life in financial markets: ipo turbulence

The primary market in equities in India has seen a major shake up in the last month. Here is something on it I wrote for Business World last week:

IPOs TORPEDOED

It was not unexpected but the level of investor indifference for recent IPOs has exposed the hollowness of the primary market.

Over the last 10 days, many cups of tea and coffee have been consumed thanks to the turbulence in the primary market, the market for initial public offers (IPOs). Investment bankers and promoters of companies have been holding long meetings in the midst of their ongoing IPO offer period to decide whether to abort their IPOs due to extremely poor response from investors.

The late January global equity markets' mini-meltdown and the continuing chill this month has led to an inevitable shake-up of the Indian primary market for equities. The grammatical irony too is not lost on some market players -- the secondary was taking the lead and the primary was following later.

It began in late January with offer price revisions in some IPOs. It kept getting progressively worse. This month saw issues not just revising their offer prices 10-20 per cent down but also extending their bidding offer period by 2-5 days. It finally exploded with three IPOs--Wockhardt Hospitals, Emaar MGF Land and SVEC Constructions--fully withdrawing their issues mid-way through. No doubt this was the end result of those umpteen cups of tea and coffee in their meetings with their investment banking firm-issue lead managers. "The potential reputation risks to our clients were weighed in the context of the loss of credibility that it will suffer if at the close of the IPO bidding period the issue was not even fully subscribed," says an official of one of the leading investment bankers involved with the Emaar IPO who did not want to be named.

Shifting sands. At the other end of the spectrum, at the trading desks of foreign institutional investors (FIIs) and the homes or workplaces of individual high net worth or retail investors, the dynamics of the analysis of the fundamentals of the IPOs was undergoing a subtle transformation. "Realisation is dawning on many investors that IPO valuations may be on the higher side and they are becoming rational now and their risk appetite has been moved by recent global market weakness," says Stuart Smythe, executive director and head of equity, Macquarie Securities India." "In such times of increasing volatility across all markets, preservation of capital and managing existing positions rather than putting efforts to build new positions becomes a priority for global equity fund managers."

This was clearly visible in the IPOs that were withdrawn mid-way. Take the case of Emaar's Rs 6,000-odd crore IPO issue. It first revised its book building price band from Rs 610-690 to Rs 530-630 and then extended its offer period of 1-6 February to 11 February. At the close of bidding hours on 8 February, it had received subscriptions of only 29 per cent of the quota reserved for FIIs and domestic institutional investors, even as the retail investors category was subscribed a bit higher at 47 per cent and the non-retail non-institutional investors' quota was filled by 78 per cent. It was the lukewarm response from FIIs that terrified the company and its book running lead managers, Enam Securities and DSP Merrill Lynch, enough to withdraw the issue on the next bidding day, 11 February, also the last day of the offer period.

It was worse with Rs 625-odd crore Wockhardt Hospitals IPO that opened on 31 January but at the close of 7 February saw only six per cent of its institutional investors' quota getting subscribed, 51 per cent by retail investors and only five per cent of non-institutional non-retail.

Implications. The withdrawals have severe implications for the equity market. "The IPO market is important from the economic perspective; it gives opportunity for companies to raise resources and acts a channel for investors to invest in such companies," says Devendra Nevgi, CEO and CIO of Quantum Asset Management, the managers of Quantum Mutual Fund. "When companies withdraw their IPOs you have to ask the question whether they really required the money in the first place."

The valuation question looms large on the IPOs presently notwithstanding the fact that majority of IPOs in the last year have listed at a 10-100 per cent premium over the offer price raising questions about whether the promoters could have fetched a higher price for their issues. "If an IPO is priced at a premium to regional and local peers, global money managers struggle to justify assessing a new offering at a premium, when their existing holdings are at discount, or comparables are trading at fairer values than a new offering," says Macquarie's Smythe. For instance, the Price to Earnings ratio of Emaar, a realty play, was much higher than the listed realty stocks like Unitech and DLF that had fallen steeply in the secondary market slide.

The secondary market prices of newly listed stocks from IPO in the last two months have also seen a significant correction in their prices (see table IPO torpedoed). The most dramatic case was the Rs 10,123 crore IPO issue of Reliance Power. Issued at Rs 450, with a discount of Rs 20 for just the retail investors, it got listed on 11 February. It was the first big IPO in recent history that got traded at a discount to the issue price on the day of listing. Its average traded price on the National Stock Exchange on the listing day was Rs 416.8, a 7.4 per cent fall from the issue price.

IPOs Torpedoed
Recently listed IPOs have taken a harsh beating from the market
	Issue size (Rs crore)	Issue price (Rs)	Listing date	Listing day's price (Rs)	Price on 12 Feb (Rs)
J. Kumar Infraprojects	72	110	12-Feb-08	100.1	100.1
Reliance Power	10123	450	11-Feb-08	416.8	356.1
Future Capital Holdings	490	765	1-Feb-08	882.0	873.8
Precision Pipes & Profiles	75	150	11-Jan-08	142.8	80.6
Manaksia	248	160	8-Jan-08	178.9	83.3
BGR Energy Systems	438	480	3-Jan-08	898.8	576.8
Brigade Enterprises	647	390	31-Dec-07	382.4	270.3
Transformers & Rectifiers	139	465	28-Dec-07	727.9	473.5
Jyothy Laboratories	304	690	19-Dec-07	790.7	694.5
Kolte Patil Developers	276	145	13-Dec-07	187.6	128.1
Edelweiss Capital	691	825	12-Dec-07	1525.2	856.9
Mundra Port and SEZ	1769	440	27-Nov-07	984.7	681.4
Source: NSE, BW research

Though not completely unexpected the dramatic abortions of IPOs have bought the investment bankers to some senses. "We do not have a crystal ball," says the investment banking official. "Through our road shows for institutional investors we had gauged the response and also priced the issue accordingly, but that a major crash in the secondary market would happen in the time lag between the road shows and the issue offer period was not predicted."

But the psyche of the companies, investment bankers and the investors, though scarred by this month's experience, would evaporate the moment equity markets worldwide pick up on renewed global equity funds inflows. Such is life in the financial markets!