Small-cap stocks with weak fundamentals and no institutional holding are more susceptible to suspension.
If you are among those passive investors who review their portfolios once in two or three years, chances are high that one day you would be found wondering how to sell stocks such as NEPC Agro or Jord Engineers or Sanghi Polyester that are part of your holding. These stocks have disappeared from stock exchanges and investor radar.
It is not just these stocks that have done the vanishing act. The Bombay Stock Exchange sports a list of around 1,700 stocks that have been de-listed and another 1,220 that have been suspended from trading.
Investors in shares that are de-listed have it relatively easy. In voluntary delisting, the promoter offers to buy back shares from the public due to various reasons, including merger of companies, public holding falling below prescribed limits or because the promoter wishes to own the entire stake. When the company is liquidated, the shares are compulsorily de-listed from exchanges.
Such closure is not available in suspended stocks. When shares of a company are suspended from trading, it remains a possibility that the company could comply with exchange regulations and re-list. Investors continuing to hold such shares are left with no exit route when the company decides to forego listing and move away from public glare.
Companies have to make periodic disclosure to exchanges on their financial statements, shareholding pattern, trading in company’s shares by insiders, adhering to corporate governance practices and so on as part of the listing agreement signed with exchanges. When companies fail or are late in making these disclosures, they could land in trouble.
The Bombay Stock Exchange stops trading in shares of companies which do not make the above disclosures. For instance, companies that do not submit quarterly financial results in two consecutive quarters or are late in the submission in two of the previous four quarters will invite penal action in the form of suspension.
The rules followed by the National Stock Exchange are slightly different. Non-compliant companies are served show-cause notice by the exchange. Based on the response, a committee decides whether the shares of the company need to be suspended or not.
Suspension can be revoked once the companies follow the requirements of the listing agreement for a specified period. BSE additionally requires that the promoter holding should be locked in for a year from the date of revocation, the company should have signed a demat agreement with at least one depository participant and it should have its own Web site.
It is, however, obvious from a quick perusal of the list put out by the BSE and NSE that companies are using the suspension route to disappear. The Bombay Stock Exchange Web site lists around 1,220 stocks in which trading has been halted due to penal reasons since 1995. The list on NSE contains 155 companies, with few companies featuring in both lists.
Suspension of companies has accelerated after the dotcom bubble of 2000. Between 2000 and 2005, BSE suspended 983 companies while NSE suspended 102 companies. This accounts for 81 and 67 per cent of total suspension list on BSE and NSE, respectively.
While suspensions were seen tapering off since 2005, there is a spike in the first nine months of 2012. The number of companies suspended from trading in this period is double the number reported for entire 2011 on both the exchanges.
Analysing the profile of the suspended companies, three trends emerge.
Some sectors account for a disproportionate share of the suspended companies. Companies in sectors that have been in extended business down-cycle have, in some cases, turned loss-making, and slip up in making regular filings with the exchanges. This leads to eventual exit from stock exchanges too. Textiles and apparels reported the maximum number of suspended companies as this sector, hit by both excess supply and rising input costs, has been in a slump for over a decade now.
Stocks such as Akai Impex, Salem Textiles and Arihant Cotsyn that were once trading favourites now feature in the suspended companies list. The same applies for the chemical industry that reported 50 suspended companies, including S M Dyechem and J F Laboratories.
Many small and medium enterprises in industries requiring lower capital outlay that raised funds through stock markets were unable to withstand the vagaries of business and economic cycles. With deteriorating financial conditions, many such companies also stopped complying with exchange requirements that then led to their suspension. Companies in sectors such as food packaging, auto ancillaries and edible oils are cases in point.
Last, some sectors emerge as the ‘theme’ of the moment with investors buying stocks in the sector regardless of the fundamentals, promoter credentials and so on. Investors willing to buy Internet companies at astronomic valuations at the turn of the century, or running after infrastructure companies post-2005 are examples of such irrationality. Who can forget yesteryear darlings such as Silverline Technologies, Pentagon Global or DSQ Software?
The market regulator is unable to find a viable solution to return investor funds locked in such suspended companies. Suggestions range from making the promoter buy back these shares and de-list to exchanges using the investor protection fund to recompense investors.
While not much can be done if you are already holding stocks in these companies, it is imperative to steer clear of these companies in future. What are the guideposts that investors can watch out for? We analysed the stocks suspended by BSE in 2012 to identify a few signals.
The stock price of the company is the first giveaway. The range between which these stocks traded was Re 0.17 and Rs 58. Eight out of every ten stocks suspended traded at less than Rs 10. That is, most of these stocks fall in the penny stock category (if we define penny stocks as those that trade at values less than Rs 10. Fifteen per cent of the stocks were priced at less than Re 1.
Almost all companies suspended by BSE this year belonged to the small-cap segment, with market capitalisation of less than Rs 50 crore. Almost 70 per cent of these companies had market capitalisation less than Rs 10 crore with many having market cap of even less than a crore.
Barring a few exceptions, institutional holding, both domestic and foreign, in these stocks is absent. It is, of course, obvious that the small market capitalisation, low liquidity and deteriorating finances would keep these large investors away thus increasing the impact cost on these counters.
A quick scan of the companies’ financial statements would definitely flash red for risk-averse investors. These companies had depleted reserves of less that a crore or even negative reserves. Over three-fourth of the companies had less than a crore in cash in their books. Half the companies reported revenue of less that Rs 10 crore and a third of the companies reported operating losses.
If you are among the brave-hearts who would want to dabble with these high-risk stocks with the intention of making a killing at some date, you need to scan the exchange announcements at least once every week. The exchanges put out notices of companies due for suspension in advance so that investors can exit these stocks.
Also keep scanning SEBI announcements regarding companies the regulator is investigating for trading violations. Such companies are also likely to get suspended, if found guilty. Beware of IPOs with low credit rating because many of these suspended companies stem from IPOs with doubtful credentials.