PE investors in companies headed for an IPO will have to give up unique rights without any guarantee of exit

Previously, they were only had to give up their rights at the time of listing; now, the new criteria require them to do so prior to receiving approval for listing.

According to market sources, PE investors can agree to additional conditions or guarantees to safeguard their interests.

In order to have a voice in how their investee firms are managed without the guarantee of an exit via a public listing, private equity (PE) investors will now need to give up their unique rights in investee companies that are scheduled for initial public offerings (IPOs).

They were only required to give up these rights at the time of listing prior to the new regulations that the Securities and Exchange Board of India (SEBI) published.

Lead managers (LMs) of public issues are requested by the market regulator's guidelines to make sure that any company or individual has had any special rights revoked prior to the submission of the revised draft red herring prospectus (UDRHP).

It reads: "LM is advised to ensure that any entity/person claiming any special right under AoA or SHA, the same should be cancelled before UDRHP." A shareholder's arrangement is a SHA, and articles of association are AoA.

Manshoor Nazki, a partner at IndusLaw, said that under the new order, PE investors would have to give up their special rights even in the absence of an assurance that the firm will be listed on stock markets and that the fresh share sale will proceed.

It is possible to submit the UDRHP months ahead of the listing.

A firm filing for listing often submits a draft red herring prospectus (DRHP). Subsequently, SEBI requests any necessary clarifications from the lead manager on the DRHP. Once this is done, the UDRHP is submitted and the market regulator authorizes the share issuance. The firm may decide to list at any point during the year that follows the endorsement since this permission is only good for a full year.

They can decide not to list at all if the market is unfavorable. Unless such rights are restored, the PE investor is therefore left with shares in the firm but without the ability to safeguard their investment," noted Nazki.

PE investor Sindhuja Kashyap, a partner at King Stubb & Kasiva, elucidated the significance of these unique rights.

"Special rights provide PE investors with influence over key company decisions, protective provisions way safeguard their investment, ensuring their investment is being handled in a way that conforms to their strategic objectives," she said.

"If these special rights are taken away, PE investors lose their capacities to influence key decisions while safeguarding their interests, potentially leading to decisions that could negatively impact their stake in the business, making them no different than a shareholder with minimum risk in the company," she said.

Senior partner at IndiaLaw LLP Shiju PV agreed, stating that given their limited managerial influence over the business, PE funds and other financial investors had good reason to demand these rights while the firm was privately owned.

Nevertheless, the experts don't think the new policy will have a big impact on PE interest in domestic projects.

As Kashyap said, there could be a short-term effect as PE funds reevaluate the risk-reward ratio of investing in firms that are about to go public without the special rights safety net. However, over time, PE investors will be able to overcome this by negotiating new conditions or guarantees.

Kashyap even sees the potential for the emergence of new investment schemes or models that do not depend on special privileges.