With the government set to permit the direct listing of Indian companies on overseas stock exchanges, Frost Brown Todd’s Bobby Majumder and David Zylka set down the advantages of going public on US and UK exchanges
In recent years, there has been a substantial uptick in the number of companies raising capital and/or listing their securities for trading on overseas markets, particularly the London Stock Exchange (LSE) and Alternative Investment Market (AIM) in the UK, and both the NYSE and Nasdaq in the US. In 2020 alone, of the 198 initial public offerings (IPOs) conducted in the US, 51 were of foreign issuers.
At the same time, Indian companies have been raising increasing amounts of capital from foreign direct investment (FDI) via private equity, venture capital and strategic investors. In FY2020-21, FDI into Indian companies totalled USD81.72 billion, which was a 10% increase over the previous fiscal year. As those investors seek to harvest value from their investments, they are encouraging their portfolio companies to raise capital through public offerings and list their securities for trading on domestic and overseas stock markets.
Historically, Indian companies raised capital in the UK and the US through the issuance of global depository receipts (GDRs) and American depository receipts (ADRs). To encourage FDI in domestic companies and to provide liquidity, the government of India recently enacted the Companies (Amendment) Act, 2018, permitting the direct listing of Indian companies on overseas stock exchanges. While the rationales for deciding to undergo the registration and offering process are varied, given the economic advantages provided by the US and UK exchanges, as well as the regulatory concessions granted to foreign-based companies with respect to cross-listing endeavours, there is a clear incentive for doing so.
ADVANTAGES OF US LISTINGS
The primary advantages for Indian companies to list on the US securities markets include:
1. Higher valuations. The valuation multiples for companies listed on US exchanges are significantly higher when compared to non-US exchanges. As of September 2021, the NYSE had an aggregate market capitalisation of USD28.36 trillion and the Nasdaq USD22.33 trillion. These figures reflect a significant market capitalisation advantage when compared to other markets, such as the Shanghai Stock Exchange (SSE, market cap USD7.81 trillion) and the Tokyo Stock Exchange (JPX, market cap USD6.93 trillion).
2. Liquidity. In addition to greater access to capital generally, the monthly trading volume and extended trading hours of US exchanges provide a significantly higher level of access to the market when compared to non-US exchanges. Specifically, such greater market volume and extended access provide holders of foreign-based securities listed on US exchanges greater access to the market and to trading partners.
3. Credibility and accessibility. Given the long operating histories, stringent regulatory controls, and investment into market infrastructure, US exchanges provide companies and traders with a high level of credibility, security, and accessibility when it comes to transacting on the exchanges.
ADVANTAGES OF UK LISTINGS:
1. Smaller companies are welcome. On the AIM, significantly smaller-sized companies are able to successfully complete IPOs compared to the US markets. In recent years, the average market capitalisation of an AIM company at IPO has been USD120 million, compared to nearly USD1 billion on the Nasdaq.
2. More capital raised in London than other European markets. London has more international companies than any other major exchange. In 2019, 30% of all the world’s cross-border IPO capital was raised in London, and the LSE is Europe’s largest stock exchange. In 2020, there were 30 IPOs on the LSE, raising about USD12 billion. That represents three times more in IPO proceeds than the next most active European exchange.
In addition to the economic advantages driving the influx of foreign-based companies listing on the US and UK exchanges, such companies are also being drawn specifically to the US markets as a result of certain preferential regulatory concessions granted by the Securities and Exchange Commission (SEC) to foreign-based companies that qualify as foreign private issuers (FPIs). These concessions include, but are not limited, to:
1. Reporting. FPIs are typically not required to file public quarterly financial information with the SEC, in contrast to domestic companies (i.e. 10-Ks and 10-Qs), subject to certain exceptions. FPIs are also granted additional time with respect to compiling and filing annual SEC reports.
2. Corporate governance. FPIs are granted a litany of concessions with respect to corporate governance matters, particularly in instances where a foreign-based company is subject to regulation in their home jurisdiction, even, in some instances, where such regulation is less stringent than in the US. Such concessions include relief from certain US regulations pertaining to: board of directors’ composition; audit committee independence; executive compensation disclosure/reporting; director/officer equity holdings; and proxy solicitations.
3. Accounting. FPIs are not required to prepare financial statements in accordance with US Generally Accepted Accounting Practices (GAAP). Instead, an FPI is permitted to prepare its financial statements in accordance with the International Financial Reporting Standards (IFRS) as issued by the International Accounting Standards Board (IASB) without reconciliation to the US GAAP.
As noted, these concessions are available only to foreign-based companies that are able to qualify as FPIs. In order to qualify as an FPI, a foreign-based company must pass one of two tests – the “shareholder” test, or the “business contacts” test. The requirements for each of these tests are as follows:
1. Shareholder test. To pass, US residents must hold less than 50% of a foreign-based company’s voting securities. For this test, foreign-based companies must “look through” the record ownership of brokers, dealers, banks or nominees holding securities for the accounts of their customers, and also consider any beneficial ownership reports or other information available to the issuer. If less than 50% of a foreign-based company’s voting securities are held by US residents, then it qualifies as an FPI. However, if a foreign-based company fails this shareholder test, it must undergo an analysis under the business contacts test.
2. Business contacts test. To pass: (a) the majority of a foreign-based company’s executive officers or directors must not be US citizens or residents; (b) no more than 50% of the foreign-based company’s assets may be located in the US; or (c) the foreign-based company’s business must not be administered principally in the US. If a foreign-based company fails to satisfy any one of these conditions, and more than 50% of its voting securities are held by US residents (i.e. it fails the shareholder test), then the foreign-based company is not eligible to be an FPI, and shall not be entitled to the regulatory relief/concessions described.
The LSE and AIM markets don’t offer similar relief to foreign companies from the reporting requirements applicable to domestic issuers but the access to a much larger pool of capital, broader investor base, higher valuations, increased brand awareness and assistance in future international expansion plans in the UK likely outweigh the increased cost of compliance with UK securities regulations, just as in the US.
As noted, there are numerous advantages, both economic and regulatory, for Indian companies to consider raising capital in the US or the UK. However, when deciding whether or not to: (1) cross-list their securities for trading; (2) engage in an IPO; or (3) conduct an offering of ADRs/GDRs, an Indian company should always consult with qualified legal representation.
There are still some India tax issues that needed to be sorted and the India government will need to publish specific regulations relating to the direct listing provisions of the Companies (Amendment) Act before direct overseas listings will take off. The access to deeper and more liquid capital markets, and the increased globalisation of Indian companies should see more of them coming to the US and UK to raise capital and listing their securities for trading in the coming years.
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