Realization Of Gains From Investments In Unlisted Shares.

We can comment on a delicacy only when we have tasted it. Similarly, we can only speak of a brand’s offering when we have experienced it. Likewise, an investment makes sense only when returns from it are realized. Realizing gains from investments made in unlisted shares is not as simple as squaring off your positions in stock exchanges because there is no regulated and specific marketplace for them. Therefore, an individual investor or even a related firm has to look for some non-traditional methods by which they can pocket these gains from the investments made in shares of an unlisted company. 

On this note, I welcome you all to our blog on how the gains are realized from investments in Unlisted Shares. Let’s get straight into the topic, as I only have a few words to encompass it all.

• Merger & Acquisition route - 

What does merger & acquisition mean? 

A merger is a process wherein two individual companies form a new entity. For example, the merger of two telecom giants, Vodafone and Idea. These separate entities merged to create a new brand, ‘Vi.’ 

On the other hand, the acquisition is when a financially stronger company buys a majority stake in a smaller business, after which the latter ceases to exist.

For example, Tata Motors acquired the luxury carmaker Jaguar Land Rover for $2.3 billion 2008. 

As per a report from Ernst & Young published on Institutional Investor dated November 5, 2021, Unlisted Shares now represent 30% of the total M&A deals. In addition, Unlisted Shares investments from unlisted companies accounted for merger and acquisition deals worth $868 billion in the first three quarters of 2021. 

How are profits made and realized through this route?

Perspective (1) - 

• Suppose you are an investor who has committed capital to an unlisted company called XYZ Limited.

• The rationale with which unlisted companies participate in an M&A deal is that post-M&A, they expect the valuation of the business to shoot up so that they can realize gains after re-selling their stake in an entity. 

• Therefore, if the scenario mentioned above comes into reality, the contributory committed capital that an unlisted company used to fund an M&A also gets to enjoy a share of the profit. 
  
  Perspective (2) - 

  What happens if you are a shareholder in an unlisted company being acquired? 

• If an acquisition is an all-cash deal, the shareholders of an acquired company usually receive certain payments on a per-share basis, and the shares of an acquired company are removed from your portfolio. 

• However, suppose it’s an all-stock deal. In that case, the acquired company’s shares get replaced with shares of the acquiring company on a predetermined ratio basis like 1:1, i.e., a shareholder is entitled to get one share for every share they hold in an acquired company.  
  
  Initial Public Offering (IPO) route - 

It is a relatively more straightforward concept we will understand with an example. 

Before 2017, when Avenue Supermarts (DMart) was an unlisted company, its shares were trading at approximately INR 200. Let’s consider a situation where you owned 100 shares of DMart before it became the multi-bagger ‘DMart.’ 

Now, suppose you had previously followed India’s Unlisted Shares investment scenario before Precize arrived. In that case, you will agree that it wasn’t all streamlined and seamless, as everything was conducted over the counter (OTC). It makes sense to bring up this point because there was no uniformity in buying and selling prices. Therefore, the only route for investors in Unlisted Company was to wait for an IPO to sell their holdings at a fair price.

How does the realization of gains happen via the IPO route? 

When DMart was presented for an IPO, the issue price was pegged at INR 299 apiece, higher than the price it was trading as an unlisted company. 

Can you encash at this stage? No. 

Then DMart went to list at approximately INR 616, making record listing gains for its IPO investors. 
Being an investor in the unlisted shares of DMart, can you realize the gains at this stage? No.

But why? The reason is a six-month lock-in period for every investor when their Unlisted Shares investments go for public listing. 

Therefore, on completion of six months from the listing date, an investor in Unlisted Shares of a firm that is now publicly traded can realize gains or losses from such an investment by selling their respective holdings.

Regulations and Taxations. 

• Recapitalization route - 

Recapitalization is restructuring a company’s capital structure to improve its financial stability. In simpler terms, if there is a company that has financed 70% of its business by debt and the rest 30% by equity, it is considered a highly leveraged and risky company in general. However, if it plans to decrease its debt-financed portion to 40% and simultaneously increase its equity-financed part to 60%, this activity is formally called ‘recapitalization.’ 

How can recapitalization create valuable gains? 

Recapitalization is done to either counter the fall in share price, protect an entity from a hostile takeover, reduce taxable income, or as an exit strategy for organizations involved in unlisted shares investments. So, you hold unlisted shares of a particular company that is highly leveraged, and the company plans to go for recapitalization. In that case, you, as an investor, can sell your holdings to new equity share investors and exit the company. 

Bringing it to a close. 

Investing in unlisted shares is a task on its own. What makes it even more complicated is the mechanism of return creation and methods in practice to realize gains. However, it is worth investing in unlisted shares of companies that operate with a sustainable and scalable business model. To do so, you can always visit our platform and reserve access at Precize.