The Securities and Exchange Board of India’s (SEBI) recent proposal to introduce a mandatory safety net for all public offerings of shares makes little sense. The stated reason is that the existing regulations already provide for such a cover, even if at the discretion of company promoters. True, the current rules do allow promoters, who are confident that their offer pricing is fair and company fundamentals strong enough to prevent a post-listing price slide, to announce a safety net along with the issue. But to say that this is the same as a mandatory requirement is stretching the argument.
There is no denying the fact that the proposed requirement does provide investors with an additional criterion for evaluating an IPO, besides the intrinsic fundamentals of the business into which the proceeds are to be invested. Equally, it is true that there is no dearth of avaricious promoters, who price their issues too high, often with colluding merchant bankers, not to speak of speculators investing in initial public offers (IPOs) with the sole intention of making quick bucks from listing gains. What is more, only one in ten of the IPOs that hit the market in the last five years are currently trading above their issue price. The loser in all this is obviously the small investor, whose faith in the markets the regulator now seems determined to restore. But SEBI’s solution, which seeks to assure these investors that their losses from subscribing to primary issues would be limited by forcing promoters to ensure the same, is neither just, nor does it facilitate an efficient price discovery process. In fact, by restricting the safety net to 5 per cent of the issue size and to those buying shares worth only Rs 50,000, large swathes of investors would actually be excluded from the proposed new rules. The regulator has further tied itself into knots over triggers for the safety net, by stipulating that it be applicable for a decline of at least 20 per cent in the stock price three months after the issue. In the event of the overall market also being in a downtrend, the particular stock would have to fall by a minimum 20 per cent more than the broad market index. Why should SEBI get into such micro-management of IPOs? And what of a bonafide entrepreneur with a sound investment proposition, but lacking in the wherewithal to put up the required additional margin in promoter’s equity? Should he be denied the opportunity to chase his dreams in the world of entrepreneurship merely because SEBI can now claim – a questionable one at that – it has a safety net in place for retail investors?
That the market is going nowhere, and holding back prices of the new issues that hit the market in recent times, has more to do with a paralysis in governance, which has seen the investment cycle in the economy virtually grinding to a halt. But there is nothing that SEBI can do about it. That aside, IPOs are ultimately a risky proposition, as many companies raising money for the first time do not have sufficient track record through which their issues can be assessed. Retail investors may actually be advised to stay away from them and use the mutual fund route to invest in equities.