Draft Red Herring Prospectus, commonly known as DRHP, is a preliminary prospectus that has to be prepared by companies that are planning to go for an Initial Public Offering (IPO) and mandatorily file with the Securities and Exchange Board of India (SEBI).
This document acts as a key communication between the company and its potential investors. The document includes information about the company’s business and operations, details of its promoters, what is its business plan, its financial condition, current major shareholders, pending litigation, litigations (if any), and other pertinent details. In addition to the detailed information about the company, it also gives details about why it is planning to raise the money, how the money will be used, and the risks involved in investing in the company. The DRHP, however, does not state the price of the issue or the issue size.
Through the DRHP, investors can look at the potential of the company and decide whether they wish to invest their money in the IPO.
A red herring prospectus may refer to the first prospectus filed with the SEBI as well as a variety of subsequent drafts created prior to obtaining approval for public release. SEBI reviews the draft document to make sure that the data that is presented is accurate and transparent, and does not include any intentional or incidental falsehoods or statements that are in violation of any laws or regulations to protect investors from any fraud. SEBI may also note any failure to disclose required information.
Often after SEBI approves the DRHP, an RHP is also published. After SEBI’s approval, the company proceeds with the next step in its IPO journey.
What is the difference between DRPH and RHP?
IPO Draft Prospectus (DRHP) is prepared by the lead manager and submitted to SEBI for approval of IPO. SEBI goes through the DRHP and recommends changes, if any, and thereafter approves it when the modifications are made as per SEBI’s instructions. Post-approval, the DRHP becomes an RHP, aka Red Herring Prospectus. RHP is also known as IPO Final Prospectus and along with the details of the issue, it also includes information such as the number of shares offered and their face value.
Where to get the RHP from?
Getting a Prospectus is easy. RHPs of all the forthcoming IPOs are available for free from SEBI’s website www.sebi.gov.co.in, under “Offer Documents”. You can also get it on the websites of merchant bankers and stock exchanges. The company is also required to make a public announcement about the filing in at least one English, Hindi, and regional language newspaper.
What to look for in the Red-Herring Prospectus?
RHP contains all the necessary information about the company, but the problem with the prospectus is that it is massive and it is difficult for an individual investor to read the whole prospectus. For example, the DRHP of Star Health and Allied Insurance Company Limited has 423 pages, while the Zomato RHP ran into a total of 420 pages — no way an investor can read all of this.
Following are some of the important areas to look for in the RHP to help you make an investment decision.
- Issue Summary: It gives the details of number of shares to be issued, the break-up of shares allotted to different categories of investors like public, QIP’s, corporate etc.
- Object of the issue: Objects of the issue gives the details of why is company seeking to raise money along with the the total cost of project & how the total cost is financed. You can also find out information about how the issue proceeds will be utilized by the company. It helps in understanding the company’s goal, i.e., whether it focuses on expansion, lowering its debt, survival, or other things.
- Financial information: Pay special attention to the financials of the company and a comparison with that of its peers along with its assets and liabilities. The financial information section is the first thing you encounter in the prospectus…. It includes statement of profit and loss, balance sheet, cash flow statement, and notes to accounts.
- Investment positives and risk factors: The prospectus also provides information about the external and internal strengths over its competitors along with the risks that the company is exposed to. It’s like the company is answering why you should invest in them and the risks that is associated with the investment. It is important that you carefully analyze the risks rationally before investing in the company.
- Promoter background and management: A company’s and its shareholders growth depends a lot on who is running it. The management is responsible for planning strategies on varied fronts like driving growth, pushing expansions, evolving as per market dynamics, marketing etc. This section has details such as names, qualifications, designations about directors, promoters and key management personnel. It may also have information about any criminal cases or that of financial delinquency or pending litigations against these people. It is important to check this section because all these can be a risk factor.
- Legal information: This section gives insights into outstanding litigations against the company and the directors, which may be criminal, civil, and tax-related. It is advisable to stay away from companies with significant litigation or promoted by people who have a bad history.
- Pre-IPO placements: A good metric is what price the company has made its pre-IPO placement to big investors. If there is a wide difference in the pre-IPO placement price and the issue price you need to understand what had changed so drastically in a few months that demands an aggressive pricing? Sometimes pre-IPO placements are used as a marketing tool by various companies during their IPOs. But it is debatable whether the sailing is easier for those with big names on their pre-IPO placement list.
Pay special attention to the management team and how they plan to use the funds generated from the IPO.
Red Herring Prospectus is literally the Bible of the company that you are perhaps considering for investment during its IPO. It provides in-depth information about the company and serves as a tool for you to analyze the company on your own, in place of searching it out all over the internet.
Experts often point out that you can learn a lot about the company, industry, and the economy as a whole from the RHP and annual reports of the company, and that’s actually true. In the end, remember that research gives you knowledge. And knowledge gives you the power to identify the investments that are right for you.