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India’s markets regulator has made several proposals for startup IPOs in a paper it released on Tuesday. One of these is capping the amount of money startups raise from IPOs that they can use for mergers and acquisitions. Another is increasing the lock-in period for anchor investors from 30 days to 90 days.

Sebi proposes a cap on IPO proceeds that startups can use for acquisitions

The Securities and Exchange Board of India (Sebi) has proposed to limit the money raised from IPOs that startups can use for mergers and acquisitions (M&As), unless takeover targets are explicitly identified beforehand. This comes in the wake of blockbuster IPOs by Indian startups such as Zomato, Paytm and Nykaa.

The proposal: “It is proposed to prescribe a combined limit of up to 35% of the fresh issue size for deployment on such objects of inorganic growth initiatives and GCP (general corporate purpose), where the intended acquisition [or] strategic investment is unidentified in the objects of the offer,” Sebi said in a discussion paper on Tuesday.

Why? “Raising funds for unidentified acquisitions leads to some amount of ambiguity in the IPO objects,” Sebi said in the paper, inviting stakeholders’ comments on the proposal by November 30.

Most offer documents cite acquisition plans without naming likely targets. Sebi noted that many startups, unlike traditional manufacturing companies, are asset-light and do not need funds for fixed assets and capital expenditure. Their growth comes from acquiring new customers and technologies. Sebi rules require an issuer to state the objects of an IPO in the offer document.

Sebi said a limit would not apply if the proposed acquisition has been identified and specific disclosures about such investments were made in the offer document.

Other proposals: The paper also proposed an increase in the lock-in for anchor investors in startup IPOs from 30 days to 90 days. Sebi is of the view that this would give more confidence to other investors.

Currently, companies can allocate 60% of the portion meant for qualified institutional buyers (QIBs) to anchor investors on a discretionary basis, out of which one third is reserved for mutual funds. The allotment to anchor investors is made a day prior to the issue opening date.

Sebi also proposed that IPO proceeds used for “general corporate purposes’ be monitored. Companies may need to disclose this in their monitoring agency report. Currently, companies are not required to specify exactly how they will use this money.

In the IPOs of companies where there are no identifiable promoters, divestment of stakes by significant shareholders (holding more than 20%) be capped at 50% of their pre-issue holding, Sebi’s paper proposed.

And for significant shareholders — including private equity funds — that sell shares in the offer-for-sale component of IPOs, the paper proposed that their remaining post-issue shareholding be locked in for six months from the date of allotment in IPO.

“Acquisitions by new-age technology companies are going to be an increasing trend and it is important for them to have ready cash to move swiftly in line with market conditions,” said Ausang Shukla, managing director and co-head, investment banking, Ambit. “A cap on this may limit their options to make such acquisitions in tougher market conditions, which may be the ideal time to make such acquisitions.”

Reaction: Investment bankers said many startups opt for IPOs primarily to give liquidity to early stage investors. Investment banking expert said, “Acquisitions by the new-age technology companies are going to be an increasing trend and it is important for them to have ready cash to move swiftly in line with the market conditions. A cap on this may limit their options to make such acquisitions in tougher market conditions, which may be the ideal time to make such acquisitions.

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