Red Herring Prospectus

Red Herring Prospectus: The Preliminary Document in a Book-Built Issue

In a fixed-price public issue, the prospectus is issued once, with all material terms — including the price and the number of securities — fixed and final. In a book-built issue, by contrast, the price is discovered through a bidding process, and the final number of securities may depend on the demand revealed by the book. The red herring prospectus (RHP) is the document issued at the commencement of the book-building process: it contains substantially all the information that the final prospectus will contain, except the price (or final price band) and the precise number of securities. These are filled in at the end of the bidding process, and the resulting document — the prospectus with the complete terms — is filed with the Registrar of Companies.

Statutory Framework and Process

Section 32 of the Companies Act, 2013 and the SEBI (Issue of Capital and Disclosure Requirements) Regulations govern the red herring prospectus in India. A company proposing a book-built issue files a Draft Red Herring Prospectus (DRHP) with SEBI and the stock exchanges for their review. SEBI may issue observations requiring modifications. Once SEBI's observations are addressed, the company files the RHP with the Registrar of Companies and launches the issue, opening the bidding window for investors. During the bidding period, the RHP — which contains all material information about the company, its business, its risks, its management, and its financials, but with a price band rather than a fixed price and a possible cap on the number of securities — is the operative disclosure document. Investors bid within the price band, indicating the number of securities they wish to subscribe to at each price level. At the close of bidding, the issue price is determined on the basis of the bids received, and the final prospectus — incorporating the price, the number of securities, and any consequent adjustments — is filed.

The Function and Liability

The RHP serves a critical function in a book-built issue: it provides investors with the comprehensive information they need to form a view about the value of the securities, before they commit to a specific price. It allows the price to be discovered by the market, rather than set by the company, and it accommodates the variation in the size of the issue based on demand. As to liability, the RHP is a prospectus for the purposes of the disclosure and misstatement provisions of the Companies Act — the company and its directors remain liable for any untrue or misleading statement in the RHP, and the civil and criminal consequences attach as they would to a final prospectus. The difference between the RHP and the final prospectus is one of timing and completeness of certain terms, not of legal character or liability. The RHP is the principal disclosure document in the most common form of public issue in India today, and its integrity is central to the fairness of the price-discovery process.

“The red herring prospectus is the document that lets the market find the price — a near-complete disclosure, missing only the very thing (the price) that the bidding process exists to discover. It tells the investor all he needs to know to value the security, then invites him to say what he would pay. In this hybrid of disclosure and discovery lies the architecture of the modern book-built issue.”