Regulating capital formation Will increased transparency aid investor confidence?
By Ahtasam Ahmad
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apital formation has become an essential part of the strategy for growing modern day businesses. The capital markets provide these business opportunities to raise financing to embark on a journey of growth and expansion. However, the corporation at times, blinded by self interest, may mislead investors by painting a rosy picture of their business prospects. In these cases, the role of the regulator is important as it recommends legislation to protect the interest of investors while also ensuring that ease of doing business is not compromised in the process. Security Exchange Commission of Pakistan (SECP) in an attempt to achieve the aforementioned, has published a concept note to enhance the transparency of further issue of share capital by moving towards a more disclosure based regime while also streamlining the process by benchmarking against comparable international markets. The experts in the subject matter have analyzed it to be an attempt to revamp a regulation that was becoming obsolete. However, they have criticized the lack of use cases presented by the commission in its proposal.
The methods available for further issue of share capital
There are multiple avenues for existing companies in Pakistan, especially the listed ones, to
ANALYSIS
raise further equity capital. The most popular one is the right issue which has enabled the listed companies to raise around Rs 49 Billion during the current year as per SECP. Right issue, as the name suggests, gives the right to the existing shareholders to subscribe to additional capital being offered. The offer is made in proportion to the existing holding pattern of the shareholders and thus, prevents dilution of control of the existing investors. A method, other than right issue, that the law permits the companies to raise equity capital through is offering equity to private investors. This method also enables the company to accept non-cash consideration for shares issued. This method has also been used in case of debt restructuring that enables the company to issue shares to financial institutions as a repayment of its debt obligation. Further, the Law of the land also provides for the issuance of stock options to employees. This allows the company to raise capital while simultaneously offering an incentive to the workforce by enabling them to buy shares at a preferential rate.
Regulation for further issuance of share capital
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t was permissible for the companies under the Companies Act 2017 to raise further share capital subsequent to initial public offering or the capital raised at the time of incorporation. However, the procedural details for such were missing which led to each entity
itself shaping up the procedures of raising capital. Therefore, to standardize the way equity was raised and to mitigate risk, the SECP published the further issue of share capital regulation in 2018 and an updated version in 2020. The aim of the aforementioned regulations was to streamline the process of capital formation while also enhancing investor confidence through steps like detailing about the purpose of raising capital and the utilization of proceeds.
Triggers and the regulatory amendments
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hile the existing regulations helped standardize the capital formation structure, they failed to address some key issues. These included; minimal disclosures for right issues which in cases were as high as 1000% of the existing share capital, No provision was there for cancellation of an issue, Shortcomings in the valuation reports in cases where the consideration received was other than cash (e.g. shares issued to purchase a manufacturing plant), procedural complexities in employee share issuance. In order to counter these issues a number of changes are proposed to the regulation by the SECP. One of them is an adoption of disclosure-based regime that as per the commission includes, preparation of offering documents containing enhanced disclosures, seeking public comments, comments of the Apex and Front-line regulators and publishing final offering document after incorporating the comments.
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