Undertakers will never die given the certainty of human death. One thought the same inevitability of underwriters was axiomatic. But the quiet quietus given to the tribe of underwriters in India is disturbing now more than ever before when IPO prices are on a rampage. As per the extant SEBI norms, underwriting is mandatory only for IPOs made by companies in the SME category.

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The recent Star health Insurance IPO undersubscription underscores the need for resuscitating underwriting. The issue could sail through only after the SEBI blinked—after the company toned down the offer for sale (OFS) component of the public issue which has the uncanny knack of riding piggyback on most of the IPOs in India. Such a tactical retreat ensured the minimum 90 percent subscription.

Under the watchful eyes of the Controller of Capital Issues (CCI), whose demise in 1991 is also being bemoaned wistfully in some knowledgeable quarters, underwriting of public issues was compulsory. But the SEBI which stepped into the shoes of the CCI made regulations in 1993 that require only SME companies to compulsorily appoint underwriters.

The requiem given to underwriters perhaps has something to do with the free pricing norm that rules the primary market in India under the 100 percent book-building regime that most of the companies embrace. The issue price is fixed by the company in consultation with its lead merchant banker though on paper the price is discovered through the supposedly transparent book-building exercise.

That this is at best a tokenism would be apparent from the narrow price band a company fixes within which one must bid, say Rs 220 to Rs 250 per share of the face value of Rs 10 each. Since merchant bankers double in as underwriters, it suits them to wash their hands off the disagreeable job of underwriting—while the commission is rewarding the grim prospect of the unsubscribed portion devolving on them is always a put-off, spelling the grim possibility of more than offsetting the underwriting commission especially if the price is unreasonable which often is the case in India at least in hindsight.

Eat what you cook makes the dishes palatable. Likewise, if the merchant bankers were to take up the unsubscribed portion, they will temper their unbridled enthusiasm for a company's future with a touch of reality. There were reports in 2008 of the SEBI being in favor of restoring the CCI regime on underwriting but somehow seems to have shelved it. In fact, it has dithered on several seminal moves. It first ushered in the optional rating of IPOs and made it mandatory despite being told that rating sans rating of pricing of the IPO was meaningless.

That, however, is history because in May 2018, it abolished IPO rating lock, stock and barrel. Simultaneously it also abolished the optional safety net mechanism under which retail investors could hold promoters to account—if the market price fell below the issue price during the first six months of listing, they have to buy a maximum of 1000 shares from such investors at the IPO price. Again, eat what you cook mandate that was dropped unceremoniously apparently at the behest of vested interests.

Enough of dithering and feet dragging. The market regulator has given dark hints recently (to the small investors) that its hands-off policy will continue. The government should intercede and force the SEBI’s hands to:

1. Make at least say 15 percent of the IPO to be underwritten by the merchant banker so he has skin in the game and does not play footsie with the promoters.

2. Bar promoters from unloading their shares by latching onto IPO with OFS. In fact, this piggyback ride is what makes them work towards aggressive IPO prices. In this light, one can understand why promoters chew their nails anxiously and make a pilgrimage to Tirupathi for the success of the IPO—in the company’s success lie their own success!

3. Bring back a safety net with improved features like vesting it with mandatory character. An optional regime has no takers.

All three measures would have the effect of bringing back sanity into the primary market that was once recommended as the nursery for beginners. The martinet of CCI would condescend to grant a premium of just Rs 15 to a blue-chip company like Colgate with a track record of profits and handsome payouts and envious history of bonus issues. That was when FERA companies were falling over themselves to meet the minimum 40 percent public holding norm.

Now unlisted companies and startups wear losses on their sleeves and proclaim them as harbingers of future profits! Consumer laws the world over have done their bit to remove the aura of invincibility of the caveat emptor rule. The law on IPO should not lag behind.

— S. Murlidharan is a CA by qualification and writes on economic issues, fiscal and commercial laws. The views expressed in the article are his own.

Read his other columns here

(Edited by : Ajay Vaishnav)