WORKSHEET-24 BUSINESS STUDIES PART 2(CLASS 12)

 What are primary markets in India?

Primary market is a market wherein corporates issue new securities for raising funds generally for long term capital requirement. The companies that issue their shares are called issuers and the process of issuing shares to public is known as public issue.

The primary market is where securities are created. It's in this market that firms sell (float) new stocks and bonds to the public for the first time. An initial public offering, or IPO, is an example of a primary market.

 

Types of Primary Market Issuance

After the issuance of securities, investors can purchase such securities in various ways.

There are 5 types of primary market issues.

1.    Public issue

Public issue is the most common method of issuing securities of a company to the public at large. It is mainly done via Initial Public Offering (IPO) resulting in companies raising funds from the capital market. These securities are listed in the stock exchanges for trading.

A privately held company converts into a publicly-traded company when its shares are offered to the public initially through IPO. Such public offer allows a company to raise funds for expansion of business, improving infrastructure, and repay its debts, among others. Trading in an open market also increases a company’s liquidity and provides a scope for issuance of more shares in raising further capital for business.

The Securities and Exchange Board of India is the regulatory body that monitors IPO. As per its guidelines, a requisite due enquiry is conducted for a company’s authenticity, and the company is required to mention its necessary details in the prospectus for a public issue.

2.    Private placement

When a company offers its securities to a small group of investors, it is called private placement. Such securities may be bonds, stocks or other securities, and the investors can be both individual and institutional.

 

Private placements are easier to issue than initial public offerings as the regulatory stipulations are significantly less. It also incurs reduced cost and time, and the company can remain private. Such issuance is suitable for start-ups or companies which are in their early stages. The company may place this issuance to an investment bank or a hedge fund or place before ultra-high net worth individuals (HNIs) to raise capital.

3.     Preferential issue

A preferential issue is one of the quickest methods available to companies for raising capital. Both listed and unlisted companies can issue shares or convertible securities to a select group of investors. However, the preferential issue is neither a public issue nor a rights issue. The shareholders in possession of preference shares stand to receive the dividend before the ordinary shareholders are paid.

4.    Qualified institutional placement

Qualified institutional placement is another kind of private placement where a listed company issues securities in the form of equity shares or partly or wholly convertible debentures apart from such warrants convertible to equity shares and purchased by a Qualified Institutional Buyer (QIB).

QIBs are primarily such investors who have the requisite financial knowledge and expertise to invest in the capital market. Some QIBs are –

Foreign Institutional Investors registered with the Securities and Exchange Board of India.

Foreign Venture Capital Investors.

Alternate Investment Funds.

Mutual Funds.

Public Financial Institutions.

Insurers.

Scheduled Commercial Banks.

Pension Funds.

Issuance of qualified institutional placement is simpler than preferential allotment as the former does not attract standard procedural regulations like submitting pre-issue filings to SEBI. The process thus becomes much easier and less time-consuming.

5.     Rights and bonus issues

Another issuance in the primary market is rights and bonus issue, in which the company issues securities to existing investors by offering them to purchase more securities at a predetermined price (in case of rights issue) or avail allotment of additional free shares (in case of bonus issue).

For rights issues, investors retain the choice of buying stocks at discounted prices within a stipulated period. Rights issue enhances control of existing shareholders of the company, and also there are no costs involved in the issuance of these kinds of shares. For bonus issues, stocks are issued by a company as a gift to its existing shareholders. However, the issuance of bonus shares does not infuse fresh capital.

 

What is listing of shares?

Listing share means that a company has to mention its securities on the stock exchange if they want to trade in the stock market. Some of the requirements for listing shares are: Mentioning the opening date of subscription, receipt and other necessary details in the prospectus.

 

What does it mean that a stock is delisted?

A stock is delisted when it’s removed from a stock exchange. This can be voluntary, when the company chooses to do so for strategic or financial reasons, or involuntary, when the exchange forces the company to delist.

A delisting of shares can be contrasted with an IPO, which is the Initial  public offering process of a private company going public. This is when a company will put its stocks up for sale to the public and its share are traded on a stock exchange.

 

What happens to shares when a company gets delisted?

Shares don’t disappear after a stock delisting, but this does change how and where shareholders can sell or buy them. Additionally, the share price may or may not be affected by a stock delisting.

Let’s explore in more detail what happens to shares when a company is delisted.

 

How traders and investors are impacted when stocks are delisted

When a company delists, investors still own their shares. However, they’ll no longer be able to sell them on the exchange. Instead, they’ll have to do so OTC Over the counter. 

 

The value of shares doesn’t automatically rise or fall with a delisting, but when an involuntary listing takes place, it’s often a sign that a company is approaching bankruptcy. In this case, there’s a chance investors might lose their investment.

 

When a company delists voluntarily to trade privately, they sometimes offer shareholders additional benefits such as warrants bonds, and preferred shares.

 

Traders can potentially profit from voluntary and involuntary de listings.  If a company delists voluntarily, its share price can increase depending on the reasons for the privatisation. In this case, a trader can open a position to ‘buy’ (go long) if they think the share price will increase.

 

If the company is forced to delist, it often spells bankruptcy or causes investors to lose confidence. In this case, traders may open a position to ‘sell’ (go short) if they think the share price will fall.

 

What are the methods of floating of new issue of shares?

Initial issues are floated through:

Offer through prospectus

Bought out deals/offer for sale

Private placement

Right issue

Book building

Offer through prospectus: Shares issued to public through prospectus which consists the following details:

General information about the company.

Capital structure of the company.

Payments of the issue.

Particulars of the issue.

Company, management and project.

Particulars regarding the other listed companies under the same management in last 3 years.

Details of outstanding litigations pertaining to matters likely to affect financial position of the company.

Financial information of the company.

Bought out deals:

Promoter places his shares with an investment banker(dealer/sponsor) who offer to the public at a later date.

In addition to the sponsor, individuals and other smaller companies participating in the syndicate.

The sponsors hold on these shares for a period and at an appropriate date they offer the same to the public.

The hold on period may be as low as 70days or more than a year.

Dealer decides the price after analysing promoters background.

Wholesaler may be merchant banker or company with surplus cash.

 

Private placement: The issue is placed with a small number of financial institutions, corporate bodies and high networth individuals. Financial intermediaries are:

UTI

Mutual fund

Insurance companies

Merchant banking subsidiaries

Right Issue:

If a public company wants to increase its subscribed capital by allotment of further shares to existing share holder.

Issue right shares after two years from the date of its formation or one year from the date of its first allotment, whichever is earlier.

Time given to accept right offer should not be less than 15 days.

Shareholders have no legal binding to accept the offer and they have right to renounce the offer in favour of any person.

What is IPO book building process? 

Book building is a process of price discovery. It is a mechanism where, during the period for which the IPO is open, bids are collected from investors at various prices, which are above or equal to the floor price. The offer price is determined after the bid closing date.

The issuer of the initial public offer (IPO) discloses a price band or floor price at least two working days before the opening of the IPO. 

The applicants bid for the shares quoting the price and the quantity  that they would like to bid at. After the bidding process is complete, the cut-off price is arrived at based on the demand for securities. 

The basis of allotment is then finalised and allotment or refund is undertaken. The final prospectus with all the details including the final issue price and the issue size is filed with ROC, thus completing the issue process.

 

The major difference between the book building process and the fixed price issue is the fact that in the former case, the issue price is not disclosed in the beginning and that the bids are made in a range. Depending upon demand and supply, the issue price is decided. In case of the latter, the price is decided in the beginning and investors buy the shares at that price.

Also, while demand is known in the book building issue on a daily basis, in fixed price issues, it is only known in  the end. Book building also differs from reverse book building that is used for buying shares back from the market. 

The latter is an efficient price discovery mechanism, under which the offers are accepted from existing investors and on the closing day, the final price is determined. Usually the price determined in reverse book building is higher than the market price.

 

What is reverse book building?

Reverse book building is a process used for efficient price discovery. Once a company announces a delisting plan, public shareholders can tender their shares at or above the floor price. Shareholders can do this through an online bidding system on the stock exchanges, which stays open for five days.

 

Delisting Process

The Vedanta delisting offer, the biggest in the history of India Inc, created a buzz among public shareholders. Until the last minute, there was suspense over whether the promoter would get the shares needed for delisting and what the discovered price would be. 

 

The promoter can accept or reject the discovered price within five working days. If the discovered price is accepted, then the shareholders must be paid within 10 working days. Where the bids are not accepted, the shares offered must be returned within 10 working days. The shares returned can be tendered to the promoter within a year of the delisting date at the discovered price.

How is exit price discovered?

The exit offer price or discovered price is one at which the shares tendered take the holding of the promoter or acquirer to at least 90% of the paid-up capital. In the case of Vedanta, about 900 million shares were tendered at below Rs 160 apiece, another 150 million shares were tendered 

at between Rs 160 and Rs 300 each, while about 320 million shares were offered at Rs 320. These 320 million shares took the total cumulative number of shares to 1.34 billion, the quantity needed to meet the 90% threshold. So the discovered price was Rs 320.

What is a counter-offer?

If the discovered price is not acceptable, the promoter can make a counter-offer within two working days. The counter-offer should be above the company’s book value and below the discovered price. Shareholders can withdraw the shares they tendered ( the word tender refers to give or offer something formally)during the reverse book building within 10 working days of the counteroffer. Public shareholders who hadn’t tendered their shares during the reverse book building can do so during the counteroffer. The company should publicly announce the counter-offer within four working days of the closure of reverse book building and the process must start within seven working days of the announcement. Counter-offer bidding will remain open for five days and the result should be announced in five working days.