IPO Analysis
Initial Public Offers:
A Great Future Ahead
A
n initial public offering, or IPO,
is the first sale of a corporation's
common shares to investors on a
public stock exchange. The main
purpose of an IPO is to raise capital for the
corporation. While IPOs are effective at
raising capital, being listed on a stock
exchange comes with heavy regulatory
compliance and reporting requirements.
The term IPO only refers to the first public
issuance of a company's shares. It assumes a
company is big enough, successful enough,
and has the required track record to raise
capital in the public equity market. If a
company later sells newly issued shares
again to the market, it is called a seasoned
equity offering. When a shareholder sells
shares, it is called a secondary offering and
the shareholder, not the company that
originally issued the shares, retains the
proceeds of the offering. These terms are
often confused and only a company which
issues shares can make a primary offering or
IPO. Secondary offerings occur on the
secondary market, where shareholders (not
the issuing company) buy and sell shares
from and to each other.
The IPO process starts when the corporation
files a registration statement with the SEBI.
The SEBI then investigates the registration
statement and approves the full disclosure.
The underwriter first issues a preliminary
prospectus and then an official prospectus
before or along with the stock offering. After
14 V Share May, 2010
SEBI approval, the price and date of the IPO
are decided.
Public issues can be classified into Initial
Public offerings and further public offerings.
In a public offering, the issuer makes an offer
for new investors to enter its shareholding
family. The issuer company makes detailed
disclosures as per the DIP guidelines in its
offer document and offers it for subscription.
Initial Public Offering (IPO) is when an unlisted
company makes either a fresh issue of
securities or an offer for sale of its existing
securities or both for the first time to the
public. This paves way for listing and trading
of the issuer's securities.
IPO is new shares offered to the public in the
Primary Market .The first time the company is
traded on the stock exchange. A prospectus
is issued to read about its risk before
investing. IPO is a company's first sale of
stock to the public. Securities offered in an
IPO are often, but not always, those of young,
small companies seeking outside equity
capital and a public market for their stock.
Investors purchasing stock in IPOs generally
must be prepared to accept very large risks
for the possibility of large gains. Sometimes,
just before the IPO is launched, existing share
holders get very liberal bonus issues as a
reward for their faith in risking money when
the project was new.
Pricing of an Issue
Indian primary market ushered in an era of

free pricing in 1992. SEBI does not play any role in price
fixation. The issuer in consultation with the merchant banker
on the basis of market demand decides the price. The offer
document contains full disclosures of the parameters which
are taken in to account by merchant Banker and the issuer for
deciding the price. The Parameters include EPS, PE multiple,
return on net worth and comparison of these parameters
with peer group companies.
Difference between “Fixed price issue” and “Book Built
issue”
On the basis of Pricing, an issue can be further classified into
Fixed Price issue or Book Built issue. When the issuer at the
outset decides the issue price and mentions it in the Offer
Document, it is commonly known as “Fixed price issue”.
When the price of an issue is discovered on the basis of
demand received from the prospective investors at various
price levels, it is called “Book Built issue”.
Understanding Book Building
Book building is a process of price discovery. The issuer
discloses a price band or floor price before opening of the
issue of the securities offered. On the basis of the demands
received at various price levels within the price band
specified by the issuer, Book Running Lead Manager (BRLM) in
close consultation with the issuer arrives at a price at which
the security offered by the issuer, can be issued.
The price band is a band of price within which investors can
bid. The spread between the floor and the cap of the price
band shall not be more than 20%. The price band can be
revised. If revised, the bidding period shall be extended for a
further period of three days, subject to the total bidding
period not exceeding thirteen days.
Book building is a process of price discovery. A floor price or
price band within which the bids can move is disclosed at
least two working days before opening of the issue in case of
an IPO and atleast one day before opening of the issue in case
of an FPO. The applicants bid for the shares quoting the price
and the quantity that they would like to bid at. After the
bidding process is complete, the 'cut‐off' price is arrived at
based on the demand of securities. The basis of Allotment is
then finalized and allotment/refund is undertaken. The final
prospectus with all the details including the final issue price
and the issue size is filed with ROC, thus completing the issue
process. Only the retail investors have the option of bidding at
'cut‐off'.
“Cut‐off” option is available for only retail individual investors
i.e investors who are applying for securities worth up to Rs
1,00,000/‐ only. Such investors are required to tick the cut‐off
option which indicates their willingness to subscribe to
shares at any price discovered within the price band. Unlike
price bids (where a specific price is indicated) which can be
invalid, if price indicated by applicant is lower than the price
discovered, the cut‐off bids always remain valid for the
purpose of allotment
IPO Analysis
Before applying for any IPO, analyse the following factors:
1. Who are the Promoters? What is their credibility and
track record?
2. What is the company manufacturing or providing
services - Product, its potential
3. Does the Company have any Technology tie-up? if yes ,
What is the reputation of the collaborators
4. What has been the past performance of the Company
offering the IPO?
5. What is the Project cost, what are the means of
financing and profitability projections?
6. What are the risk factors involved?
7. Who has appraised the Project?
Performance at a glance
Why is the recent crop of IPOs having such a difficult time
attracting subscriptions? NMDC, NTPC and REC all saw muted
response from retail investors. Why are PSU offers not well
received by retail investors?
It has nothing to do with the companies per se. They are the
bluest of blue chips where there is money to be made in the
long term, even at the FPO price. There lies a behavioural
angle to this. In 2008, retail investors had lost a lot of money
and they have seen much lower prices of all the stocks, which
would include NTPC and REC. Those prices are still weighing
on the minds of retail investors and that is why we see a
muted response at present.
During February 2010, Rs. 17,167 cr was mobilized in the
primary market through fourteen issues as compared Rs.
2466 cr was mobilized through 8 issues in January 2010.
Out of fourteen issues, there were eight public issues which
mobalised Rs. 13328 cr during February 2010. Among the
public issues, six issues were initial public offerings (IPOs)
which amounting Rs. 1320 cr and two FPO's issues which
mobalised Rs. 12009 cr. There were two rights issue in
February 2010 as compared to no right issue during January
2010 (details in table 1).
During 2009-10 (April February), there were 38 public issues
which mobilised Rs. 37,125 crore and 21 rights issues which
mobilised Rs. 4,982 crore as against 21 public issues which
mobilised Rs. 2,082 crore and 21 rights issues which
mobilised Rs. 11,997 crore during the same period in the
previous year (details in Table 1). There were four QIPs in
February 2010 which mobilised Rs. 1,989 crore and no QIP
issue in corresponding previous month. During the current
financial year so far, there were 58 QIPs which mobilised Rs.
41,133 crore against 2 QIPs which
mobilised Rs. 189 crore during the same period in last year
(details in Table 1).
V Share May, 2010 15
 IPO Analysis

Table 1: Funds Mobilised in the Primary Market1

February 2010 January 2010 2009-10 (Apr-Feb) 2008-09 (Apr-Feb) % Change
Items
No. of No. of No. of No. of Col 6 over Col 7 over
Amount Amount Amount Amount
Issues Issues Issues Issues Col 8 Col 9
a) Public Issues 8 13,328 8 2,466 38 37,125 21 2,082 80.95 1,683
i) IPOs 6 1,320 8 2,466 34 25,052 21 2,082 61.90 1,103
ii) FPOs 2 12,009 0 0 4 12,073 0 0 NC NC
b) Rights Issues 2 1,850 0 0 21 4,982 21 11,997 0.00 -58
c) QIP 4 1,989 0 0 58 41,133 2 189 2800 21,684
Total (a+b+c) 14 17,167 8 2,466 117 83,240 44 14,268 165.91 483
Note: (i) Public issues include equity as well as debt IPOs (ii) NC-Not Calculatable, division by Zero

Chart 1: Primary Market Trends (Rs. Crore)

20000

15000

10000

5000

0
8 08 8 8 8 8 8 9 0
r-0
8
y-0 Jun- l-0 ug-0 p-0 t-0 ov-0 ec-0
8 -09 -09 r-0
9 9 9 9 9
r-0 ay-0 un-0 Jul-0 ug-0 ep-0
9 9 9 9
t-0 ov-0 ec-0 an-1 eb-1
0
Ap Ma Ju A Se Oc N D Jan Feb Ma Ap M J A S Oc N D J F

Source: SEBI Bulletin, March 2010

Year 2009 was considered as a recovery phase after two
years of long financial crisis. As no. of IPOs were less as
compared to pre crisis era but growth are really
commendable. Amongst 30 IPOs almost 13 IPOs have shown
positive growth. Edserv Softsystems Ltd. was an star IPO with
total growth of 257% in one year (refer table 2).
Recent Developments
IPO grading: Now that grading has been made a rule, many
explanations are being given in its support. None make sense.
Regarding quality, entry norms have become tighter, with
better vetting issues by stock exchanges and SEBI. There is
compulsory participation of 50 per cent in an issue by QIBs
(qualified institutional buyers), who are more discerning and
better informed, and their response to an issue holds cues for
small investors. The fear of another vanishing company scam
is unfounded. Misuse of issue continues, but grading doesn't
offer any solution. Besides, even if a company gets a low
grade -- say '1' -- it can still make its issue. If its fundamentals
are judged to be so bad, why doesn't SEBI stall the issue?
There are information gaps. If the valuations are dubious and
disclosures incomplete, the regulators should fix them, not
use them as excuses to give rating agencies work.
Investors need help: The offer document is beyond the
capabilities of small investors and a grading is supposed to
offer a “crisp summary of the voluminous offer document”.
The concern is valid, the solution flawed. Regrettably, the
crisp summary is missing from all the IPO offer documents
graded so far; what we have is only a two-para unstructured
rationale for the grade awarded. The need is to revisit the
contents and format of the abridged prospectus, which small
investors use. Redesign the risk factors, which were
introduced to highlight the negatives, but have become a joke.
Participation of Insurance Companies in IPO
Life insurance companies that have completed five years of
operations can apply for permission to go public, according to
the norms for initial public offerings finalised by the Insurance
Regulatory and Development Authority.

The much-awaited guidelines, which are yet to be announced,

IPOs are overpriced: There is no such thing as overpricing; it
stipulate data of various aspects such as calculation of
is a statement made in hindsight. If an issue finds a huge
economic capital, surrender and lapse experience of
demand leading to over-subscription and lists at a premium,
business, and expense patterns for a five-year period.
how can any one accuse it of overpricing? That several IPOs
According to the guidelines, the economic capital might be
are quoting at a discount to issue price is a function of the
determined as the minimum amount of capital required to
market. Thousands of secondary market stocks have fallen,
make 99.5 per cent certain the insurer remains solvent over
but no one is crying hoarse about them. Once IPOs become
the next 12 months. While calculating the economic capital,
listed stocks, treat likewise. Anyway, IPO grading is of no use,
the policy-holder liabilities should be valued at risk-free
as it completely ignores price. And we know that even a good
interest rate (which could be yield on 10-year Government of
company at the wrong price is a bad investment.

16 V Share May, 2010

 IPO Analysis

Table 2: Positive Growth in 2009 IPOs

Issue Size Date of Issue %
Sr. No. Name of the issue Price Range LTP
(lakh shares) Listing Price (Rs.) Change

1 D.B. CORP LIMITED 181.75 Rs.185 to Rs. 212 6-Jan-10 243.85 212.00 15.02

2 GODREJ PROPERTIES LIMITED 94.29 Rs. 490 To Rs. 530 5-Jan-10 496.00 490.00 1.22

3 JSW ENERGY LIMITED 3818.72 Rs. 100 To Rs. 115 4-Jan-10 125.85 100.00 25.85

4 MBL INFRASTRUCTURES LIMITED 57.00 Rs. 165 To Rs. 180 11-Jan-10 227.60 180.00 26.44

5 COX AND KINGS (INDIA) LIMITED 184.97 Rs. 316 To Rs. 330 11-Dec-09 486.00 330.00 47.27

6 THINKSOFT GLOBAL SERVICES LIMITED 36.46 Rs.115 To Rs.125 26-Oct-09 141.90 125.00 13.52

7 PIPAVAV SHIPYARD LIMITED 854.50 Rs.55 To Rs.60 9-Oct-09 82.00 58.00 41.38

8 OIL INDIA LIMITED 264.50 Rs.950 To Rs.1050 30-Sep-09 1119.40 1050.00 6.61

9 GLOBUS SPIRITS LIMITED 75.00 Rs.90 To Rs.100 23-Sep-09 136.35 100.00 36.35

10 JINDAL COTEX LIMITED 112.50 Rs.70 To Rs.75 22-Sep-09 83.10 75.00 10.80

11 ADANI POWER LIMITED 3016.52 Rs.90 To Rs.100 20-Aug-09 124.95 100.00 24.95

12 MAHINDRA HOLIDAYS & RESORTS INDIA LIMITED 92.65 Rs. 275 To Rs. 325 16-Jul-09 484.90 300.00 61.63

13 EDSERV SOFTSYSTEMS LIMITED 39.74 Rs 55 T0 Rs 60 2-Mar-09 214.45 60.00 257.42

Source: NSE

India security) in line with the international practice. company's Audit Committee regarding the use of IPO money.

Insurance companies intending to go public would also need During official discussions, SEBI had said Section 55A of the
to disclose economic capital for the last five years, required Companies Act does not grant it powers to look into the end-
and available solvency margins over the same period, capital use of IPOs. SEBI currently has powers only until the issue of
structure and details of investment performance. the IPO and not beyond it.

Risk factors: A wide range of risk factors related to credit,
market, insurance, liquidity, operational and asset and liability
management need to be disclosed clearly by the insurers. The
disclosures have to be accompanied by a report from an
independent external actuary on the reasonableness of the
methodology adopted and assumptions made to determine
valuations. The insurance regulator has sent the guidelines to
the Securities and Exchange Board of India to be clubbed with
its own general guidelines before a formal announcement.
Changes in Company Bill for betterment of IPO Funds
The new Companies Bill will give SEBI the powers to look into
the end-use of Initial Public Offerings (IPOs). Changes to this
effect would be incorporated in the draft Companies Bill,
2009, as per Corporate Affairs Ministry. Simultaneously, to
enhance transparency, SEBI guidelines are likely to direct all
issuer companies with IPOs of even less than Rs 500 crore to
appoint an agency to monitor the use of such proceeds.
Currently, SEBI guidelines specify that a monitoring agency is
required only for issues of over Rs 500 crore. The monitoring
agency, such as a bank or a financial institution, is appointed
by the company going for an IPO. The agency reports to the
Besides, an expert group comprising the Corporate Affairs
Ministry, SEBI, BSE and NSE has submitted its report on
plugging the regulatory loopholes regarding scrutiny of the
usage of IPO money. It has been left to SEBI to change its
guidelines to ensure that all IPOs have a monitoring agency,
the sources said. Currently, the specification of monitoring
agency is only for IPOs over Rs 500 crore due to the high costs
involved.
However, there have been complaints of price-rigging and
mis-utilisation of money in IPOs of less than Rs 500 crore. Of
the 60 IPOs in 2008-09 and 2009-10, 50 (or 83.3 per cent) were
less than Rs 500 crore and only 10 were over Rs 500 crore,
according to Prime Database, a primary capital market
database. “All IPOs should have a monitoring agency that
gives its report to SEBI and shareholders on the use of IPO
money. It will prevent promoters from diverting IPO money to
illegal activities such as terrorism and smuggling as well as for
personal purposes, such as purchasing aircraft or yachts or
even for subsidiary units,” an official said.
Policy changes impacts on IPOs
With the secondary market going from strength to strength,

V Share May, 2010 17

 IPO Analysis
the primary market is booming again. A continuous pipeline,
big issues, huge over-subscriptions. As many as 86 companies
are in an advanced stage of their capital-raising plans to
collectively raise about Rs 19,000 crore, and the pipeline is
only building by the day.
It is, therefore, an opportune time to look at reforms in the
primary market. Two major reforms have already happened.
One, the banning of discretionary allotments to QIBs (qualified
institutional buyers) and the imposition of margin money on
them to prevent fraudulent/pumped up bids. Two, the
introduction of ECS for refunds, so that refunds were received
by investors not through post, but through an instantaneous
credit to their bank accounts. Yet, there's more to be done.
Here's my list of eight measures.
Greater reservation for small investors. End the debate on
reservations for small investors in IPOs. The demat scam,
which is the reason cited for this abolishment, happened
because of a lack of a unique identification number. IPOs are
the best way to mobilize household savings. Reservations are
necessary or else the proportionate allotment system across
the issue will edge out all small investors. In any case, this
reservation is for all and is made on an anonymous basis.
Since compulsory participation by QIBs serves to validate
IPOs, the time has come to increase allocation for small
investors.
Larger public offer. Public offer as a percentage of a
company's equity capital has been brought down gradually
from 75 per cent to 25 per cent and, in most recent cases, to
just 10 per cent. It gets worse for small investors, as only 35
per cent of an issue is reserved for them. So, if a company
offloads 10 per cent, small investors get only 3.5 per cent of its
capital. If its issue is hugely oversubscribed, applicants either
get tiny allotments or none at all, which discourages them
from applying to future issues.
Better pricing method. Surely, an auction system helps an
issuer get the best price for his shares. However, only 50 per
cent of an IPO -- the portion reserved for QIBs -- should be
auctioned. QIBs get the desired quantity of shares at prices
they are willing to pay. A one-day auction through a closed
book should be done on a top-down bid price basis.
The balance IPO should then be sold through the fixed price
route to the retail segment. This fixed price could be the
lowest of the QIB allotment price, or average of the bottom
five QIB allotment prices, or the average price at which the
bottom 25 per cent of the issue was sold to QIBs. Till this
happens, the retail portion of an IPO should stay open for an
extra day, so that the true QIB response is available to them as
a guide. Presently, most bids are uploaded on the system after
the close of the application hour.
Simpler processes. Some of the IPO processes continue to be
archaic and investor-unfriendly. The application form itself is
daunting. Investors are prone to making mistakes, leading to
rejection of applications. Multiple entry of elaborate data
leads to costs, errors and delays. Several other processes
18 V Share May, 2010
between application and allotment too need to be made
investor-friendly.
Better and relevant disclosures in offer documents. Although
big strides have been made to ensure better disclosures in
offer documents, the abridged prospectus that small
investors get doesn't help them make an informed decision. A
coordinated effort between the Companies Act and the DIP
guidelines is a must to arrive at new disclosure standards and
format for small investors.
Utilisation of issue proceeds. The early-90s scam of vanishing
funds, and not of vanishing companies, remains unsolved.
There are minimum laws on monitoring issue proceeds. Since
most companies get the objects of the issue modified through
an annual general meeting, they cannot be hauled up for
diverting issue funds. When a company wishes to change the
objects, it should give a buyback option to minority
shareholders.
Compensation to investors. Instances of Sebi taking penal
action against defaulters/fraudsters have increased.
However, common investors who lose money because of
such misdemeanours are not compensated. There is an
urgent need for a law on compensation. The IPO scam that
happened last year could be a good starting point, and it
would be very simple to identify investors who should be
compensated.
PSU divestments for retail. Resume PSU divestments, and this
time offer them only to small investors. Such offers, which
would typically be from bluechip PSUs, should be attractively
priced. This can become the most important method of
drawing in millions of new investors into the market.
Besides entry norms, there is mandatory provision which an
issuer is expected to comply before making an issue. An issuer
making a public issue is required to inter‐alia comply with the
following provisions mentioned in the guidelines:
Minimum Promoter's contribution and lock‐in: In a public
issue by an unlisted issuer, the promoters shall contribute not
less than 20% of the post issue capital which should be locked
in for a period of 3 years. “Lock‐in” indicates a freeze on the
shares. The remaining pre issue capital should also be locked
in for a period of 1 year from the date of listing. In case of
public issue by a listed issuer [i.e. FPO], the promoters shall
contribute not less than 20% of the post issue capital or 20% of
the issue size. This provision ensures that promoters of the
company have some minimum stake in the company for a
minimum period after the issue or after the project for which
funds have been raised from the public is commenced.
A policy is required for proper use of IPO Funds
The move to ask the Securities and Exchange Board of India
(SEBI) to monitor the use of the money that companies raise
through public offers is well-intentioned but impractical. Such
a job involves close policing of companies which is too much
to expect of an overworked market regulator which already
has the brief of overseeing over 7,000listed companies.
 IPO Analysis

Besides, increased monitoring is unlikely to deter
unscrupulous promoters from making tall promises during
public offers and then misusing investor funds. The
deployment of public money raised by companies is already
subject to a number of checks and balances, which if adhered
to meticulously should be sufficient to discourage such
misuse.
Companies making public offers are already required, under
the terms of the listing agreement, to have their audit
committees monitor the utilisation of IPO proceeds and make
regular reports to the Board. Where there is a material
deviation (from the objects stated in the prospectus), the
company is required to disclose that to the stock exchange
and publish the same along with its interim and annual
results. The efficacy of these controls can certainly be
improved by asking issuers to be more specific about their
objects (earmarking funds towards vague uses such as
'general corporate purposes' should not be allowed) and by
requiring them to furnish a more detailed explanation of mid-
course deviations. SEBI even mandates an additional layer of
control for companies raising over Rs 500 crore; they are
required to appoint an external monitoring agency to oversee
the utilisation of IPO proceeds. It can be argued that investors
in sub-Rs 500 crore offers deserve the same degree of
regulatory protection as those who invest in the larger ones;
thus there is a case for extending the “monitoring agency”
requirement to all offers. However, even if this is done, there is
the question of how effectively an external agency can
supervise the day-to-day handling of a company's funds or
the actual progress of its projects on the ground.
Given this backdrop, handing out quick and exemplary
punishment to offenders who have been found guilty of
misusing shareholder money seems to be the best deterrent
to corporate fraud. That prosecution proceedings still drag on
for a good number of the “vanishing companies” identified
from the IPO boom of the early nineties, certainly does not
inspire confidence. Nor does the tardy progress in
prosecuting the Satyam case. Expediting these cases may be
the best that the government can do to discourage would-be
scamsters and to send the message that it is serious about
cracking down on the misuse of investor money.

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V Share May, 2010 19