SEBI’s Regulating Unlisted Companies Might be a Gold Mine for You

SEBI has been on a roll to reform the securities and commodity market in India with many upgrades. From tightening disclosure requirements in Foreign Portfolio Investors (FPI) to reducing the time period from six to three days for shares listing in public issues, changes have been frequent from their end. SEBI has been trying to bring more transparency for investors, either regarding IPO pricing or disclosing more information about unlisted companies/shares.

It is not yet officially decided when the Securities and Exchange Board of India will bring out regulations for more transparency of unlisted companies. At present, unlisted companies, both private and public, are not as tightly obligated to reveal information about their financials as listed companies.

Here is a list of information which unlisted companies are asked to disclose in India:

• Financial statements on an annual basis.
• Name and qualification of the board of directors of the company.
• Shareholders' names and their holdings.
• Material events like changing the business model or future plans.

Based on this limited data, unlisted companies raise funds from angel investors or via crowdfunding platforms like Tyke Invest. The difference between these two options is that in case of angel investing, investors directly ask for the company’s data as a large sum of money is involved. Whereas, in case of the crowdfunding platforms, hardly any crucial data is provided by the company. The data present in crowdfunding platforms have certain issues which will be discussed further in the article.

To bring more transparency and boost startup investments, SEBI plans to bring out changes that would make unlisted companies release more valuable information to give investors a level playing field.

In this article, several platforms that provide retail investors options to invest in unlisted companies are discussed. Along with this, the benefits investors may receive from the disclosure of valuable information about unlisted companies will also be mentioned.
But before that, let’s see which official bodies have the authority to regulate unlisted companies in India and to what extent that regulation extends.

Bodies & Laws to Regulate the Unlisted Companies

Companies, both listed and unlisted, private and public, perform a myriad of functions under different categories. For example, stock exchange governance and formulations of laws regarding investment activities are handled by SEBI. Similarly, the Ministry of Corporate Affairs handles the maintenance of a meticulous business environment in a company.

Let's jump into the description of some of these bodies that regulate the corporate world and see how much impact they have on unlisted shares:

SEBI: The Regulatory Police 🚨

Established in 1992, SEBI has been playing the major role of maintaining peace in India's finance market. To provide a fair market for investors and to protect their interests, SEBI is often on the lookout for companies and its related parties’ actions. For listed companies, different sections are regulated by the SEBI. But when it comes to regulating unlisted ones, the case becomes a teenie-tiny bit complicated.

See, unlisted companies hardly disclose much information about their ins and outs, only when it’s extremely necessary to do so. We all know how some private companies has an "Investor Relations" section on their websites where they upload annual and quarterly reports. But, the quality and accuracy of these reports are subpar than the ones released by a listed company. Since the unlisted companies are not law-bound to release more information than required, they are a bit hard to regulate.
 
But every company needs funds to operate, and when the unlisted companies decide to generate capital from the public, then SEBI makes its presence known. As per the SEBI rulebook:

• "The Guidelines (Chapter 1.4) shall be applicable to all public issues by listed and unlisted companies, all offers for sale and rights issues by listed companies whose equity share capital is listed, except in case of rights issues where the aggregate value of securities offered does not exceed Rs. 50 lacs."
• Along with this, as per Chapter 10, any company, listed or unlisted, offering Convertible/Non Convertible debentures would need to follow the guidelines instructed by SEBI.
• At first, companies and officials were uncertain about whether convertible debentures and their classifications, fully and partially convertible debentures, were a part of the securities or not. If debentures were not considered to be a type of security, then they wouldn't fall under SEBI’s jurisdiction to regulate.

But, the Supreme Court's decision on the case between Sahara India Real Estate Corporation Limited ('SIRECL') and Sahara Housing Investment Corporation Limited ('SHICL"), & Ors. Vs SEBI clarified the issue. The Sahara Group came under SEBI's radar for raising funds using optional fully convertible debentures. When asked to disclose information by SEBI, the Sahara Group refused, claiming the instrument doesn't fall under SEBI's jurisdiction. So, the matter was taken to the SC.

The Supreme Court brought a landmark judgment in this 2012 case, which cleared the clouded air surrounding convertible debenture being one of the securities. Hence, they would be regulated by SEBI.

Therefore, India's market watchdog, aka SEBI, plays a prominent role in regulating unlisted companies. The possibility of expanding the disclosure rules for these companies may give SEBI a major role in this criteria.

Ministry of Corporate Affairs (MCA): The Company Watcher  👁️

The Ministry of Corporate Affairs is very much like the principal of a school overseeing different departments, from teachers' performance to students’ achievements. The MCA handles everything related to the regulation of The Companies Act. The MCA makes sure that the enterprises in India, its executives, and the operations are performed responsibly as per set regulations. Along with the Companies Act 2013, MCA also administers The Competition Act 2002, the Insolvency and Bankruptcy Code 2016, The Companies Act 1956 (predecessor of The Companies Act 2013) and several other laws.

Among the 29 chapters of The Companies Act 2013, certain chapters or schedules have been excluded for private companies. Still, unlisted companies must adhere to mandatory regulations like submitting information regarding a company’s annual report, sharing information about sudden changes in business plans for the following year and so on.

Securities and Contract Regulations Act (SCRA): The Securities Keeper 🕊️

Unlike the MCA and SEBI, SCRA is a law, not a regulatory body. The Securities and Contract Regulations Act of 1956 defines securities as stocks, shares, bonds, debentures, debenture stocks, or other marketable securities of a company. Regulating any “marketable” securities comes under the purview of SCRA. in short, all the securities bought and sold by a company would be part of marketable securities.

This means that all the unlisted public companies would come under the regulation of SCRA through debentures. This applies to both cases, whether the shares are listed on a stock exchange or not.

A Different Investment Option with Unlisted Companies

Whenever we hear the words "financial planning" or "investing", we often think about stocks. The upward and downward motion of the stock prices make up the picture in our heads. But buying or selling shares of listed companies
is not the only option for retail investors like you and me. Several viable options are available at our disposal, among which investing in unlisted companies can also be included.

You must be thinking, “Unlisted companies are not listed in any of the stock exchanges, whether NSE or BSE; that's why the name, Duh!” I agree. Retail investors don’t have many options to invest in private companies because of the humongous ticket size. Then what could a common investor do, right? The thing is, even you, a common investor with a small investment capital, can invest in unlisted companies. And no, you won’t need loads of money; you can start from a small amount of ₹5000 or more.

Still don't believe me? No problem, let me clarify some more.

You see, there are options available on crowdfunding platforms where retail investors can engage with private companies. Just not many investors are aware of these platforms.  

These platforms allow retail investors to invest with limited premiums in unlisted companies as well as support founders to raise capital for their operations. These platforms work as a mediator here by providing a bridge to connect both sides and earn in exchange for their services.

Retail investors can get returns by investing in a new option and diversifying their portfolios. On the other hand, unlisted companies could raise early seed funding or further capital for whatever projects they have planned without an IPO.  

Interesting, isn't it? So, let's see now which platforms allow retail investors to partake in unlisted companies' investment rounds.

Tyke Invest

With Karan Mehra, a former Deloitte consultant, as the founder, Tyke Invest provides an inclusive platform for both retail investors and companies. Tyke Invest has worked for startups like Amazon Web Services (AWS), Clever Tap, HubSpot, CUR8, Tagz Foods, and more. They claim to have around 10,000+ active investors at present. Tyke also offers a feature named Tyke Square, giving better liquidity and real-time market updates for successful transfers between investors and startups.

Invest Funds in Business (INFUBIZ)

INFUBIZ, short form for Invest Funds in Business, is another platform that allows investors to pool their capital in startup funding rounds. They have worked for startups like Credmate, Laurik, TuttiFrutti, and more. INFUBIZ is popular for their robust technology, which aids both parties in meeting their goals easily.

How Disclosure of More Information from Unlisted Companies Will Help You?

In India, despite being present in such a large number (8 million in the equities market as per NSE), retail investors don’t have as much influence in the market as one may think. This tweet from Nikhil Kamath, co-founder of Zerodha, will help you see the situation in the present market.

Despite being educated on the importance of financial planning, retail investors are a lot more hesitant due to a lack of information.

While the presence of crowdfunding platforms is surely giving retail investors an additional option for wealth building, they have their limitations. Since unlisted companies (mostly startups) have little to no obligation whatsoever to reveal in-depth information, they give minimum information to these crowdfunding platforms. In turn, these platforms forward that information to the investors after said investor completes certain registration requirements. It’s like shooting an arrow in the dark since investors are not well aware of how the company is doing and its associated risks.

See, what the issue here is? The information from startups looking to raise funds via crowdfunding platforms is already sparse, but that, too, is not fully accessible to investors before signing up for the startup. Thus, this particular hurdle makes funding in these companies complicated and risky. This is one of the reasons why retail investors are not too comfortable with indulging in this investment option.

Now, the startup industry is one of the fastest developing and in-demand sectors of the business ecosystem in India. Foreign and Super Investors from India are always looking for a good startup company to invest in. Just check the below infographic demonstrating the rise of investments in Indian startups over the years.

The graph above represents that the startup investments in India in 2021 were booming, with a figure as high as 3491.4 crore. High-Networth investors were interested in investing in new businesses, and the field looked promising. But then, Covid-19 hit and just like every other business, the startup investments took a sharp decline. Angel investors were unwilling to bear the risk and thus took their funds out of the startup businesses, causing a lack of the required capital.

There is plenty of room for investment options in the startup industry. Along with venture capital firms and angel investors, retail investors can also contribute to giving this sector a phenomenal boost. This way, India’s startup industry would be able to perform well and wouldn't have to take serious measures like laying off employees to handle their operations with limited resources. Yes, this was a pun to the layoff train several businesses like Byju’s did and are still doing.

All the sector is lacking is a much more defined well of information from the unlisted (mostly startup) companies. More information would give retail investors a better understanding of what the companies are all about, hence aiding them in making the ultimate decision to invest or not.

Another advantage of the disclosure of information would be the availability of several more platforms like INFUBIZ for investors to utilise. This could lead to the existing platforms trying to perform well and offer better fee structures to avoid being run out by competitors. Investors also benefit from having the freedom to choose a platform that suits their needs the most without having to be stuck with the same platforms.

Plus, crowdfunding platforms use auditors to assess the data of companies. With the direct access of information from companies to investors, the use of the middleman (auditors) will be reduced considerably. This way, the possibility of human error and additional expenses would also reduce for the investors.

The Bottom Line

The regulation of unlisted companies has always been a sensitive matter, as even SEBI and MCA don’t have much authority over them. Crowdfunding platforms like Tyke Invest helped clear the air that only upper-class people could invest in startups. But, the speed of this happening is much slower and fickle than is required to develop India’s financial market.  

Until investors don’t have access to important information, investing in unlisted companies will always be much riskier than other options. It would be more risky than necessary, too. Plus, the need for more disclosure from private companies would help in weeding out the bad fruit among thousands of businesses intending to misuse the public’s funds. The companies who actually wish to co-develop with the investors would dare reveal the required information as per SEBI. Let’s hope that SEBI speeds up their plans in this direction and brings some clarity for investors interested in this sector.

If you want to read SEBI-related articles, you must check these popular articles:

• SEBI's Categorization and Rationalization of Mutual Fund Schemes
• SEBI's New Rule for Mutual Funds NAV
• SEBI's New Multi-Cap Fund Rule: What Lies Ahead?
• SEBI's Regulating Unlisted Companies Might be a Gold Mine for You