Qualified Institutions and Placement (QIP) and Preferential Allotment are quickest, easiest and cost effective ways of raising capital, and therefore, the promoters prefer these routes over the time consuming rights issues or follow-on offers.
Rights issue and follow-on issues are mainly bogged down by lengthy, tedious and time consuming procedures, while QIP and preferential allotment are less time consuming as that do not require submitting and seeking approval of issue prospectus as in the case of right issue. A placement document is required to be submitted with stock exchanges were shares are to be listed against full fledged issue prospectus for right issues.
In QIP, no prior regulatory approval is required for issue document placed with QIBs, which are basically institutional investors. The assumption is that institutional investors, to whom the shares are offered, are supposed to be well informed investors and a detailed prospectus approved by the regulators is not needed.
Besides QIP, many companies have raised money in the recent past through Preferential Allotment of shares to promoters and strategic investors as well. The purpose of allotting preferential shares to promoters is to maintain promoters stake at a comfortable level post equity dilution through QIP issue.
One of the reasons for introducing QIP was to invite risk takers to the market. A company that wants to come out with an IPO and list has to fulfill certain basic criteria such as profitability track record, net worth and so on. Companies in certain industries such as direct-to-home and airlines where gestation period is long, will not able to float an IPO due to the non-fulfillment of the eligibility conditions. To allow such companies to raise money from the stock market, the Disclosure and Investor Protection Guidelines allowed them to float IPO provided 50% of shares are reserved and allotted to Qualified Institutional Buyers.
It is not only promoters, but even institutional investors prefer QIP and Preferential Allotment. This is because if institutional investors decide to buy shares from the open market in bulk, the price of the stock shoots up. They are saved from this possible impact cost when he buys a stake through QIP or Preferential Allotment.
QIPs & Preferential issues have flexible structure. QIP is popular because the issuer can use other financial instruments convertible into equity shares, except warrants. Preferential issues allow companies to allot optional convertible warrants. Optionally convertible warrants are not available to QIBs. However, preferential issues come with a lock-in period, while QIP has no lock-in, with the only condition that shares should be sold through the recognized stock exchanges.
With companies favoring QIP and preferential allotment, small and retail investors are being deprived of opportunities to invest in such companies. Suppose retail investor is holding shares of a company about whom he is confident. He is convinced about its future prospectus and would like to hold these shares for long term. Now if the company wants to raise additional equity capital the retail investor is on losing side. This is because, he is being deprived of the investment opportunity in favor of a handful of institutional investors and promoters.
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