What Are Unlisted Shares? Meaning, Benefits, Risks & How They Work

Unlisted shares are shares of companies that are not listed on public stock exchanges. They are bought and sold privately through specialized platforms or brokers and generally have lower liquidity than listed shares.

Unlisted companies have recently been gaining popularity among investors who wish to support strong private entities or innovative startups in their high-growth phases and earn substantial returns.

Another reason for their popularity is that major investors can often negotiate directly with promoters or founders to secure stakes. There is also growing interest in pre-IPO shares. This could help investors acquire shares at considerably lower valuations before these companies go public and the prices potentially increase. 

Key Takeaways:

• Unlisted shares are those shares of entities that are not traded on public stock exchanges. They are traded privately through platforms and brokers and are illiquid. 
• The share prices of unlisted shares are negotiated and based upon mutually agreed-upon deals. 
• Unlisted entities do not have as many mandatory public disclosures as their listed counterparts. 
• If the company goes public, the shares will have a 6-month lock-in period during which they cannot be sold. 
• The minimum investment is often higher, and transactions should adhere to SEBI regulations and the Companies Act. 
• Access may be through specialised platforms and intermediaries, ESOP transfers, and SEBI-regulated AIFs. 

What Are Unlisted Shares?

Unlisted shares are equity shares of companies that are not listed or traded on public stock exchanges, such as the Bombay Stock Exchange (BSE) or the National Stock Exchange (NSE). These shares may belong to unlisted, pre-IPO, private, delisted, or startup companies. They are transferred through off-market transactions in accordance with the company’s Articles of Association, the Companies Act, and FEMA rules, wherever applicable. 

The market is characterised by three kinds of companies. 

• Private companies: Privately held startups, businesses, and subsidiaries that have never issued shares to the general public. 
• Pre-IPO companies: Established private entities or high-value startups planning to launch an initial public offering (IPO) in the near future. Early investors, employees, or founders may cash out part of their holdings, while new investors may buy in before the shares are publicly available. They usually have higher price tags than early-stage private shares. 

• Delisted companies: Companies that were previously listed and publicly traded on exchanges, whose shares were later removed for one of two reasons. One is that the promoter bought out the shareholders and took the company private. The other is that the entity was penalised by the exchange for failing to meet financial requirements, failing to abide by regulatory guidelines, or for poor corporate governance. 

How Do Unlisted Shares Work?

Here’s how unlisted shares work in India - 

• Ownership structure

The ownership will belong to a select group of entities or individuals, including employees (via ESOPs), founders, venture capital or private equity funds, and angel investors.

Unlisted companies are not subject to the continuous listing obligations such as in the case of listed companies. However, they are governed the Companies Act, Ministry of Corporate Affairs/Register of Companies filing requirements, tax laws, FEMA rules and regulations where applicable and SEBI rules if the company in question is filing for an IPO or is involved in the securities-market activity.

• Private transactions

All deals are bilaterally negotiated. Hence, the price is agreed upon directly by sellers and buyers or with the help of a broker/intermediary. There is no single market rate; prices vary based on several factors.

Trades occur through specialised intermediaries, wealth managers, existing shareholders, ESOP liquidity transactions, or private arrangements. 

• Share transfer process

Unlisted shares are held electronically in demat accounts (via depositories like CDSL or NSDL). The transfer involves signing an SPA (share purchase agreement) and completing compliance documentation.

The seller then requests that the DP (depository participant) transfer shares, using a digital platform or a physical DIS (delivery instruction slip). 

• Off-market settlement

This means the shares transfer directly from the seller's demat account to the buyer's demat account. There is no counterparty guarantee that the seller will deliver the shares or that the buyer will pay the agreed amount. 

Third-party escrow services are mostly used to mitigate settlement risks and fraud. The escrow provider holds the payment and shares it in secure accounts until verification is done. 

Why Do Companies Remain Unlisted?

There are several reasons why companies remain unlisted. These include the following types:

Early-stage Companies

They rely on seed funding or private placements from venture capitalists and angel investors, which bypass the requirement to conduct an IPO. They can thus avoid the stringent SEBI regulatory frameworks and save money on listing and auditing fees. 

Startups

Startups often face several unprofitable years as they expand. Staying private safeguards them from quarterly earnings pressures and volatility in the public markets.

Founders can experiment and implement long-term goals without having to explain the daily stock price dips to shareholders. They can also incentivise early-stage investors and employees through secondary market sales or ESOPs. 

Family-owned Businesses

Many family businesses prefer not to disclose profit and revenue figures to protect their competitive edge. They usually have sizable internal cash flows and can comfortably access debt through banks. This negates the need to go public. 

Companies Preparing for IPO

Companies may delay their IPOs until market conditions become more favourable, or until sector valuations improve.

The pre-IPO phase helps companies refine their unit economics and reduce debt while building stronger governance structures to ensure a more successful stock market debut. 

How to Buy Unlisted Shares in India

Here’s how one can purchase unlisted shares in India - 

Through Brokers

Specialised wealth management firms and brokers serve as intermediaries linking sellers and buyers of unlisted securities. They source available inventory, facilitate price negotiations, and assist with paperwork to complete off-market share transfers. 

Through Existing Shareholders

You may acquire shares directly from existing shareholders, including founders, early-stage investors, and employees. These OTC (over-the-counter) transactions often happen when third-party intermediaries match you with investors who wish to cash out on their equity. 

Through Unlisted Share Platforms

You will find multiple unlisted share platforms that offer these shares. They enable greater transparency into available inventory, minimum investment limits, and historical pricing data. They also enable the whole transaction workflow digitally. 

ESOP Liquidity Transactions

Investors can buy ESOPs (employee stock ownership plans) directly from employees who have vested their shares. Several unlisted brokers and platforms cater to ESOP liquidity by helping employees find buyers and guiding the legal transfer of shares from employees' names to buyers.

Note the following aspects carefully: 

• Demat requirements

You should have a valid demat account with either the CDSL or NSDL. You may open your account through DPs (depository participants) or brokerages.

You will need to provide your PAN, Aadhaar, cancelled cheques, and the CMR/CML (client master report/list) for off-market transfers. 

• Settlement process

Settlement happens through the off-market transfer system. Both the seller and buyer sign the SPA (share purchase agreement). Buyers then transfer funds directly to sellers.

The seller will have to submit a DIS (delivery instruction slip) or use an online depository platform to initiate off-market transfers to the buyer's demat account.

The shares are then officially credited to the buyer's demat account after the transaction is verified. The DP then processes the final transaction. 

Types of Unlisted Shares

Here are some types of unlisted shares you may come across. 

Pre-IPO Shares

They are shares of private companies expected to go public via initial public offerings (IPOs) in the near future. Investors buy these shares before public trading begins through OTC platforms or private placements. 

Delisted Shares

They are shares of companies that were once publicly traded but have been removed from exchanges, either voluntarily or involuntarily (e.g., due to regulatory non-compliance). 

Startup Equity Shares

Startup equity shares represent ownership in early-stage, fast-growing entities that have yet to launch IPOs or secure major venture capital (VC) rounds. They are often issued to founders, angel investors, and early employees. 

Employee Stock Ownership Plan (ESOP) Shares

They are a form of employee compensation in which staff are granted the right to purchase company shares at a fixed strike price after a particular vesting period. These shares help retain talent and align employee interests with the company's long-term growth. 

Benefits of Investing in Unlisted Shares

There are several benefits of investing in unlisted shares, including the following: 

Early Entry Opportunity

Investing in a company in its private phase, or even during a Series A, B, or C funding round, helps you buy in before the market recognises its future potential. It may help you secure a good position at a valuation that is usually much lower than what it would be after going public. 

Potential IPO Gains

When a private entity finally launches its IPO, the market reaction may drive the stock price upwards and considerably above the early private valuations. If you invested in the early stages, the IPO could deliver massive returns. 

Portfolio Diversification

Unlisted equities have lower correlation with regular public stock markets. This means that valuations are often insulated from daily market volatility and macroeconomic factors. Adding these assets to the portfolio may help you spread risk and cushion you against market downturns. 

Access to Emerging Businesses

The unlisted sector has several innovative and disruptive pre-IPO companies and startups across segments like fintech, biotech, AI, and other new-age spaces. You may be able to support these high-growth business models that achieve huge success in the future. 

Risks of Investing in Unlisted Shares

Are unlisted shares really safe? Here are some investment risks that you should be aware of -

Low Liquidity

Unlike listed equities that you can sell on exchanges in a few seconds, unlisted shares are traded OTC (over-the-counter) via private agreements.

Finding buyers may take you several weeks or even months. You cannot immediately exit your investment and may have to sell at a hefty discount as well. 

Limited Information Availability

Note that unlisted companies do not have to abide by the same stringent regulatory disclosure guidelines as their public counterparts. They are usually not required to disclose their quarterly results, and financial reports may be delayed by 15 months or more.

This makes it hard to conduct due diligence or to understand the company's actual financial health. 

Valuation Risk

Since there is no active public market for the shares, determining fair value is complex.

Prices may be arbitrary, inflated, or manipulated by promoters and intermediaries seeking higher commissions. It is thus easy to end up overpaying based on pre-IPO buzz/hype and rumours. 

Regulatory Risk

This share market functions outside the direct supervision of stock exchanges. SEBI consistently warns investors about unauthorised digital platforms that offer unlisted shares without settlement guarantees.

Fraud, forged certificates, failure to deliver shares- these are all issues where investors cannot depend on formal grievance redressal or dispute resolution mechanisms. 

Delayed Exit Opportunities

Many investors purchase unlisted shares with the aim of cashing in when the company launches its IPO. Yet, there is no guarantee that the company will go public.

Even if it does, you will have to abide by a mandatory 6-month lock-in period before being allowed to sell your shares. 

Listed vs Unlisted Shares

Here is a brief comparison between listed and unlisted shares for your perusal. 

Key Aspect	Listed Shares	Unlisted Shares
Trading Platform	BSE/NSE	Private market
Liquidity	High	Low
Regulation	High	Low
Price Discovery	Transparent	Limited
Information Availability	Public	Limited
Volatility	Market-Driven	Valuation-Driven
Exit Opportunity	Easy	Hard
Investor Access	Easy	Limited

Listed or Unlisted Shares - Which Should You Consider?

Listed vs unlisted shares - which one is the better choice? Here are some aspects worth looking into: 

• Risk appetite

Listed shares carry low to moderate risk and are safeguarded by stringent regulations. Unlisted shares have higher risks, particularly for early-stage businesses without regulatory frameworks and public market information. 

• Time horizon

Listed shares can be sold flexibly via market orders to meet immediate objectives. Unlisted shares are usually held throughout developmental phases until a major liquidity event happens. 

• Liquidity needs

You can instantly convert your listed shares to cash on exchanges, while unlisted shares cannot be sold instantly. 

• Investor sophistication

Unlisted shares require more due diligence and intricate fundamental analysis. Listed shares are easier to research, with more information available through standardised disclosures. 

You can choose the listed shares if you are a moderate retail investor who focuses on capital safety and liquidity and leverages proven, publicly traded blue-chip entities or index funds.

Unlisted shares are better bets if you are an experienced or accredited investor seeking an early bird entry into high-growth or pre-IPO companies. You should be able to afford locking in your capital without immediate cash requirements in this case. 

What Happens When Unlisted Shares Become Listed?

Here's what happens when unlisted shares get listed: 

• IPO process

The issuing company must prepare and file its draft red herring prospectus (DRHP) with SEBI (Securities and Exchange Board of India). The final RHP (red herring prospectus) is then published with the issue dates and price band after SEBI’s inputs.

High net-worth individuals, qualified institutional buyers, and retail investors then place bids during the subscription window. The shares are allotted, and official listing and trading begin on the exchange. 

• Price Discovery

The price of unlisted shares is determined by funding rounds, private valuations, or OTC deals before listing. After listing, it is determined by the market-driven book-building process.

You have to bid within a defined price band, while a pre-open call auction session helps determine the specific equilibrium/listing price. 

• Listing Gains

They indicate the percentage increase between your purchase price in the unlisted sector and the price at which the stock first trades on the exchange upon its debut. They are taxed as capital gains when you sell them. 

• Lock-In Rules

Unlisted shares go through a compulsory lock-in period (usually 6 months from the allotment date), before which you cannot sell them. This is usually 18 months for promoters.

Once the lock-in period concludes, your unlisted shares will become publicly listed and fully tradable.  

How Are Unlisted Shares Valued?

Here is a closer glimpse at the valuation process of unlisted shares. 

Revenue Multiples

In this method, current sales figures are assessed by valuators before being multiplied by an average industry multiplier.

The formula is as follows -

Company Value = Annual Revenue x Revenue Multiple

It is a suitable method for tech-driven and SaaS businesses, as well as high-growth startups. 

Earnings Multiples

This method measures the company's success by examining profitability metrics such as EBITDA and Net Income.

The formula is as follows -

Company Value = Earnings × P/E or EV/EBITDA Multiple.

It is used extensively by private and mature companies with steady cash flows. 

Comparable Company Analysis

This is also called the market approach and values unlisted businesses by comparing them to publicly traded entities.

Analysts usually identify the closest public peers, calculate their valuation multiples, and then apply those benchmarks to the private entity's financial data. They then discount the final estimate by 20-40% to account for the lack of marketability. 

Funding Round Valuations

The method is often known as the last transaction price method. It benchmarks the share price based on the valuation established in the company's latest private fundraising round. If PE firms or VCs invested at a particular price, the capitalisation is used as the present value of the shares.

To improve accuracy, analysts verify whether the transaction was recent (usually within the last 6-12 months) and that the entity's fundamental operating aspects have not shifted dramatically. 

Taxation of Unlisted Shares

Here’s how unlisted shares are taxed - 

Capital Gains Tax on Unlisted Shares

• STCG (short-term capital gains): This applies when shares are sold within 24 months of acquisition. The gains are added to your total income and then taxed as per your applicable income tax slab. 
• LTCG (long-term capital gains): This applies when shares are held for more than 24 months. The flat tax rate is 12.5% without indexation benefits. 

Taxation After IPO Listing

• Upon listing, the tax treatment will apply to listed equity shares. 
• The holding period then drops from 24 months to 12 months. 
• If you sell within 12 months, STCG (short-term capital gains) applies at 20%. 
• If sold after 12 months, LTCG applies at a 12.5% tax rate, and the annual ₹1.25 lakh exemption applies. 

Who Should Invest in Unlisted Shares?

Unlisted shares are typically better suited for - 

• HNIs: Those who have considerable disposable income and can comfortably allocate a small part of their portfolio to high-risk investments. 
• Long-term investors: Those willing to stay invested for 5-7 years and hold onto these investments until a major liquidity event happens (IPO, company buyout, secondary market sale, etc.)
• Investors comfortable with illiquidity: Those who are comfortable with not being able to sell their shares quickly. 

They are less suitable for:

• Short-term traders: There is no real-time price discovery or instant market execution for unlisted shares. Traders who capitalise on daily market movements or sudden flips will not find them suitable. 
• Conservative investors: Those seeking stringent market regulations, regular dividend payouts, and guaranteed liquidity should avoid these shares. Unlisted entities are subject to fewer regulatory compliance requirements than their listed counterparts. 

How to Evaluate Unlisted Shares Before Investing

How do you zero in on the best unlisted shares in India? Here is a checklist that you can follow - 

Financial Performance

• Last 3-5 years of audited financial statements: Look for consistency in top-line growth, net profitability, and robust EBITDA margins. 
• Cash flow: Operating profits should convert to positive and free cash flow. Check the cash burn rate against the cash reserves. 
• Debt levels: Check the balance sheet for the debt-to-equity ratios and the working capital needs. 
• Regulatory compliance: Check the corporate filings to verify statutory compliance and find any legal disputes or contingent liabilities. 

Management Quality

• Track record: Check the promoter/founder background, core executive team, earlier successes, and credibility. 
• Corporate governance: Assess the company’s transparency, clear communication protocols with the shareholders, and an independent board of directors. 
• Capital table (cap table): You should understand the ownership structure. High institutional investment usually validates management's credibility. Highly diluted equity may affect the future EPS (earnings per share). 

Industry Growth

• Market Potential: Determine whether the company operates in a sunrise sector, e.g., renewable energy or fintech. Also, find whether it has a high TAM (total addressable market). 
• Competitive moat: Evaluate what gives the company a competitive edge over its rivals, including patents, proprietary technologies, brand recall, or cost leadership. 

IPO Potential

• Exit Timelines: Evaluate the timing and likelihood of a possible IPO, strategic buyback, or acquisition. 
• Regulatory Readiness: Check whether the company has the necessary legal and financial infrastructure to file the DRHP (draft red herring prospectus) or equivalent listing document with the market regulators. 

Valuation

• Comparable Company Analysis (CCA): CCA helps you identify publicly listed peers in the same sector. Compare valuation multiples such as the Price-to-Sales ratio, Price-to-Earnings ratio, and EV/EBITDA. This will help you determine whether the unlisted share is not priced at an unjustified premium. 
• Discounted Cash Flow: DCF analysis may help you calculate the current value of the company’s anticipated future cash flows. 
• Recent Funding Rounds: Check the company's most recent funding round in terms of the valuation and price. Look for an ESOP (employee stock ownership plan) allotment to anchor your expectations around the valuation. 

Common Misconceptions About Unlisted Shares

Here are a few common misconceptions about unlisted shares. 

• All unlisted shares become multibaggers

Many unlisted companies are early-stage startups that may have higher failure rates. Future growth depends heavily on the company's fundamentals, market adoption, and scalability. Some pre-IPO shares may never get listed or permanently lose their value. 

• IPO guarantees profits

An IPO does not guarantee any profits or listing-day gains. Companies may list at lower valuations than you expect. Also, buying pre-IPO shares means a 6-month lock-in period before you can sell them. 

• Unlisted shares are always cheaper

The prices of unlisted shares are determined through negotiated and private transactions rather than exchange mechanisms. Pre-IPO hype may drive prices up, leading investors to overpay. Hence, identifying undervalued shares will require stringent due diligence and evaluation of debt and revenue. 

Conclusion

Unlisted shares are thus a better choice for HNIs or investors who are comfortable with illiquidity and with waiting longer before any major event occurs. You should conduct thorough due diligence before investing, ensuring you pay a fair price for a company with strong future growth prospects.