Pricing of shares in the case of preferential allotment: – Whether should be as per ICDR regulations?

In 2021, the Reserve Bank of India refused to give regulatory approval to Punjab National Bank to fund the PNB Housing Finance Limited (PNB Housing) on concerns of the lender’s financial health. Due to prohibition imposed by the RBI, PNB Housing Finance proposed to raise up to INR 4,000 Crore from US-based private equity firm Carlyle and other entities.

PNB Housing Finance proposed to issue the shares to the above-mentioned entities in complying with section 62 (1)(c) of the Companies Act, 2013 and Chapter-V of SEBI (Issue of Capital and Disclosure Requirements) Regulations, 2018 on “Preferential Basis”.

Facts of the Case: –

After making an announcement to BSE and NSE regarding a board meeting held for the issue of shares on preferential basis, both the stock exchanges asked for information & documents from PNB Housing and submitted Joint Report to SEBI. After review of the joint report and further documents from PNB Housing, SEBI passed an order that PNB housing shall not act upon on issue of shares until the PNB Housing obtains report from the registered valuer in terms of Article 19(2) of the Articles of Association (AOA). Against the order of the SEBI PNB housing filed an appeal with the Securities Appellate Tribunal (SAT).

Objection raised by SEBI –

1. Proposal regarding the issue of shares on the preferential basis is ultra vires of AOA since valuation by the registered valuer had not been factored while determining the price of the preferential issue and that the AOA as it stands as on date requires the Board of Directors to consider the valuation report of a registered valuer. The report submitted by the statutory auditor was merely a certificate of calculation of price and the same is not in accordance with the SEBI ICDR Regulations
2. Since valuation report is given by statutory auditor, it is not permissible under Section 144 of the Companies Act, 2013 that deals with the services that cannot be rendered by the auditor.
3. Valuation under the AOA determines the value and ICDR regulations determine the minimum price for issuance of the shares.

Representation by the PNB Housing –

1. SEBI has limited jurisdiction only to examine pricing of preferential issue is in compliance with the price discovery mechanism as provided under Regulation 164 of the ICDR Regulations.
2. Section 62(1)(c) of the Companies Act read with the second proviso to Rule 13(1) of the Companies (Share Capital and Debenture) Rules, 2014, a listed Company was not required to obtain a valuation report from a registered valuer and that the pricing of the shares was required to be done as per the price discovery mechanism provided under Regulation 164 of the ICDR Regulations.

In a reply to the representation given PNB housing, SEBI stated that it has jurisdiction to issue directions to protect the interest of the investors and shareholders. There would have been a change in control as per SEBI Takeover regulations leading to open offer. Further, the book value of the Company is Rs. 540/- per share, price determined as per SEBI ICDR is Rs.384.60 and price at which shares are being offered is Rs. 403.22/- which is unfair. SEBI further stated that pricing mechanism given under SEBI ICDR is for the computation of the minimum price and the company can determine the higher price using any other method.

Two different opinions by SAT members –

The presiding officer opined that the pricing mechanism given under SEBI ICDR Regulations is a complete code itself and no external aid is required for the same. He further stated that there is nothing under the ICDR Regulations and especially Regulation 164 which specifies that the words “shall not be less than” to mean not less than the price determined by the registered valuer. He further opined that there cannot be two kinds of mechanism or two sets of procedures for valuation of the price of the shares in a case of a listed Company which has a provision under its AOA for valuation of the shares through a registered valuer and in the case of another listed company which has no such provision in its AOA and having two different procedure for the valuation is contrary to the provisions of the Companies Act, 2013. Presiding Officer also mentioned that SEBI has passed the order against PNB Housing without giving notice or opportunity of being heard is violative of Article 14 of the Constitution of India.

Judicial Member dissented and opined that Regulation 164 of the ICDR provides for the floor price below which the company cannot issue its shares. Articles of association are contracts between the company and its members. In case AOA provides for an additional method of valuation of shares, in that case, there can be two methods of valuation and the higher the valuation would be the valuation of the shares for the purpose of preferential allotment of shares. There is no bar in SEBI Act, to pass order even though they are extraordinary in nature. SEBI is mandated to protect the interest of the investors.

Amendments in ICDR Regulations –

To resolve conflicting opinions on the matter, SEBI amended the pricing provisions for preferential issue under ICDR Regulations w.e.f January 2022 as follows –

1. Method of determination of floor price (New proviso to regulation 164) –

SEBI has clarified that if the AOA of the Company provides for a method for determination of price, and if the price discovered through such method is higher than the floor price computed in accordance with the SEBI ICDR Regulations, price discovered through method prescribed in AOA shall be considered as floor price.

2. Preferential Allotment resulting in Change in control or allotment of more than 5% shares  

(New Regulation 166A)

1. If the preferential issue results in change in control or allotment of more than 5% of the post issue fully diluted share capital, it shall require a valuation report from registered valuer and the floor price computed in accordance with ICDR Regulations or price discovered under Registered Valuers report, whichever is higher shall be considered as minimum price.
2. Valuation report from the registered valuer shall be published on the website of the issuer.
3. Preferential Issue resulting in change in control of the issuer shall only to be made pursuant to reasoned recommendation from the committee of Independent Directors and such meeting shall be attended by all independent directors.

Conclusion –

By making amendments in the ICDR regulations SEBI has clarified that for preferential issue of shares, valuation should be higher of valuation as per ICDR regulations or other methods based on provisions in AOA. Further, in case of change in control, reasoned recommendation of independent directors and publication of valuation report on the website of the Company will enhance the good corporate governance practices. This amendment is also in the interest of other investors of those companies which are having good book value of shares but not performing well on the stock exchanges. Though SEBI has made amendments, Rule 13(1) of the Companies (Share Capital and Debenture Rules), 2014 still contains provision that in case of listed company valuation report is not required which may create confusion.