With all the hype around IPOs and their listing gains, have you considered what could happen in the case of its mirroR IMAGE… delisting. Here’s a look at what delisting could mean for you, in terms of the value you can expect for tendering in your stocks.
Very recently, the Securities and Exchange Board of India (SEBI) has issued draft regulations for delisting of securities and has invited comments from the public on the same. This debate has been thrown open until the 14th of December 2006. Since its outcome could very well have implications for you some day, spend a moment to read on about the whole concept of delisting and more importantly, how you could be remunerated for shares that a company offers to buy back from you.
Delisting and what drives companies to delist
To put it simply, when a company’s shares are cancelled from the list of stocks that can be traded on an exchange, it is called delisting.
A company could delist itself voluntarily or the exchange or a regulatory authority could compulsorily require it to be delisted.
A company can voluntarily delist when a substantial proportion of its shares have been acquired by a single entity (either the promoters or an acquiring company and their consorts) and as a result, the public holding dips below a requisite level.
In such cases, the promoters, who hold a substantial chunk of the shares, may not wish to be accountable to the public anymore or may have no plans to raise money by way of public equity offerings in the future and may see delisting as a suitable course of action.
Delisting also makes sense in cases where a company’s stock suffers from poor liquidity or if the company is plagued with corporate governance issues or if it is classified as a sick company by the Bureau for Industrial and Financial Reconstruction.
In the case of the latter, delisting may be made compulsory.
How shareholders are presently compensated At present, a company that voluntarily chooses to be delisted, offers to buy back its shares from minority share holders through a ‘reverse book building’ process.
Although the purpose here is to buy back shares from shareholders and not issue fresh ones, the process adopted is very similar to ‘book building’ used in the case of IPOs.
In the case of reverse book building too, a company suggests a floor price — a base price which it is willing to pay for the shares that you offer. Then, for a specific number of days, shareholders can send in their quotes of how many shares they are willing to sell and at what price (at or above the base price). The actual price is determined at the rate at which a maximum number of shares are tendered.
In order to counter balance the power given to shareholders in fixing the price of delisting shares (since there is no ceiling on the price that they can quote), companies were given the freedom to reject the discovered price.
The problem with reverse book building
While the reverse book-building process was initiated to ensure a transparent and fair mechanism to pricing shares that were being delisted, it was assumed that rational investors would quote a reasonable premium in the process. However, SEBI has observed that the book building process has not necessarily been translating into genuine discovery of price. It has sited a number of reasons for this lapse. Some of them include the disproportionate powers with public shareholders holding major chunk, the possibility of frivolous bids to destabilise the delisting offer, the freedom to promoters to reject the price discovered, the revision of bids leading to cartelisation in the discovery of price, etc.
SEBI’s pricing suggestion In its draft regulations for delisting, SEBI has suggested that a company could apply for voluntary delisting if its public shareholding fell below 10 per cent (i.e., promoters holdings cross the 90 per cent mark). Further, it has recommended that the offer price should not be less than the floor price plus a 25 per cent premium, or the fair price plus a 25 per cent premium, whichever is higher. The floor price would be determined by the company or its agents on the basis of various factors such as the highs and lows of the stock in the past and fundamental factors like the company’s return on net worth, the book value of its shares, its earnings per share, price earning multiple vis-à-vis the industry average, etc. The fair price, on the other hand, would be ascertained by accredited credit rating agencies.
The debate
On the one hand, SEBI’s suggested methodology will ensure that shareholders are adequately rewarded without any scope for price manipulation. It would also give shareholders a valuation on a platter, instead of requiring them to gauge for themselves what price they should bid at. However, the whole idea of offering a fixed premium over the fair price or floor price goes against the very principle of market-based price determination. It assumes that irrespective of whether you hold a promising blue chip or a dead-end B group scrip, you should be paid the same amount of premium (in percentage terms) to part with it.
Towards betterment of the system
SEBI has been working continuously towards making the system of delisting more transparent, involving investors and looking out for their best interests. In fact, before the reverse book building method of pricing was put in place about 4 years ago, the exit price was based on the average of the preceding 26-week high and low prices. SEBI found that this mechanism did not work well in depressed Indian market conditions and the price arrived at through this principle did not adequately compensate the shareholder, especially in the case of perceived value stocks.
It has now realised that the reverse book building method of compensating shareholders too has its drawbacks. The market regulator has put forward its suggestion for a fair price and is now looking forward to your feed back. So, what do you think?
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