. SEBI can be credited for being prompt in aligning its regulations with the policy of the Government in respect of IDRs, with the RBI following suit.
The IDR framework, however, is at a nascent stage and clarity is required on several issues such as the circumstances in which IDRs can be delisted from the stock exchanges and the procedure thereof. Also, from an investor perspective, appropriate guidelines are necessary in respect of the extent of SEBI’s intervention for protecting the interest of investors in the event of a merger of the Issuing Company with another company, or delisting of Issuing Company in its home jurisdiction.
In an ideal economic environment, a progressive regulatory regime and immense pool of untapped capital, the Indian markets are bound to get the attention of foreign companies as a favourable destination to raise capital.
ü Relevant provisions of - The Depositories Act, 1996
ü Relevant provisions of – The Companies Act, 1956
2. RULES AND REGULATIONS:
ü Companies (Issue of Indian Depository Receipts) Rules, 2004 by Central Govt.
ü SEBI (Issue of Capital & Disclosure requirements) Regulations, 2009
ü Relevant provision from SEBI (Merchant Banker) Rules, 1992
3. Relevant CIRCULARS:
ü RBI/2009-10/106 A.P. (DIR Series) Circular No. 05 dated 22 July, 2009 on operational guidelines which govern and facilitate investment by various categories of investors in IDR issuances.
ü RBI/2012-13/178 A. P. (DIR Series) Circular No. 19 August 28, 2012 on Issue of IDRs Limited Two way fungibility.
ü Relevant extract from Consolidated FDI Policy issued by Department of Industrial Policy and Promotion, Ministry of commerce and Industry, Government of India, Effective from April 10, 2012.
ü Concept of Indian depository receipts, T.V Ganesan, available at: http://www.taxmann.com/fileopener.aspx?surl=http://www.taxmann.com/taxmannflashes/flashart31-7-10_1.htm&searchid=3456 last visited on 9 September, 2012
ü What are depository receipts?, Financial Express, last visited on September 7, 2012
ü Indian Depository Receipts, http://www.kgcindia.com/publication/Overview Indian Depository Receipts.pdf
# Concept of Indian depository receipts, T.V Ganesan, available at: http://www.taxmann.com/fileopener.aspx?surl=http://www.taxmann.com/taxmannflashes/flashart31-7-10_1.htm&searchid=3456
# [Section. 605A. Offer of Indian Depository Receipts, (The companies Act, 1956). Notwithstanding anything contained in any other law for the time being in force, the Central Government may make rules applicable for-
(a) the offer. of Indian Depository Receipts;
(b) the requirement of disclosures in prospectus or letter of offer issued in connection with Indian Depository Receipts;
(c) the manner. in which the Indian Depository Receipts shall be dealt in a depository mode and by custodian and underwriters;
(d) The manner of sale, transfer or transmission of Indian Depository Receipts, by a company incorporated, or to be incorporated outside India, whether. the company has or has not been established or, will not establish any place of business in India.], Ins. by Act 53 of 2000, sec. 216 (w.e.f. 13-12-2000).
# 2.1.8 (Definitions), Chapter 2, Consolidated FDI policy w.e.f April 10, 2012, issued by Department of industrial policy and promotion, Ministry of commerce and industry, Government of India.
# Section 2 (e), Indian Depository Act, 1996
# What are depository receipts?, Financial Express, last visited on September 7, 2012
# Rule 3 (i) (d), Company (Issue of Indian depository receipts), 2004
# Rule 3 (i) (e), Company (Issue of Indian depository receipts), 2004
http://www.rbi.org.in/scripts/BS_CircularIndexDisplay.aspx?Id=7530; issue of IDRs – Limited two way fungibility, RBI/2012-13/178 A. P. (DIR Series) Circular No. 19, dated 28th August 2012.
# Rule 4, Companies (Issue of IDR’s) Rules, 2004
# Rule 5, Companies (Issue of IDR’s) Rules, 2004
# Rule 6, Companies (Issue of IDRs) Rules, 2004
# Rule 7, Companies (Issue of IDRs) Rules, 2004
# Rule 8 Companies (Issue of IDRs) Rules, 2004
# Rule 9, Companies (Issue of IDRs) Rules, 2004
# Rule 10, Companies (Issue of IDRs) Rules, 2004
# Rule 11, Companies (Issue of IDRs) Rules, 2004
# Rule 12, Companies (Issue of IDRs) Rules, 2004
# Rule 13, Companies (Issue of IDRs) Rules, 2004
# Rule 14, Companies (Issue of IDRs) Rules, 2004
# Rule 15, Companies (Issue of IDRs) Rules, 2004
# Regulation 97, ICDR Regulations, 2009
# Merchant Banker “…means a Merchant Banker as defined in clause (e) of Rule 2 of SEBI (Merchant Bankers) Rules, 1992” Presently, Merchant Bankers are regulated as per SEBI (Merchant Banker) Regulations, 1992 as per which Merchant Banker is defined as: “…means any person who is engaged in the business of issue management either by making arrangements regarding selling, buying or subscribing to securities or acting as manager, consultant, adviser or rendering corporate advisory service in relation to such issue management”
# Rule 3 (i) (f), IDR, Rules 2004 -“…means a banking company which is established in a country outside India and which acts as custodian for the equity shares of Issuing Company, against which IDRs are proposed to be issued by having a custodial arrangement or agreement with the Domestic Depository or by establishing a place of business in India.”
# Rule 3 (i) (b), IDR, Rules 2004 - “…means custodian of securities registered with the SEBI and authorized by the issuing company to issue IDRs.”
# Regulation 98, ICDR Regulations, 2009
# Rule 13, IDR Rules, 2004
# Indian Depository Receipts,
# The adjustment of the various rates of taxation was done in response to inflation and to avoid bracket creep. Indexation is a method of tying taxes to an index in order to preserve the public's purchasing power during periods of inflation.
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