IDRs: can they be instruments of choice?

By Ragini Aiyer, Khaitan & Co
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Indian Depository Receipts (IDRs) allow companies incorporated outside India to raise funds from the Indian capital market. They are depository receipts that are denominated in Indian rupees and created by the domestic depository in India against the underlying equity shares of the issuing company.

Ragini Aiyer Senior associate Khaitan & Co
Ragini Aiyer
Senior associate
Khaitan & Co

IDRs, which were modelled on the concept of global depository receipts and American depository receipts, were introduced by the Companies (Amendment) Act, 2000. To facilitate the issue of IDRs by foreign companies and to permit investors to purchase, possess, transfer and redeem them, the Reserve Bank of India (RBI) made the Companies (Issue of Indian Depository Receipts) Rules, 2004 (IDR Rules), operational in July 2009.

The issue of IDRs is governed by the following: (i) the Companies Act, 1956; (ii) the IDR Rules; (iii) chapter X of the SEBI (Issue of Capital and Disclosure Requirements), Regulations 2009; and (iv) the circulars and notifications issued by the RBI in this regard.

Who can invest in an IDR?

Foreign institutional investors (FIIs), Securities and Exchange Board of India (SEBI) approved sub-accounts of the FIIs that are registered with SEBI, non-resident Indians (NRIs) subject to Foreign Exchange Management (Transfer or Issue of Security by a Person Resident Outside India) Regulations, 2000, non-institutional investors and retail individual investors can invest in IDRs. Insurance companies cannot hold IDRs.

Who can issue an IDR?

An issuer proposing to issue IDRs must possess the following: (a) pre-issue capital and free reserves of at least US$50 million and a minimum average market capitalization of at least US$100 million; (b) continuous trading track record or history on a stock exchange in its home country of at least three out of five years immediately preceding the issue; (c) a track record of distributable profits; (d) a history of listing on a stock exchange in its home country; (e) a clean record regarding prohibitions by any regulator on issue of securities by the issuer; and (f) a track record of compliance with the securities regulator in its home jurisdiction.

Conditions for its issue

While the size of the IDR issue must be at least ₹500 million (US$11 million), at least 50% of the issue must be allotted to qualified institutional buyers and the rest to non-institutional investors and retail individual investors on a proportionate basis. The number of underlying equity shares offered in a financial year through IDRs must not exceed 25% of the post-issue number of shares of the issuer. Those applying for it must buy at least ₹20,000.

Redemption and fungibility

IDRs cannot be redeemed for their underlying equity shares within the first year of issue. The proceeds of the issue of the IDRs must be repatriated outside India to the foreign company immediately after the IDR is issued. IDRs are not automatically fungible into underlying equity shares.

Pros and cons

IDRs enable companies from emerging markets and other developing countries to raise funds from India. The initial rules regarding eligibility for issue of IDRs were considered stringent and, as such, beyond the reach of companies from emerging markets and other developing countries. These rules were relaxed in July 2007. But even though the eligibility requirements have been eased, it may still be difficult for small and mid-sized companies from developing and emerging markets to meet the eligibility rules.

Issuers also face the challenge of curbs on redemption during the initial one year lock-in period. Although they are freely transferable they cannot be redeemed into underlying equity shares until a year from the date of the issue of the IDR. As a result, automatic fungibility can be a problem during this period.

What next?

India is one of the world’s fastest growing and largest economies, and, as the country’s capital markets mature, it could become the next destination for many companies looking to raise funds. As the investor base broadens, IDRs would gain in popularity as they will enable Indian investors to invest in foreign companies within the Indian legal framework without the complications and hassles of knowing foreign laws and procedures.

However, these are early days and not many companies have ventured in this direction. Little is known about the practical difficulties that might face the issuer. Standard Chartered is the only company to have issued IDRs. What is yet to be seen is whether more companies will follow and, if they do, whether the regulators will further dilute the rules and regulations surrounding IDRs to encourage a larger number of issues. Only time will tell.

Ragini Aiyer is a senior associate at Khaitan & Co in Mumbai. Khaitan & Co is a full-service law firm with offices in Bangalore, Kolkata, Mumbai and New Delhi.

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