FROM BUSINESS WORLD OF 26 DECEMBER 2006
FM should think for himself
It appals me to see how little P. Chidambaram has thought about the so
called IPO scam and how easily he has allowed himself to be misled by Sebi. If
a company issues new shares at a price that is lower than the market price,
then those whom it allots those shares will make a profit. It does not
explicitly have to underprice the shares. If it excludes some people from those
qualified to buy the shares, that by itself will have reduced demand for the
shares and hence the issue price. Even if it rations shares between defined
classes of shareholders, then shares will not go to the highest bidder and will
again be underpriced. The beneficiary of underpricing is the favoured new
shareholder; the victim is the incumbent shareholder,
for underpricing means that the company subsidizes new allottees. It will get less money
from the issue than it would have if the issue had been sold to the highest
bidder. This is why a company which the directors run in the interests of
shareholders will not underprice shares.
But
our government used to force companies to underprice new issues. It had an official called Controller of Capital Issues. He
fixed the price on the basis of past profitability; that ensured that
the shares of every company whom investors expected to do better in the future
were underpriced. Demand for their issues would exceed supply, so the issues
had to be rationed. The government told companies how. It made them allot some
shares to ‘small’ shareholders. They were small only in name; no one checked
how rich or poor they were. The definition of a small shareholder was one who
was allotted only a small number of shares. The government aimed to give shares
to a large number of shareholders. It claimed thereby that being a socialist
government it was spreading wealth. But all it was doing was to force companies
to subsidize an undefinable set of shareholders.
Since
the shares could be sold at a profit as soon as they were traded on stock
markets, ‘small’ shareholders made automatic profit on allotment. So, too many
‘small’ shareholders applied, and shares had to be rationed amongst them. To
increase their chance of getting shares, ‘small’ shareholders would make
multiple applications. That was considered unfair and banned, but since
shareholders applied in different variants of their and their relatives’ names,
it was impossible to identify the real allottees. So, a racket of multiple
applications and allotments went on for decades.
It
was a scandal, and when I was in the finance ministry in the early 1990s, we
decided to end it. We transferred all powers of the Controller of Capital
Issues to Sebi, but not the power of controlling issue price, thinking that
thereby we would make Sebi incapable of underpricing shares.
But
we were wrong. Sebi brought back rationing of shares; it ordained that half of
the share issues would go to those whom it called Qualified Institutional
Investors, 35 per cent to ‘small’ investors whom it renamed ‘retail’ investors,
and 15 per cent to others, whom it has named high net-worth Individuals. The
last, who have the most money, have the smallest share. So they pose as retail
investors and make money. Sebi caught one group of them, and on their account,
has engorged crores out of their depository participants and brokers. It has
imposed stringent ‘know-your-customer’ stipulations on DPs and brokers. And the
finance minister has repeatedly assured Parliament that the guilty will be
punished. But what is their guilt? They are guilty of a crime invented by the
government and perpetuated by Sebi, a crime that is difficult to detect, and a
crime that has terrible effects on the development of our corporate sector.
Identity
is easy to invent, hide or forge, so issue rationing will inevitably lead to
fraud. It will contract India’s narrow
investor base, reduce demand for shares, slow down corporate expansion and
force companies to raise money abroad. Mr Chidambaram should put an end to
Sebi’s malign game.
