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Economy Jan 4, 2012

Sebi rushes to help fill govt coffers, but is that its job?

By R Jagannathan

Is the Securities and Exchange Board of India the market watchdog or the government's lapdog?

The government is in a hurry to sell a part of its holdings of public sector shares to plug the gaping holes in the budget, and Sebi has rushed to help.

Tuesday's announcement of two new ways for promoters to raise money from the public - the institutional placement programme (IPP) and offer for sale of shares through the stock exchange - is another example of the market regulator behaving like the finance ministry's fund-raising cheerleader.

Sebi also cleared new rules (see the full text here) for share buybacks by promoters - another pet project of a resource-starved finance ministry this year, which wants cash cows like Coal India, Bhel, ONGC, and Sail to buy back shares and put money in the finance ministry's hands.

Sebi'si's job is to guard the markets from malpractice, not look the other way when the promoter of PSUs is plotting all kinds of money-raising schemes.

While the IPP provision is not specifically aimed at public sector disinvestment - the idea has been under discussion for more than a year at Sebi - it's the timing of the change that benefits the government.

But the offer for sale through the stock exchange - a form of auction to potential bidders - will enable the government to sell off small bits of shares in companies where its shareholdings are above 90 percent. It will thus extract a premium over the market price by pandering to the scarcity value of these shares.

As for the changes in share buyback rules, these are manifestly intended to aid the government, sometimes at the cost of minority shareholders.

Not one newspaper failed to remark that these changes are essentially intended to facilitate the government's disinvestment programme.

As if on cue, the government has already convened a meeting of the Cabinet Committee on Economic Affairs (CCEA) to consider raising resources either by selling shares or asking cash-rich public sector companies to buy back their own shares, says a report in BusinessLine.

If a private sector company's board held a meeting a day after a new regulation was announced, it would be considered a case of acting on prior information. But no eyebrows will be raised if the CCEA meets to discuss Sebi's changes a day after they were announced. They probably knew all about it.

Unfortunately, when Sebi rushes to help government, what it essentially does is open the doors wide for unscrupulous private sector promoters to take advantage and cheat investors. Of course, when the government is planning to be equally unscrupulous, who can blame greedy promoters for emulating it?

Let's see how the three changes help the government in the short run.

Under the institutional placement programme (IPP), the promoter (i.e. the government) will be able to sell a part (up to 10 percent) of its public sector stakes to qualified institutional buyers (QIBs) by filing a red herring prospectus with Sebi and the stock exchanges. The idea is to enable promoters who are not in compliance with the minimum 25 percent public shareholding norm to comply with it.

But it's the government that will leap in to sell. Under the new norms, the government needs only 10 QIBs to go ahead with disinvestment, and the floor price or price band can be announced just one day before the placement.

Since QIBs include foreign institutional investors (FIIs), mutual funds, insurance companies and some government institutions, the finance ministry can sell public sector shares to its own QIBs and raise money in case the FIIs and mutual funds are unwilling.

In essence, Sebi will be facilitating not the dispersal of share ownership - which is the stated purpose of the minimum 25 percent public shareholding norm for listed companies - but to transfer money from the pockets of government institutions to the exchequer.

Plans are already underway to convert the Special Undertaking of the UTI into a fund that will buy public sector shares from the government. The point is this: if public sector shares are being offloaded to another public sector fund or insurance company, how is it disinvestment?

For the exchequer, the advantage is obvious: by parking public sector shares in another public sector vehicle, the budget deficit reduces this year. But since the shares are still with another public sector company, they can be sold when the market revives for a higher price - and the government can capture the higher profits, too. It can have its cake and eat it, too.

Private promoters will be large beneficiaries. When the markets are weak, they can't plan further public offers (FPOs) since these sell only at a discount to market price. Now, they can place shares with long-term investors at higher than market prices. Of course, QIBs are not going to be in a hurry to buy shares at higher than market prices - unless they get large chunks that may not be accessible through the markets. What could happen is that private promoters will enter into deals with QIBs to offload stakes now - and then buy these back through promoter-friendly groups or benami companies. The public shareholding norm will be met, and promoters also get to keep their shareholdings above the Sebi norm.

Next, there's the offer of sale through stock exchanges. The new rule says promoters of the top 100 companies by market capitalisation - which include companies such as ONGC and Coal India - can offer a minimum of 1 percent of their shares, subject to a minimum of Rs 25 crore, to be auctioned through the stock exchanges during trading hours.

However, this route is more likely to be used by the government to sell holdings in companies like Hindustan Copper, MMTC and Neyveli Lignite, where its holdings are well above 90 percent - and where it can harvest the scarcity value of sales in lots of 1 percent to the highest bidders in the markets.

By selling public sector shares in bits of 1 percent, the government also avoids excess political scrutiny on disinvestment. It is worth recalling that in UPA-1, the unions and the DMK scuttled Neyveli's disinvestment. But when sales are in lots of 1 percent, who can crib about it?

By far the most egregious change is the one involving buybacks. A key rule introduced by Sebi this time favours promoters over minority shareholders.

Under current rules, shareholders are free to tender all, or some or none of their holdings in buyback offers. The company, based on the number of shares it wants to buy back, buys the shares in proportion to each shareholder's entitlements.

But the new law tilts the balance in favour of promoters. It says: "While the shareholders are free to tender over and above their entitlement, acceptance of shares shall first be based on entitlement of each shareholder and if any shares are still left to be bought back, acceptance of additional shares tendered over and above the entitlement shall be in proportion to the excess shares tendered by the shareholder." (Italics ours)

What this rule change means is this. If you have 100 shares and don't offer it for buyback since the price offered is low, and the government offers all its shares, the bulk of the buyback will be that "excess" tendered by the government since "acceptance of additional shares tendered over and above the entitlement shall be in proportion to the excess shares tendered by the shareholder."

Prithvi Haldea of Prime Database, an expert on the primary markets, told Firstpost that this provision would be of use to the government if it goes for buybacks.

Of course, this provision can be used by private promoters when it suits them to pocket a company's surplus funds through disproportionate buybacks - if they are allowed to do the same as government. Since they can always award themselves preferential offers at a later date on the plea that the company needs more capital, this apparent dilution of stake over the short term will not matter.

Should Sebi be tilting the rules so much in favour of majority shareholders against minority shareholders?

The problem with Sebi is that it treats government and listed public sector companies as a special case. Misgovernance and insider trading in the former invites no action, while private sector wrongdoing is seen as a crime.

Sebi needs to ask itself:

How many times has it sent a notice to the promoters of government companies when they acted against the interests of minority shareholders (transfer of ONGC profits to oil marketing companies, for example)?

How often does it investigate unusual movements in public sector shares when policy changes are being contemplated? When the finance ministry announces a disinvestment plan or buyback, these decisions affect share prices. Have any of the officials involved in these decisions ever been investigated for unusual price movements?

Sebi's job is to guard the markets from malpractice, not look the other way when the promoter of public sector companies - the government - is plotting all kinds of money-raising schemes.

by R Jagannathan

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