Sri Lanka Limits Equity Warrants in Line with International Benchmarks

29th September 2010, www.lankabusinessonline.com

Sri Lanka is capping equity warrants to 15 percent of a company's capital, limiting the term to two years ahead and would also require firms to maintain a minimum public float, a top regulatory official said.

"These rules are in line with international benchmarks and is similar to rules in India and Malaysia," deputy director general of the Securities and Exchange Commission Malik Cader said after addressing a group of senior business executives at the LBR- LBO chief executive officers forum in Colombo.

An equity warrant gives a holder the right to buy a new share in a company (exercised) at a future date at a specific price and is similar to a derivative contract.

Crudely valued, a warrant is worth at least the difference between the current price of an ordinary share and the specified price at which it is exercised. But any exercised warrants would dilute the value of the ordinary share.

If the market price of the ordinary share is lower than exercise price at the exercise date, the warrants would expire without diluting the capital. The uncertainty makes warrants, which are similar to a derivative contract, highly speculative.

Unless a firm is on track to make increasingly higher profits every year, a warrant would be worthless.

Warrants are usually give free as a sweetner when companies issues fresh shares to existing shareholder to raise additional capital through a 'rights' issue.

Though warrants have been issued in Sri Lanka for years, amid the current boom, warrant issues have increased with Environmental Resources Investments, a firm which has bought into several other operating businesses, being a prolific issuer.

The market valuation of warrants can be skewed in a firm which is closely held by insiders, whose underlying shares can also be suffering the same fate, compounding the problem. Illiquid companies are favourite targets of price manipulators.

Cader said firms in the main board of the Colombo Stock Exchange would have to maintain a 25 percent public float to issue warrants and those on the second board would have to maintain at least 10 percent.

The regulator will also shortly release a consultation paper on devising minimum public floats, which though required at the time of listing are not maintained later.