Risk Factors in an RHP: How to Read the Section Most IPO Applicants Skip

Open any red herring prospectus and you’ll find the risk section sitting right near the front, often running to dozens of pages. Most people scroll straight past it to the price band and the financials. That’s a mistake. The risk factors in an RHP are the one place where the company has to tell you, in its own document, what could go wrong with your money. Read them properly and you’ll often learn more in an hour than from a week of IPO chatter.

This guide covers what SEBI actually requires in this section, how the risks are ordered, which ones the company has no choice about disclosing, and a simple way to work through them. We’ll finish with a worked example built on made-up numbers, so you can see the method in action.

What risk factors in an RHP are, and who decides what goes in

An RHP, or red herring prospectus, is the offer document a company files before its IPO opens. The content of that document isn’t left to the company’s taste. It is governed by Schedule VI of SEBI’s Issue of Capital and Disclosure Requirements (ICDR) Regulations, 2018, and the risk section has its own detailed rulebook inside that schedule.

A few of those rules are worth knowing because they tell you how to read the section:

• Readable print. SEBI’s Schedule VI text says risk factors should be printed in a clear, readable font, preferably at least 10 point in size. Nobody gets to bury them in tiny type.
• Two buckets. Risks have to be split into those specific to the project and internal to the issuer, and those that are external and beyond the issuer’s control.
• Order by materiality. Risks must appear in descending order of materiality. The ones at the top are, in the company’s own judgement, the ones that matter most.
• Numbers where possible. Where a material risk is stated, the likely or potential implications, including the financial impact, must be disclosed wherever they can be quantified. If they can’t be, the document has to say so in a distinct statement.

That last point is the one most readers miss. A risk factor that puts a rupee figure on the problem is telling you something very different from one that says “the impact cannot be quantified”. Both are allowed. But you should notice which one you’re looking at.

How each risk factor is built

Schedule VI lays out a fixed shape for every risk factor. First comes the risk as the issuer sees it. Then, if the company has any, its proposals to address that risk.

There’s a useful guardrail here. Those proposals can’t contain speculative statements about a positive outcome, for example promising that a court case will go the company’s way. And the company can’t offer proposals at all for a matter that is sub-judice before a court or tribunal. So if you see a risk about pending litigation, don’t expect reassurance in the same paragraph. Its absence isn’t a red flag in itself; it’s the rule.

SEBI also tells companies how to judge materiality. Its schedule asks issuers to consider that some risks may not matter much individually but may be material together, that some risks have a qualitative rather than numerical impact, and that some risks may not be material now but could become so later. Keep those three ideas in mind as a reader too. A list of small risks can add up to a big one.

The risk section is the only part of the RHP where the company is required to argue against its own IPO. Treat it that way.

The risks a company cannot leave out

Beyond its own judgement, the issuer has a list of subjects that must be disclosed as risk factors wherever they apply. The Schedule VI text runs to 32 such items. You don’t need to memorise them, but a handful come up again and again in Indian IPOs and are worth scanning for by name:

• Losses. If the issuer has incurred losses in the last three financial years.
• Cash burn. Negative cash flow from operating activities in the last three financial years.
• Customer concentration. Dependence on a single customer or a few customers, where losing one or more could have a material adverse effect.
• Pending approvals. Material statutory clearances and approvals the issuer hasn’t received yet.
• Seasonality of the business.
• Cheaper recent issues. Any issue of the specified securities in the last twelve months at a price lower than the issue price, other than bonus issues.
• Litigation. A tabular summary of outstanding litigation, with amounts where quantifiable, and a separate highlight of any criminal, regulatory or taxation matters that may have a material adverse effect.
• Conflicts of interest. Promoters or directors involved in ventures in the same line of business as the issuer.
• Recallable loans. Unsecured loans taken by the issuer and its subsidiaries that can be recalled at any time.
• Use of proceeds. If a monitoring agency isn’t required under the regulations, the statement that deploying the issue money is entirely at the issuer’s discretion. Also any delay in implementing the project being funded, and, where funds are for acquisitions not yet identified, the interim use of funds and the probable completion date.
• Money to insiders. Any part of the issue proceeds proposed to be paid to promoters, directors or key managerial personnel.

The litigation item ties into a separate section of the RHP. If a case catches your eye, our guide to outstanding litigation in a DRHP explains how to read that section in detail.

SEBI wants this written in plain language

If you’ve ever given up on a risk paragraph halfway through, SEBI has noticed the problem too. In its circular of February 6, 2024 (SEBI/HO/CFD/PoD-1/P/CIR/2024/009), the regulator said draft offer documents that don’t comply with Schedule VI and its guidelines would be returned to the issuer.

Those guidelines ask for short sentences, definite and conventional words, active voice, tables or bullet lists where needed, and no multiple negatives. They also say specifically that risk factors should be worded in simple, clear and unambiguous language that brings out the risk to the investor without undermining it.

So the bar is set. When a risk factor reads like a legal hedge, with three qualifiers before you reach the actual risk, flag it. That doesn’t prove anything is wrong. But clear writing is what the rules ask for, and murky writing on a big risk deserves a second read.

A practical way to read the risk section

You don’t need to read every line with equal attention. Here’s the order we use.

Step 1: Read the first ten risks slowly

Because risks are listed by materiality, the top of the list is where the company itself thinks the real danger lies. Read these properly. Ask: is this risk about the business model, or something generic that applies to every listed company?

Step 2: Separate the generic from the specific

Use the internal and external split. External risks, like the economy, interest rates or general regulation, apply to almost everyone. Internal risks are where the IPO-specific information sits: a key customer, a pending licence, a loss-making track record. Spend most of your time on the internal ones.

Step 3: Look for numbers, and for missing ones

Circle every rupee figure and percentage. Then note each material-sounding risk where the document says the impact can’t be quantified. Neither is automatically good or bad, but a long list of unquantified material risks means you’re taking more on trust.

Step 4: Run the mandatory checklist

Go through the list above and check whether losses, negative operating cash flow, customer concentration, pending approvals or a recent cheaper issue appear. If they do, cross-check them against the financial statements and the other sections they point to.

Step 5: Connect risks to the objects of the issue

The risks around how the money will be used matter most to a new shareholder. Read them alongside the objects of the issue. If no monitoring agency is required, the RHP has to say deployment is at the issuer’s discretion, and you should weigh that.

Step 6: Use the abridged prospectus to start, not to finish

The abridged prospectus that comes with your application gives a condensed view. The Schedule VI text also asks the RHP’s prospectus summary to cross-refer to the risk factors section. Use these as a map. The full risk section is still where the detail lives.

A long list of unquantified material risks doesn’t mean the IPO is bad. It means you’re being asked to take more on trust.

Worked example: reading the risk section of a hypothetical IPO

Everything in this example is made up for illustration. The company, figures and risks are hypothetical.

Say “Company K”, a packaging maker, files an RHP for a Rs 600 crore IPO. Of that, Rs 250 crore is fresh issue and Rs 350 crore is an offer for sale by existing shareholders. Its risk section has 48 risk factors. Here’s how we’d work through it.

Top three risks. Risk 1 says its two largest customers together contributed 61% of revenue from operations in the latest financial year, and losing either could hurt results materially. Risk 2 says it has posted negative cash flow from operating activities in two of the last three financial years. Risk 3 says a factory expansion funded by the IPO is waiting on an environmental clearance.

What that tells us. All three are internal, business-specific risks, not boilerplate. The customer number means more than half the revenue depends on two relationships. We’d go to the business section to see how long those contracts run.

Quantified or not. Risk 3 says the financial impact of a delay in the clearance cannot be quantified. That’s allowed, but it’s on a project that the fresh money is partly meant to fund. So we’d read the objects of the issue to see how much of the Rs 250 crore depends on that factory.

Checklist pass. Further down, at risk 22, we find that the company issued shares to a pre-IPO investor eight months ago at a price below the upper end of the price band. It’s disclosed because SEBI’s list requires any issue in the last twelve months at a lower price. We’d compare that price with the band and ask why the IPO price is higher.

Proceeds. Rs 350 crore of Rs 600 crore, about 58% of the issue, goes to selling shareholders, not the company. That’s not a risk factor in itself, but it frames everything else. Only Rs 250 crore stays in the business to deal with the risks above.

Our read. None of this says “don’t apply”. It says the investment case rests on two customers staying, cash flow turning positive and one approval coming through. That’s a far more useful summary than “strong brand, growing market”, and it came straight from the risk section.

Common mistakes when reading risk factors

• Treating it all as boilerplate. Some risks are generic. The internal ones usually aren’t.
• Ignoring the order. The ranking is the company’s own view of what matters most. Use it.
• Not following cross-references. Risks on litigation, related parties and financials point to other sections. Follow them.
• Reading only the abridged version. It’s a summary. The detail, and the numbers, sit in the full RHP.
• Expecting reassurance on court cases. The rules bar speculative positive statements and any proposals on sub-judice matters, so silence there is normal.

Quick recap

The risk factors in an RHP follow SEBI’s Schedule VI: readable print, internal and external buckets, descending order of materiality, and financial impact stated wherever it can be quantified. A fixed list of risks must appear wherever it applies, from losses and negative operating cash flow to customer concentration, pending approvals and litigation. Read the top risks slowly, focus on the internal ones, note which are quantified, and tie the use-of-proceeds risks back to the objects of the issue.

For the wider process of evaluating and applying to issues, start with our IPO investing in India guide.

Disclaimer: This article is for educational purposes only and is not investment advice. The worked example uses hypothetical numbers. Disclosure rules can change, so check the latest SEBI regulations, circulars and the offer document itself before applying to any IPO. Consult a SEBI-registered investment adviser for advice specific to you.