The Hindu Business Line : Raising money from public offereing

Though by and large the capital market developmentcaptures well India's growth story, there are some areas ofconcern that need to be addressed. These includethe shrinking size of offers and the non-secular natureof the Sensex rally, say A. THILLAI RAJAN, M. B. RAGUPATHY,and S. VAISHNO DEVI.

The capital market has in recent days, thanks to investment bankers and financial intermediaries, captured the imagination of the common investor as a vehicle for wealth creation. So much so that the activity in the capital market has become the barometer for economic health and optimism.

The primary market activity has for years remained as an economic growth indicator .

Macro-economic parameters such as Gross Domestic Production, Index of Industrial Production, Foreign Direct Investment, cross-border trade, movement in stock indices, etc., were in sync with the growth in public offers made by the corporate sector.

A significant change observed in the last couple of years is that the vocabulary of the capital market has entered the lexicon of common and retail investors. New issues on offer as well as daily market movements are discussed passionately, almost like discussions on cricket matches are.

Reinforcing the interest is the remarkable rally in the stock market since 2002. Seemingly defying all growth laws, the Sensex has risen more than 400 per cent since October 2002, even allowing for the recent `correction'. How long the good times will last seems to be the main concern of the investors.

As a part of an analysis of the capital market growth, a study of the public offerings made between January 1999 and March 2007 was undertaken at IIT-Madras. The main findings are summarised below.

ROLE OF PSES

During the 99-month period, 192 public offerings were made by various companies, with about Rs 86,700 crore being raised. Of the 192 offers, just 20 came from the public sector, but they accounted for 37 per cent (Rs 3, 200 crore) of the total capital raised.

This indicates the crucial role played by the public sector enterprises in the recent growth of the capital market.

While the public sector has been acknowledged for its contribution to nation-building, industrial growth, and the development of core and infrastructure sectors, its role in the development of capital market has rarely found mention.

Though the share of the public sector in GDP is around 24-25 per cent , it accounted for more than one-third of the investment raised from the public.

The average issue size by a public sector firm was five times that of a private sector firm. Moreover, the largest issue of Rs 10,700 crore was from a public sector enterprise.

In an economy where the private sector has been the engine of economic growth and employment generation in recent years, the contribution by the public sector is interesting as well as significant.

The public sector companies, generally, make their public offerings much later in the business cycle as compared to their private peers , who are compelled to tap the marketearlier for raising capital. They give an opportunity for investing in a large cap company with a mature business model and contribute by smoothening the shortterm fluctuations and providing stability for long-term growth.

SECTOR-WISE ANALYSIS

Companies were classified into nine sectors as follows: IT & ITES, financial services, infrastructure, pharmaceuticals and biotechnology, telecom and media, manufacturing, consumer goods and services, and others. Sums raised in each of the above sectors are given in the Table.

It can be seen that a significant part of the capital has been raised in the infrastructure sector - this resonates well with our current national priorities.

Urgent augmentation of infrastructure capacity is necessary to sustain the current economic growth.

The IT industry, driver of export revenues, has raised only 10.7 per cent which is a reflection of the fact the industry is now in the stable growth phase and internal generation is adequate to meet the capital requirements.

Another interesting observation that could be noted is the low share of the pharma and biotech sector. Given the strategic importance of the biotech sector, a review of the reasons behind the low share of this segment would be pertinent.

ISSUE SIZE AND SECTORS

Few concerns emerge when we analyse the issue sizes. Firstly, outliers have a significant effect on the capital raised. The Top 10 companies in terms of sums raised account for 51 per cent (Rs 44,400 crore) of the total resources raised. In fact, just one company, ICICI Bank, accounts for 16.1 per cent of the capital raised from the market during the period January 1999-June 2007.

Though the average issue size is Rs 450 crore , the median issue size is only Rs 110 crore . If the outliers are removed, then the growth is just about moderate.

Second, the average issue size has been gradually reducing as seen in the graph below. The implication is that many smaller companies are entering the capital market.

This trend seems to be a throwback to the dot-com days of 1998-99 when many small companies took advantage of the market boom, but subsequently could not deliver upon their promises leading to the market crash.

Third, the `secular' nature of the rally looks questionable, with few sectors garnering most of the capital. The oil and gas sector accounts for 27 per cent and Financial Services sector for 25 per cent, whereas the FMCG sector accounts for just 0.05 per cent. Any `bad' news from those sectors that have been the flavour of the current rally will have cascading effects on the market in general.

ISSUE OBJECTIVES

Objectives of the capital issue were classified into nine categories depending on the end- use of funds.

Most of the companies have stated in their prospectuses that financing of existing activities, modernisation and expansion-related activities would be part of their objectives. These activities generally resultin the creation of hard assets.

However, quite frequently companies (102 offerings) have also specified meeting corporate expenditure such as brand-building expense and furnishing of corporate offices as a part of their objectives.

Now, these are investments where there is no tangible asset creation, and if done excessively, would harm the investor, resulting in loss of capital.

There were 53 issues that specified mergers and acquisitions as one of the objectives for raising money. Again, the historical evidence on M&A investments has not been good.

If companies use the boom period in the capital market to raise funds easily for risky and non-tangible investments, a market crash could become inevitable as the companies would struggle to generate returns on the capital deployed in these investments.

In summary, it has been heartening to note that the Indian capital market has exhibited remarkable resilience in the recent years.

However, a preventive diagnosis indicates a few areas of concern. These need to be reviewed and addressed appropriately to prevent a crash in the market as well as to sustain the growth momentum.

(Prof Thillai Rajan is a Faculty Member, and the other two authors are research associates in the Department of Management Studies, IIT-Madras.)

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