Financial literacy is low in India and both issuers of capital and market intermediaries often try and take advantage of hapless investors. Two recent orders by the Securities and Exchange Board of India (Sebi) highlight this fact, as well the importance of having a tough regulator who acts on behalf of investors.
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Last week, the market regulator passed an order against some intermediaries involved in the initial public offering (IPO) of Vaswani Industries Ltd. The IPO, handled by Ashika Capital Ltd, was oversubscribed by 4.16 times. It received a poor response from institutional investors, but the non-institutional and high networth individuals’ category was oversubscribed by 11.29 times and the retail category was oversubscribed by 6.82 times on the last day of the book building.
Interestingly, soon after the book closed, many of the bids were withdrawn. After accounting for withdrawals and technical rejections, the extent of oversubscription came down to only 1.28 times. Sebi’s order states that 92.56% of the bids in the non-institutional category were rejected or withdrawn, and 55.05% of the bids in the retail category were rejected or withdrawn.
The regulator’s findings suggest that this was part of a deliberate plan of a handful of market intermediaries including Bajaj Consultants Pvt Ltd (and its group entities), Rikhav Securities Ltd (and associated entities) and Ashika Stock Broking Ltd.
These entities and some others bid aggressively during the book-building process, which Sebi’s order suggests was with a view to inflate the order book. Since many individual investors look at the extent to which an IPO order book is oversubscribed, the inflated order would have attracted other investors to bid. The artificial orders were then withdrawn in dubious ways, by giving banks so-called stop-payment instructions, ensuring that cheques are returned due to insufficient funds, and other such methods.
As a result, almost 70% of the bids received were not considered for allotment. Genuine investors expecting proportionate allotment of say 100 shares, based on the order book position at the time of bidding, ended up being allotted a much higher number of shares. It’s clear that demand for the IPO was created artificially, and investors may lose heavily if the shares list.
Sebi has rightly intervened and said investors should be given an option to return the excess number of shares which they received due to the artificial bids. In other words, the allotment will now be done again, based on the full order book, including the artificial bids. If, say, investors were originally allotted 400 shares and based on the new methodology will be allotted only 100 shares, they will be able to return the excess 300 shares and receive a refund. Ashika Capital has been directed to facilitate this process.
If many investors exercise this option, which is likely considering that Sebi had received many complaints regarding this issue, it may turn out that issue ends up devolving. Of course, this is provided Ashika Capital is not able to find other investors to fill the gap.
While this brings in needed justice for investors, Sebi needs to act tough with intermediaries involved. The current order serves only a slap on the wrist, but hopefully when investigations are completed, there would be a fitting penalty, which would act as a warning for other market intermediaries.
In a much larger order, Sebi has ordered Sahara Commodity Services Corp. Ltd (earlier known as Sahara India Real Estate Corp. Ltd) and Sahara Housing Investment Corp. Ltd, its directors, and promoter Subrata Roy to refund money collected by the two firms because of violations of its regulations regarding public companies making offers of securities to the public. This case is being monitored by the Supreme Court, which has asked Sahara to approach the Securities Appellate Tribunal if it wants to challenge the order.
Sebi has argued that the scheme floated by the two entities have characteristics of para-banking activities and running deposit schemes. However, the resource mobilization was done using an instrument called optionally fully convertible debentures (OFCDs), and with the tag of being a convertible, it managed to move the instrument outside the purview of deposits, and avoid the stringent rules of Companies (Acceptance of Deposits) Rules, 1975.
Interestingly, Sebi’s order points to a newspaper report that the Sahara Group is now in the process of launching a new form of resource mobilization through cooperatives under the Cooperative Societies Act. It also notes that it was around the time that the Reserve Bank of India declared that the deposit taking activity of Sahara India Financial Corp. Ltd (SIFCL) was illegal in 2008 that the group decided to take the OFCD route to take new deposits. The markets regulator has called for a collaborative effort by various other overseers to close such regulatory gaps.
Sebi’s solution to the problem is that Sahara should refund all the money it has collected by issuing OFCDs with an annual interest of 15%. This is a fitting response, as it protects the interest of investors, who were not aware of the exact nature of investment they were getting into.
To be sure, the above instances highlight the abuse of investors by both issuers and market intermediaries. While it can be argued that the buyer must exercise caution, a tough regulatory stance can go a long way in correcting various anomalies that exist in India’s capital markets.