A red herring prospectus is a preliminary prospectus filed by a company with regulatory bodies like the Securities and Exchange Commission (SEC) or the Securities Exchange Board of India (SEBI), typically in connection with an initial public offering (IPO). It includes most details about the company’s operations and prospects but omits critical information such as the price and number of shares being offered. A draft red herring prospectus (DRHP) is the initial version, providing a broad overview of the business without sufficient details for investment decisions. It plays a crucial role in the IPO process by allowing potential investors to scrutinize the company and assess risk, while the final red herring prospectus includes complete, accurate information. Companies must file a DRHP as per regulatory requirements, and any significant changes between the DRHP and the final red herring prospectus require refiling with SEBI. Under Section 32 of the Companies Act, 2013 says Red Herring Prospectus means a prospectus which does not include complete particulars of the quantum or price of the securities included therein.
LAWS GOVERNING RED HERRING PROSPECTUS
Companies Act 2013 and SEBI guidelines provide all the laws regarding red herring prospectus in India. According to Section 32, a company may issue a red herring prospectus before the issue of a prospectus when proposing to make an offer of securities. A red herring prospectus has to be filled before the registrar 3 days prior to the list of subscriptions or offers. Moreover, it carries the same obligations as other prospectuses.
WHAT RED HERRING PROSPECTUS INCLUDE
The red herring prospectus must adhere to the disclosure requirements outlined in Part A of Schedule VIII, Securities and Exchange Board of India (Issue Of Capital And Disclosure Requirements) Regulations, 2009 and Section 26 of the Companies Act, 2013. The offer document should contain the following details:
- Name, Address and Contact Details of the Issuer Company, lead managers, and Registrar to the issue.
- Issue Details.
- Risk Factors.
- Industry and Business Overview.
- Purpose of the Issue.
- Regulatory and Statutory Disclosures.
PUNISHMENT FOR NON-DISCLOSURE AND MISSTATEMENT IN A RED HEARING PROSPECTUS
According to the Companies Act and SEBI guidelines it is necessary to ensure that the red herring prospectus portrays a true and fair picture of the company. Providing false information and nondisclosure in the prospectus can have serious consequences. Sections 34 and 35 of the Companies Act, 2013 address the criminal and civil liabilities for misstatements in a prospectus. Section 34 deals with criminal liability, while Section 35 outlines the civil consequences further, Section 36 covers the punishment for fraudulently inducing persons to invest, with any individual authorizing such a prospectus being liable under Section 447. Non-disclosure of material information in a red herring prospectus is a serious issue with regulatory implications, including fines, penalties, or restrictions on the company or its directors. Investors who suffer losses due to non-disclosure can file lawsuits for misrepresentation or fraud. Regulatory authorities may also require companies to amend the prospectus, provide additional information, or take other corrective actions when non-disclosure is identified.
In The Institute of Chartered Accountants of India v. Mukesh Gang, Chartered Accountant, Referred Case. No.2 of 2011, the High Court of Andhra Pradesh noted that the prospectus is a special document and a false certificate is issued by the auditor would amount to his failure to discharge his statutory duties.
“The professional misconduct attributed to the respondent is grave and serious in nature which affects public confidence, and their faith in the integrity and impartiality of the Chartered Accountants and the Institute of which they are members. A false certification by the respondent has enabled the promoters of the company to squander public money, on inducing the general public to subscribe to the share capital of the company. Taking a lenient view, or exonerating such professionals, would encourage others to indulge in similar acts, and completely erode the faith of the general public in the impartiality and integrity of the members of the Institute, and bring the Institute itself into disrepute.
The Council of the Institute has recommended removal of the name of the respondent from the Register of the Institute for a period of three (3) years i.e. suspending him from practicing as a Chartered Accountant for a period of three (3) years. The recommendation of the Institute, regarding the nature of the punishment, is not binding on this Court and, in exercise of the wide powers conferred on it by the Act, this Court can impose a different punishment.”
EXEMPTION FROM LIABILITY FROM MISSTATEMENTS IN PROSPECTUS
If a person can prove they revoked their consent before the prospectus was made public, they may be exempt from liability. This applies when someone who initially consented to serve as a director withdraws that consent and claims the prospectus was distributed without their approval. Additionally, if a prospectus is released without a person’s knowledge or consent, they are required to publish a notice stating that the prospectus was issued without their approval upon learning of its release.
CONCLUSION
To sum up, the prospectus is a vital resource for guiding public investment decisions and needs to be created with the utmost precision and honesty. Transparency and care in its preparation are essential, as misleading or inaccurate material in the prospectus can have serious legal repercussions, including responsibility and penalties under the Companies Act.
– Tanvi Anand, Associate, Ductus Legal
DUCTUS EDGE 