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Fever pitch

It may have been a record year for IPOs, but investors need to be cautious, as the Sensex has breached the 20,000-level.

Lunch hour, these days, is rush hour on Dalal Street. Ever since the Sensex breached the 20,000 barrier, 32 months after it first touched the mark, investors are gravitating towards the hallowed building that is home to the Bombay Stock Exchange or BSE.

Some are attracted by the sheer hysteria and gaze fixedly at stock prices flashing outside the Phiroze Jee Jee Bhoy Towers. The braver ones want a piece of the action and approach the hawkers who are busy doling out forms of initial public offerings, or IPOs-issues of shares.

Most people are convinced they can get richer quick. Once again, the herd is back on Dalal Street.

"We are back in business," says a visibly happy vendor as he digs into a stack of IPO forms. "It is unbelievable, but true. The boom is back," beams Umesh Pandey, a 31-year-old mid-level executive with a private bank.

In early December 2007, when the Rs 11,500 crore IPO of Anil Ambani-promoted Reliance Power was around the corner, Pandey had opened a dematerialised, or demat, account-it is like a bank account, but holds shares instead of money.

Just five days before the Reliance Power issue opened for subscription, the Sensex touched an all-time high of 21,206. Pandey prefers not to recall what happened next. The Reliance Power share price is still below the issue price, and nine months after the issue, the Sensex plummeted to 8,000 levels. "It was a steep crash," says Pandey with a deep frown.

That experience has not deterred him from participating in the IPO party this time around. Pandey has put in applications for shares in IPOs from Engineers India and SKS Microfinance. Of course, he has had plenty to choose from.

According to Prime Database, a firm that tracks primary market offerings, until September this year, 56 companies had mopped up close to Rs 40,000 crore via IPOs and follow-on public offerings, or FPOs (see Bingeing on the IPOs). This is close to Rs 45,000 crore raised in 2007-the highest in a year in the history of Indian capital markets.

By the end of this year, however, this record is bound to be broken. Coal India's Rs 15,000 crore IPO, coupled with nearly 40 offerings cleared by market regulator Sebi and expected to hit the market in the next two months, will take the 2010 closing figure for IPOs to roughly Rs 50,000 crore.

So what explains the onset of the silly season in the primary markets? Three factors. The first is high liquidity, with foreign institutional investors (FIIs) pumping $23.5 billion (Rs 1.043 lakh crore) into Indian equities in 2010-and still looking for investment candidates in one of the world's fastest growing markets.

The second is the 20,000 peak scaled by the Sensex, which could be as high as the markets might go in this bull run. The third reason stems from the second. As Atul Mehra, managing director and COCEO, investment banking, JM Financial, puts it: "Promoters are in a hurry to subscribe to IPOs because they do not want to be left out during the boom."

Yet another shot in the arm for the primary markets has been the government's disinvestment of a 10% stake in Coal India, the largest IPO in India. This also explains the rush of public issues before the big one came.

"Smaller issuers prefer to stay out of the ring when a mega-issue is in play," explains Dilip Kadambi, head of equity capital markets (India) at the Royal Bank of Scotland. In a similar vein, D.R. Dogra, managing director and CEO at credit rating agency CARE, points out: "When a mega-IPO hits the market, investor appetite for smaller IPOs reduces."

Offering an IPO when markets are at near-peak levels has its advantages, but there have been issuers whose thunder has been stolen by Coal India. Consider the Hyderabad-based BS Transcomm, which debuted with a Rs 200 crore IPO on October 6.


"Promoters are in a hurry to subscribe to IPOs because they do not want to be left out"
MD, Investment Banking, JM Financial
Days before the issue opened, managing director Rakesh Agarwal declared, "Timing has worked in our favour." In reality, it didn't turn out that way. BS Transcomm, which had initially set a price band of Rs 257-266 per share, was forced to lower it to Rs 248-257, besides extending the issue by three days.

That the issue was subscribed only 60% before the extension is believed to be the reason for the price revision. Investors had apparently held on to their purse strings in anticipation of the Coal India blockbuster.

The good news, however, is that the exuberance at near-peak levels is not completely irrational. This means that fly-by-night promoters have not descended in a bid to make hay while the sun is shining on Dalal Street. "We are far from the kind of frenzy when almost anything sells," says Prithvi Haldea, chairman and managing director, Prime Database. "Money is chasing good opportunities and businesses," he adds.

Another positive in this boom is that, unlike in the past, pricing of issues has not been fanciful. A CARE Research study of 116 IPOs between August 2007 and August 2010, reveals that roughly 75% of the IPOs considered in 2007 are currently quoting below the IPO price band, indicating overpricing. In the current IPO rally, a little under 35% of the issues considered for the study are quoting below the issue price.

Yet, many of these IPOs would have benefited from the overall buoyancy in Indian equities. In fact, one could argue that the primary market is riding on the overvaluation of the secondary market.

After all, almost every recent IPO has been valued at the Sensex PE ratio of 19-20.

Recently, Sebi chairman C.B. Bhave voiced his concern over the unrealistic pricing of IPOs. The regulator directed investment bankers not to overlook the interests of investors just to maximise returns for promoters as it is the former who get burnt when overpriced shares fall during a market reversal.

Investment bankers counter that pricing is a subjective issue and depends on market conditions. "The right price is what the buyer is willing to pay," says Mehra. In a bad market, people look at value and in a good market they look at price, he explains. "There is nothing called perfect valuation," says Haldea of Prime Database.

Yet, promoters in sectors that have been both culprits and victims of overpricing, as in real estate, would do well to go easy. "We will have to be realistic in pricing our issue," says Jitendra Virani, chairman and managing director of Embassy Property Developments, a Bengaluru-based real estate company set to tap the IPO market.

If there is one blemish on the face of the current IPO boom, it is the minimal presence of the retail investor. According to a study by the Delhi-based SMC Capital, oversubscription at the retail level has been 1.61 times for IPOs in 2010 compared with 7.98 times three years ago.

Yet, Jagannadham Thunuguntla, head of equities at SMC Capital, says, "A selective comeback of retail investors is visible." This may be a sign of danger because retail investors tend to join the party when it is at its fag end. How long the IPO party continues is clearly a function of liquidity, which, in turn, is a function of capital inflow.

S. Ramesh, chief operating officer, Kotak Investment Banking, feels the disinvestment candidates are lined up to garner Rs 40,000 crore in the current fiscal year and this "will keep the primary markets busy for the next three to four months".

Analysts reckon that if the secondary markets correct, they will do so because of fundamental tremors in global markets, which may prompt investors to cut back their allocations to emerging markets.

There is reduced participation by retail investors in the IPO boom with 1.61 times over-subscription in 2010, compared with 7.98 times in 2007
It's highly improbable that the money that leaves the secondary market will find its way into the IPOs. And, as Kadambi of RBS says, "If the correction is steep, say 10%, then the momentum in the primary markets will break."

For now, few are leaving things to chance. Not Coal India, for sure. When the IPO was announced, six investment bankers, four bureaucrats, two senior office-bearers of Coal India and the Minister of State for Coal paraded it in front of an enthusiastic media. Kalpana Mittal Baruah, joint secretary, Department of Disinvestment, insists that "this is not hard selling".

Coal India may have done its homework, but many other wannabe issuers in the private sector will be praying that the Sensex does not run out of fuel in the days ahead.

Courtesy: Business Today