Investor associations want IPO grading scrapped

Had communicated their stand on the matter to Sebi

Investor associations have come out in support of scrapping the grading of Initial Public Offerings (IPOs), citing an inherent conflict of interest in the process and underperformance by highly rated issues.

U K Sinha, chairman of the Securities and Exchange Board of India (Sebi), had indicated in an event on Tuesday that IPO grading might no longer be made mandatory. Virendra Jain, founder member of Midas Touch Investors Association, said the ‘issuer-pays’ model by which rating agencies are paid by the very companies that they rate creates an inherent conflict of interest.  “The rating agency should not be paid by the company. It should have been paid by either the regulator or through a third party,” he said.

A P Bakliwal, president of  The Bombay Shareholders’ Association said his organisation had written to the regulator opposing IPO grading.

IPO RATINGS GET FAILING GRADE

• Company is the one paying for its own rating
• Creates a conflict of interest
• Rating does not comment on pricing
• Highly rated companies have also underperformed due to high pricing
• Sends confusing signals to investors, say associations

“Companies which had a rating of 4/5 or even 5/5 have also traded below the issue price. It resulted in an additional burden to companies and our view was that it did not serve any purpose,” he said. Both organisations are Sebi-registered investor associations.

The stock market regulator had made IPO grading mandatory from May 2007. All companies are required to get a grading from a rating agency on factors such as its financial position, competitive strength and the prospects of the industry in which it operates. The grading would reflect all these factors on a scale of one to five, with five being the highest grade. However, the ratings did not reflect the valuation of the shares, resulting in a situation where a good company could be offered at exorbitant price, because of which the shares then underperformed.

“There is a unanimous view now that IPO grading should not be compulsory. We will consider that,” Sinha had said on Tuesday. He had indicated a formal announcement could be expected in around a week.