Key Takeaways
- What are pre-IPO investments? Are they defined?
- Can they be made under the FPI route as well? What can be the challenges if investments are made under the FDI route? What’s the matter with FDI – FPI double-hatting?
- Lock-ins and liquidity concerns? How are post-merger shares to be dealt with (for instance Zepto, Meesho etc.)?
- How to conduct a diligence and manage UPSI / MNPI cleansing?
- Tax considerations – withholding and dealing with Section 281?
- Anti-trust (CCI) approvals – and how to best manage them?
Key Takeaways
- What are pre-IPO investments? Are they defined?
- Can they be made under the FPI route as well? What can be the challenges if investments are made under the FDI route? What’s the matter with FDI – FPI double-hatting?
- Lock-ins and liquidity concerns? How are post-merger shares to be dealt with (for instance Zepto, Meesho etc.)?
- How to conduct a diligence and manage UPSI / MNPI cleansing?
- Tax considerations – withholding and dealing with Section 281?
- Anti-trust (CCI) approvals – and how to best manage them?
Defining pre-IPO investments?
Before or after the draft red herring prospectus (“DRHP”)?
SEBI (Issue of Capital and Disclosure Requirements) Regulations, 2018 (“SEBI ICDR”) refer to pre-IPO placements primarily in the context of disclosure requirements in the DRHP. Specifically, any primary issuance proposed post-DRHP filing must be disclosed therein. However, the regulations do not define what constitutes a “pre-IPO placement.”
In market parlance, “pre-IPO” typically refers to primary or secondary investments in IPO-ready companies (could be before the DRHP as well, but usually within close IPO proximity).
Companies pursue such rounds to establish a valuation benchmark, attract institutional investors (often public markets-focused), and enhance credibility and branding ahead of the IPO. These deals are usually quicker to close, with limited diligence and negotiations as discussed later. For investors, pre-IPO rounds offer early entry at relatively lower valuations and the potential for upside post-DRHP.
Should one use the FDI route or the FPI route?
Under the Foreign Exchange Management (Non debt Instruments) Rules, 2019 (NDI Rules), FDI (foreign direct investment) refers to equity investments exceeding 10% in listed companies or any investment in unlisted companies and FPI (foreign portfolio investment) refers to equity investments of less than 10% in listed or to be listed shares on a recognised stock exchange. (At the cost of digression, regulatory classification aside, there are enough examples of sub-10% FDI investment in listed companies that we analyse in our paper of FDI v FPI debate here.)
So, clearly, since the shares are unlisted – the investment can only be made under the FDI route. Once the shares get listed, the investor may then invest under the FPI route. Here’s the challenge. NDI Rules prohibit FDI and FPI investments in the same company from the same offshore vehicle, thus precluding further investments on the floor.
The question then is – Can investment in unlisted shares closer to listing be deemed ‘to be listed’, and thus allowing for FPI investments? Unfortunately, not. The general consensus is that “to be listed” means participation in the IPO when the issue formally opens and not any time before that, precluding FPI route for pre-IPO investments.
SEBI Prohibition of Insider Trading Regulations (PIT Regulations)1 define “proposed to be listed” as unlisted securities purchased after the filing of the RHP. However, the context is different. PIT regulations are not intended to govern foreign investments.
Due Diligence – to what extent?
Pre-IPO deal diligences are usually not as expansive as early-stage diligences. Due to the mature stage of the company and its track record (given its headed to IPO), investors tend to get comfortable with the health of the company. On the other hand, the investee company would usually procure a vendor due diligence (“Vendor DD”) report since it is likely to negotiate with multiple investors. The Vendor DD becomes the level one diligence for the investors. Investors seek reliance on this diligence report and may appoint their lawyers to do a top-up or ask incremental questions to the service provider – either way – obviating the need for a private equity style full-blown diligence exercise. By this time, investee companies often have a chip on their shoulder and may not entertain extensive negotiations as well. You can refer to our article on negotiating strategies in late-stage investments here.
UPSI / MNPI – and how to deal with it?
The PIT Regulations prohibit any person with access to unpublished price sensitive information (“UPSI”) to trade in listed securities or “proposed to be listed” securities. As explained above, the construct of “proposed to be listed” securities in context of PIT Regulations means trading in any securities after the RHP filing (and before listing). Pre-IPO investors investing prior to the filing of the DRHP must ensure that any UPSI they hold is adequately cleansed through public disclosure before they can trade in the company’s securities.
In most cases, the turf is smoother since most material information of concern to them will usually find a place in the DRHP (disclosed publicly) taking it outside the purview of UPSI. However, certain categories of information – such as internal business projections or forward-looking financials may not be. Investors must take confirmation that the company has not given them any UPSI. Irrespective, it might be helpful to take legal advice on what is UPSI, and how one must engage in UPSI cleansing process before dealing in listed or to be listed shares.
Fallaway of rights and protection mechanisms
The rights package of Pre-IPO investors may include standard pre-emptive rights and minority protection matters (such as reserve matter rights, anti-dilution, liquidation preference etc.). These rights are generally contained under the shareholders’ agreement of the company but in certain situations the shareholders’ agreement might just be a vanilla document with special rights captured in a separate side letter. That’s a matter of commercial construct.
The question is – whether these rights would survive post listing as well? And if not, when do these lapse? The benchmark for fallaway of rights has evolved. SEBI earlier informally informed merchant bankers that these special rights should fall away on filing of the updated DHRP (UDRHP). But in the most recent advisory, SEBI required the rights to fall away only on listing. (See our Bottom Line here). Practically, however, merchant bankers continue to insist on fallaway of these prior to the filing of the RHP as against fallaway on ‘listing’ per SEBI’s most recent advisory. Sometimes, even at the DRHP stage to avoid disclosure in the DRHP.
Spring-back provisions. Now that we’ve discussed fallaway – let’s speak about spring-back of rights in the rare scenario that listing doesn’t eventually occur. Of course, if rights were to fallaway only upon listing, spring-back provisions would be redundant. But that’s not the case. Hence, negotiating a spring-back clause becomes important.
Exit on aborted listing. Spring-back addresses special rights restoration, but what happens in case an investor wants to completely exit due to failed listing?
Put on the selling shareholder? An FDI investor is permitted to have put option against the resident selling shareholders, but this is unfortunately subject to two conditions. First, a minimum lock-in of one year and a requirement (frustrating the idea of immediate sale if an IPO fails), and second, that the exit must be at fair market value (allaying the idea of a fixed price exit). While an ‘option’ is not permitted, a conditional share sale contract should be legally possible – in effect, where the share sale transaction must be mandatorily consummated if the shares are not listed within a certain timeframe.
Where the pre-IPO was a primary investment? Contractually, a company could enter into a similar contingent share repurchase agreement with the investor. However, a company is permitted to repurchase its own shares only through two mechanisms: a capital reduction (court driven process to retire capital) or a buyback (an automatic process for retirement of capital, but subject to onerous conditions – such as selective shareholder buyback not permitted etc.). In effect, neither of these can assure an exit, let alone an exit price.
When can a pre-IPO investor sell?
Lock-ins post listing. All existing shareholders (other than promoters that are locked in for 18 months for up to 20% of their post-issue holding2 ) are locked in for 6 months from date of allotment in the IPO. An exemption is available for equity shares held by a FVCI and category I and II AIFs whose shares are just locked in for six months from the date of purchase as opposed to the date of allotment. For this exemption, if equity shares result from conversion of fully paid compulsorily convertible securities, the holding periods of both the securities and resulting equity shares are combined for the purposes of calculating the six-month period.
Sale in an OFS. To participate in an OFS as part of an IPO, selling shareholders must have held equity shares or convertible securities in the company for at least one year before filing the DRHP.
Lock-in on shares received post-merger (relevant for cases of reverse flips)? The one year hold pre-DRHP for sale in an OFS takes into account ‘equity shares’ received through a court-approved merger. This becomes tricky if CCPS (not equity) is received as merger consideration since the ICDR Regulations,, as currently worded, allow pre-merger holding period to be included only for ‘equity shares’. In effect, if CCPS are received in the merger, then the one year hold period is reset to the date when the CCPS convert into equity – rather suboptimal and unintended result for the investor. In our view, this distinction appears to be an unintended drafting issue rather than a deliberate regulatory restriction. However, in practice, merchant bankers tend to follow the literal interpretation of the law, leading to an additional lock-in period for CCPS holders. Most recently, a consultation paper by SEBI now seeks comments on how to deal with convertible securities received post-merger.3 Likely that the holding period exemption could extend to CCPS received post-merger as well, such that the one year hold period takes into account the time shares (CCPS or equity alike) were held for before being sold in the OFS.
Tax considerations?
Withholding. In cases where the seller is not a resident, the Indian Income-tax Act (“ITA”) imposes a withholding tax obligation on the buyer to withhold applicable capital gains taxes from the sale consideration, and deposit these taxes with the Indian tax department. Capital gains tax is paid on the amount of gains (of course not the entire consideration), and so computation of cost of acquisition and attendant gain computation is important. Note that the buyer acts as a representative assessee as regards these taxes, and is likely to be prosecuted before even before the seller (remember Vodafone tax case? It was the buyer, no one even remembers the seller, Hutch).
For quick reference, withholding should be done per the following rates. If an investor sells listed equity shares on the floor of exchange after 12 months’ holding, the gains are taxed at 12.5% as longterm capital gains, and if sold earlier, then taxed at 20% as short-term capital gains (but taxed at slab rates if no STT is paid). The holding period changes to 24 months if the shares are unlisted.
Buyers required to withhold tax should consult their legal / tax advisors to navigate the practical aspects of withholding – such as determining the cost of acquisition, filing of forms, obtaining a Tax Deduction and Collection Account Number (“TAN”), and ensuring procedural compliance.
In transactions where the appropriate withholding position is uncertain or subject to interpretation, parties often address the exposure through contractual protections, including negotiated tax indemnities or tax insurance. These considerations are particularly relevant for vintage investments made prior to 2017 through jurisdictions such as Mauritius or Singapore, where capital gains were previously not taxable in India under applicable tax treaties. For further discussion on treaty benefit denials, please refer to our detailed note here.
Section 281 – what’s the risk really? Simply, section 281 of the ITA states that if a seller transfers any of their assets (like shares) while a tax proceeding is still ongoing, that transfer can be considered void as against any potential tax claim by the tax authorities, unless (a) tax department (assessing officer) has given its NOC; or (b) the transfer happened at fair market value. FMV determination could be tricky and litigious – so in effect, unless the tax department NOC comes, the buyer could lose the asset if the seller did not disclose of ongoing tax disputes. Note that 281 doesn’t apply to assets held as stock-in-trade, and also remember that securities held by FPIs are deemed to be capital assets.
A section 281 NOC can take weeks to months (faster for individual sellers but still takes time) practically. If the deal cannot wait that long – apply for section 281 NOC and take comfort in similar NOC and FMV confirmation from a reputed chartered accountant coupled with attendant tax representations and tax indemnities.
Section 56(2)(x) confirmation?
Under Section 56(2)(x) of the ITA, if a person purchases an asset and as consideration pays an amount that is less than the “fair market value”, then the difference between the fair market value and the consideration actually paid will be treated as income of the buyer, since it is deemed to be received without consideration. Fairly common for investors to seek a representation (and attendant tax indemnity) from the seller confirming that the shares are being transferred at fair market value for the purposes of section 56(2)(x). On related note, please refer to our analysis on - Should investors be subjected to “gift-tax” when subscribing to listed shares?
Anti-trust approvals – and how to best manage them?
Any investment in Indian assets, directly or indirectly, could trigger merger control approvals subject to conditions set out in sections 5 and 6 of the Competition Act. While the CCI seldom rejects any combination related applications, deal timelines could often be severely impacted by the timelines to file and wait for regulatory approval (or deemed approval). Procuring the approval is incumbent on the acquirer, and hence pre-IPO investors should first check if they can fall under one of the exemptions from filing.
1. De-minimis exemption.
The first objective exemption threshold is the ‘de-minimis’ or the ‘target entity’ exemption. If a transaction qualifies for this exemption, it eliminates the need to assess thresholds under Section 5 of the Competition Act, which can otherwise be quite complex.
The de-minimis exemption applies if:
“…either the value of assets or turnover of the enterprise being acquired, taken control of, merged or amalgamated in India is not more than such value as may be prescribed.” 4
Thresholds currently prescribed:
- Assets in India: Not more than INR 450 crore
- Turnover in India: Not more than INR 1,250 crore
Although there is some scope for interpretation due to the use of the phrase “enterprise...in India,” rather than explicitly stating “assets or turnover in India,” the prevailing interpretation is that the exemption specifically applies when the target’s assets and turnover are located in India.
Net-net, if the target enterprise has assets below INR 450 crore or turnover below INR 1,250 crore in India, the transaction qualifies for the de minimis exemption, and no CCI filing is required.
However, since 10th September 2024, the de-minimis exemption has been made subject to deal value thresholds (DVT). We discuss this in detail in our paper on DVT here. Very broadly, if the deal value is above INR 2000 crore, and the target has substantial business operation in India, then de-minimis exemption may not be applicable.
2. 25% – ‘solely as an investment’ exemption
If you have failed the de-minimis test, or if the de-minimis test has been trumped by DVT, you can still be exempted from making a filing if your investment qualifies as ‘solely as an investment’. This exemption applies if the investment results in an acquisition of less than 25% of the total shares or voting rights of the company.
Note that the exemption will not be available, if the acquisition of shares or voting rights results in the (a) acquisition of control, (b) entitlement to a board representation, or (c) access to commercially sensitive information, or (d) if there is an overlap between the acquirer or its group (including their affiliates) and the target entity or its downstream group (including their affiliates).5
3. Overlaps? Try the 10% exemption
Even if there is an overlap, the investor can still qualify for the ‘solely as an investment’ exemption if the acquisition remains below 10% of shares or voting rights, and they continue to meet conditions (a) to (c) mentioned above.
However, the typical information rights package can complicate matters, as it often grants access to commercially sensitive information (CSI). The CCI has previously held that even something as routine as access to board meeting minutes can be enough to disqualify an investor from this exemption.6 The key concern is the potential for CSI to be shared – intentionally or otherwise – between competitors via common shareholders.
This is why investors, especially those with stakes in competing businesses, need to be particularly cautious when negotiating information rights. Pre-IPO investors should assess each case individually to ensure they’re not inadvertently gaining access to rights that might expose them to CSI, thereby risking their “solely as an investment” exemption.
Pre-IPO investors should also check for interconnected transactions (which can risk the exemptions). Even if a transaction appears exempt under the de minimis or “solely as an investment” route, if it forms part of a series of interconnected steps aimed at achieving a common objective, the regulator could view the entire structure as one combined transaction. This could potentially trigger a notification requirement even where the individual legs are otherwise exempt.
4. Fast-track approval – Green Channel approvals
As mentioned before, CCI approvals can be time-consuming and hence, investors seeking quicker clearance may also consider notifying the CCI through the green channel route.
In this route, CCI’s acknowledgment (usually received within a couple of days) acts as deemed approval7 , granting quicker clearance for deals with no overlaps (essentially – no horizontal, vertical, or complementary overlaps)8 between the parties or their respective group entities (including their affiliates).
Conclusion
Pre-IPO investments give investors a rare chance to get in just before a company hits the public markets. For foreign investors, it’s a smart way to lock in allocations, shape pricing, and back businesses that are already fairly mature, without taking the kind of all-or-nothing risks that come with early-stage deals.
To unlock real value, investors must come armed with a clear playbook: align early with IPO timelines, bake in robust protections, and structure deals with exit certainty. With the right diligence and strategy, pre-IPO deals can be a high-reward asset class in an increasingly IPO-ready India.
1 “Proposed to be listed” shall include securities of an unlisted company: (i) if such unlisted company filed offer documents or other documents, the case may be, with the Board, stock exchange(s) or registrar of companies in connection with the listing;”.
2 Any post-issue holding of promoters in excess of 20% is locked in for 6 months.
3 Consultation Paper on certain amendments to ICDR Regulations and SEBI (Share Based Employee Benefits and Sweat Equity) Regulations, 2021.
4 “(a) the value of assets shall be rupees four hundred and fifty crore; and (b) the value of turnover shall be rupees one thousand two hundred and fifty crore.”
5 The acquirer or its group entities and their affiliates are not engaged in – (i) any activity relating to production of similar or identical or substitutable product or service as offered by the target or its downstream group entities and their affiliates; (ii) any activity relating to production, supply, distribution, storage, sale and service or trade in product or provision of service which are at different stages or level of production chain to the activities of the target or of its downstream group entities and their affiliates; or (iii) any activity relating to production, supply, distribution, storage, sale and service or trade in product or provision of service which are complementary to the activities of the target or any of its downstream group entities or their affiliates.
6 In re: Proceedings against Goldman Sachs (India) Alternative Investment Management Private Limited, para 29: The Commission observed that Minutes Right and Access Right goes beyond the rights of ordinary shareholders both in terms of form and substance. With access to Minutes Right, GS AIF gains privileged access to all commercially sensitive information discussed and deliberated upon during the Board meetings of Biocon. This information could include strategic plans, financial data, proprietary technology, business forecasts, and other confidential matters crucial to the competitive advantage and market position of the entities involved.
7 Section 6(5) of the Competition Act: “upon filing of a notice under sub-section (4) and acknowledgement thereof by the Commission, the proposed combination shall be deemed to have been approved by the Commission under sub-section (1) of Section 31 and no other approval shall be required under sub-section (2) or sub-section (2-A).”
8 Green channel conditions: (a) They do not produce or provide similar or identical or substitutable product or service; (b) they are not engaged in any activity relating to production, supply, distribution, storage, sale and service or trade in product or provision of service,– (i) which are at different stage or level of production; or (ii) which are complementary to each other.
Defining pre-IPO investments?
Before or after the draft red herring prospectus (“DRHP”)?
SEBI (Issue of Capital and Disclosure Requirements) Regulations, 2018 (“SEBI ICDR”) refer to pre-IPO placements primarily in the context of disclosure requirements in the DRHP. Specifically, any primary issuance proposed post-DRHP filing must be disclosed therein. However, the regulations do not define what constitutes a “pre-IPO placement.”
In market parlance, “pre-IPO” typically refers to primary or secondary investments in IPO-ready companies (could be before the DRHP as well, but usually within close IPO proximity).
Companies pursue such rounds to establish a valuation benchmark, attract institutional investors (often public markets-focused), and enhance credibility and branding ahead of the IPO. These deals are usually quicker to close, with limited diligence and negotiations as discussed later. For investors, pre-IPO rounds offer early entry at relatively lower valuations and the potential for upside post-DRHP.
Should one use the FDI route or the FPI route?
Under the Foreign Exchange Management (Non debt Instruments) Rules, 2019 (NDI Rules), FDI (foreign direct investment) refers to equity investments exceeding 10% in listed companies or any investment in unlisted companies and FPI (foreign portfolio investment) refers to equity investments of less than 10% in listed or to be listed shares on a recognised stock exchange. (At the cost of digression, regulatory classification aside, there are enough examples of sub-10% FDI investment in listed companies that we analyse in our paper of FDI v FPI debate here.)
So, clearly, since the shares are unlisted – the investment can only be made under the FDI route. Once the shares get listed, the investor may then invest under the FPI route. Here’s the challenge. NDI Rules prohibit FDI and FPI investments in the same company from the same offshore vehicle, thus precluding further investments on the floor.
The question then is – Can investment in unlisted shares closer to listing be deemed ‘to be listed’, and thus allowing for FPI investments? Unfortunately, not. The general consensus is that “to be listed” means participation in the IPO when the issue formally opens and not any time before that, precluding FPI route for pre-IPO investments.
SEBI Prohibition of Insider Trading Regulations (PIT Regulations)1 define “proposed to be listed” as unlisted securities purchased after the filing of the RHP. However, the context is different. PIT regulations are not intended to govern foreign investments.
Due Diligence – to what extent?
Pre-IPO deal diligences are usually not as expansive as early-stage diligences. Due to the mature stage of the company and its track record (given its headed to IPO), investors tend to get comfortable with the health of the company. On the other hand, the investee company would usually procure a vendor due diligence (“Vendor DD”) report since it is likely to negotiate with multiple investors. The Vendor DD becomes the level one diligence for the investors. Investors seek reliance on this diligence report and may appoint their lawyers to do a top-up or ask incremental questions to the service provider – either way – obviating the need for a private equity style full-blown diligence exercise. By this time, investee companies often have a chip on their shoulder and may not entertain extensive negotiations as well. You can refer to our article on negotiating strategies in late-stage investments here.
UPSI / MNPI – and how to deal with it?
The PIT Regulations prohibit any person with access to unpublished price sensitive information (“UPSI”) to trade in listed securities or “proposed to be listed” securities. As explained above, the construct of “proposed to be listed” securities in context of PIT Regulations means trading in any securities after the RHP filing (and before listing). Pre-IPO investors investing prior to the filing of the DRHP must ensure that any UPSI they hold is adequately cleansed through public disclosure before they can trade in the company’s securities.
In most cases, the turf is smoother since most material information of concern to them will usually find a place in the DRHP (disclosed publicly) taking it outside the purview of UPSI. However, certain categories of information – such as internal business projections or forward-looking financials may not be. Investors must take confirmation that the company has not given them any UPSI. Irrespective, it might be helpful to take legal advice on what is UPSI, and how one must engage in UPSI cleansing process before dealing in listed or to be listed shares.
Fallaway of rights and protection mechanisms
The rights package of Pre-IPO investors may include standard pre-emptive rights and minority protection matters (such as reserve matter rights, anti-dilution, liquidation preference etc.). These rights are generally contained under the shareholders’ agreement of the company but in certain situations the shareholders’ agreement might just be a vanilla document with special rights captured in a separate side letter. That’s a matter of commercial construct.
The question is – whether these rights would survive post listing as well? And if not, when do these lapse? The benchmark for fallaway of rights has evolved. SEBI earlier informally informed merchant bankers that these special rights should fall away on filing of the updated DHRP (UDRHP). But in the most recent advisory, SEBI required the rights to fall away only on listing. (See our Bottom Line here). Practically, however, merchant bankers continue to insist on fallaway of these prior to the filing of the RHP as against fallaway on ‘listing’ per SEBI’s most recent advisory. Sometimes, even at the DRHP stage to avoid disclosure in the DRHP.
Spring-back provisions. Now that we’ve discussed fallaway – let’s speak about spring-back of rights in the rare scenario that listing doesn’t eventually occur. Of course, if rights were to fallaway only upon listing, spring-back provisions would be redundant. But that’s not the case. Hence, negotiating a spring-back clause becomes important.
Exit on aborted listing. Spring-back addresses special rights restoration, but what happens in case an investor wants to completely exit due to failed listing?
Put on the selling shareholder? An FDI investor is permitted to have put option against the resident selling shareholders, but this is unfortunately subject to two conditions. First, a minimum lock-in of one year and a requirement (frustrating the idea of immediate sale if an IPO fails), and second, that the exit must be at fair market value (allaying the idea of a fixed price exit). While an ‘option’ is not permitted, a conditional share sale contract should be legally possible – in effect, where the share sale transaction must be mandatorily consummated if the shares are not listed within a certain timeframe.
Where the pre-IPO was a primary investment? Contractually, a company could enter into a similar contingent share repurchase agreement with the investor. However, a company is permitted to repurchase its own shares only through two mechanisms: a capital reduction (court driven process to retire capital) or a buyback (an automatic process for retirement of capital, but subject to onerous conditions – such as selective shareholder buyback not permitted etc.). In effect, neither of these can assure an exit, let alone an exit price.
When can a pre-IPO investor sell?
Lock-ins post listing. All existing shareholders (other than promoters that are locked in for 18 months for up to 20% of their post-issue holding2 ) are locked in for 6 months from date of allotment in the IPO. An exemption is available for equity shares held by a FVCI and category I and II AIFs whose shares are just locked in for six months from the date of purchase as opposed to the date of allotment. For this exemption, if equity shares result from conversion of fully paid compulsorily convertible securities, the holding periods of both the securities and resulting equity shares are combined for the purposes of calculating the six-month period.
Sale in an OFS. To participate in an OFS as part of an IPO, selling shareholders must have held equity shares or convertible securities in the company for at least one year before filing the DRHP.
Lock-in on shares received post-merger (relevant for cases of reverse flips)? The one year hold pre-DRHP for sale in an OFS takes into account ‘equity shares’ received through a court-approved merger. This becomes tricky if CCPS (not equity) is received as merger consideration since the ICDR Regulations,, as currently worded, allow pre-merger holding period to be included only for ‘equity shares’. In effect, if CCPS are received in the merger, then the one year hold period is reset to the date when the CCPS convert into equity – rather suboptimal and unintended result for the investor. In our view, this distinction appears to be an unintended drafting issue rather than a deliberate regulatory restriction. However, in practice, merchant bankers tend to follow the literal interpretation of the law, leading to an additional lock-in period for CCPS holders. Most recently, a consultation paper by SEBI now seeks comments on how to deal with convertible securities received post-merger.3 Likely that the holding period exemption could extend to CCPS received post-merger as well, such that the one year hold period takes into account the time shares (CCPS or equity alike) were held for before being sold in the OFS.
Tax considerations?
Withholding. In cases where the seller is not a resident, the Indian Income-tax Act (“ITA”) imposes a withholding tax obligation on the buyer to withhold applicable capital gains taxes from the sale consideration, and deposit these taxes with the Indian tax department. Capital gains tax is paid on the amount of gains (of course not the entire consideration), and so computation of cost of acquisition and attendant gain computation is important. Note that the buyer acts as a representative assessee as regards these taxes, and is likely to be prosecuted before even before the seller (remember Vodafone tax case? It was the buyer, no one even remembers the seller, Hutch).
For quick reference, withholding should be done per the following rates. If an investor sells listed equity shares on the floor of exchange after 12 months’ holding, the gains are taxed at 12.5% as longterm capital gains, and if sold earlier, then taxed at 20% as short-term capital gains (but taxed at slab rates if no STT is paid). The holding period changes to 24 months if the shares are unlisted.
Buyers required to withhold tax should consult their legal / tax advisors to navigate the practical aspects of withholding – such as determining the cost of acquisition, filing of forms, obtaining a Tax Deduction and Collection Account Number (“TAN”), and ensuring procedural compliance.
In transactions where the appropriate withholding position is uncertain or subject to interpretation, parties often address the exposure through contractual protections, including negotiated tax indemnities or tax insurance. These considerations are particularly relevant for vintage investments made prior to 2017 through jurisdictions such as Mauritius or Singapore, where capital gains were previously not taxable in India under applicable tax treaties. For further discussion on treaty benefit denials, please refer to our detailed note here.
Section 281 – what’s the risk really? Simply, section 281 of the ITA states that if a seller transfers any of their assets (like shares) while a tax proceeding is still ongoing, that transfer can be considered void as against any potential tax claim by the tax authorities, unless (a) tax department (assessing officer) has given its NOC; or (b) the transfer happened at fair market value. FMV determination could be tricky and litigious – so in effect, unless the tax department NOC comes, the buyer could lose the asset if the seller did not disclose of ongoing tax disputes. Note that 281 doesn’t apply to assets held as stock-in-trade, and also remember that securities held by FPIs are deemed to be capital assets.
A section 281 NOC can take weeks to months (faster for individual sellers but still takes time) practically. If the deal cannot wait that long – apply for section 281 NOC and take comfort in similar NOC and FMV confirmation from a reputed chartered accountant coupled with attendant tax representations and tax indemnities.
Section 56(2)(x) confirmation?
Under Section 56(2)(x) of the ITA, if a person purchases an asset and as consideration pays an amount that is less than the “fair market value”, then the difference between the fair market value and the consideration actually paid will be treated as income of the buyer, since it is deemed to be received without consideration. Fairly common for investors to seek a representation (and attendant tax indemnity) from the seller confirming that the shares are being transferred at fair market value for the purposes of section 56(2)(x). On related note, please refer to our analysis on - Should investors be subjected to “gift-tax” when subscribing to listed shares?
Anti-trust approvals – and how to best manage them?
Any investment in Indian assets, directly or indirectly, could trigger merger control approvals subject to conditions set out in sections 5 and 6 of the Competition Act. While the CCI seldom rejects any combination related applications, deal timelines could often be severely impacted by the timelines to file and wait for regulatory approval (or deemed approval). Procuring the approval is incumbent on the acquirer, and hence pre-IPO investors should first check if they can fall under one of the exemptions from filing.
1. De-minimis exemption.
The first objective exemption threshold is the ‘de-minimis’ or the ‘target entity’ exemption. If a transaction qualifies for this exemption, it eliminates the need to assess thresholds under Section 5 of the Competition Act, which can otherwise be quite complex.
The de-minimis exemption applies if:
“…either the value of assets or turnover of the enterprise being acquired, taken control of, merged or amalgamated in India is not more than such value as may be prescribed.” 4
Thresholds currently prescribed:
- Assets in India: Not more than INR 450 crore
- Turnover in India: Not more than INR 1,250 crore
Although there is some scope for interpretation due to the use of the phrase “enterprise...in India,” rather than explicitly stating “assets or turnover in India,” the prevailing interpretation is that the exemption specifically applies when the target’s assets and turnover are located in India.
Net-net, if the target enterprise has assets below INR 450 crore or turnover below INR 1,250 crore in India, the transaction qualifies for the de minimis exemption, and no CCI filing is required.
However, since 10th September 2024, the de-minimis exemption has been made subject to deal value thresholds (DVT). We discuss this in detail in our paper on DVT here. Very broadly, if the deal value is above INR 2000 crore, and the target has substantial business operation in India, then de-minimis exemption may not be applicable.
2. 25% – ‘solely as an investment’ exemption
If you have failed the de-minimis test, or if the de-minimis test has been trumped by DVT, you can still be exempted from making a filing if your investment qualifies as ‘solely as an investment’. This exemption applies if the investment results in an acquisition of less than 25% of the total shares or voting rights of the company.
Note that the exemption will not be available, if the acquisition of shares or voting rights results in the (a) acquisition of control, (b) entitlement to a board representation, or (c) access to commercially sensitive information, or (d) if there is an overlap between the acquirer or its group (including their affiliates) and the target entity or its downstream group (including their affiliates).5
3. Overlaps? Try the 10% exemption
Even if there is an overlap, the investor can still qualify for the ‘solely as an investment’ exemption if the acquisition remains below 10% of shares or voting rights, and they continue to meet conditions (a) to (c) mentioned above.
However, the typical information rights package can complicate matters, as it often grants access to commercially sensitive information (CSI). The CCI has previously held that even something as routine as access to board meeting minutes can be enough to disqualify an investor from this exemption.6 The key concern is the potential for CSI to be shared – intentionally or otherwise – between competitors via common shareholders.
This is why investors, especially those with stakes in competing businesses, need to be particularly cautious when negotiating information rights. Pre-IPO investors should assess each case individually to ensure they’re not inadvertently gaining access to rights that might expose them to CSI, thereby risking their “solely as an investment” exemption.
Pre-IPO investors should also check for interconnected transactions (which can risk the exemptions). Even if a transaction appears exempt under the de minimis or “solely as an investment” route, if it forms part of a series of interconnected steps aimed at achieving a common objective, the regulator could view the entire structure as one combined transaction. This could potentially trigger a notification requirement even where the individual legs are otherwise exempt.
4. Fast-track approval – Green Channel approvals
As mentioned before, CCI approvals can be time-consuming and hence, investors seeking quicker clearance may also consider notifying the CCI through the green channel route.
In this route, CCI’s acknowledgment (usually received within a couple of days) acts as deemed approval7 , granting quicker clearance for deals with no overlaps (essentially – no horizontal, vertical, or complementary overlaps)8 between the parties or their respective group entities (including their affiliates).
Conclusion
Pre-IPO investments give investors a rare chance to get in just before a company hits the public markets. For foreign investors, it’s a smart way to lock in allocations, shape pricing, and back businesses that are already fairly mature, without taking the kind of all-or-nothing risks that come with early-stage deals.
To unlock real value, investors must come armed with a clear playbook: align early with IPO timelines, bake in robust protections, and structure deals with exit certainty. With the right diligence and strategy, pre-IPO deals can be a high-reward asset class in an increasingly IPO-ready India.
1 “Proposed to be listed” shall include securities of an unlisted company: (i) if such unlisted company filed offer documents or other documents, the case may be, with the Board, stock exchange(s) or registrar of companies in connection with the listing;”.
2 Any post-issue holding of promoters in excess of 20% is locked in for 6 months.
3 Consultation Paper on certain amendments to ICDR Regulations and SEBI (Share Based Employee Benefits and Sweat Equity) Regulations, 2021.
4 “(a) the value of assets shall be rupees four hundred and fifty crore; and (b) the value of turnover shall be rupees one thousand two hundred and fifty crore.”
5 The acquirer or its group entities and their affiliates are not engaged in – (i) any activity relating to production of similar or identical or substitutable product or service as offered by the target or its downstream group entities and their affiliates; (ii) any activity relating to production, supply, distribution, storage, sale and service or trade in product or provision of service which are at different stages or level of production chain to the activities of the target or of its downstream group entities and their affiliates; or (iii) any activity relating to production, supply, distribution, storage, sale and service or trade in product or provision of service which are complementary to the activities of the target or any of its downstream group entities or their affiliates.
6 In re: Proceedings against Goldman Sachs (India) Alternative Investment Management Private Limited, para 29: The Commission observed that Minutes Right and Access Right goes beyond the rights of ordinary shareholders both in terms of form and substance. With access to Minutes Right, GS AIF gains privileged access to all commercially sensitive information discussed and deliberated upon during the Board meetings of Biocon. This information could include strategic plans, financial data, proprietary technology, business forecasts, and other confidential matters crucial to the competitive advantage and market position of the entities involved.
7 Section 6(5) of the Competition Act: “upon filing of a notice under sub-section (4) and acknowledgement thereof by the Commission, the proposed combination shall be deemed to have been approved by the Commission under sub-section (1) of Section 31 and no other approval shall be required under sub-section (2) or sub-section (2-A).”
8 Green channel conditions: (a) They do not produce or provide similar or identical or substitutable product or service; (b) they are not engaged in any activity relating to production, supply, distribution, storage, sale and service or trade in product or provision of service,– (i) which are at different stage or level of production; or (ii) which are complementary to each other.
Authors
Maseeh Yazdani
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Ruchir Sinha
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