Chapter V: Issue Management – Process and Underwriting (Part 2 of 8)

This section provides a comprehensive study guide for Chapter V: Issue Management – Process and Underwriting of the NISM Series IX: Merchant Banking curriculum. This is Part 2 of 8, focusing on the Appointment of Intermediaries, Bilateral Agreements, Due Diligence, and the Preparation and Filing of Offer Documents.

1. Appointment of Intermediaries and Market Agencies (Regulation 5)

An issuer cannot navigate the complex process of a public or rights issue in isolation. Under Regulation 5 of the SEBI (ICDR) Regulations, 2018, the issuer is mandated to appoint several specialized, SEBI-registered intermediaries to manage and facilitate the issue process.

The Lead Merchant Banker and Co-Managers

• Mandatory Appointment: The issuer must appoint one or more SEBI-registered merchant bankers to manage the issue.
• Designated Lead: If multiple merchant bankers are appointed, at least one must be designated as the Lead Merchant Banker.
• SEBI Registration Prerequisite: All intermediaries associated with the issue must hold a valid, active registration with the Securities and Exchange Board of India (SEBI). The issuer must select and appoint these intermediaries in direct consultation with the designated Lead Merchant Banker.

Specific Intermediaries and Their Specialized Roles

1. Syndicate Members:
   • When Appointed: Required specifically when an issuer manages an issue through the book-building process.
   • Core Responsibility: They act as bidding agents to collect bids from various categories of investors and key them into the electronic bidding system of the stock exchanges.
2. Bankers to the Issue:
   • When Appointed: Appointed for non-book-built issues (such as fixed-price issues) or to manage specialized collection and clearing routes.
   • Core Responsibility: They are appointed at all mandatory collection centres specified in the regulations to accept application forms and collection monies from investors.
3. Accountants and Statutory Auditors:
   • Core Responsibility: Appointed in consultation with the lead manager to review, audit, and restate the historical financial performance of the issuer. They ensure the financial statements comply with the accounting disclosure standards prescribed under the SEBI ICDR Regulations for inclusion in the final Offer Document.
4. Bulk Printers:
   • Core Responsibility: Responsible for the large-scale printing of physical copies of the Draft Prospectus, Red Herring Prospectus, Prospectus, and standard application/ASBA forms.
5. Advertising Agencies:
   • Core Responsibility: Appointed to formulate, coordinate, and execute the media, public relations (PR), and marketing strategy for the issue. They ensure all public communications remain within the strict legal boundaries set by SEBI.

2. Bilateral Agreements and Predetermined Responsibilities

To ensure clear liability and seamless operational coordination, SEBI requires formal legal structures between the issuer and the intermediaries.

Allocation of Responsibilities in Multi-Managed Issues

When an issue is so large that it is managed by more than one merchant banker, the possibility of operational overlaps or gaps in accountability increases. Under Regulation 5(3), the rights, obligations, and specific responsibilities of each merchant banker must be predetermined and clearly demarcated.

These predetermined responsibilities must cover:

• Disclosures: Defining which merchant banker is responsible for drafting and verifying specific sections of the Draft Red Herring Prospectus (DRHP).
• Allotment Process: Assigning responsibility for coordinating the final basis of allotment with the registrar and stock exchanges.
• Refund Management: Managing the post-issue refund coordination and unblocking of ASBA funds.
• Underwriting Commitments: Outlining the individual underwriting liabilities of each co-manager in case the issue devolves.

The Lead Manager Agreement

• Statutory Requirement: The issuer must execute a formal, legally binding agreement with the Lead Merchant Banker prior to filing the draft offer document.
• Standardized Format: This agreement must conform strictly to the standard template and format prescribed under the SEBI ICDR Regulations.
• Other Intermediaries: Similar bilateral service-level agreements must be executed with all other appointed intermediaries (such as Registrars, Bankers to the Issue, and Syndicate Members) as required by their respective SEBI registration regulations.

3. The Process of Due Diligence & Role of External Parties

Due diligence is the operational cornerstone of a merchant banker’s liability and investor protection.

The Legal Concept of Due Diligence

Under the SEBI Merchant Bankers Regulations, 1992, a Lead Manager is legally bound by a strict Code of Conduct. This code requires them to:

• Exercise high standards of due diligence.
• Ensure proper care and professional diligence.
• Exercise independent professional judgment at all times, without merely relying on the statements of the issuer’s management.

Regulatory Note: While there is no formal, exhaustive "legal definition" of due diligence, in the context of capital issues, it refers to the systematic process of collecting, verifying, and assessing information about the issuer. This process ensures that the disclosures made in the offer document are true, fair, adequate, and not misleading.

The Role of External Experts in Due Diligence

To perform comprehensive diligence, the Lead Merchant Banker coordinates with several specialized third-party professionals:

4. Preparation of the Offer Document

The Offer Document is the primary disclosure vehicle used by the issuer to invite subscriptions from the public.

Objective of the Offer Document

Because public investing carries risk, the primary objective of the offer document is to provide all material disclosures. These disclosures must be true, fair, and adequate to enable potential investors to make an informed investment decision.

Structure of Key Information Required

• Company & Promoter Details: History, business model, and background of the promoters and promoter group.
• Projects and Objects of the Issue: Specific breakdown of how the capital raised will be utilized (e.g., expansion, debt repayment).
• Financial Details: Audited financial history, balance sheets, and profit & loss statements.
• Risk Factors: Internal and external risks that could adversely affect the business.
• Terms of the Issue: Pricing, price band, bidding timelines, and allotment mechanisms.

5. Filing of the Offer Document with SEBI (Regulation 6)

The submission and review of the offer document are highly structured to ensure regulatory oversight before securities are offered to the public.

The Step-by-Step Filing Process

1. Filing the Draft Offer Document: The issuer, through the appointed Lead Merchant Banker, files the Draft Offer Document (often called the Draft Red Herring Prospectus or DRHP) with SEBI, along with the prescribed regulatory fees.
2. SEBI Observation Period (30 Days): SEBI reviews the disclosures in the draft document. Under Regulation 6, SEBI has a window of 30 days to specify changes, issue observations, or demand clarifications on the draft offer document.
3. Implementing Mandated Changes: The issuer and the Lead Merchant Banker are legally obligated to carry out all changes and comply with all observations issued by SEBI. These updates must be completed before registering the Prospectus, Red Herring Prospectus, or Shelf Prospectus with the Registrar of Companies (RoC), or filing the Letter of Offer with the designated stock exchange.
4. Simultaneous Filing Requirements:
   • At the same time the issuer registers the prospectus with the RoC or files the letter of offer with the stock exchange, a copy of the final document must be filed with SEBI through the Lead Merchant Banker.
   • The Lead Merchant Banker must also file a copy of this final document with the designated stock exchanges where the securities are proposed to be listed.
   • Soft Copy Mandate: The final offer document must be submitted to SEBI in a soft copy format as prescribed in the SEBI ICDR Regulations.

6. Regulatory Fees, Mandatory Document Submissions, and Security Deposits

To open a public issue, the Lead Manager and the issuer must complete several regulatory and financial submissions.

1. Payment of Filing Fees

The SEBI ICDR Regulations prescribe fees that the issuer must pay to SEBI at three distinct milestones:

• With every Draft Offer Document submitted.
• With every Offer Document in the case of a Fast Track Issue.
• Upon any formal updating of a draft offer document.

2. Mandatory Pre-Issue Submissions (Regulation 8)

Before the subscription list can officially open, the Lead Merchant Banker must submit three critical documents to SEBI:

• Agreement Confirmation Certificate: A formal certificate confirming that the bilateral agreement between the issuer and the Lead Merchant Banker has been executed.
• Due Diligence Certificate: A due diligence certificate signed by the Lead Manager in the exact format prescribed in the SEBI ICDR Regulations, certifying that all disclosures are verified and correct.
• Debenture Trustee Certificate (If Applicable): In the case of a debt issue, a due diligence certificate from the appointed Debenture Trustee, confirming compliance with the terms and conditions specified in Part C of Schedule VIII of the SEBI ICDR Regulations.

3. The Stock Exchange Security Deposit (Regulation 7)

To ensure that post-issue investor claims and listing obligations are met, SEBI enforces a mandatory security deposit.

• The Deposit Rate: The issuer must deposit an amount calculated at exactly 1% of the total amount of securities offered for public subscription.
• Timing of Deposit: This deposit must be placed with the designated stock exchange before the opening of the subscription list.
• Forfeiture/Refund: The deposit must be kept with the stock exchange and is refundable or forfeitable based on compliance guidelines specified by SEBI and the stock exchange.

Key Exam Terms & Definitions

• Lead Merchant Banker: The primary SEBI-registered financial intermediary responsible for managing, pricing, structuring, and executing a public or rights issue.
• Syndicate Member: An intermediary registered with SEBI, appointed during book-built issues to accept bids and upload them onto the stock exchange bidding terminals.
• Due Diligence Certificate: A mandatory statutory document signed by the Lead Manager, confirming that they have verified all disclosures in the offer document and found them to be true, fair, and adequate.
• 1% Security Deposit: A mandatory financial deposit placed by the issuer with the designated stock exchange prior to the opening of the issue to ensure regulatory compliance.
• 30-Day Observation Window: The statutory timeframe within which SEBI must review a draft offer document and issue any observations or required changes.

Part 2: Key Takeaways for the Exam

1. Multi-Manager Rule: If an issue has multiple managers, their roles, responsibilities, and underwriting commitments must be predetermined and documented.
2. Syndicate vs. Banker to the Issue: Remember that Syndicate Members are appointed for book-built issues, while Bankers to the Issue are appointed for fixed-price issues (or collection point logistics).
3. SEBI's Observation Period: Note the 30-day period that SEBI has to specify changes on the Draft Offer Document.
4. Due Diligence Liability: Due diligence is an ongoing obligation. The Lead Manager cannot delegate their ultimate responsibility to third parties (like legal counsels), though they can use them for assistance.
5. Security Deposit Rate: Memorize the exact figure: 1% of the total public offer size must be deposited with the stock exchange before the issue opens.