What India’s New Dual Listing Plan Means For Homegrown Startups

Analyzing the impact of The Companies Amendment Act 2020 and the potential secondary listing mandate on Indian startups

India has the third largest startup ecosystem in the world, with 40,000 active startups, 34 unicorns with a combined valuation of US$115.5 billion, and 52 startups with the potential to achieve unicorn status by 2022, figures from DataLabs by Inc42 show.

Despite the large and thriving startup ecosystem, only a handful of Indian startups have gone public to date – but this small group may soon see dozens, or even hundreds of new members, as Indian startups make ambitious IPO plans to be executed within the next few years.

A Reserve Bank of India survey found that 58% of startups polled between 2018 and 2019 plan to go public by 2024, with majority of them being less than three years old. According to Startup India, an initiative by the Government of India (GOI) to foster innovation and growth in the startup ecosystem, there were about 8,900 to 9,300 technology-led startups in the country in 2018, while 1,300 new tech startups were established in 2019 alone.

Some of the well known Indian startups mulling IPO plans include Tiger Global-backed food delivery startup Zomato, cloud software company Freshworks, Sequoia India-backed online furniture retailer Urban Ladder, Softbank-backed startups including ride hailing startup Ola, logistics unicorn Delhivery, fintech startup Paytm, and hospitality chain Oyo, according to media reports.

However, 47 of the companies that had applied for and received approvals for IPOs on Indian stock exchanges last year had second thoughts, and decided not to go public, allowing their IPO approvals to lapse.

There are several factors that could be behind the low number of Indian startups chasing IPOs. Current IPO filing guidelines, which prohibit Indian companies from listing on foreign exchanges until they go public on Indian stock exchanges, were one of the foremost reasons why Indian companies generally avoided IPOs.

In March this year, however, the GOI introduced The Companies (Amendment) Bill 2020 in the Lok Sabha, the lower house of the Indian Parliament, to allow direct listing of Indian companies on allowed foreign stock exchanges, which includes the U.S. and U.K. exchanges.

The bill was passed by the lower and upper house of representatives on September 19 and 22, respectively. The rules of the policy are being drafted jointly by the finance and corporate affairs ministries, in discussion with the Securities and Exchange Board of India (SEBI), the Indian capital market regulator.

Once the rules are finalized, the bill will become law after receiving the endorsement of the Indian President.

While the bill was initially considered good news, as it opened the doors for Indian startups to seek foreign IPOs, according to a report by Reuters citing anonymous sources, the finance ministry and other Indian officials were considering a mandate for secondary listing in India for companies that choose to list overseas.

In other words, Indian companies that list directly on foreign stock exchanges would be required to mandatorily list themselves on the Indian stock exchanges as well. Although not yet finalized, officials are considering a time period of 6 months to 3 years for the secondary listing requirement, the Reuters report added.

The dual listing bill has been brought to the table due to India’s concerns that allowing direct foreign listings would impact the growth ambitions of Indian capital markets and deprive local investors of wealth-creation opportunities if Indian companies choose only to list abroad.

“The government needs to balance Indian aspirations so that [domestic] investors can invest in these companies,” Reuters quoted Siddarth Pai, Founding Partner at Indian investment firm 3one4 Capital. “This is a trailblazing endeavor, if India plays its cards right.”

What it means for Indian startups

Allowing Indian startups to list directly on overseas exchanges would enable them to raise money from the larger investor base of the U.S. exchanges.

Last year, Sequoia India Managing Director Rajan Anandan had told The Economic Times that Indian startups should be allowed to list on Nasdaq or NYSE, which are better markets to launch high-growth tech startups, and that at least 10 or 20 companies would be ready to get listed if the GOI enabled it.

Walmart-controlled ecommerce giant Flipkart recently announced that it is preparing for an overseas listing in 2021, and is trying to decide between Singapore and the U.S., according to an Economic Times report.

Even Indian multinational conglomerate Reliance Industries is preparing for an overseas listing of its digital and wireless business Reliance Jio, Business Insider reported in May this year.

There are several reasons why Indian startups vie for overseas IPOs. Firstly, India’s stock market has a meager market capitalization of $2 trillion, compared to the $39.3 trillion market in the U.S. or even the $4.4 trillion U.K. stock market. This essentially means that listing on an Indian stock exchange restricts Indian startups from accessing a larger base of investors.

Moreover, the U.S. investor community is more capable of determining the value of companies going public that are not yet profitable, but have positive unit economics, display growth, and have the potential to become profitable, Accel Partner Shekhar Kirani told ET Now in an interview.

He further added that, in India, companies are expected to be profitable before listing. According to a SEBI clause, companies filing for IPOs must have a minimum average operating profit of INR 15 crore (approximately $200,000) for three consecutive years.

This explains why fewer Indian startups opt for IPOs, since only 9 out of 30 unicorns in India have positive earnings before interest, taxes, depreciation and amortization (EBITDA), including Bjyu’s, BillDesk, Freshworks, Druva, and Zoho, while the majority of startups continue to incur millions of dollars in losses.

However, such restrictions do not exist in the U.S. markets where a larger number of startups are listed that have not yet achieved profitability but reached sky-high valuations. One example is electric car maker Tesla, which has become the most valuable automaker in the world.

Although SEBI allows loss-making Indian companies to also list on the exchanges, they are required to allot 75% of their net public offer to qualified institutional buyers (QIBs), leaving only 25% for retail investors and high net worth individuals (HNIs), resulting in lower liquidity and valuations.

In comparison, 76% of companies that listed in the U.S. in 2018 were unprofitable before their IPO, according to a CNBC report.

The higher valuations achievable in the overseas market, can also provide profitable exits for investors like SoftBank and Sequoia, which have invested heavily in multiple Indian startups. According to a Reuters report, both Softbank and Sequoia, along with Paytm and Reliance, have expressed concerns to the government regarding the dual listing mandate.

According to them, the secondary listing mandate could also risk splitting trade volumes and increase compliance needs and costs for startups. Paytm President Madhur Deora told Reuters in an interview last week that the new policy also puts Indian startups at a disadvantage against global competitors who do not have dual listing obligations.

Besides, the amounts raised via IPOs on Indian stock exchanges has been declining over the years, with only 16 companies bagging a total of INR 12,362 crore (approximately $1.7 billion) in IPO proceeds in 2019, compared to INR 30,959 crore (approximately $4.2 billion) raised in 2018 across 24 IPOs, according to a Bloomberg Quint report.

In comparison, despite a 14.2% decline in the number of IPOs on U.S. stock exchanges compared to 2018, a total of 235 companies raked in $65.4 billion in IPO proceeds last year.

This year, 18 listings on Mumbai’s stock exchanges raised $2.3 billion in the first half of 2020, while 63 IPOs on Nasdaq and NYSE raised $23.6 billion, according to data from Refinitiv.

The coronavirus pandemic had already derailed or slowed IPO plans for most Indian startups, who had already started deferring IPO plans, cutting investment round sizes, and accepting unfavorable bridge funding rounds in the face of declining valuations since earlier this year, according to a report by ET.

Moreover, in light of the tightening IPO regulations in the U.S. exchanges, fueled by rising geo-political tensions between U.S. and China, Indian startups are likely to face increased scrutiny, according to a report by Livemint.

Adding to these problems, the current uncertainty regarding foreign listing guidelines is likely to defer the IPO plans of Indian startups even further. Delhivery, for one, said that it will wait for clarity on listing guidelines to decide on a suitable market for its IPO, although it prefers to go public in India.

In conclusion, while allowing Indian companies to list directly overseas would enable them to gain higher valuations and access to specialized and experienced investors, a mandate of secondary listing in India stands to almost wipe out the value of the policy change.

As Reuters quoted a senior VC, “To require companies to subsequently list in India will make [new overseas listing] rules meaningless.”

Header image by Gerd Altmann from Pixabay

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