SEBI may weigh an alternative system for IPO pricing

[SUKUHOPES]

MUMBAI: While the dismal performance of IPOs is largely attributed to
a sluggish market, it is time to raise a more fundamental question: do
we need a relook at the book-building system that’s used to price new
stock offerings?

A review of the present book-building norms should figure in Sebi’s
agenda on the next round of primary market reforms. According to a
source familiar with the subject, Sebi may soon examine whether the
book-building process is the most efficient price-discovery
mechanism.

“In fixed price issues, the promoter fixes a single price. In the book-
building issues too, he sets the issue price, though within a 20%
band. So in the true sense, the market is not discovering the price,”
said Prime Database MD Prithvi Haldea.

A predominant number of book-build IPOs gets subscribed (often in
multiples) at the upper price band. It’s a reflection that almost all
IPOs are underpriced, and rarely rightly priced. Stock market circles
who favour a change in the rules argue that a real price discovery is
possible only when there is no price indication from the issuer, and
the price is freely determined through an auction. In such a system,
one can have a circuit filter on the day of listing, as the real price
discovery has already happened through the auction process.

But the challenge in any new system would be taking care of the
interest of retail investors. To ensure this, the QIB portion of 50%
in an IPO could be sold through a closed book auction. “The auction
should remain open for a day. An auction shall help the issuer get the
best price for the shares from QIBs. And then, the lowest QIB bid
should be the fixed price for retail investors,” added Mr Haldea.

The logic is since QIBs are sophisticated investors with a better
understanding of valuations, they don’t need an indicative price range
for an IPO. Some of the investment bankers also think that retail
investors (who don’t really help in the price discovery system) should
be brought in at a later stage.

According to Kotak Mahindra Capital senior V-P Gesu Kaushal, “Over the
last few years, many companies have successfully done IPOs through the
book-building mechanism. We could consider having an indicative price
band as a variation to the current book-building process given the
volatile market conditions.

And over the longer term, as the market matures further, we could
consider the French auction process for QIBs with a common clearing
price for retail investors.” “Modifications are required on these
counts. Also, in the extant process, the need of the hour is to reduce
the time between deciding the price band and opening the issue for
subscription,” said another senior i-banker.

Mr Haldea felt there was also a problem when several QIBs did not get
shares in an IPO despite their willingness to pay a higher price.
“Even if a QIB sees a higher value in an IPO, it still has to bid
within the price band and be subjected to a uniform proportionate
allotment,” he said.

N.Sukumar
Research Analyst