Prospectus – Definition

Prospectus means any document issued as a prospectus . it Includes:

• Red herring prospectus
• Shelf prospectus
Also includes:
• Notice, circular, advertisement, or any document
Inviting:
• Deposits from public
• Offers to subscribe/purchase securities

What is an Offer to the Public?

Meaning of Public
• “Public” includes any section of the public (not necessarily whole public)
• It is opposite of private communication
When is it NOT a Public Offer?
• Private communication (friends, relatives) ≠ public offer
• Document marked confidential
• Passed among small circle (friends/relatives)
• Court held → Not issued to public
✔ Conclusion:
• To be a prospectus → must be issued to public • Private sharing ≠ public issue

Private Offer / Private Placement

• Offer to: Friends, relatives • Known investors approached personally
• Not considered a public offer • Hence, not a prospectus

When Offer is Considered Public: If offer is open to anyone who:

• Brings money • Applies properly
• Even if prospectus is not directly addressed → still public offer

Private Placement of Securities (Section 42)

• Meaning: Offer/invitation to a selected group of persons
• Not a public offer

Conditions of Private Placement

1. Must be approved by Special Resolution of shareholders
2. Offer made to identified persons (selected by Board)
3. Must NOT be made through public offer
4. Offer to limited persons: Max 50 persons or prescribed limit ,As per rule → Maximum
200 persons/year Excluding: Employees under ESOP
Limit Rule (Very Important)
• Cannot offer to more than 200 persons in a year
• If exceeded → treated as Public Offer
• Then stock exchange listing is compulsory
 5. No new offer until: Previous allotment completed OR Offer withdrawn
6. Payment must be through:
• Cheque / DD / Banking channels ❌ No cash allowed
7. No: Advertisement , Media marketing Agents to inform people

Red Herring Prospectus (RHP) is a document issued by a company when it is planning to raise money
from the public through an IPO (Initial Public Offering).it is a preliminary prospectus that contains almost
all the important details about the company except the final price of shares and number of shares
offered.
key points (exam ready)
• issued before the final prospectus.
• filed with sebi and registrar of companies (roc).
• contains information about:
o company’s business
o financial details
o risks involved
o management details
• does not include:
o final issue price
o exact number of shares
• helps investors understand the company before investing.
• after finalizing price and details, it is converted into a final prospectus.
Why is it called “Red Herring”?
Because it has a warning in red ink stating that the document is incomplete and subject to
changes.

Shelf Prospectus is a type of prospectus that allows a company to issue securities to the public
in multiple stages without issuing a new prospectus every time.
Simple Meaning:It is a single prospectus used for multiple issues of securities over a period of
time.
Key Points (Exam Ready):
• Issued under Section 31 of the Companies Act, 2013.
• Allows companies to raise funds in parts (tranches).
• No need to issue a fresh prospectus for every new offer.
• Valid for a maximum period of 1 year.
• Before each new issue, company files an Information Memorandum.
• Usually used by:
o Banks
o Financial institutions
o Large companies
Advantages:

• Saves time and cost.

• Faster fund-raising process.
• Flexibility in issuing securities when needed.
 Example:A bank wants to raise ₹1000 crore but issues ₹200 crore at different times → it can use
a Shelf Prospectus instead of issuing a new prospectus each time.

Information Memorandum

Simple Meaning:
An Information Memorandum (IM) is a document issued by a company before each new offer under a
Shelf Prospectus, giving updated details about the company.
Key Points (Exam Ready):

• Used with Shelf Prospectus.

• Filed before every subsequent issue of securities.
• Contains latest/updated information about:
o Financial position
o Changes in business
o New risks or developments
• Helps investors get current information before investing.
• Must be filed with Registrar of Companies (ROC).
After filing the Information Memorandum, it is considered part of the Shelf Prospectus.
Example:
If a company issues shares in January and again in June using Shelf Prospectus →
Before June issue, it must file an Information Memorandum with updated details.

Contents of a Prospectus
• As per Section 26 of the Companies Act:
• A prospectus must include all important information and reports
• The purpose is to ensure full disclosure
• So investors get a true and fair view of the company’s condition
• The prospectus must include:
• Required information and financial reports
• As specified by SEBI in consultation with the Central Government
• Until specified, SEBI Act, 1992 regulations apply
Declaration in Prospectus
• The prospectus must include a declaration stating:
• It complies with all provisions of:
• Companies Act
• Securities Contracts (Regulation) Act, 1956
• SEBI Act, 1992
• Nothing in it is against these laws

Statutory Requirements of a Prospectus

1. Dating of Prospectus
• every prospectus must have a date.
• This date acts as proof (prima facie evidence) of when it is issued.

• The date printed on the prospectus is considered the official date of publication.
2. Filing of Prospectus
• A prospectus cannot be issued unless it is filed with the Registrar on or before its
publication date.
• The filed copy must be signed by all directors (or proposed directors) or their authorized
agents.
• The Registrar will register the prospectus only if:
• All legal requirements are fulfilled
• Written consent of all named persons is attached
• The prospectus must be issued within 90 days of filing.
• If issued after 90 days → it becomes invalid
3. Expert’s Consent
• “Expert” includes:
• Engineer
• Valuer
• Accountant
• Any qualified professional
• An expert’s statement can be included only if: He is independent (not involved in
company formation, promotion, or management)

• He has given written consent Also: The expert must not withdraw consent before the
prospectus is filed with the Registrar

4. Allotment of Shares in Fictitious Names Prohibited As per Section 38, the following must be clearly
mentioned in every prospectus and application form: • A person will be liable for fraud (Section
447) if he:
1. Applies for shares using a fake (fictitious) name
2. Makes multiple applications using different names or combinations of names/surnames
3. Forces or tricks a company to allot or transfer securities in a fake name
• If convicted:
• The court may order disgorgement of profits (return of illegal gains)
• Can also order seizure and disposal of securities
• The money received from such actions:
• Goes to the Investor Education and Protection Fund (IEPF)
• Disgorgement means: Giving back profits earned through illegal or unethical means
5. Variation in Terms of Contracts or Objects in Prospectus
• If a company has raised money from the public and still has unused funds:
• It can change:
• Terms of contracts mentioned in the prospectus, or
• Objectives for which money was raised
• But this can be done only by passing a special resolution in a general meeting
6. Issue of Securities in Dematerialised Form
• Every company making a public offer must issue securities in demat (electronic) form
• Must follow the Depositories Act, 1996
• For certain unlisted companies (as prescribed):
• Securities must be: Held only in demat form , Transferred only in demat form
 • Dematerialisation Rules (Companies Rules, 2014)
Rule 9A – Unlisted Public Companies
• Every unlisted public company must:
1. Issue securities only in demat (electronic) form
2. Convert all existing securities into demat form as per the Depositories Act, 1996
• Before making any offer (like issue, buyback, bonus, rights):
• The company must ensure that Promoters, Directors, and KMP (Key Managerial
Personnel) hold all their securities in demat form
• If a shareholder wants to:
• Transfer securities → must first convert them into demat form
• Subscribe to new securities → must already hold all securities in demat form
• Exception: Rule 9A does NOT apply to:
• Nidhi companies
• Government companies
• Wholly owned subsidiaries
Rule 9B – Private Companies (Inserted on 27 Oct 2023)
• Applies to all private companies except small companies
✅ In short:
• Demat form is now compulsory for most companies
• Applies to both unlisted public companies and many private companies
• Ensures transparency, safety, and easy transfer of securities

Mis-statements in a Prospectus

• Investors invest based on the prospectus, so it must be true and complete.

• A prospectus must NOT contain:
• False statements
• Misleading or ambiguous information
• Fraudulent statements
• Omission (hiding) of important facts
Misrepresentation / False representation means:
• Giving wrong information, OR
• Hiding important (material) facts
Effect of Misleading Prospectus
• If a prospectus is misleading:
• The investor has the right to take legal action
• Against those who misled him

[Link] Half Truths Allowed

• A prospectus must be read as a whole
• Even if individual statements are true:
• If the overall impression is misleading, it is still wrong
• People responsible cannot escape liability
✅ In short:
• Prospectus must be honest, complete, and not misleading
• Even hiding facts = fraud/misstatement
• Law protects investors from being misled
2. No False Statements
• A prospectus must not contain false or wrong statements.
• If it does, it is misleading.
3. No Ambiguous Statements
• A prospectus must be clear and not confusing.
4. Fact vs Opinion
• A fact is different from an opinion or promise.
• General praise or positive comments are not considered false.
• Statements like:
• “Property is worth a certain amount”
• “Profits will reach a certain level”
are opinions, not facts → no legal action can be taken.

5. Example of Promise
• Prospectus said promoters promised to buy shares worth ₹6 lakhs.
• They actually bought less.
• Still, it was not misrepresentation, because the promise itself existed (even if broken).
6. Misrepresentation Must Be of Fact
• Misrepresentation must relate to a fact, not law.
• Example:
• Saying shares will be issued at a discount is wrong in law (not allowed under Companies
Act, 2013).
• This is misrepresentation of law, so investors cannot sue.

7. Liability for Misstatements

• If a prospectus has:
• false statements OR
• hides important facts• It can lead to both civil and criminal liability.

LIABILITY FOR MISSTATEMENTS IN A PROSPECTUS

There are 2 types of liability: 1. Civil Liability
2. Criminal Liability
1. CIVIL LIABILITY
A person who buys shares based on a misleading prospectus can take action against:
• The company
• The directors, promoters, and experts
A. Remedies Against the Company

If the prospectus has false statements or hides important facts, the investor can:

• rescind the Contract

 • claim damages
(i) Rescind the Contract
• Cancel the agreement to buy shares
• Applies whether the statement was fraudulent or

CONDITIONS FOR RESCISSION (CANCELLING THE CONTRACT) ; If an investor wants to cancel

the contract due to a misleading prospectus, these conditions must be satisfied:
1. Prospectus must be issued by the company
• The prospectus must be issued by or on behalf of the company.
• If promoters issued it, the company is liable only if the Board of Directors
approves/adopts it.
2. Misrepresentation must be of FACT (not law)
• Only misrepresentation of fact gives the right to cancel.
• Misrepresentation of law is not valid, because ignorance of law is no excuse.

3. Misrepresentation must be MATERIAL

• It must be important enough to influence a person’s decision to buy shares.

Example:

• In Green Wood v. Leather Shod Wheel Co; Company claimed it received big
orders from the House of Commons.
• Reality: only one small use, no big orders.
• Held: Material misrepresentation → rescission allowed
• In Karberg’s Case:
• Prospectus said 2 reputed businessmen agreed to become directors.
• Reality: they only showed willingness.
• Held: Material misrepresentation → rescission allowed

4. Investor must have relied on the statement

• The investor must have actually depended on the false statement while buying
shares.
• If not, rescission is not allowed.
Example:
• Investor checked the mines himself instead of trusting the prospectus.
• Held: No rescission, because he relied on his own judgment.

EFFECT OF RESCISSION
• Shareholder returns the shares
• Gets back money with interest
WHO CAN RESCIND THE CONTRACT?
• Only original allottees (first buyers of shares) can cancel the contract.
• Subsequent purchasers (who buy shares later) cannot rescind.
👉 Exception:•If a false prospectus is continuously used or circulated to attract buyers in the
market → directors can be held liable.

LOSS OF RIGHT TO RESCIND CONTRACT

An investor may lose the right to cancel the contract in these cases:
(a) Delay (Time)
• Must act within a reasonable time after discovering the misrepresentation.
• Delay = loss of right.
Example: Delay of 15 days was considered too long (Re Scottish Petroleum Co.)

(b) Affirmation (Accepting the Contract)

• If the investor accepts/continues the contract after knowing the truth, he loses
the right.
Affirmation happens when:
• Trying to sell shares
• Attending/voting in meetings
• Receiving dividends
• Paying calls (money)
• Transferring shares

(c) Liquidation (Company Winding Up)

• If the company goes into liquidation before the investor files for rescission, the
right is lost.
• Investor must act before winding-up starts.

(d) Experience of Investor

• If the investor is experienced or expert, he cannot easily claim he was misled.
• Example: a professional dealer in shares/debentures → cannot rescind easily.

(ii) Claim for damages ; Apart from cancelling the contract, the investor can claim damages for
fraud (deceit).

Conditions to claim damages:

The investor must prove:
1. Fraud was committed by persons acting for the company
2. Those persons were authorized to act for the company
3. He actually suffered loss or damage
WHAT IS FRAUD?
A person commits fraud if he makes a false statement:
• Knowingly (he knows it is false), OR
• Without belief in truth, OR
• Recklessly (doesn’t care if true or false)

IMPORTANT POINTS
• An investor cannot both: Keep the shares, AND Claim damages from the
company
• He must first rescind (cancel the contract) before claiming damages.
• In practice: Damages are usually claimed from directors, promoters, and experts,
not the company. If damages are claimed from them: No need to rescind the contract
• However, the right to claim damages can also be lost under the same conditions
as rescission (delay, affirmation, etc.)

B. REMEDIES AGAINST DIRECTORS, PROMOTERS & EXPERTS

If a person buys shares based on a misleading prospectus and suffers loss, he can sue:
1. Every director
2. Every person named as a proposed director
3. Every promoter
4. Every person who authorized the issue of prospectus
5. Every expert (as per Sec 26(5))

WHAT AN INVESTOR CAN CLAIM

An affected investor can claim:
1. Compensation for untrue statement (Sec 35)
2. Damages for omission (Sec 26)
3. Damages for fraud (general law)

1. COMPENSATION FOR UNTRUE STATEMENT (SECTION 35)

Who is liable?
The following must pay compensation:
• Company
• Every director
• Every person named as proposed director
• Every promoter
• Every person who authorized the prospectus
• Every expert
What must the investor prove?
Only 2 things: 1. Prospectus had a false statement
2. He suffered loss because of it
👉 No need to prove fraud.

How is compensation calculated?

• Difference between:
• Price paid for shares/debentures
• Actual value at the time of allotment

Important Points; • Compensation can be claimed: From directors, promoters, etc.

• Available even if company goes into liquidation

SECTION 37 – CLASS ACTION SUIT

• If many people are affected by a misleading prospectus:
• They can file a class action suit
Who can file?
• Any person
• Group of persons
• Association of persons
Against whom?
• Company
• Directors
For what?
• Fraudulent, unlawful, or wrongful acts
• Misleading statements or omissions
• To claim damages or any suitable action

DEFENCES AVAILABLE TO DIRECTORS / PROMOTERS/ EXPERTS

A director can escape liability if he proves any of the following:
(i) Withdrawal of Consent
• He withdrew his consent before the prospectus was issued
• Prospectus was issued without his authority

(ii) Absence of Consent

• Prospectus issued without his knowledge/consent
• After knowing, he gave public notice
(iii) Ignorance of False Statement
• He did not know about the false statement
• On knowing, he: Withdrew consent
• Gave public notice before allotment

(iv) Reasonable Belief

• He had reasonable grounds to believe the statement was true
• And actually believed it

(v) Statement by Expert

• Statement was made by an expert
• It was a correct copy/extract of expert’s report
• Director believed:
• Expert was competent
• Expert had given consent
• Consent was not withdrawn before issue

(vi) Correct Official Document

• Statement was a true copy of an official document

2. DAMAGES FOR OMISSIONS (Section 26)

• If important information is not included in prospectus: Investor can claim
damages
Conditions: Investor must prove:
1. If information was included → he would not have bought shares
2. He suffered loss

Important:
• Only damages allowed
• No rescission (no cancellation of contract)

Defence for directors (Sec 26)

(a) No knowledge
• They did not know about the omission

(b) Honest mistake

• Omission happened due to honest mistake
• Or it was not material and court excuses it
3. DAMAGES FOR FRAUD (GENERAL LAW)
Even if the company goes into liquidation, the investor can still claim damages from directors
(not company).

Conditions to prove fraud:

The investor must prove:
1. There was a fraudulent misstatement of fact
• False statement made:
• Knowingly OR
• Without belief in truth OR
• Recklessly
2. The statement was material (important)
3. He was actually deceived by it
Measure of Damages:
• Difference between:
• Value shares should have had (if statement was true)
• Actual value at time of allotment
👉 In short: Price paid – real value

2. CRIMINAL LIABILITY
• Means punishment (jail, fine, or both)
• Applies mainly to: Directors, Promoters

1. Liability for Untrue Statement (Section 34)

• If a prospectus:
• Is issued, circulated, or distributed
• Contains false or misleading statements
👉 BUT they are not liable if:
• Statement was immaterial, OR
• They had reasonable grounds to believe it was true

2. FRAUDULENT INDUCEMENT TO INVEST (Sec 36) A person is liable if he dishonestly induces

others to invest by:
(i) Concealing important facts
(ii) Making false or misleading statements (knowingly or recklessly)

If such inducement leads to:

(a) Buying/selling/underwriting securities
(b) Agreements to earn profit from securities
(c) Getting loans/credit from banks

3. ISSUE OF SHARES IN FICTITIOUS NAMES (Sec 38)

A person is liable if he:
(i) Applies for shares in a fake name
(ii) Applies multiple times using different names
(iii) Makes company allot or transfer shares in fake names

4. FAILURE TO ISSUE ABRIDGED PROSPECTUS (Sec 33)

• No application form for shares can be issued without an abridged prospectus
• An Abridged Prospectus is a short summary of a full prospectus issued by a company when it
offers shares or securities to the public.

BOOK BUILDING

IPO Pricing Methods

• Fixed Price Method
• Book Building Method
• Combination of both
Meaning
• Method of pricing shares based on investor bids
• Price not fixed in advance
Process
• Company gives price range (band)
• Investors bid at different prices
• After closing: Demand analyzed
• Price with maximum demand selected

Why called Book Building

• Because it collects (“builds”) bids from investors

Prospectus Requirement
• Draft Red Herring Prospectus (DRHP) issued first
• Red Herring Prospectus (RHP) issued 3 days before opening

Done through: Notice / Circular / Advertisement / Offer document

Features
• Alternative to fixed price method
• Transparent & flexible
• Price decided by:
• Company + Book Running Lead Manager (BRLM)
• Based on investor & market feedback
Working

• Shares offered → investors bid → highest demand price selected

Stock Exchange Role

• Process linked with stock exchange
• Transactions through brokers
• Brokers responsible for client payment default

Types of Investors
1. Retail Individual Investors (RII)
• Individuals, NRIs, HUFs
• Investment ≤ ₹2 lakh
2. Non-Institutional Investors (NII)
• HNIs, companies, trusts, societies, family offices
3. Qualified Institutional Buyers (QIBs)
• Financial institutions (e.g., LIC, UTI, etc.)

WHY BOOK BUILDING

Basic Idea
• Company raises money by selling shares
• Price can be:
• Fixed earlier OR
• Discovered through book building

Problems with Fixed Price Method

• Price decided 60–70 days before issue
• No idea about market demand/perception
• Issues may be: Underpriced or Overpriced

Price Determination (Book Building vs Fixed Price)

Book Building
• Price based on actual demand (bids ≥ floor price)
• Demand tracked daily
 • Done by Book Running Lead Manager (BRLM)
Fixed Price
• Price decided before issue
• Demand known only after closing

Final Advantages (Exam Point)

• Minimum Cost
• Fast
• Realistic Price
• Fair Price

HOW IS BOOK BUILDING DONE (Steps)

Main Parties Involved
• Issuer Company
• Book Running Lead Manager (BRLM / Book Runner)
• Syndicate Members (intermediaries, can act as underwriters)
Steps in Book Building
1. Appointment
• Company appoints a lead merchant banker (BRLM)

2. Draft Red Herring Prospectus (DRHP)

• Prepared with help of BRLM
• Contains all details except price & issue size
• Filed with SEBI by BRLM
• SEBI may suggest changes within 21 days
• BRLM incorporates changes

3. Market Feedback
• DRHP sent to institutional & corporate investors
• Purpose: understand demand & perception

4. Red Herring Prospectus (RHP) & Price Band

• Prepared after feedback
• Contains all details except:
• Final price
• Exact quantity
• Includes price band:

Price band decided based on:

• Company fundamentals
 • Industry share prices
• Market survey

Rule: Investors must bid within price band

5. Cut-off Price Option

• Only Retail Investors (RII) can bid at cut-off price

6. Filing RHP

• Filed with SEBI & ROC

• At least 3 days before opening

7. Bidding Period & Promotion

• Fixed bidding period

• BRLM does:

• Advertisements

• Roadshows

• Awareness campaigns

8. Syndicate Members

• Appointed by BRLM

• Includes:

• Mutual funds

• Stock brokers

• Merchant bankers

• Must be SEBI registered

Role of Syndicate Members

• Act as link between company & investors

• Book Runner underwrites issue

 • Syndicate members sub-underwrite

9. Circulation of Draft

• Draft prospectus shared with:

• Institutional investors

• Syndicate members

10. Creation of Demand

• Syndicate members collect bids from:

• FIIs, financial institutions

• Mutual funds

• Corporates

• HNIs

11. Application & ASBA

• Syndicate members get application-cum-bidding forms

• Appoint registered brokers to collect:

• Bids

• Applications

• Money

ASBA (Important)

• Application Supported by Blocked Amount

• Money blocked in bank account

• Only required amount debited after allotment

• SEBI: Applications processed only after blocking funds

⸻
12. Bidding Process

• Done through electronic system (stock exchange)

• Bidding centers + terminals show:

• Demand

• Bid prices

13. Building the Book

• Book Runner collects data:

• Bid price

• Quantity demanded

• Prepares order book showing demand at different prices

14. Final Price (Market Clearing Price)

• Decided by:

• Book Runner + Issuer company

• Based on:

• Demand at various prices

At closing:

• Total shares demanded known

• Prices offered known

Price discovery:

• Based on demand + negotiations

Before Allotment

• Company + Book Runner:

• Finalize issue price

 • Decide allocation to syndicate members

• Same price for:

• Placement portion

• Public offer

• Books open for minimum 5 days

15. Allotment of Shares

• Done after final price determination

• Allocation based on:

• Prior commitment

• Price bid (aggressiveness)

• Timing of bid

16. Final Prospectus

• Filed with ROC

• Within 2 days of:

• Price determination

• SEBI acknowledgment

17. Listing & SEBI Changes

• Shares must be listed within 12 days of issue closing

ASBA (Mandatory)

• Reduces IPO timeline

• Money blocked in bank account

e-IPO System
 • Electronic IPO system introduced

• Distribution expanded to 1000+ locations

Extra Point

• Book building can be for:

• 100% issue OR

• 75% issue size

(a) 100% Book Building

• Entire issue is made through book building process.

• No fixed price offer to public is required, regardless of issue size.

(b) 75% Book Building

• 75% of net offer → through book building (called placement portion).

• 25% of net offer → offered to public at fixed price.

• Price for both portions must be same.

• Company must open two separate bank accounts:

• One for private placement (75%)

• One for public subscription (25%)

• Placement portion closes 1 day before public issue opens.

Green Shoe Option (GSO)

• Used in IPO through book building to stabilize share price after listing.

• Origin: First used by Green Shoe Company.

• In India: First used by ICICI Bank, then TCS.

Meaning

• Option to issue extra shares (over-allotment) beyond original offer to stabilize price.
SEBI Guidelines

• Company must get approval in general meeting resolution.

• Appoint a Stabilizing Agent (SA) (usually a lead book runner).

• SA handles price stabilization.

Agreement

• SA signs agreement with:

• Company

• Promoter (who lends shares up to 15% of issue size)

Time Limit

• Stabilization allowed for 30 days from date of listing permission.

Purpose

• Not to raise extra capital, but to control price fluctuations.

Working

• If price rises too high → SA uses lent shares to increase supply.

• If price falls below issue price → SA buys shares from market to raise price.

• After price stabilisation, shares are returned to promoters:

• Immediately or within 2 working days after stabilization period.

• Promoters earn no profit from this.

SEBI Additional Guidelines

• GSO allowed only if approved by shareholders via general meeting resolution.

• Stabilizing Agent (SA) must open:

1. Special bank account (separate from public issue account)

→ for money received under GSO

 2. Special demat account (with depository participant)

→ for shares bought from market during stabilization

Reverse Book Building

• Used for buyback of shares (not for issue like normal book building).

Process

• Company invites offers from shareholders at different prices.

• Prices must be equal to or above floor price.

• Done through online bidding system on stock exchange.

• Bidding remains open for 5 days.

Price Determination

• Buyback price is decided after closing date.

• Final price = price at which maximum shares are offered.