SEBI has come up with a circular (Circular No. CFD/DIL/3/2011, dated 03 June 2011) on Redemption of Indian Depository Receipts (“IDRs”) into Underlying Equity Shares (the “Circular”).
A legal framework was created by SEBI, RBI and the Ministry of Corporate Affairs (“MCA”) for the issuance and listing of IDR’s. Pursuant to this Standard Chartered PlC came out with an IDR issue in May, 2010 and the same were listed on BSE and NSE. It is pertinent to note that in the terms in the disclosures in the offer documents it was mentioned that pursuant to the RBI circular (RBI/2009-10/106 A.P. (DIR Series) Circular No. 05) dated 22 July 2009, IDRs are not redeemable into underlying equity shares before the expiry of a one-year period from the date of issue of the IDRs. The SEBI and the RBI circular states that automatic fungibility is not permitted therefore fungibility of IDRs into the underlying shares would be permitted only after the expiry of the one year period from the date of issue of the IDRs and subsequent to obtaining RBI approval on a case-by-case basis. Further, two-way fungibility (the ability to purchase existing shares on the London Stock Exchange and/or the Hong Kong Stock Exchange and deposit them into the IDR programme) is not currently permitted. Additionally, in terms of the RBI Circular, at the time of redemption/conversion of IDRs into underlying shares, the Indian holders (persons resident in India) of IDRs are required to comply with the provisions of the Foreign Exchange Management (Transfer or Issue of Any Foreign Security) Regulations, 2004.
Instructions in the Circular
Since the one year period is nearing completion a framework has been put in place for redemption of IDR’s. The existing regulatory framework provides only for redemption but not for fungibility. Therefore allowing redemption in the absence of fungibility would result in the reduction of IDRs in the market thereby affecting the liquidity.
In view of the above, it has been decided, in consultation with the RBI, that:
(a) After the completion of one year from the date of issuance of IDRs, redemption of the IDRs shall be permitted only if the IDRs are infrequently traded on the stock exchange(s) in India.
Explanation– For this purpose, IDRs shall be deemed to be “infrequently traded” if the annualized trading turnover in IDRs during the six calendar months immediately preceding the month of redemption is less than five per cent of the listed IDRs.
(b) The issuer company shall test the frequency of trading of IDRs on a half yearly basis ending on June and December of every year.
(c) When the IDRs are considered “infrequently traded” on the above basis, it shall be the trigger event for redemption.
(d) The issuer company shall make a public announcement in an English and Hindi language newspaper with wide circulation in the prescribed format (including brief details about the trigger of the redemption event, time period for submission of application and the approach for processing the applications) as well as notify the stock exchanges. Such announcement shall be made within seven days of closure of the half year ending on which the liquidity criteria is tested. A suitable format for this purpose shall be prescribed by the stock exchange(s).
(e) The IDR holders may submit their application to the domestic depository for redemption of IDRs within a period of thirty days from the date of such public announcement.
(f) The redemption of IDRs shall be completed within a period of thirty days from the date of receipt of application for redemption.
(g) Pursuant to such redemption, the domestic depository shall notify the revised shareholding pattern of the issuer company to the concerned stock exchanges within seven days of completion of the process of redemption.
This circular was the reason for a significant downfall in the value of the Standard Chartered PLC’s IDRs. When investors had purchased the IDR’s at the time of the initial public offer it was with the hope that they would be able to convert them into equity shares and thereby gain voting rights in the company. However with this circular this conversion is not possible as the Standard Chartered PLC’s IDR were trading at an all-time high which in turn rendered them liquid in the market. This Circular has garnered a fair share of criticism as it is felt that in the absence of convertibility no investor would like to buy IDRs.