The initial public offering (IPO) season is back. We are on the threshold of the largest IPO after the IPO of Reliance Power Ltd in 2008.
The issues from insurers, stock exchanges and infrastructure investment trusts on the equity side and large debt issues from housing finance companies form an interesting line up.
This is a sign that our markets are preparing for the next phase of broad-based investor participation. During these 8 intervening years, the Securities and Exchange Board of India (Sebi) has made the IPO process more investor friendly, speedier, and more transparent and inclusive.
Small investors have a special place in every IPO. Anchor investors have been allowed to participate with adequate safeguards.
Effective regulation has made the price discovery post-listing fair, reducing volatility from listing trade. But the fundamental question over pre-IPO price discovery remains.
The IPO process is safe from a standpoint of allocation and refunds. But the lack of transparency in price discovery remains.
Essentially, an IPO price is unregulated. It is arrived at by the issuer and investment bankers.
Investment bankers have to satisfy the issuers’ expectations to get the mandate. Issuers almost always have an upper hand.
In buoyant times like now, IPOs will inevitably be over-priced and strong appetite emboldens investment bankers to promise better valuations.
IPOs happen at stretched valuations and the investor’s fate is at the mercy of the company’s performance post-listing.
This explains negative returns from most IPOs.
Pricing risks are not exclusive to IPOs. Even follow-on public offers (FPOs) and qualified institutional placement (QIPs) carry risks.
That an issuance is in a widely traded stock does not make price discovery safe.
The issue of shares in FPOs and QIPs happens around a peak and extremely strong investor appetite.
When funds receive strong flows and need to deploy large sums of money, an issue can easily be sold at whatever price it trades at on the eve of a QIP.
Issuers and investment bankers gauge the appetite and take commitments making potential buyers compete with each other.
This virtually ensures that issuers have their way in pricing. It is pertinent to note that there is no restriction on stock trading prior to a QIP.
If a stock is put in a trade-to-trade segment for two weeks before a QIP issuance, the price discovered will be very different from what we get in the present system. Essentially, the price discovery will be fair, realistic and efficient.
Rampant price romping in illiquid stocks will be eliminated and investors will get a transparently discovered price.
Apart from that, the market breadth to absorb large issues has always been in question.
The year 2008 taught us an important lesson. The market lacked the bandwidth to absorb a Rs10,000 crore IPO then.
Today, we are on the threshold of the largest offer for sale (OFS) in our history. The IPO of ICICI Prudential Life Insurance Co. Ltd is an OFS by promoter ICICI Bank Ltd targeting to raise Rs6,057 crore.
While it is too early to predict the outcome of this issue, there is visible appetite and investors seem to be benchmarking it with the expected valuation of HDFC Standard Life Insurance Co. Ltd after its ongoing merger with Max Life Insurance Co. Ltd.
While this issue stands a fair chance of going through, we may not have the requisite breadth to absorb several issues of this size in quick succession. We also need to create more modern methods of raising capital.
Our stock exchanges are capable of handling big settlements. An exchange-based IPO would be a game changer. An issue opening at 9.30am can close the same day. Price discovery would be transparent, efficient and exchange generated.
Importantly, it will be effectively monitored by the regulator online. Identity and bona fides of all large bidders will be verifiable online. Bidders will get an opportunity to revise their bids.
The issue can use the exchange’s settlement mechanism and be completed within three days. Refunds will be smoother.
Take the example of the Google IPO on 19 August 2004. The issue was subscribed at the lower end of the price band ($85). A Dutch auction method was applied and prices were reduced till a buyer was found.
The method was opposed by the investment banking community.
However, history has a very different tale to tell.
The Indian IPO market is ready for that Google moment of disruption.
In fact, we have been ready for long and are awaiting the push from above.
Investment bankers will always try to block that move, which will require a strong regulatory push. Will the market regulator Sebi oblige the Indian investor with a Google moment and rewrite history?
Shyam Sekhar is chief ideator, ithought.