INDIAN primary market ushered in an era of free pricing in 1992.

There are two types of issues one where company and lead manager fix a price (called fixed price) and other, where the company and the lead manager stipulate a floor price or a price band and leave it to market forces to determine the final price (price discovery through book-building process).

What are fixed price offers?An issuer company is allowed to freely price the issue. The basis of issue price is disclosed in the offer document where the issuer discloses in detail about the qualitative and quantitative factors justifying the issue price.

The issuer company can mention a price band of 20 per cent (cap in the price band should not be more than 20 per cent of the floor price) in the draft offer documents filed with the SEBI and actual price can be determined at a later date before filing of the final offer document with SEBI/RoCs.

What does "price discovery through book-building process" mean?"Book building" means a process undertaken by which a demand for the securities proposed to be issued by a body corporate is elicited and built up and the price for the securities is assessed on the basis of the bids obtained for the quantum of securities offered for subscription by the issuer.

This method provides an opportunity to the market to discover price for securities.

How does book-building work? The logic:Book building is a process of price discovery. Hence, the red herring prospectus does not contain a price. Instead, the prospectus contains either the floor price of the securities offered through it or a price band along with the range within which the bids can move. The applicants bid for the shares quoting the price and the quantity that they would like to bid at. Only the retail investors have the option of bidding at `cut-off'.

After the bidding process is complete, the `cut-off' price is arrived at on the lines of Dutch auction. The basis of Allotment is then finalised and letters allotment/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.

What is a price band?As stated above, the red herring prospectus may contain either the floor price for the securities or a price band within which the investors can bid. The spread between the floor and the cap of the price band shall not be more than 20 per cent. In other words, it means that the cap should not be more than 120 per cent of the floor price.

The price band can have a revision and such a revision shall be widely disseminated by informing the stock exchanges, by issuing press release and also indicating the change on the relevant Web site and the terminals of the syndicate members.

Who decides the price band?Regulatory mechanism does not play a role in setting the price for issues. It is up to the company to decide on the price or the price band in consultation with Merchant Bankers. The basis of issue price is disclosed in the offer document. The issuer is required to disclose in detail about the qualitative and quantitative factors justifying the issue price.

What is firm allotment?A company making an issue to the public can reserve some shares on "allotment on firm basis" for some categories as specified in DIP guidelines. Allotment on firm basis indicates that allotment to the investor is on firm basis. DIP guidelines provide for maximum per cent of shares, which can be reserved on firm basis.

(This article was published in the Business Line print edition dated May 29, 2005)
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