book building - final draft part 2
TRANSCRIPT
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INDEX
1. Introduction
2. Review of Literature
3. Overview on Global INITIAL PUBLIC OFFER - THROUGH
BOOK BUILDING ROUTE industry
4. Trends in IPO Industry
5. Problems & Suggestions relating to INITIAL PUBLIC OFFER
THROUGH BOOK BUILDING ROUTE industry
6. Conclusions and Findings
7. References
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Chapter 1
INTRODUCTION
1.1 A profile on IPO Industry
1.2 Rationale of the study
1.3 Objective of the study
1.4 Hypothesis of the study
1.5 Research methodology
1.6 Sources of data
1.7 Utility of the study
1.8 Limitation of the study
1.9 Chapter proposal
References
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1.1 A profile on IPO Industry:-
IPO industry globally has seen a paradigm shift towards the funds raised by this process.Below figures clearly indicates the number of deals & the amount raised in each quarter
of respective financial year.
1.2 Rationale of the Study
In the present trend of economics wherein every company / organization wants to growby leaps & bounds and to maintain the pace of their organization with Indias economicgrowth all the companies needs to raise funds either for diversification or for furtherinvestment in the existing business. Funds can be either raised from private equityinvestors or through retail / organizational investors. IPO is one of the ways of raisingsuch huge amount of money; IPO also increases the brand value of the company in themarket.
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Now since IPO is of great importance to major organizations & the recent trend suggeststhat major IPOs were through the book building process, I have opted for my detailedresearch in IPO through Book Building Process.
1.3 Objective of the study
It is an accepted fact that in research, although the aim is to achieve the maximum thereare always constraints of time, efforts and resources. The objectives are framed to proveits considering the above limitations and the data taken for testing it will be from 2001 02 to 2007 -08. The following are the objectives:-
1) To examine the role of IPOs in fund raising globally as well as in India, and toassess whether or not it has increased in the number of deals globally.
2) To review the trend of IPO in India3) To review the trends & growth of IPO industry for the period of 2001 02 to
2007 -08, and to make a comparative analysis between the numbers of deals &
fund raised through this process.4) To have a birds eye view of the IPO industry globally vis a vis in India(Comparison charts on the same are attached later in the document).
1.4 Hypothesis of the study
In the light of above cited objective, the researcher for the present study has set thefollowing hypothesis:
The volume of fund raised by book building process have been increased bymore then 60% in the last 5 years.
Based on the theoretical data, tables, diagrams and secondary data the hypothesisformulated by the researcher is being examined.
1.5 Research Methodology
The available published data have been interpreted in conformity with the acceptednorms to draw conclusion. In a study of this kind sampling is not much desirable soless importance is given to the same. The research methodology used is given belowin chart 1.2
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1.6 Sources of Data
In this research secondary data has been used. All the data necessary for this study hasbeen taken as follows:-
Official records on IPO book building process on BSE / NSE websites Dealogic, Thomson Financial for 2001 02 to 2006 07 Articles & journals from leading institutions. Various white papers issued by leading authors
1.7 Utility of the study
This study provides ample scope for the development of this industry and createsawareness about the importance of this industry. The present research is the result of
an original study based on the systematic and careful scrutiny of published andunpublished data. It is a careful analysis of the physical and financial aspects andevaluation of IPO industry in particular with an objective to draw valid conclusionsand give valuable suggestions. It also focuses on the prevalent problems relating tothis industry and the findings of the research study.
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LiteratureScanning
News Papers Books Journal Reports
Interview InvestmentPersonnel
Discussions Academicians Consultants Professionals
StatisticalTechnique
T Test is used totest the hypothesis
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1.8 Limitations of the study
To study on the topic INITIAL PUBLIC OFFER - THROUGH BOOK BUILDINGROUTE, the author relied on the data collected from published sources by variousconsultancy, investments & financial organizations. The author has tried the best of her
abilities to get the closest information to make the research as authentic as possibleconsidering the time, resources and money constraints.
1.9 Chapter Proposal
The present research study has been divided into six chapters
Chapter 1 Introduction
This chapter highlights the detailed design of the study commencing with a brief profileabout the INITIAL PUBLIC OFFER - THROUGH BOOK BUILDING ROUTE
industry describing the importance of book building in India and the attributes ofINITIAL PUBLIC OFFER - THROUGH BOOK BUILDING ROUTE which states thereason why the this process has gained more importance & the number of deals clinchedwith such high values.
It also includes rationale of study, objectives, hypothesis, sources of data, researchmethodology, utility of study and limitations of the study. The last part consists of thechapter scheme of the research study.
Chapter 2 Review of Literature
It consists of research studies by various authors published in the form of books andreports. Also there are research articles published in magazines, websites which haveimmense information about the INITIAL PUBLIC OFFER - THROUGH BOOKBUILDING ROUTE industry. However, all the studies more or less lay stress on thegeneral information about this industry and it is repetitive in nature. The researchers havenot properly focused on the problems relating to this industry and its suggestions.
Chapter 3 Overview on Global INITIAL PUBLIC OFFER - THROUGH BOOK
BUILDING ROUTE industry.
This chapter emphasizes on the role of each sector in the total industry. It deals with thenumber of deals & the funds raised in last 5 years along with the contribution ofglobalization in IPO industry as an whole.
Chapter 4 Trends in IPO Industry
This chapter deals with the organization aiding the development of this industry giving in
brief about the global trends and specific to Indian markets. It mainly focuses on the
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changes in this industry and their reasons for the changes year wise commencing from
2001 02.
Chapter 5 Problems & Suggestions relating to INITIAL PUBLIC OFFER -
THROUGH BOOK BUILDING ROUTE industry.
This chapter mainly focuses on the problems being faces by this industry and its possiblesolutions.
Chapter 6 conclusions and Findings
What all findings the researcher has found during the research study has been included inthis chapter along with the comparison with the objective of the research study and thenconclusion is drawn by bifurcating it into general and specific. The findings of theresearch study are also classified and shown as general findings and specific findings.
References:-
1. White papers / presentation shared by leading consultants in IPO industry.2. BSE / NSE India.
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Chapter 2
REVIEW OF LITERATURE
Review of literature relating to IPO Industry
References
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Chapter 2
REVIEW OF LITERATURE
In order to find out the gaps in the studies it is pertinent to review the available literatureon the related aspects of the present study. The studies on the performance of INITIALPUBLIC OFFER - THROUGH BOOK BUILDING ROUTE industry in India is fewthough it is an important industry showing dynamic changes since last few decades interms of funds raised. There is a pressing need to study the significance of this industrywith a view to find out its contribution in the finance industry.
1. Sunil Damania - The Managing Editor of Dalal Street in his article that the volatileIndian stock market continues to surprise everyone with the way it is showing itsstrength. In straight 10 days, the market has shown a remarkable recovery of 1300 points(Sept 2007). With this buoyancy back in the market, companies hoping to raise money tofund their expansion pan,, want to make the most of it, and are immediately tapping themarket. Secundrabad based kaveri seed company (KSC) is one such company, which iscoming out with an IPO of 40 lakh shares. The company has set the price band in therange of Rs. 150 and Rs. 170.
2. Ari Weinberg, The Industry Standard magazine, Jul 9th 2001. THE IPOMARKET'S FRAGILE COMEBACK DOESN'T NECESSARILY MEAN WALLSTREET IS INTERESTED IN STARTUPS AGAIN.
On the surface, the initial public offering -- the great Springboard that sent many a startupinto corporate adulthood and financial largesse -- seems to be emerging from its coma.IPOs raised $12.9 billion in the first three weeks of June, up from January's dismal $212million take. But a closer look at this year's more notable IPOs -- Kraft Foods, Instinet,KPMG Consulting -- tells a different story. All of these are long-standing businesses thatwere locked up in larger firms before being spun off for public consumption -- not theyoung, promising enterprises that fueled the bulk of the IPO market in recent decades.
A staggering 81 percent of the $23 billion raised by IPOs this year have come fromspinning off mature units of established companies, compared with 31 percent for all of2000. IPOs for startups, on the other hand -- which drove demand during the past five
years -- is still in torpor, amounting to a mere $4.3 billion in 2001. This trend shouldcontinue: A glance into the IPO pipeline shows it is dominated by large, maturecompanies. Consulting house Accenture and financial services firm Prudential, while notspinoffs of larger companies, aren't exactly wet behind the ears. Prudential, which isseeking to raise $4 billion, has been around for 126 years.
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What's behind the trend? Only the bravest companies and the boldest banks have dared totest the markets. "People are more risk-averse," says Randall Roth of the IPO Plus Fund."Psychologically, there is more shelter in these deals."
3. Chilli breeze Window 2 India.comInvestments in stock markets are hot! So which are the successful IPOs this year and
which companies are running high on the stock exchange? Where have majority
investors put their money? Read on to find out!
2006 saw several successful IPO issues. Astounding economic growth rates, largeamounts of corporate profits, expansion plans, buoyancy of the stock market, andpolitical stability are some of the factors that encouraged companies to opt for IPOs in2007 and 2008 to raise funds. The strengthening position of the Indian Rupee also addedto the optimism. Further, the secondary markets for stocks are flourishing which also is afactor that influenced companies to participate in the primary markets. Last year, India
had the 8
th
largest volume of IPOs in the world with Indian companies raising US$ 7.23billion in the domestic stock markets! This year the stock markets have performed even better. 2007 began on an optimistic note. Financial experts estimated around 150companies to turn to the stock markets to raise around US$ 10 billion in capital throughthe primary market
4. Banks Flock to India for IT Services IPOs , 7th March 2006 , By Staff Writer
Freeborders could be the first major Chinese service provider to go public after one of itsexecutives said last month that an IPO would happen in the "not too distant future". A
study published by consultants Avendus Advisors claims that there are a number of othermid-sized IT and BPO service providers in India which could go for an IPO this yearincluding Caritor, Corpus, Infinite Computer Systems, L&T Infotech, and PersistentSystems.
On top of these, there are some major BPO firms in India that must be considering such amove. WNS Global Services, the former finance and accounting arm of British Airwaysnow majority-owned by private equity firm Warburg Pincus, is an obvious candidate, asis Genpact, another former captive which is now majority-owned by investment firms.When it changed its name from GECIS last year, executives said it was too early to planan IPO, though it was a longer-term target. Office Tiger, a US-based offshore provider,may choose India for its IPO, which could happen by the end of the year, though it is alsowary of giving an indication of the timeframe.
There are slim pickings for IT services firms in the US. There have been a few humanresources flotations in the past year though, such as employee management specialistsTaleo and Kenexa. There are others which will make the jump this year such asEXLService Holdings, which plans to raise $75m on Nasdaq, but even this is an offshoreprovider with an Indian-based service provision. Achievo Corp, which has a strong
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presence in China could also file this year, but there are few opportunities compared toIndia. This is in part because of the increased costs associated with becoming a publiccompany as a result of the introduction of Sarbanes-Oxley laws.
Private firms that realized in 2002 when the act was made law that becoming public was
a serious prospect would have started ensuring that their financial processes metSarbanes-Oxley rules there and then. Unfortunately the cost of doing so for many mayhave seemed like an unnecessary gamble, especially through the early-funding yearswhen cash is tight, and such companies need to be run on a very strict budget.
The effect is that many private companies haven't budgeted for these extra costs, andhaven't ensured that their processes are compliant, therefore slowing the IPO pipeline.Some may decide that the extra costs are not worth it, and there have been a number ofcases of public firms returning to private ownership in the last year. Another consequenceof Sarbanes-Oxley is the fact that private firms that are not compliant become lessattractive to being takeover by public ones.
5. Othman Yong, 29th September 2006, Pacific Basin finance journal: - The currentstatus of research on IPOs in general, with special focus on Asian IPOs. As in the case ofU.S. IPOs, most past studies on Asian IPOs deal with the issue of under-pricing in IPOsand the factors, usually unique to Asian IPOs, that can explain the levels of the IPOunder-pricing. Studies on long-term IPO performances are also carried out with resultsnot always consistent with long-term underperformance observed in the U.S. In general,research on Asian IPOs is still quite preliminary with many IPO phenomena discoveredin the U.S. are not fully investigated. This paper also suggests some possible areas of IPOresearch in the future.
6.Boom and Slump Periods in the Indian IPO Market
Saurabh Ghosh* - RBI Publications 31st oct 2005
This paper attempts a detailed investigation of the boom and slump phases in the Indianprimary capital market. It concentrates on two key variables, namely, IPO volume andinitial returns and analyses their nature and interrelation during these two periods. Thisstudy also analyses the firm-specific characteristics and their influence on the timing of acompany getting listed in the hot and cold market. The IPO volume series was autocorrelated over the entire period and especially during the boom period. This shows a
firm's decision to go public over the last decade depended on the number of othercompanies that were getting listed over the previous months. Turning to the interrelationof volume and initial return, the empirical exercise (Granger causality test) found nosignificant relation between IPO volume and initial returns during the hot and coldperiods. This suggests that over the sample period, the Indian issuers' did not depend onthe information content of the initial returns while taking their decision to go public.Amongst the other characteristics that might have influenced the likelihood of IPOsduring hot and cold market (e.g. industry classification, age, size and underpricing of new
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issues), this paper finds no significant influence of industry affiliation on the IPOs duringthe boom period. The results also documented that more established firms have greaterlikelihood to get listed on the capital market to raise large amounts and under price moreduring the slump period.
7.Hot Issue" MarketsRoger G. Ibbotson, Jeffrey F. JaffeThe Journal of Finance, Vol. 30, No. 4 (Sep., 1975), pp. 1027-1042doi:10.2307/2326721
The notion of hot issue has been widely discussed and examined in the financialcommunity during the past decade. Hot issues usually refer to particular stock issues thathave risen from the offering prices to higher then average premia in the after market. Themost well known investigations of these issues were the securities and exchangecommission (SEC) report on the special study of securities market (28) and the SEC hotissue hearing of 1972.
8. Jain, Bharat A
Kini, Omesh
Bharat investigates the change in operating performance of firms as they make thetransition from private to public ownership. A significant decline in operatingperformance subsequent to the initial public offering (IPO) is found. Additionally, thereis a significant positive relation between post-IPO operating performance and equityretention by the original entrepreneurs but no relation between post-IPO operatingperformance and the level of initial under pricing. Postissue declines in the market-to-book ratio, price/earnings ratio, and earnings per share are also documented. Copyright1994 by American Finance Association.
Article provided by American Finance Association in its journal Journal of Finance.
Volume (Year): 49 (1994)Issue (Month): 5 (December)
9. Michelle Lowry
G. William Schwert
We examine the strong cycles in the number of initial public offerings (IPOs) and in theaverage initial returns realized by investors who participated in the IPOs. At theaggregate level, initial returns are predictably related to past initial returns and also tofuture IPO volume from 1960-1997. To understand these patterns, we use firm-level datafrom 1985-97 to model the initial return. Our results show that aggregate IPO cycles
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occur because of the time it takes to complete an IPO, the clustering of similar types ofIPOs in time, and information spillovers among IPOs.
10. Michelle Lowry
G. William Schwert
By investigating the entire IPO pricing process, beginning when the offering is filed, thepaper contributes to the existing literature along four dimensions. First, price updatesduring the registration period are predictable based on firm and offer-specificcharacteristics known at the time the offer is filed. Second, price updates reflect marketmovements prior to the initial filing date as well as during the registration period. Third,positive and negative information learned during the registration period affect the offerprice asymmetrically. Finally, public and private information learned during theregistration period have different effects on the offer price. While a number of the biasesthat we uncover are consistent with one or more theories regarding IPOs, many remain apuzzle.
11. Ajay Shah
India's vibrant IPO market, via a dataset of the 2056 IPOs which took place in the last 4.5years. We study the overall underpricing, the delay between issue date and listing date,the time- series of monthly volume of IPO issues and average underpricing in a givenmonth, the cross-section of underpricing across companies, the post-listing tradingfrequency, the long-run returns to new listings, and price discovery by the market shortlyafter first listing.
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References:
1. The managing editor of Dalal Street(Sept 2007).
2. Ari Weinberg, The Industry Standard magazine, Jul 9th
2001.3. Chilli breeze Window 2 India.com
4. Banks Flock to India for IT Services IPOs , 7th March 2006 , By Staff Writer
5. Othman Yong, 29th September 2006, Pacific Basin finance journal: -
6.Boom and Slump Periods in the Indian IPO Market - Saurabh Ghosh* - RBIPublications 31st oct 2005
7.Hot Issue" MarketsRoger G. Ibbotson, Jeffrey F. JaffeThe Journal of Finance, Vol. 30, No. 4 (Sep., 1975), pp. 1027-1042doi:10.2307/2326721
8. Jain, Bharat A
Kini, Omesh - Article provided by American Finance Association in its journal Journalof Finance.
Volume (Year): 49 (1994)Issue (Month): 5 (December)
9. Michelle Lowry
G. William Schwert
Date of creation: Oct 2000Publication status: published as Lowry, Michelle and G. William Schwert. "IPO Market Cycles: BubblesOr Sequential Learning?," Journal of Finance, 2002, v57(3,Jun), 1171-1200.
10. Michelle Lowry
G. William Schwert
Paper provided by National Bureau of Economic Research, Inc in its seriesNBER
Working Papers with number 8586.
Date of creation: Nov 200111. Ajay Shah
Date of creation: 11 Jul 1995Paper provided by EconWPA in its series Finance
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Chapter 3
Overview on INITIAL PUBLIC OFFER - THROUGH BOOK BUILDING
ROUTE.
NO. Topic
3.1. Introduction
3.2. What is an IPO?
3.3. Benefits of going public3.4. Cost of going public
3.5. Eligibility for an IPO
3.6. Issue Management Activity Chart3.7. Defining Book-Building
3.8. What is book-building?
3.9. Book Building Process3.10. Methods of Book Building
3.11. Why book-building?3.12. Fixed Price V/S Book Building
3.13. Some Recent Amendments
3.14. Role of Intermediaries3.15. Key Functions of Merchant Bankers
3.16. Issue through Prospectus
3.17. Marketing of the Issue
3.18. Pricing of Issues3.19. Early Guidelines for pricing
3.20. Price Methodologies used by various Merchant Bankers3.21. Principles of Price Fixation
3.22. Law governing Capital Issues to Public
3.23. Pre Issue Obligations3.24. Post Issue Obligations
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3.1 Introduction
Every company needs funds for its business. Funds requirement can be for short
term or for long term. To meet short term requirements, the company mayapproach banks, lenders & may even accept fixed deposits frompublic/shareholders. To meet its long term requirements, funds can be raised eitherthrough loans from lenders, Banks, Institutions etc., (which carry financial burden)or through issue of capital. Capital can be raised through private placement ofshares, public issue, rights issue, etc. Public Issue means raising funds frompublic. Promoters may have plans which may require infusion of money. The mainpurpose of the public issue, amongst others, is to raise money through public andget its shares listed at any of the recognized stock exchanges in India.
3.2 WHAT IS AN IPO?
The First public offering of equity shares of a company, which is followed by alisting of its shares on the stock exchange, is called the Initial public Offering.
Decision to go public Largest source of funds.
3.3 BENEFITS OF GOING PUBLIC
Access to Capital Respectability Investor Recognition Window of Opportunity Liquidity Diversification
Access to Capital : The principal motivation for going public is to have access tolarger capital. A company that does not tap public financial market may find itdifficult to grow beyond certain point for want of capital.
Respectability : Many entrepreneurs believe that they have arrived in somesense if there company goes public because a public company may demand greaterrespectability. Competent and ambitious executives will like to work for growth.Other things being equal, public companies offer greater growth potentialcompared to non public companies, hence they can attract superior talent.
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Investor Recognition : In the Capital Asset Pricing Model with incompleteinformation, according to Robert Merton, other thing being equal, stock prices arehigher, the larger the number of investors aware of the securities of the firm.
Window of opportunity : As suggested by Jay Ritter and others there are periods in
which stocks are overpriced. Hence, when a non-public company recognizes thatother companies in its industry are overpriced, it has an incentive to go public andexploit that opportunity.
Liquidity : Promoters of the company would eventually like there investment tobecome liquid. These becomes possible only when they take their company public.
Diversification : When a firm goes public those who have investment in it original owners, investors, management and others can cash out of the firm andbuild a diversified portfolio.
3.4 COST OF GOING PUBLIC
Adverse Selection Dilution Loss of Flexibility Disclosure Accountability Public Pressure
Adverse Selection : Investors in general, know less than the issuers about thevalue of the companies that go public. Putting it differently, they are potentialvictims of adverse selection. Aware of this trap, they are reluctant to participate inthe public issues unless they are significantly under priced. Hence a companymaking an IPO typically has to under price its securities in order to stimulateinvestor interest and participation.
Dilution : When a company issues shares to public, existing shareholders sufferdilution of their proportionate ownership of their firm.
Loss of Flexibility : The affairs of the company are subject to fairlycomprehensive regulation. Hence when a non-public company is transferred intopublic company there is some loss of flexibility.
Disclosures : A public company is required to disclose a lot of information toinvestors and others. Hence it cannot maintain a strict veil of secrecy over itsexpansion plans and product market strategies as its non-public counterpart cando.
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Accountability: Understandably, the degree of accountability of a public companyis higher. It has to explain a lot to its investors.
Public Pressure: Because of its greater visibility a public company may bepressurized to do things that it may not otherwise do.
3.5 ELIGIBILITY FOR AN IPO
An Indian company, excluding certain banks, can make an IPO if it satisfies thefollowing conditions.
Track Record Listing Promoters Minimum Contribution Lock in Period
Track Record : The company has a track record of paying dividends for theimmediate preceding three years or a public financial institution or scheduled bankhas appraised the project to be financed through the proposed IPO and participatesin financing the proposed project by way of loan or equity to the extent of at least10% of the project cost.
Listing : The securities are compulsory listed on a recognized stock exchange ifthe paid-up capital is more than Rs 50 million). An important precondition forlisting is that a certain minimum % of each class of securities must be offered to
the public.Promoters Minimum Contribution : The promoter group (promoters, directors,friends, relatives, associates, etc) is required to make a certain minimumcontribution to the post-issue capital. If there is no identifiable promoter group theissue of minimum promoters contribution does not arise.
Lock-in-period : The promoters contribution in an IPO is subject to a lock-in- period of three years from the date of allotment or the date of commercialproduction.
Entry Norms Who can come out with a public issue
Entry norms for the public issues are governed by the SEBI guidelines, SEBI(Disclosure for Investor and Protection), Guidelines, 2000. SEBI, keeping in viewthe objective of greater transparency, investor protection and development ofcapital market, has from time to time amended the entry norms for companies tocome out with the public issue. Entry norms are categorised into the following :-
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Unlisted Companies Listed Companies
Unlisted Companies
Unlisted companies are those public limited companies which are presently notlisted at any of the recognised stock exchanges in India. The shares of suchcompanies are therefore not traded at any of the Stock Exchanges in India.
Presently, there are two options available for the unlisted companies to come outwith public issue: -
1st Option
It should have a track record of distributable profits for at least 3 out of
immediately preceding 5 years and The pre-issue net worth (i.e. net worth before the issue) should be at leastRs 1 crore in 3 out of 5 years, with the minimum net worth in theimmediately preceding 2 years.
The issue size (includes offer to public, firm allotment, promoters contributionthrough offer document) should not exceed 5 times its pre-issue net worth as perthe last available audited accounts
2nd Option
With the recent guidelines amended on August 04, 2000 SEBI has amended thesecond option available for an unlisted companies. Earlier the guidelines statedthat if the company is not able to satisfy the 1st option as mentioned above, thecompany can come out with the public issue provided the project is appraised byany bank or public financial institution with at least 10% of the project costfinanced by such appraiser.
As per the recent guideline, if the company is unable to satisfy the 1 st option or ifthe issue size is more than 5 times its pre-issue net worth, then the second optionto come out with the issue is through the book building process only.
The issue can come out through book building process provided 60% of the issuesize is allotted to the Qualified Institutional Buyers (QIB). If the company fails toallot 60% of the issue size to QIB the entire money so received shall be refunded.
"Three years out of immediately preceding five years" means 3 years auditedaccounts for a period of at least 36 months are available for computation of theminimum track record of 3 years of distributable profits.
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Listed Companies
Listed Companies are those which are presently listed on any one or morerecognised Stock Exchanges in India. The securities of such companies are tradedon such stock exchanges where they are listed.
All listed companies can come out with further public issue provided the net worthof the company after the proposed issue is less than 5 times the net worth prior tothe issue. In case the net worth is more than 5 times the net worth prior to theissue, the company should comply with any of the options as available for unlistedcompanies.
3.6 Issue Management Activity Chart
1. Approval of Board
2. Appointment of Lead Managers3. Appointment other Intermediaries Co-managers and Advisors Underwriters Bankers Brokers and Principal Brokers Registrars
4. Filing of Prospectus with SEBI5. Filing of Prospectus with registrar of Companies6. Printing and Dispatch of Prospectus
7. Filing of Initial listing Application8. Promotion of the Issue9. Statutory Announcement10. Processing of Applications11. Establishing the Liability of Underwriters12. Allotment of Shares13. Listing of the issue
1.Approval of Board : An approval of the board of directors of the company isrequired for raising capital from public.
2.Appointment of Lead Managers : The lead manager is a merchant banker whoorchestrates the issue in consultation with the company. The lead manager mustbe selected carefully .
3.Appointment other Intermediaries : Several intermediaries facilitate public issueprocess .
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Co-managers and Advisors : A co-manager shares the work of the leadmanager and an advisor provides counsel .The lead manager may appointco-managers and advisors if required .
Underwriters : An underwriter agrees to subscribe to a given number of
shares in the event of the public do not subscribe them .The underwriter , inessence ,stands guarantee for public subscription in consideration forunderwriting commission. The principle underwriters in India are the publicfinanicial institutions , commercial banks , insurance companies, merchantbankers ,and brokers .
Bankers : The bankers to the issue collect money on behalf of the companyfrom the applicants . SEBI guidelines stipulate the minimal bankingarrangements that have to be made for the collection of applications . Thebankers chosen for the issue typically are the ones
(1) with whom the company has its credit accounts(2) who provide term loans to the company, and(3) who underwrite and / or manage the issue .
Brokers and Principal Brokers : The brokers of the issue facilitate itssubscription .In appointing the brokers to the issue / the following pointsshould be borne in the mind :(1) only members of the recognised stock exchanges can be appointed as
brokers.(2) The number of brokers appointed has to bear a reasonable relationship
to the size of the issue.A company may , if such a need is felt ,appoint a principle broker tocoordinate the work of the brokers .
Registrars : The registrars to the issue perform a series of tasks from thetime the subscription is closed to the time allotment is made i.e. collectionof the applications forms from the banks , scrutiny of the applicationforms, classification and tabulation of the data ,finalization on the basis ofallotment , issue and dispatch of allotment of letters, share / debenturecertificates, and refund orders. Registrars may be selected on the basis ofexperience, expertise, credibility, and cost.
4.Filing of Prospectus with SEBI : The prospectus or the offer documentcommunicates information about the company and the proposed security issue tothe investing public. All companies seeking to make a public issue have to filetheir offer document with SEBI .If SEBI or the public does not communicate itsobservation within 21 days from the filing of the offer document, the companycan proceed with its public issue .The prospectus and the application form (along
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with the articles and memorandum of the association ) must be forwarded to theconcerned stock exchange, where the issue is proposed to be listed, forapproval .
5.Filing of Prospectus with registrar of Companies : Once the prospectus is
approved by the concerned stock exchanges and the consents obtained from the bankers , auditors, legal advisors, registrars, underwriters, and others the prospectus, signed by the directors, must be filed with the registrar of thecompanies, along with requisite documents as required by the companies act ,1956.
6.Printing and Despatch of Prospectus : After prospectus is filed with the registrarof companies, the company should print the prospectus (along with theapplication form). The quantity in which the prospectus is printed should besufficient to meet the requirements of brokers, underwriters and bankers to the
issue. They should be sent to stock exchanges and brokers so they receive themat least 21 days before the first announcement is made in the newspapers.Brokers serving as links between the company and the potential investors,receive the prospectus, application form, and brochure in bulk and, in turn, mailthem to their clients. The company may share their cost of mailing incurred bybrokers on some basis.
7.Filing of Initial listing Application : Within ten days of filing of prospectus, theinitial listing application must be made to the concerned stock exchanges, alongwith the initial listing fees.
8.Promotion of the Issue : The promotional campaign typically commences withthe filing of prospectus with the registrar of companies and ends with the releaseof the statutory announcement of the issue. To promote the issue the companyholds conferences for brokers, press and investors. At these conferences thecompany seeks to get adequate publicity. Advertisements are also released innewspapers and periodicals to generate interest among potential investors.
9.Statutory Announcement : The statutory announcement of the issue must be
made after seeking the approval of the lead stock exchange. This must bepublished at least ten days before the opening of the subscription list.
10.Collecting of Applications : The statutory announcement (as well asprospectus) specifies when the subscription would open, when it would close,and banks where the applications is made. During the period the subscription iskept open, the bankers to the issue collect application money on behalf of thecompany and managers to the issue, with the help of the registrars to the issue,monitor the situation. Information is gathered about the number of applications
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received in various categories, the number of shares applied for, and the amountreceived.
11.Processing of Applications : The application forms received by the bankers aretransmitted to the registrars of the issue for processing. This mainly involves Scrutinizing the applications to see whether the proper amount has beenreceived, whether the applicants name is correctly mentioned, whetherparticulars such as address, age, occupation, etc, have been provided, whetherapplications has been signed correctly, and whether the application isgenuine. Serially numbering the applications Coding the applications for items like the name of the applicant, broker,underwriter, occupation, etc. Preparing a list of applications with all relevant details.
12.Establishing the Liability of Underwriters : If the issue is undersubscribed, theliability of the underwriters has to be established. For this purpose, thefollowing procedures may be followed : Segregate the applications which bear the stamp of an underwriter andapplications which do not bear the stamp of any underwriter. Determine thenumber of shares procured by each underwriter and carry the number ofshares relating to applications which do not the bear the stamp of anyunderwriter to a general pool. Compare the number of shares procured by each underwriter with hisunderwriting commitment. If an underwriter procures more shares than his
underwriting commitment, carry the excess to the general pool. If anunderwriter procures less shares than his underwriting commitment,determine his shortfall. Credit the total number of shares in the general pool to the underwriterswith shortfall in proportion to their underwriting commitments and thendetermine the net shortfall of each underwriter who could not procure enoughshares. This represents the underwriters liability.
To illustrate the determination of liability of underwriters, let us consider anexample.
Parigraha Limited received subscriptions for 80,000 shares as against 100,000shares that were offered and underwritten. The underwriting commitment of fourunderwriters P, Q, R and S were as follows: 40,000, 30,000, 20,000 and 10,000shares respectively. The subscription for 80,000 shares which carried theunderwriters stamp were procured by P, Q, R and S as follows : 20,000, 20,000,15,000 and 25,000 respectively. Given this information, the liability ofunderwriters may be established as follows:
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UnderwritingCommitment
Procured
SharesShortfall Excess or Credit
NetShortfall
P 40,000 20,000 (20,000) 6,667 13,333
Q 30,000 20,000 (10,000) 5,000 5,000R 20,000 15,000 (5,000) 3,333 1,667S 10,000 25,000 15,000 -- --13.Allotment of Shares : According to SEBI guidelines, one-half of the net public
offer has to reserved for applications up to 1,000 shares and the balance one-half for larger applications. For each of theses segments the proportionatesystem of allotment is to be followed.
14.Listing of the issue : The detailed listing applications should be submitted to
the concerned stock exchanges along with the listing agreement and the listingfee. The allotment formalities should be completed within the 30 days after thesubscription list is closed or such extended period as permitted by the leadstock exchange.
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Now Let us learn more about Book Building ????????????
Maruti Udyog Ltd., Indias largest passenger car manufacturer, has been inthe news recently. The government, which had a majority stake in the company,divested a part of its stake in the company. But instead of taking the traditional
IPO issue route, it opted for the book-building route. However, it is not the firstcompany to do so. Some companies, which adopted the book-building route in therecent past, include Hughes Software, Mukta Arts, Creative Eye, HCLTechnologies, Bharti Televentures and i-flex. So what exactly is this book-building?
OUTDATED INFORMATION
Book building is still a relatively new concept, especially amongst Indianretail investors. With transactions such as Maruti, which reached about 75 cities
and over 650 bidding centers, we believe that more and more retail investors willbecome familiar with the book building concept. In this presentation we attempt tocapture some of the elementary concepts pertaining to book building, theguidelines relating to book building and merchant bankers role in the same.
But before we proceed to BB lets briefly analyze an IPO.
IPO
(What used to happen until now was that a price was agreed upon i.e. afixed price & shares were issued at that very price by the co. now is it donethrough bb.)
3.7 BB defined
BB as defined by SEBI, "Book Building" means a process undertaken bywhich a demand for the securities proposed to be issued by a body corporate iselicited and built up and the price for such securities is assessed for thedetermination of the quantum of such securities to be issued by means of a notice,circular, advertisement, document or information memoranda or offer document."
As all definitions by SEBI even this sounds too complicated and confusing.But to put it in one word BB is an auction.
3.8 What is Book Building
Book building is a method of issuing or offering shares to investors inwhich the price at which the shares are offered is discovered through a biddingprocess.
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It is a process wherein various bids are collected from investors and theentries made in a book. It must be noted here that book building is just anotherform of an IPO wherein investors, retail and institutional, can participate in theprocess and acquire shares of the company up for divestment or whose equity is atsale.
Thus, unlike the fixed price method in which the offer price of the shares isdecided by the company in consultation with lead managers much before the issueactually opens, in a book-built IPO, potential investors or bidders have theflexibility to bid for the shares at prices they are willing to pay. The final price isdecided after an analysis of demand generated.
3.9 The Process:
* The Issuer who is planning an IPO nominates a lead merchant banker as a
'book runner'.* The Issuer specifies the number of securities to be issued and the price band for
orders.
*The Issuer also appoints syndicate members with whom orders can be placedby the investors.
*Investors place their order with a syndicate member who inputs the orders intothe 'electronic book'. This process is called 'bidding' and is similar to openauction.
* A Book should remain open for a minimum of 5 days.
* Bids cannot be entered less than the floor price.
* Bids can be revised by the bidder before the issue closes.
*On the close of the book building period the 'book runner evaluates the bids onthe basis of the evaluation criteria which may include -
o Price Aggressiono Investor quality
o Earliness of bids, etc.
*The book runner and the company conclude the final price at which it iswilling to issue the stock and allocation of securities.
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*Generally, the number of shares are fixed, the issue size gets frozen based onthe price per share discovered through the book building process.
*Allocation of securities is made to the successful bidders.
*Book Building is a good concept and represents a capital market which is inthe process of maturing.
3.10 In case the issuer chooses to issue securities through the book building
route then as per SEBI guidelines, an issuer company can issue securities in
the following manner:
1. 100% of the net offer to the public through the book building route.
2. 75% of the net offer to the public through the book building process and 25%
through the fixed price portion (fixed price is the price determined through bookbuilding process).
3.11 Why book building?
Why does a company choose to go through the book-building route whenthe conventional method (IPO) is still prevalent? The most apparent reason for thiscould be the price discovery mechanism, which is inherent in this process. Sinceinstitutional and retail investors have the option to bid for the equity, at or above aparticular floor price, decided by the company in consultation with the merchantbankers, it helps the company realise the true value for its equity, or simply put,
what the investors perceive the value (or rather intrinsic value) of the company tobe. It also gives the company an insight into its credibility factor amongst theinvestors, which could be gauged by the demand generated for the purchase ofequity up for sale. Also, through this route, the company saves on cost and timerequired to complete the issue.
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3.12 Difference between shares offered through book building and offer of
shares through normal public issue:
Fixed Price process Book Building process
Pricing
Price at which the securities areoffered/allotted is known in advance tothe investor.
Price at which securities will beoffered/allotted is not known in advanceto the investor. Only an indicative pricerange is known.
Demand
Demand for the securities offered is
known only after the closure of theissue.
Demand for the securities offered can
be known everyday as the book is built.
Payment
Payment if made at the time ofsubscription wherein refund is givenafter allocation.
Payment if made at the time ofsubscription wherein refund is givenafter allocation.
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3. 13 Recent Amendments
In its recent amendments, SEBI has reduced the allocation of equity to QualifiedInstitutional Buyers (QIBs), which includes financial Institutions, banks and thenewly added insurance companies, and increased the share of retail investors.
Prior to the amendments, QIBs could be allotted up to 60% shares, which nowstands reduced to up to 50%.
Also, another change was the definition of retail investors, which previouslymeant those investors who bid for less than 1,000 shares. However, the definitionnow stands changed to an investor who bids for shares less than worth Rs 50,000.
Another positive step taken by SEBI is the setting up of a price band, which willassist the retail participants in placing their bids. This would act as a goodguidance for the retail investor in placing the bid, as the previous method had a
flaw in the sense that a floor price was fixed below which the bidder was notallowed to bid while there was no upper limit to the bid price.
Another change made by SEBI in the rules governing primary market issues is thatinstitutional bidders cannot withdraw their bids. This move is again in the interestof retail investors as the current avtaar of book building could be misused to takesmall investors for a ride. Prior to this change, institutional bidders could tie-upwith the lead book running managers and submit inflated bids thus creating anartificial demand and price for the issue.
A couple of other changes include the introduction of a 15% greenshoe option forIPOs adopting the book building route in case of an oversubscription of the issue.The greenshoe option, basically, gives the issuer company a right to allot anadditional 15% of equity. This right will be exercised by the company, butnaturally, in the case of extra demand due to oversubscription of the issue.
This would, thus, help reduce price volatility post listing of the security.Moreover, the decision to reduce the listing period interval from 15 days to 6 dayspost the date of allotment ensures that the investors finances do not remain lockedin for a longer period of time. This move is more in line with the internationalpractice.
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3.14 Role of Intermediaries
Many intermediaries are involved in connection with the public issue. Followingare the intermediaries who have to be registered with SEBI and must have validcertificate from SEBI to act as an intermediaries: -
Merchant Bankers Registrar and Share Transfer Agents Bankers to the Issue Underwriters Stock Brokers and Sub Brokers Depositories
3.15 Merchant Bankers play the most vital role amongst all intermediaries. Theyassist the company right from preparing prospectus to the listing of securities at
the stock exchanges. Merchant Bankers have to satisfy themselves about thecorrectness and propriety of all the information provided in the prospectus. It ismandatory for them to carry due diligence for all the information provided in theprospectus and they must issue a certificate to this effect to SEBI. A Companymay appoint more than one Merchant Banker provided Inter-Se Allocation ofResponsibilities between the Merchant Bankers are properly structured.
Underwriters are those intermediaries who underwrite the securities offered tothe public. In case there is under subscription (in short, the company does notreceive good response from public and amount received from is less than the issuesize), underwriters subscribe to the unsubscribed amount so that the issue issuccessful.
Registrar & Share Transfer Agents processes all applications received from thepublic and prepare the basis of allotment. The despatch of share certificates /refund orders are handled by them.
Bankers to the Issue are banks which accept application from the public onbehalf of the company. These applications are then forwarded to Registrar &Share Transfer Agent for further processing.
Stock Brokers & Sub-Brokers are those intermediaries who through theircontacts / sources invite the public for subscribing shares for which they getcommission.
Depositories are the intermediaries who holds securities in dematerialised form onbehalf of the shareholders. Keeping in mind the risks involved on account of fake /forged certificates, bad delivery and delays in transfer SEBI has made recent
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changes by which all the public issues shall be in dematerialised form only. Itmeans that no physical share certificate will be given to the shareholders. Theshares shall be electronically be transferred to the shareholders account opened itsDepository Participant
Let us see How Merchant Bankers manage the issue ??????????????????
Pre Issue Management
Key Functions of Merchant Bankers
Issue through Prospectus
Marketing of the Issue
Pricing of Issues
3.16 Issue through Prospectus
Prospectus
`Prospectus is the most important document for the company to come out with a public issue. Pursuant to Section 2(36) of the Act, `Prospectus means anydocument described or issued as a prospectus and includes any notice, circular,advertisement or other document inviting deposits from the public or invitingoffers from the public for the subscription or purchase of any shares in, ordebentures of, a body corporate.
Prospectus is a document by way of which the investor gets all the informationpertaining to the company in which they are going to invest. It gives the detailedinformation about the Company, Promoter / Directors, group companies, CapitalStructure, Terms of the present issue, details of proposed project, particulars of theissue etc. There are certain mandatory disclosures which have to be made in theprospectus. The mandatory disclosures to be made in the prospectus includes inSchedule II of the Companies Act, 1956. SEBI has issued guidelines, SEBI
(Disclosure for Investor and Protection), Guidelines, 2000 which gives detailsabout the contents of prospectus.
Vetting by SEBI/Stock Exchanges
A company cannot come out with public issue unless draft prospectus isfiled with SEBI.
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A company cannot file prospectus directly with SEBI. It has to be filedthrough a merchant banker. After the preparation of prospectus, themerchant banker along with the due diligence certificates and othercompliances sends the same to SEBI for vetting.
SEBI on receiving the same, scrutinizes it and may suggest changes within
21 days of receipt of prospectus. (Earlier, the situation was that thecompany was required to obtain Acknowledgement Card from SEBI).
However, now the concept of obtaining acknowledgement card has beenremoved and the company can come out with a public issue any time within365 days from the date of the letter from SEBI or if no letter is receivedfrom SEBI, within 365 days from the date of expiry of 21 days ofsubmission of prospectus with SEBI.
If the issue size is up to Rs. 20 crores then the merchant bankers arerequired to file prospectus with the regional office of SEBI falling under thejurisdiction in which registered office of the company is situated.
If the issue size is more than Rs. 20 crores, merchant bankers are requiredto file prospectus at SEBI, Mumbai office. Prospectus is also required to be filed with the concerned stock exchanges
along with the application for listing its securities. Presently, companiesapproaching the stock exchange for public issues should obtain in-principalapproval from such stock exchanges.
Date of Prospectus and ROC Card
After making changes, if any made by SEBI / Stock Exchanges, the final
Prospectus duly signed by all the Directors (or by Authorized Representativesthrough its Power of Attorney) must be filed with the Registrar of Companies(ROC) along with the copy of all material documents.
The ROC may suggest changes which should also be reported to SEBI / StockExchanges. The date on which ROC Card is obtained is the date of the prospectus.
In case Book Building Issue, Red Herring Document cannot become a Prospectusunless it is filed with Registrar of Companies. Issue Price is arrived only after theIssue is closed.
Contents of Offer Document
Section I - Contents of Prospectus
Section II - Contents of Abridged Prospectus
Section III - Contents of Letter of Offer
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Section I - Contents of ProspectusThe offer document shall contain material information which shall be true andadequate so as to enable the investors to take a informed decision on theinvestments in the issue.
PART I General Information
Name and Address of Registered office of the issuer company Disclaimer Clause Letter of Intent/Industrial License Disclaimer statement from the Issuer Filing of Offer document with the Board and RoC Names of the Regional Stock Exchange and other stock exchange
where application is made for listing of present issue
Minimum Subscription Clause Issue Schedule Intermediaries and Auditors Credit Rating Underwriting of the Issue Compliance Offer
Capital Structure of the company Authorised, issued, subscribed and paid-up capital Size of present issue (giving separately, promoters
contribution, firm allotment/reservation for specified categories andnet offer to public) Paid-up Capital (after the issue) Share Premium Account (before and after the issue) Notes to Capital Structure
Terms of Present Issue
Terms of Payments Arrangement of disposal of Odd lots Rights of the instrument holders How to apply availability of forms, prospectus, and mode ofpayment Despatch of Refund orders Utilisation of Issue proceeds
Particulars of the Issue Objects
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Project Cost Means of Financing Appraisal Deployment of funds in the project
Name of monitoring agency, if applicable Company, Management and Project
History and main objects and present business of thecompany Subsidiaries of the company, if any Promoters and their background Key Management Personnel Name, address and occupation of manager, managingdirector, and other directors
Location of the project Collaboration, any performance guarantee or assistance inmarketing by the collaborators Infrastructure facilities for raw materials and utilities likewater, electricity etc. Schedule of implementation of project and progress made sofar The products Future Prospects Stock Market data
Management Discussion and Analysis of the Financial Condition andresults of the operations as reflected in the financial statements
Financial information of Group Companies
Details of the Public Issue made by the same management during the lastthree years
Promise vis--vis Performance (about previous issues)
Basis of Issue Price
Outstanding Litigations or defaults
Risk Factors and management perception on the same Disclosure of investor grievances and Redressal System
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PART II
General Information Consent of directors, solicitors/advocates, managers to the issue,
Registrars to the issue, Bankers of the company, bankers to the issueand experts.
Expert opinion obtained, if any Authority of the present issue and details of resolution passed in the
issue Procedure and time of schedule for allotment and issue of
certificates. Name and address of the company secretary, legal advisor, lead
managers, co-managers, auditors, bankers to the company, bankersto the issue, brokers to the issue
Financial Information
Statutory and other information Minimum Subscription Expenses of the issue Underwriting commission and brokerage
Previous issue for cash Previous public/rights issue, if any Commission or brokerage on previous issues Issue of shares otherwise than for cash Debentures and redeemable preference shares and other instrument
issued by the company Purchase of property Revaluation of assets, if any Material contracts and inspection of documents
Section II - Contents of Abridged ProspectusBid cum Application form comprises the copy of Abridged Prospectus. It containsthe features of contents of prospectus. Abridged Prospectus should not containmatter extraneous to the content of prospectusSection III - Contents of Letter of OfferLetter of Offer is in case of Rights Issue.
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3.17 Marketing of the Issue
Grooming of Issue
Publicity Campaign
Printing and Mailing Arrangements
Grooming of the Issue :
After dispatch of prospectus to SEBI, Merchant Bankers should arrange a meeting
with company representatives and advertising agents to finalise arrangementsrelating to Date of opening and closing of issue Registration of prospectus Launching publicity campaign Fixing the of board meeting to approve and sign prospectus and pass
necessary resolutions.
In deciding the timing of the issue following points are to be considered1. State of secondary market
2. No of other issues in the market3. Proximity to festival time4. Tax payment time5. Proximity to time of refunds from previous issues in the market
should be taken into account.
Publicity Campaign :
It includes preparation of All publicity material and brochures
Prospectus Announcement Advertising in Radio, TV, Press Investors conferences and hoardings
Success of an issue essentially depends on Size of media
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Media Frequency and Placement of advertisement
Merchant Bankers play a key role by helping in the Choice of media Determination of size Publication in which the advertising should appear and Ensure that advertisement discloses proper details about the project
prospects and profitability for the benefits of investors.
Advertising could be Corporate group related Company related or Issue related
Sometimes sweeteners or additions for product enhancement are made Could be Insurance benefits Early bird incentives Scholarships Assurance of Bonus
Other facilities to the investors could be Payment by credit cards Bank loans for application
Khoka or buyback agreement Safety Net Scheme & others
Effective Marketing includes arrangement of conferences at potential centers toexplain the nature and strength of project to various cross section of investors andtheir counselors.
Printing and Mailing arrangement :
Merchant Bankers role is to
Decide the no of copies of application form and prospectus to be printed Checking the accuracy of statements made ensure that the size and weight of the application form and prospectus
conform to the standards prescribed by the stock exchange.Stock exchange requires that prospectus, application form, and other publicitymaterial should be made available to the
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Stock Exchange Brokers to the issue Branches of bankers to the issue and Underwriters
on time or at least 21 days before the issue opens for subscription
3.18 Pricing of Issues
Early guidelines of Pricing
Price Methodologies used by various Merchant Bankers
SEBI guidelines for pricing of securities
3.19 Early Guidelines for pricing
Prior ahead of 1992 Controller of Capital Issues (CCI) used to control and monitorthe issues in primary market. . During that period, the pricing of capital issues wascontrolled by CCI. The premium on issue of equity shares issued through theprimary markets was done in accordance with the Capital Issues Control Act.
They had laid down the guidelines and the method to be used by the company forcomputation of premium to be charged from the public.
Net Asset Value Profit Earning Capacity Value
Market Value
Calculation of Net Asset Value
There are two methods for computation of Net worth as per CCI guidelinesThe resulting answer would be the equivalent via either of the methods.
1st Method
Total Assets XXX
Deduct all LiabPreference Share Capital XXXSecured & Unsecured Liabilities XXX
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Current Liabilities XXXContingent Liabilities XXXNet Worth XXX
2nd Method
Shareholders Funds1. Equity Share Capital XXX2. Free Reserves XXX
Total XXX(Deduct)Contingent Liabilities XXX
Net Worth XXX
Computation of NAV
Net Worth XXXAdd Fresh Issue of Capital XXXTotal Net Worth XXX
No of Shares XXX(incl Fresh & Bonus issue) XXX
Net Asset Value (NAV) per Share XXXProfit Earning Capacity Value (PECV)
PECV is arrived at by capitalizing the average of the after tax profits for three orfive years. The rates of capitalization originally mentioned in the guidelines were
15% in the case of manufacturing companies20% in case of trading companies17.5% in case of intermediate companies i.e. companies whose turnover fromtrading is more is more than 40% but less than 60% of total turnover.
The capitalization rate may be liberalized up to 12% in case of a manufacturingcompany with a view to ensure fair and equitable valuation.Sometimes the NAV and PECV based on 15% capitalization rate fall short of themarket price of the share which reflects the track record of high and consistentdividend payments and bonus issues, established position as a market leader in its
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field, good reputation of management, they may no be reflected in NAV andPECV.
Secondly capitalization rate may be liberalized in the case of a company with highprofitability rate as revealed by the percentage of after tax profits to the equity
capital of the company. Finally, capitalization rate may be liberalized in case of awell diversified multi-product firm because it can sustain its overall profits even ifits operations in any one part run into difficulties.
Provisions for taxation has to be made according to the current statutory rate underthe Income Tax Act. Average profits should be calculated on the basis of a trueand realistic estimate of the future maintainable earnings of the business. Nowindow dressing of balance sheet to inflate profits should be done. Non-recurringmiscellaneous income of an abnormal nature or magnitude, writing back ofprovisions should be excluded.
Average profits are arrived at on the basis of three years profits in the auditedaccounts. In special cases, where the capital base of company is large or proposedissue is large, income of the company is erratic or premium is substantive, anaverage of 5 years may be taken. Average profits may be calculated on the basis ofa simple arithmetical average if the annual variation is not large, up to 20% ormaximum does not vary by more than 50% from the minimum.
If the profits are rising steadily and the trend is likely to continue, average profitsmay be calculated on a weighted basis, 3 for latest years, 2 for middle years and 1
for farthest year. If the profits are declining constantly, the profits of the latest yearmay be taken. For a judgment of a trend it will be helpful if 5 years data areexamined.
In case of loss making companies (all three or two years) profit earning capacitywould be nil.
Calculation of Profit Earning Capacity Value (PECV)
Average PBT for last 5 yrs XXXLess Provision for Tax XXXAverage Profit After Tax XXXLess Pref dividend XXXNet Profit after Tax XXXAdd Contribution to Profits XXX
by Fresh IssueTotal PAT XXX
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No of Equity Shares XXXEPS XXXPECV at 15% Capitalisation Rate XXX
Assessment of the profitability of fresh issue of capital
Fresh issue of capital should be assumed to be profitable only when it is used tofinance
New project or expansion and It is on ground and tangible progress has been made in implementing it
If capital is being raised for Modernization or Replacement of assets or Dilution of foreign equity or Getting shares listed on stock exchange
Then fresh capital would not contribute to profitability of business.
If fresh issue of capital is to finance a new project or for expansion then it could beassumed that fresh capital could contribute up to max 50% of the existing rate ofprofitability.
Contribution to profits = 1/2 x Fresh Capital x Existing PAT by fresh issue Existing Net Worth
Market value
It consist of computation of Average Market Price Fair Value
Average Market Price
Market price as a criterion would be valid only if the share is listed on stockexchange. The average market price of a share in preceding three years after
making appropriate adjustments for bonus issues and dividend payment would bedetermined by
High and Low of preceding two years High and low of each month preceding twelve months
Market Price of the share reflects the track record of High and consistent dividend payments and bonus issues
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Established positions as market leaders in the field Good reputation of management
(If at all it be existent)Which may not be reflected in Net Asset Value and Profit Earning Capacity Value
Performa for Computation of Average Market Price
High Low First Year Second Year Latest Year
1st
month2nd month||
(For preceding 12 month) _____ _____Average Market Price _____ _____
Computation of Fair Value
Average of Net Asset Value & Profit Earning Capacity ValueFAIR VALUE = NAV + PECV
2
The Average market price is used to check the reasonableness of the average NAVand PECV i.e. Fair Value. The FV should be less than 20% of Average MarketPrice otherwise PECV has to be reworked with liberalized capitalization rate.
Comparison of Average Market Price with Fair Value
Conditions Capitalisation
Rate
20% of FV < AMP < 50% of FV 12 %
50% of FV < AMP < 75% of FV 10 %
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AMP > 75% of FV 8 %
Hypothetical Example
Liabilities Amount
(in Crs)
AssetsAmount
(in Crs)
Equity Share CapitalReserves & SurplusPreference Share CapitalSecured & UnsecuredBorrowingsCurrent Liabilities
500100200100
100
Fixed AssetsCurrent Assets
600400
TotalTotal 10001000 TotalTotal 10001000Foot Note : Contingent Liability of Rs 100 crores
Computation of Net worth
1st Method
Total Assets 1000
Deduct all LiabPref Share Cap 200Sec & Unsec Liab 100Current Liab 100Contingent Liab 100Net Worth 500
2nd Method
Shareholders Funds
1. Eq Sh Cap 5002. Free Reserves 100
Total 600(Deduct)Contingent Liab 100 Net Worth 500
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Calculation of Net Asset Value
Net Worth 500 cr Add Fresh Issue of Capital 500crTotal Net Worth 1000 cr
No of Shares(including Fresh & Bonus issue) 10 cr Net Asset Value (NAV) per Share Rs.100Calculation of Profit Earning Capacity Value (PECV)
Rs (in Crs)
Average PBT for last 5 yrs 80Less Provision for Tax 10Average Profit After Tax 70Less Preference dividend 20
Net Profit after Tax 50Add Contribution to Profitsby Fresh Issue 40
Total PAT 90No of Eq Sh (Fresh +Bonus) 10EPS Rs.9PECV at 15% Capitalisation Rate 60
Calculation of Fair Value
FAIR VALUE = NAV + PECV2
FV = 100 + 60 = 802
Net Asset Value (NAV) = Rs.100Earnings Per Share (EPS) = Rs.9Average Market Price for 3 yrs = 150
Capitalise EPSPECV = 9 x 100/15 = 60Fair Value = 100 + 60/2 = 80
Comparison between FV and AMP(150-80) x 100/80 = 87.5 %The Fair Value should be less than Average Market price by 20%If not then we have to rework the PECV under following conditions
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PNB Capital Services
Kotak Mahindra
Enam Financial Securities
Bank of Baroda
ICICI Securities & Financial Co Ltd
1. a. NAV per shareb. Past PECVc. Future PECV
Average of the above
2. Industry P/E comparison with P/E taken
3. Issue Price = 1.5 times the averageprojected NAV for next 3 yrs
Canara Bank
1. Issue Price at around CCI Valuation
2. The MP of Share is based on average of two methods given belowa. Issue Price = 1.5 times the average
projected NAV for next 3 yrsb. P/E multiple x EPS
3. Based on Future projection of NAV & EPSAverage NAV + Average EPS
2
PNB Capital Services
1. Industry P/E comparison with P/E taken
2. NAV MethodExisting Share Capital XXXAdd Reserves & Surplus XXXLess Misc exp write off XXXDivide by no of sharesoutstanding XXX
Net worth per share = Issue price
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Kotak Mahindra
1. Capitalization of the Weighted Average EPS for the past 3 yrs at 15 %.
2. Fixation of Premium is in such a way that the Projected EPS discounts the issue price by less than 10 times.
3. Issue Price is determined around current NAV .
Enam Financial Securities
1.Fixation of Premium is in such a way that the Projected EPS discounts the issueprice by less than 10 times.
2. Issue Price = Projected Book Value
Bank of Baroda
1. Book Value Methoda. Average Book Value per share of preceding 3 yrsb. Estimated Book Value per share of next 3 yrsc. Estimated Book Value per share of current yr
a + b + c32. Profit Earning Capacity Valuea. Average EPS of preceding 3 yrsb. Estimated EPS of next 3 yrsc. Estimated EPS of current yr
a + b + c3
3. Industry P/E comparison with P/E taken
3.21 Principles of Price Fixation
Charge what the market can bear Make price comparable to similar companies in same industry Should not be much of undervaluation or overvaluation Based on estimate of NAV or earning capacity of the company
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Charge what the market can bear :The company may be very excellent, good fundamentals, and good management,but it comes out with the issue price of Rs 400-1000 per share and if marketenvironment is bearish then issue is bound to be undersubscribed. Thereforemarket conditions should be taken into account before charging the premium or
deciding the issue price.
Make price comparable to similar companies in same industry:The criteria to make a comparison with similar companies in same industry couldbe
Size of the company Net worth P/E Ratio Market price Recent Issue price of similar companies in same industry
Should not be much of undervaluation or overvaluation :Book Value of the company should also be taken into consideration
Based on estimate of NAV or earning capacity of the company :
3.22 Law governing Capital Issues to Public
Provision of Companies Act
Provision Securities Contract Regulation [ S C (R) ] Act
Provision of SEBI
Provision of Companies Act
Draft prospectus (Sec 55 to Sec 68 A)
Allotment (Sec 69 to 75)
Commissions and Discounts (Sec 76 & 77)
Issue of shares at premium and discount (Sec 78 to 79) Further issue of capital (Sec 81)
Nature numbering and certification of shares (Sec 82 to 84)
Prohibition of issue of shares with disproportionate rights (Sec 88)
Certain Miscellaneous provision as to issue of share capital such as call onshares of same class to be made on uniform basis (Sec 91 to 99)
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Sec 55, the data of prospectus shall be the data of publication of prospectus.
Sec 56, particulars to be contained in prospectus are laid down in part I ofSchedule II has to be give the memorandum of prospectus (Form 2A).
Sec 58/B & 59, public deposits to be accepted by the company and provisionsthereto Advertisement to be as good as prospectus and details to be contained init such as financial position, overdue deposits, amount eligible to be accepted etc.
Sec 60 provides for Registration of prospectus with the Registrar before issuing itto the public.
Sec 62 sets out civil liability of directors for misstatements, untrue statements
Sec63 Criminal Liability of director for untrue statements which are material anddeliberately misleading to the investors.
Sec68 & 68Aprovide for penalty for fraudulently including persons to investmoney or impersonation of any persons for getting the allotment will be liable toprosecution and punishment.
Sec 69, Allotment only if minimum subscription (90% of the offer) has come in.
Sec 70 and 71 deal with prohibition of allotment, if statement in lieu of prospectus
is not delivered to Registrar and such allotment if done is voidable by theapplicant, within 2 months from the allotment date.Sec 72 Time limit of 5 days for allotment from the day on which the prospectus isfirst issued to public.
Sec 73 Listing of securities on a stock exchange is necessary if a public issuesshares to public through prospectus. The time limit for listing is 70 days from thelast day of subscription unless it is permitted to be extended by the concernedstock exchange.
Sec 76 Commission and Discounts payable to other parties.
Sec 78 and 79 Issue of shares at premium or discount.
Sec 81 (IA), if further shares of the company are offered to the existingshareholders only they are rights and if any person do not accepts the rights, theyare available to be allotted by the Board of Directors as they think fit.
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Sec 83 Distinctive numbering of shares in each series to be given by the company.
Sec 85 - 88 sets out kinds of share capital, equity and preference capital and theirvoting rights in the meeting of the shareholders etc.
Sec 91 99, Calls on shares of the same class to be made on uniform basis calls,when to be made power to raise capital conversion of shares into stock noticeto members of 30 days and ROC to be informed of the calls made and paid up.
Provision Securities Contract Regulation [S C (R) ] Act
Compulsory listing of shares (Sec 21)
Types of contracts in shares permitted for trading (Sec 13 to 19)
Permitted restrictions on transfer of shares and assurance of transferability
(Sec 22 A)
Sec 21 of the SCR Act empowers the Central Government to compel a company tolist its securities, if the central government is of the opinion that having regard tothe nature of securities issued by a public company or to the dealings in them, it isnecessary or expedient in the interest of trade or in public interest to do so.
Sec 22A, A public company whose securities are listed on recognized stockexchange cannot refuse to transfer shares lodged with it for transfer or do not actin arbitrary or capricious manner in dealing with transfer application lodged with
it, unless the case for refusal falls under the specific provisions laid down in Sec22A.
Under the specific provisions laid down in Sec 22A a public company whoseshares are listed on recognized stock exchange can refuse an application fortransfer only on following grounds :
i. That the instrument of transfer is not proper or has not been duly stampedand executed or that certificated relating to the security has not beendelivered to the company, or that any other requirement under the lawrelating to registration of such transfer has not been complied with;
ii. That the transfer is in contravention of any lawiii. That the transfer is likely to result in such change in the composition of the
board of directors as would be prejudicial to the interests of the companyor to the public interest;
iv. That the transfer is prohibited by any order of a court, tribunal or otherauthority under any law for time being in force.
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Provision of SEBI
Pre Issue Obligations
Post Issue Obligations
3.23 Pre Issue Obligations
1. Exercising of due diligence2. Payment of requisite fee3. Document to be submitted
Memorandum of Understanding Inter se Allocation of Responsibilities Due Diligence Certificate Certificate signed by CA or CS Undertaking List of Promoters group
4. Appointment of Intermediaries Merchant Bankers Co-Managers Other Intermediaries
5. Underwriting6. Offer Document to be made Public7. Dispatch of Issue Material8. No Complaints Certificate9. Mandatory Collection Centers10. Authorized Collecting Agents11. Appointment of Compliance officer12. Abridged Prospectus13. Agreement with Depositories
1. Exercising of due diligence:The lead Merchant Banker shall exercise due diligence in following They shall satisfy himself about all the aspects of offering, veracity, and
adequacy of disclosure in the offer document. The liability of the merchant banker shall continue even after the
completion of the issue process.
2. Payment of requisite fee:The lead Merchant banker with pay requisite fee in accordance with regulation24A of SEBI 1992, along with draft offer document filed with the board.
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3. Document to be submittedDocument to be submitted along with the offer document by the lead manager Memorandum of Understanding (MOU)
a. Memorandum of Understanding has to be entered into between a lead
merchant banker and the issuer company specifying their mutual rights,liabilities and obligations relating to the issue.
b. The MOU shall contain such clause as per schedule I and such otherclauses as considered necessary by the lead merchant banker and theissuer company.
c. Lead Merchant Banker shall ensure that the copy of MOU is to besubmitted to the board along with the draft offer document.
Inter se Allocation of Responsibilitiesa. In case a public or rights issue is managed by more than 1 merchantbanker, the rights obligations and responsibilities of each merchant bankershall be demarcated as specified in the schedule II
b. In case of under subscription the lead merchant banker responsible forunderwriting arrangements shall invoke underwriting obligations andensure that the underwriters pay the amount of devolvement.
Due Diligence Certificate (DDC)
a. The lead merchant banker shall furnish to board a DDC along with thedraft prospectus as per schedule III.
b. In addition to DDC and offer document lead merchant banker shall alsoi. Certify that all amendments, suggestions or observations made by
the board have been incorporated in the offer document.ii. Furnish a fresh DDC at the time of filing the prospectus with
Registrar of companies as per schedule IViii. Furnish a fresh certificate before opening of issue that no corrective
action on its part is needed as per format schedule Viv. Furnish a fresh certificate after the issue has opened but before it
closes for subscription as per format of schedule VI Certificates to be signed by CA or CS
Certificates are signed by the Company Secretary or Charted Accountant incase if listed company making further issue of capital
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a. All refund orders of the previous issue were dispatched within theprescribed time and prescribed manner.
b. All security certificated were dispatched to allots within the prescribedtime and prescribed manner.
c. The securities were listed on the stock exchange as specified in the offer
document. Undertaking
The issuer shall submit an undertaking to the effect that that transactions insecurities by the promoters, the promoters group and immediate relatives ofthe promoters during the between date of filing of offer document withRegistrars of companies or Stock exchange and date of closure of issueshall be reported to stock exchange within 24 hrs of transactions.
List of Promoters groupThe issuer shall submit to the board a list of persons who constitute te
promoters group and there individual shareholding.
4. Appointment of Intermediaries: Appointment of Merchant Bankers
Merchant Banker who is associated with the issuer company as a promoteror director shall not lead manage the issue of the company.
Appointment of Co-Managers
Lead Merchant Banker to ensure that no. of co-managers to an issue doesnot exceed the no of lead merchant bankers to the said issue and there is
only one advisor to the issue. Other Intermediaries :
a. Lead merchant banker should ensure that other intermediaries appointedare duly registered with board before advising the issuer company onthere appointment
Shall independently assess the capability and capacity of thevarious other intermediaries to carry out the assignments.
Also ensure that Issuer Company enters in to a memorandum ofunderstanding with the other intermediaries whenever required.
b. Lead Merchant Banker should ensure that Bankers to the issue areappointed in all mandatory collection centers.c. LMB shall not act as a Registrar to an issue in which it is also handling
post issue obligations.d. LMB to ensure
Registrars to Issue registered with the board are appointed in allpublic issues and rights issues.
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In case where Issuer Company is a registered Registrar to Issue thanthey shall appoint an independent outsider Registrar to process itsissue.
Promoter of an issuer company who is Registrar to issue cannot actas a same for its own company.
Where the no. of applications in a public issue is expected to belarge, the issuer company with the lead Merchant Banker mayassociate with one or more registrars for the limited purpose ofcollecting the application forms at different centers and forward thesame to the designated Registrar to the issue as mentioned in offerdocument.
The designated Registrar of the issue shall, be primarily andsolely responsible for all the activities as assigned to them for theissue management.
5. Underwriting:The Lead Merchant Banker shall
Incorporate a statement in the offer document to the effect that in opinion ofLead Merchant Banker, underwriters assets are adequate to meet underwritingobligations.
Obtain underwriters consent before including there namesas underwriters in final offer document.
Undertake a minimum underw