Sebi's reported IPO measures not good enough

Firm allotment to retail investors for at least Rs 15,000 in IPOs is a positive step

Securities and Exchange Board of India (Sebi) is likely to come out with a slew of measures to revive the market for primary issues in a bid to protect the interest of investors.

According to an Economic Times article, among the key measures planned by Sebi is increasing the minimum application amount for public issues to Rs 15,000 from Rs 10,000 earlier, and allot at least this amount to all retail applicants. In order to improve the quality of companies tapping the market, Sebi has also proposed that in a book-building issue, general corporate expense should not exceed 20% of the issue size.

The third measure is to prevent promoters from pricing their IPOs aggressively. Sebi has asked promoters to buy up to 5% of the equity from those original allottees whose application amount is not more than Rs 50,000 if the share price of the company falls below 20% for three months.

The rationale for these measures is to improve the quality of issues and make it attractive for retail investors to participate in IPOs.

While the measures assuring small investors get firm allotment is creditable, the general assumption here is that the companies tapping the market are genuine and will deploy the funds as mentioned in the prospectus. While Sebi has asked companies to cap general corporate expense at 20%, there are companies that have not even deployed the funds for the purpose that they were meant for.

Take the case of Brooks Laboratories, which came out with its IPO in August 2011. The issue priced at Rs 100 per share raised around Rs 63 crore. The purpose of the issue was to commission a new pharmaceutical unit in Gujarat, which was supposed to be commissioned by December 2011. As per the latest status report submitted by the company to the stock exchanges, of the Rs 63 crore set aside as project cost, the company has utilized only Rs 35 crore and has revised it project site in February 2012. The stock trades at Rs 18 today.

Brooks Labs was just a random pick as its date of issue was almost exactly a year back. Of the 39 companies that raised money in 2011, 31 are trading below their issue price with an average loss of 53%. Onelife Capital, the company which gave the best return of 397% did not have any revenue as per its June 2012 quarter number and a loss of Rs 0.23 crore. The company intended to provide capital advisory services, but Sebi in its found that money had been transferred to other companies and has not been utilised for the purpose it was meant to be, and told the company to bring back the funds that it had transferred. However, OneLife got a stay order on bringing the money back. Luckily for investors, the share price has moved up.

Though, Sebi through its investigation discovered that Onelife Capital had transferred funds, the draft prospectus was very clear that the company had no ongoing business worth mentioning and its promoters had no experience to run the capital advisory business. Even then the issue was cleared and investors subscribed to it.

There is nothing in the recent set of announcements that will prevent such companies from tapping the market and raising money from the public.

Also, the proposal of making promoters buy five% of the issue if the share price falls 20% below issue price for three months will scare away genuine promoters. They will be forced to take the help of market makers or similar entities to ensure that the share price does not fall at least in the prescribed period. If market conditions are bad, share prices, irrespective of their valuations, fall. As for promoters who tap the market with the intention of fleecing the investors, this five% charge will hardly be a disincentive.