While it may appear that share pledging is the last resort for developers, experts fear that this method of fund raising might be misused. Some say developers might act in self-interest and divert the funds to other projects instead of speeding up the progress of ongoing ones. This might lead to a situation where new projects start, but none completed.

JLLM's Agarwal says, "Share pledging in tough market conditions is as valid route for raising funds. This is because share-backed funding is on the stock market. However, one should keep in mind that the primary intention of developers is to complete projects in order to maintain a healthy movement of capital."

Pledging of shares normally happens via special purpose vehicles (SPVs) and does not involve dilution of shares at the company level. "It would obviously not be the most preferred means for a developer who is seeking to procure project completion capital," Agarwal adds.

COMPLETING PROJECTS, REPAYING LOANS

Delhi-based Parsvnath Developers, with four of its promoters, has pledged 63.88 per cent stake of the firm, having over 18.46 crore total outstanding shares. The promoters -- Pradeep Kumar Jain, Nutan Jain, Pradeep Kumar Jain and Sons HUF - along with Parasnath and Associates together pledged over 11.78 crore equity shares with lenders, the company said in a filing with the Bombay Stock Exchange sometime back.

Jain told The Indian Express , "We have raised Rs 168 crore through QIP in the month of October 2009 and later raised Rs 190 crore at SPV level (Rs 75 crore in Parsvnath Exotica, Gurgaon, and Rs 115 crore in Parsvnath La Tropicana, Delhi), and have sold minority equity stake in these premium residential projects in Delhi-NCR."

Omaxe promoter Rohtas Goel has pledged 37.22 per cent of his 89.14 per cent stake in the company. The developer is expected to raise Rs 800 crore by the end of this month through a QIP to repay its outstanding amount. Promoters of Mumbai-based developer Orbit Corp -- Ravi Kiran Aggarwal and Pujit Aggarwal -- have pledged 96.43 per cent and 35.26 per cent of their shares, respectively, as collateral to raise debt of Rs 100 crore. The value of the collateral works out to Rs 327 crore, almost thrice the amount raised as debt. The collateral of 1.16 crore shares has been pledged in three tranches. Agarwal says the company is raising debt as they want to develop a few more projects in southern Mumbai.

Ramesh Chandra and Sanjay Chandra, promoters of the country's second largest realty company, Unitech, had pledged above 80 per cent of their 44 per cent stake in the company. This dropped further to 64.54 per cent after the company reduced its debt following two QIP issues. However, according to a company spokesperson, "The proportion of pledged shares has not come down much despite debt reduction owing to cross collateralisation of debt by lenders."

According to a senior official of an international consultancy firm, Unitech will have to execute all its projects and generate cash flows to repay loans. Market analysts say that investors are still not ready to get into the market. They are also cautious about investing in some tainted companies.

PROTECTING THE MINORITY SHAREHOLDER

Capital markets regulator, Sebi, recently ruled that any pledging of promoters' shares are subject to declaration and may be also be subject to deduction in computing actual shareholding by the promoters. This is because it is important for the minority shareholders to know who the promoter group is and what their stake in each company.

Amit Goenka, national director (capital transactions), Knight Frank India says, "While this phenomenon is quite common globally, so long as adequate disclosures are made with the terms and conditions surrounding the pledging of shares, it is quite acceptable. It becomes dangerous for the promoters since they may end up losing control of their company, for example, GE Shipping as a recent case. Such companies can be subject to hostile bids and takeovers by competitors. Investors may not like that. If adequate disclosures are made, investors have the choice of exiting such companies."

Experts say that Sebi should mandate disclosing the application of such funds by promoters and allow market liquidation of such shares in case of default.

OTHER FUND RAISING ROUTES

According to JLLM's Agarwal, unlisted developers are raising funds via Non-Banking Financial Companies (NBFCs), debt and private equity. Obviously, the funding will be subject to the outcome of a project appraisal and, in certain cases, company appraisal by the lending institution. Knight Frank's Goenka explains that present market conditions have eased up to what they were a year and a half ago. There is a large appetite among NBFCs. Domestic NBFCs and public sector banks are now becoming aggressive in extending the facility of promoter funding by providing customised solutions to promoters. The Sebi regulation making it mandatory for promoters to disclose the pledging of shares has led to more transparency and acceptability of the product.