INVESTMENT IN THE SECURITY MARKET

A COMPREHENSIVE STUDY

(In Guidance of Nirmal Bang Securities Rajasthan Sr. Territory Manager)

A
PROJECT REPORT

Submitted in Fulfillment of the Requirements

for the Award of the Degree of MBA

BY

SIKKIM MANIPALUNIVERSITY

2010-2011

1
 BONAFIDE CERTIFICATE

Certified that this project report titled Investment in The Security Market
is the bonafide work of ----------------who carried out the project work under
my supervision.

HEAD OF THE DEPARTMENT FACULTY IN CHARGE

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EXECUTIVE SUMMARY

The capital market is strategically divided into fixed income securities, equity market and
derivatives. The Indian primary market has come a long way particularly in the last decade
after deregulation of the Indian economy in 1992. Both the primary and secondary markets
have had their fair share of reforms, structural cum policy changes time to time. The most
commendable being the dismantling of the Controller of Capital Issues (CCI) and
introduction of the free pricing mechanism (which permits the companies to price the
issues). This changed the whole facet of Initial Public Offering (IPO) market The IPO
mania during 1996 and 1997 resulted in an avalanche of primary issues. But the ripple
effect of the MS Shoes fiasco in 1995 was seen in the coming years with the number of
primary issues either declining or stagnating
The research objectives were directed towards conducting an indepth research study on the
Indian equity market, vis--vis the primary market. The study also incorporates a critical
overview of the Book-building method used for price-discovery in an IPO issue and the
analysis of an issue.
The research methodology incorporated the use of secondary data. Secondary data used to
collate the research data comprised of journals, business magazines, financial newspapers
and company brochures.
The broad findings of the research were as follows:
The primary market is seeing a spurt of issues and book building method has evolved
as a efficient mechanism for price discovery of an issue.
The retail investor has to look for alternatives for making investment decisions as the
traditional bank deposits are no longer a lucrative option.
The MS Shoes case study highlights the loopholes existing in the system and on the
reforms SEBI has introduced to safeguard investors.
Analyzing an IPO involves understanding the macro environment in which the
company is operating, the prevailing market conditions, the lead managers, the
promoters timing of the issue and many other factors.

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Finally, a number of recommendations have been suggested to investors while considering
an investment option and in specific while selecting an IPO.

INDEX
Topic Page no.

Introduction
Capital Market. 5
Objective. 8
Research Methodology
Limitations of the scope of study.9
Investment Scenario
Basics to Investing 10
Comparison of Different Investment Instruments..12
Suggestions..13
Primary Market
Indian Scenario15
Case Study- MS Shoe East Limited22
SEBI Guidelines for IPOs..24
IPO Scene-Financial Year 200631
IPO Outlook for Financial Year 2007..33
Book Building Method
Overview ..40
Case Study- Maruti Udyog Limited..45
Case study- Divis Laboratories 49
Analyzing an IPO
Case Study- Gail India limited54
Recommendation66

4
Bibliography69

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INTRODUCTION

Financial sector reforms in India in the nineties have undeniably advanced the objectives
of significantly opening the constituent segments to competition and liberalized operations.
India now has a world class equity markets infrastructure, measures are steadily being
implemented to build up liquid debt markets and banks are moving towards, even if they
remain some way off, international prudential norms. Despite this progress, one may be
forgiven for a lingering perception that, if one were to start scratching the surface, things
do not seem to have changed decisively. There remains a disjunction in the reported
systems and structures that have ostensibly been established for safe and efficient
intermediation and the perception of its soft underbelly by various stakeholders while there
are not many overt signs of failures, by way of defaults and payments crises, there are
increasing signs of structural strains in the system. The banking system remains saddled
with large amounts of bad loans. The recent years have seen a succession of distress in and
failures of various intermediaries, necessitating the provision of comfort and support
from government. Institutions remain characterized by both political and regulatory
framework. Contractual savings institutions will play a critical role in developing capital
markets, by inter alias helping to narrow the spread between long- and short-term interest
rates thereby reducing the cost of capital for both equity and debt finance. The scope in this
regard is considerable. Indian insurance premium payments account for a small fraction of
total financial savings and lag far behind their western (and even Chinese, on per capita
terms) equivalents. A number of companies have already entered the life and general
insurance segments, introducing much needed competition in these fields.

Capital Markets

The economic and financial turmoil in Asia in the late nineties provided evidence of the
relative failure of the banking sector in imparting market signals on the then current
situation and future expectations. Other crises in the past, notably in Mexico, also indicate
that when a financial system predominantly relies on its banks, the scope for systemic risk
and vulnerability increases. The most likely reason is their proximate role in risk and
liquidity management, information revelation and corporate governance. Well functioning
money and capital markets can help to prevent localized liquidity shocks from leading to a
failure of solvent banks. In addition, they facilitate government debt management, the

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conduct of monetary policy and provide a channel for privatization. Capital markets will
also have an increasingly important role in India in enabling Financial Institutions (FIs)
and NBFCs to access funds in an environment where public deposits may not be readily
forthcoming

Fixed income markets

The functioning of debt markets in India since the inception of reforms has been
undisputedly transformed. The government dominates the debt market, comprising about
three fourths of outstanding debt in 2001-02 , but only a small part of its total outstanding
stock is traded a mere 0.7% daily , compared to 15.5% in the US . At present, public
sector banks, which are the biggest holders of these securities, have little incentive to
enhance returns through active trading. However, a market has gradually emerged as banks
become increasingly more profit oriented and the RBI risk management requirements
become more stringent. Another reason has been the gradual reduction in counter-party
risk prevalent in the Over-The-Counter (OTC) market through the establishment of the
Clearing Corporation of India (CCIL). In the equity segment during 2001-02 for the first
time, increased (as a proportion of equity turnover) from 24% in 1998-99 to 276% in 2002-
03 18 FIs have also been large issuers of debt. Their issues have increased in size and
complexity; especially after other cheaper government based avenues of funds were
curtailed new financial instruments have been introduced, encompassing a whole spectrum
of liquidity, risks and returns. At one end, money-like instruments such as liquid
mutual funds, bonds with call and put options and others are traded on stock exchanges
now compete with traditional assets like bank deposits. At the other, deep discount bonds
and zero coupon bonds complement traditional contractual savings instruments. These
developments have led to the emergence of a relatively more meaningful (although still
distorted) yield curve.

Equity markets

Equity markets grew rapidly rate during the 1990s. The market capitalization to GDP ratio,
which was only 5.6% during 1983, spurted to over 97% in 1998-99, before settling down
to a more modest 43% in 2002-03 . Even this is markedly higher than the levels prevailing
prior to economic reforms. Indian bourses have simultaneously made significant progress
in the three critical areas of trading, depositories and settlements; they have a world class
trading infrastructure. Trading has by now become automated the pit is extinct. The

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settlement cycle has been shortened to T+2 from April 2003 from the T+5 cycles a year
earlier. The primary market is beginning to revive in 2003-04, with a number of (among
them, bank stocks) successful issues and others in the pipeline 20 This trend may well be
encouraged by the rapid rise of secondary market indices since the beginning of this fiscal
year. These share issues, however, still remain largely confined to public sector stocks or
large corporate. There still persists an aversion of retail investors to other issues arising
from a lack of investor confidence.

Derivative

As India moves towards implementing the Basle II framework, risk management

techniques and products will become increasingly important. With the amendment of the
Securities Contracts (Regulation) Act (SCRA) in early 2000, trading in derivatives of
securities commenced in June 2000, beginning with index futures contracts based on S&P
CNX Nifty Index and The Stock Exchange, Mumbais BSE-30 (Sensex) Index. This was
followed by approval for trading in options based on these two indices and options on
individual securities. As for institutional hedging, following the amended SCRA, deals
with notional principals of Forward Rate Agreements (FRAs) and Interest Rate Swaps
(IRSs) have increased dramatically since they were progressively introduced from 2000-
01, but the capital markets are a long way off from exchange traded derivatives, especially
in fixed income products.

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 OBJECTIVES OF DOING PROJECT
Every project brings with it certain knowledge and experiences. The objective
of doing this research paper is to understand and gain following:
1) To gain practical exposure of the corporate world.
2) To understand work culture of the organization.
3) To know the Indian capital market.
4) To know about various instruments in Financial capital market and
their significance.
5) To know about regulatory authorities and their functions in capital
markets.
6) To know various about process and to analyze the same.

Working with these objectives has given me fair amount of knowledge about
a Financial institution and its process. I am grateful to receive such
knowledge that will help me in my career ahead.

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 RESEARCH METHODOLOGY
Secondary Data
Case Studies: A detailed case study on Divis laboratories and Maruti Udyog to
understand the important role played by the use of book building method for price
discovery .A case analysis on GAIL IPO to understand how to evaluate an IPO
Other sources required: Appropriate journals, business magazines such as Business
Today, Capital Market, Fortune and the Economist, newsletters, financial newspapers,
company brochures and articles on www sites will also be used to substantiate all the
identified objectives as above.

Limitations to the scope of study

The scope of the study is limited by the following factors:
The research data is heavily dependant on the available market information.
The extent and depth of the study is obviously subject to the constraints of time and
cost.

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 INVESTMENT SCENARIO

Historically we have been a cost economy. In the post independence socialist era we
moved to high interest rates and ceased to be a low cost economy. After liberalization, we
started realigning with the rest of the world and the same international trends are witnessed
in India. It has been witnessed that we cannot have artificially high interest rates and be
competitive.

Under these circumstances, investing ones own money becomes even more complicated
than we have been used to be earlier. Schemes with large payouts and guaranteed fixed
high rate of returns are a fixture of the past. Company fixed deposits, a favorite investment
option of the middle class through the 1950s are barely heard of today. Good companies
no longer need to raise money through this way and the not-so-good companies are not a
safe place to put your money. The current favorites like provident funds and postal savings,
which for historical reasons offer higher than market returns, will have to reduce their
returns to survive.

The middleclass will have to accept that investments can go up and down and even
relatively safe investments like properties and bonds can go down. Conventional middle
class wisdom has long considered investing in stock markets risky

Basics to investing
There is always a first time for everything so also for investing. To invest you need capital
free of any obligation. If you are not in the habit of saving sufficient amount every month,
then you are not ready for investing. But life imposes certain expenditure, which are
unavoidable. The "planned" expenditure for standard events in our lives like children's
education, a marriage in the family, and nowadays holidays abroad (an increasing trend).

Guard Against Inflation: All of us have heard stories from grandparents that in their
times "one rupee" could buy the entire bazaar and still have some change to tip the
rickshawallah. What this implies is that the moneys purchasing power continues has
fallen due to inflation. Therefore to beat inflation should be an objective of any
investor. You have to invest judiciously so that not only you guard against inflation but
also beat it. Save atleast 4-5 per cent of your monthly income for emergencies. Do not
invest from savings made for this purpose. Hold them in a liquid state and do not lock

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 it up against any liability or in term deposits. Save atleast 30-35 per cent of your
monthly income. Stick to this practice and try to increase your savings.

Avoid unnecessary or lavish expenses as they add up to your savings. A dinner at

Copper Chimney can always be avoided, the pleasures of avoiding it will be far
greater if the amount is saved and invested. Try gifting a bundle of share certificates to
yourself on your marriage anniversary or your hubbys birthday instead of spending
your money on a lavish holiday package.

Clear all your high interest debts first out of the savings that you make. Credit card
debits (revolving credits) and loans from pawnbrokers typically carry interest rates of
between 24-36% annually. It is foolish to pay off debt by trying to first make money
for that cause out of gambling or investing in stocks with whatever little money you
hold. Infact its prudent to clear a portion of the debt with whatever amounts you have.

Retirement benefits are an ideal savings tool. Never opt out of retirement benefits in
place of a consolidated pay cheque.

Dont put all your eggs in the same basket. Spread your investment to spread your
risk.

Make regular periodical investments. This is to ensure that 35 years from the start,
every month and every year you start getting back something. Plan your cash flow in
such a manner that by the time you reach a higher tax bracket, the returns from your
present investments take care of your tax liabilities as well as tax saving instruments so
that your disposable income remains undisturbed.

Do not put more than per cent of your investible income in risky investments.

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Comparison of various instruments for Investment

Scheme Interest Min Investment Max Investment Features Tax Break

(%) (Rs) (Rs)
National Savings 8.00a 100 No Limit 6-year, tax- Sections 88 and
Certificate saving 80L benefits
instrument
Public Provident 8.00b 500 70,000 15-year term; Section 88 and
Fund tax-free returns 10 benefits
Kisan Vikas Patra 8.41c 100 No Limit Money doubles No tax benefit
in 8 years, 7
months
Monthly Income 8.00 1000 Single A/c:3 lakh 6-year tenure; Section 80L
Scheme monthly benefit
Joint A/c: 6 lakh returns; bonus
after 6 years
Time Deposits 6.25-7.50 50 No Limit Available for Section 80L
1,2,3,5 years benefit
Recurring 7.50c 10 No Limit 5-year tenure Section 80L
Deposits benefit

Savings Account 3.50 20 Single A/c:1 lakh Tax-free Tax-free under

interest; cheque section 10
Joint A/c: 2 lakh facility;
withdrawals
anytime

*Sec 80L benefit: deductions up to Rs 12,000 for interest from specified securities plus additional deduction
of Rs 3,000 for interest from G-Secs; Sec 88 benefit: rebate for investments of up to Rs 1 lakh in specified
securities (maximum of Rs 70,000 in PPF
Source: Capital Market

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 SUGGESTION

Insurance: however lousy the service may be, LIC and GIC are still a very good
bet. Money back policies, pension policies, annuity plans. The bonus rates which
largely determine your returns from insurance policies are on their way down.
From Rs.65 per Rs.1000 in 1997, the bonus rate on a ten year endowment plan was
down to Rs.49 per Rs.1000 in 2002.

PPF: best investment at a 9 per cent rate of return. It is tax-free on maturity and
you enjoy rebate on your investment. An alternative instrument has to offer 11.5 per
cent to match the PPF. It is a safe investment option as it is government backed.
And even if the government cuts interest by 1 per cent in the coming budget it still
remains the best investment option.

NSCs and KVPs: returns to day are not as lucrative, but considering the safety
security and tax benefit it is still a good bet.

Fixed deposits: Bank Deposits- The 7.5 per cent return on a five year bank deposit
is not too low considering that it will be further slashed in 2003.Many public sector
units, and corporations accept deposits and pay good interest. But the catch is
company deposits are unsafe.

Post Office savings: RDs and Monthly Income plan are good.
Blue chips: There are many blue chips which are were affordable when the market
was in the 3000 range in March03. Companies with good fundamentals, rich
reserves and solid assets like Reliance, Tata Steel, HLL, HDFC, are worth. Build a
small portfolio of select stocks from a long term point of view. Experts believe a
return of 20 per cent is quite attainable without taking much downside risk. Even if
the market goes down, the downside will be limited to 10 per cent

Property: Buy a plot of land somewhere in an area which is likely to grow in 5-7
years. Whoever invested in buying plots in 80s in Koramangala (Bangalore),
Noida or Gurgaon, are stinking rich to day. Dont be in a tearing hurry, do your
research, take a considered decision, Meanwhile Park your funds in a safe bet.

Gold: Gold has touched its seven year high by crossing the psychological barrier of
Rs.5000 per 10 gm in March 2002.It is riding the global pessimism sparked of

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 September 11.The first principle of investing: buy low, sell high. Gold is at its peak
and is not a good investment option.

Mutual Fund: These are open and close ended funds operated by an investment
company which raises money from the public and invests in a group of assets, in
accordance with a stated set of objectives. Its a substitute for those who are unable
to invest directly in equities or debt because of resource, time or knowledge
constraints. Benefits include diversification and professional money management.
Shares are issued and redeemed on demand, based on the fund's net asset value,
which is determined at the end of each trading session. The average rate of return as
a combination of all mutual funds put together is not fixed but is generally more
than what earn in fixed deposits. However, each mutual fund will have its own
average rate of return based on several schemes that they have floated. In the recent
past, MFs have given a return of 18 30 %.

Cash Equivalents: These are highly liquid and safe instruments which can be
easily converted into cash, treasury bills and money market funds are a couple of
examples for cash equivalents.

Others: There are also other saving and investment vehicles such as gold, real
estate, commodities, art and crafts, antiques, foreign currency etc. However,
holding assets in foreign currency are considered more of a hedging tool (risk
management) rather than an investment.

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 PRIMARY MARKET

Companies fall into two broad categories: private and public.

A privately held company has fewer members and its owners don't have to disclose much
information about the company. Anybody can go out and incorporate a company: just put
in some money, file the right legal documents, and follow the reporting rules of your
jurisdiction. Most small businesses are privately held. But large companies can be private
too. It usually isn't possible to buy shares in a private company. You can approach the
owners about investing, but they're not obligated to sell you anything. Public companies,
on the other hand, have sold at least a portion of themselves to the public and trade on a.
stock exchange This is why doing an IPO is also referred to as "going public." Public
companies have thousands of shareholders and are subject to strict rules and regulations.
They must have report financial information every quarter. In India, public companies
report to the SEBI. From an investor's standpoint, the most exciting thing about a public
company is that the stock is traded in the open market, like any other commodity. If you
have the cash, you can invest.

Indian Scenario

The Indian primary market has come a long way particularly in the last decade after
deregulation of the Indian economy in 1992. Both the primary and secondary markets have
had their fair share of reforms, structural cum policy changes time to time. The most
commendable being the dismantling of the Controller of Capital Issues (CCI) and
introduction of the free pricing mechanism (which permits the companies to price the
issues). This changed the whole facet of Initial Public Offering (IPO) market. Free pricing
mechanism allowed good corporate to raise money from the primary market at the right
price, which was denied earlier. However, the decontrol was, to some extent, misused by
corporate to overprice issues. The government realized the need for a regulated
environment and started to promote its necessity in capital markets. SEBI was assigned the
role of monitoring and regulating the working of stockbrokers, bankers to an issue,
merchant bankers, portfolio managers, and other intermediaries who are associated with
stock markets. The effects of these structural changes are apparent from the trends in the
resources raised from primary market, which includes public issues, rights issues, private
placements and overseas issues.

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Primary Market 'Cycle'

(Rs in cr) FY93 FY94 FY95 FY96 FY97 FY98 FY99 FY00
Public 13460 18890 24910 18260 157.8 122.1 144.5 159
Issues
(% y-o-y 40.30% 31.90% {26.7%} -13.60% -22.60% 18.30% 10.00%
growth)
Rights 121.6 129.1 115.7 61.3 26.6 20 36.1 16.2
Issues
6.20% - -47.10% -56.50% -24.70% 80.20% -55.20%
10.40%
Private 18.7 79.8 115.4 65.3 104.8 347.9 251.9 403.2
Placement
326.00% 44.50% -43.40% 60.40% 231.90% -27.60% 60.00%
Overseas 7.5 79.9 78.8 25.7 56.8 11 181 39.9
Issues
959.20% -1.30% -67.40% 120.70% -80.60% 1540.70% -78.00%
Total 282.4 477.7 558.9 334.9 346 501.1 613.5 618.2
69.10% 17.00% -40.10% 3.30% 44.80% 22.40% 0.80%

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Source:CMIE

It is evident that during 1992-94, the bourses started to show signs of recovery after the
securities scam in FY92. The Sensex also touched a new high during the same period due
to the improved economic environment. Though total funds mobilized during FY94 went
up from Rs 13500 crore in FY93 to Rs 18800 crore in FY94, a number of companies
started to cash in on the buoyant primary market, notably the finance companies. Besides,
as the domestic companies went on for overseas issues (GDR, FCCBs and ECBs), there
was a sharp increase in funds raised through overseas issues, which shot up by 959 % from
Rs 750 crore in FY93 to Rs 7990 crore in FY94. The trend continued in 1995 backed by
robust industrial production and higher gross domestic product growth. IPO market had

18
another impressive year. Public issue proceeds moved up to Rs 24900 crore, a growth of a
32% compared to FY94.

Buoyed by the business scenario most of the manufacturing companies went for huge
capacity expansions and diversification. The impact of this was visible as excess capacity
cramped margins and many companies went into the red. Public issues started drying up.
The total fund mobilized during FY96 came down by 40% as the proceeds from public,
rights and overseas issues fell by 27%, 47% and 67% respectively. That is the reason why
both proceeds from private placement as well as overseas markets moved up sharply by
60% and 121% respectively in FY97. But, then came to the South East Asian crises, which
hit the trade and economic growth. So, FIIs shifted their portfolio, which resulted in
reduced exposure towards developing economies like India. The market remained flat, as
investors preferred to put money in banks rather than investing in shares.

But during the latter half of FY98, markets witnessed the boom in software stocks.
Software stock valuations soared through the roof. This boom in the secondary market
caught on to the primary market as well. More than 50% of new issues were from software
companies in FY99. They received tremendous response from investors with over-
subscription rates ranging anywhere between 20 times-55 times the issue size.
Subsequently, these companies got listed at huge premiums to their offer price, which
triggered interest among investors. The private placement market witnessed a surge in
mobilizations. This was largely due to promoters shoring up their stakes in companies, in
light of the takeover code taking a more concrete shape. Also, as the primary markets for
both equity and debt turned bearish, companies opted for the low cost option of private
placements.

Moreover, funds mobilized via overseas issues witnessed a 1,500% jump since Indian
companies went for American Depository Receipts (ADR) issues, the first one being,
Infosys. However, proceeds from private placements started to fall after SEBI announced
new regulations. The total receipts via private placement fell by 28% in FY99.

Since inception, the role that market regulator SEBI has played in reforming primary
market is commendable. Stringent norms have been imposed as and when required. Pre-
issue requirements of issuing company and Lead Managers, filing due-diligence report at
the time of filing of draft-prospectus and post-issue obligations of revealing the allotment
basis are some of the regulatory measures, which were enacted to safeguard investors and

19
to bring transparency in the system. Other notable norms include the lock-in period norms
for promoters as well as mutual funds in the issuing company. Besides, project appraisal
route as an alternative to the profit track record route was replaced by book-building route,
where qualified institutional investors (QIBs) where allowed to subscribe 60% of the issue.

Though these measures did prevent the investors from fraudulent practices, the quality of
new issues, however, seemed to be deteriorating. Companies with good track record, teams
and institutional backing were overtaken by companies, which zoomed in to cash in on this
new economy boom.

Though public issue receipts showed 10% YoY growth in FY00, funds mobilized from
primary market remained flat (1%). The primary market moved in tandem with secondary
markets. For instance, Television18 got a tremendous response while public issue from
Ajanta Pharma just managed to sail through. Further, established software companies
preferred the private placement route for raising funds in FY00. As a result, proceeds from
private placement showed a sharp rise of 60% to Rs 403 bn. For the second consecutive
year, non-financial public sector undertakings and government companies remained absent
from public issue market. Though private placement receipts fell during FY00, some bond
issues received good response which includes bond issue from Indian Oil Corporation and
Hindustan Petroleum Corporation Limited.

The IPO market has come a long way since the boom of FY94. However lots have to be
done since the market seems to be heading the same direction as it was during the early
nineties when non-banking financial institutions tamed the primary market. Besides, recent
statistics also indicate that the average size of public issues has shrunk to Rs 100 m in
FY01. Added to the woe, only five issues in the first half of the current year managed to
get more than 5 times over-subscription compared to 30 last year. This is expected to
continue as long as unscrupulous companies who do not have any infrastructure facilities,
manpower, revenue model, continue to raise money from the markets.

During 1997 as many as 753 issues aggregating Rs 11648 crore hit the market. FY 1998
saw only 62 issues totaling Rs 3061 crore. The next fiscal was even worse with the first
five months of FY 1999 witnessing only 12 public issues raising a meager Rs 1402 crore.

Luckily, the bearish clouds soon faded away and this was followed by another brief spurt
of primary issues in FY 2000, led by the information technology (IT) sector over 100

20
issues from small and big tech companies hit the market. But the bubble of the tech-led
revival also burst soon and the primary market again went into a long bearish phase. The
war clouds over Kashmir added an element of uncertainty. The secondary market, which
was under siege for the better part of 2001 and 2002 due to the Ketan Parekh scam and
9/11, followed by the attack on parliament on 13 December 2001, went into a tailspin,
further affecting the primary market. As a result, FY 2002 witnessed only six IPOs
collectively raising Rs 1076 crore. In FY 2003, an equal number of companies garnered an
even lower figure of Rs 1038 crore.

However, the last two fiscal years have seen some quality issues hitting the market. The
Bharti Tele-Ventures IPO in January 2002, the first 100% book-built issue in India issued
at a floor price of Rs 45 per share, was over-subscribed 2.5 times, while i-flex Solutions
IPO in June 2002 was over-subscribed 2.7 times against its target of Rs 220 crore. Such
IPOs set a good trend.

In FY 2004 till end November 2003, seven IPOs collectively raised Rs 17624.49 crore. In
the largest book-built transaction, Delhi-based car-maker Maruti Udyog (MUL) raised Rs
992.5 crore at Rs 125 per share. Chennai-based Indian Overseas Bank (IOB) and Kolkata-
based UCO Bank mopped up Rs 240 crore each at an offer price of Rs 24 and Rs 12 per
share. The Lux Hosiery IPO collected Rs 10 crore at Rs 50 per share, while entertainment
company BAG Films garnered Rs 14.86 crore. Vardhaman Acrylics mobilized Rs 27.13
crore and Bangalore-based Vijaya Bank, the last IPO of the first half of the FY 2004, raised
Rs 240 crore.

In short, the phenomenal success of the Maruti IPO, the booming stock markets, low
interest rates, favorable monsoon, and good economic growth forecast and improved
valuations of Indian companies have led to a renewed interest in the primary market.
Instead of opting for low-paying bank deposits and bonds, investors are increasingly
looking at good-quality IPOs with reasonable pricing.

21
22
 Collection from the primary market

No. of Amount
Year
Issues (Rs cr)
2003-04 6 1370
2002-03 6 1038
2001-02 6 1082
2000-01 114 2722.38
1999-00 51 2719.04
1998-99 18 404.21
1047.52
1997-98 52

Source: NAV India

CASE STUDY-MS SHOES EAST LIMITED

The Indian primary market has been witnessing a roller-coaster ride since the Controller
of Capital Issues (CCI) was scrapped in March 1992 and SEBI was conferred with
statutory powers. The IPO mania during FY 1996 and FY 1997 resulted in an avalanche
of primary issues. But the ripple effect of the MS Shoes fiasco in 1995 was seen in the
coming years with the number of primary issues either declining or stagnating.

Company Profile

The company was involved in the most prominent case of price rigging in 1995. The
company was incorporated in 1986. It was engaged in the manufacture of leather shoes
and footwear components and exported all its wares mainly to Australia and western
Europe.MS Shoes turnover shot up from Rs3.12 crores in 1986-87 to Rs.116.61 crores
and touched rs.200 crore in 1994-95. In 1994, the companys Managing Director, Mr.
Pawan Sachdeva drew up an ambitious diversification strategy to enter several new
areas like hotels, steel, liquor and yarn. His plans included the setting up of an integrated
spinning unit for manufacture of cotton and filament yarn as well as construction of 5
star deluxe guest house complex in New Delhi and Mussoorie, Jaipur and Shimla.

In September 1994, Mr. Sachdeva bagged HUDCOs prime hotel land in South Delhi
under controversial circumstances. He decided to enter the capital market with a Rs.

23
699.57 crores public-cum-rights issue with a high profile media campaign. In December
1994, he announced the public issue of Rs. 428 crore fully convertible debentures to
finance the hotel and yarn projects.

The Economic Times revealed that MS Shoes price of Rs. 699.57 is cum-rights and was
expected to drop sharply after the public issue. The fact was not revealed by the
company. The TV advertisement of the issue mentioned the cum-rights price instead of
ex-rights price. As a result Mr. Sachdeva was charged with massive price rigging of his
shares. The MS Shoes issue spurted from Rs.145 to Rs. 250 on the Bombay Stock
Exchange. This was despite the fact that the scrip was available between Rs.137 to Rs.
142 on the National Stock Exchange

As a consequence, BSE remained closed for three days from March 20- March25, 1995
facing one of the worst financial crises as one of the brokers of MS Shoes, R S Jhaveri,
defaulted in payment of Rs.18 crores. The default took place due to clubbing of
settlements.

In a landmark development, SEBI has issued a show cause notice to MS Shoes for
buying its own shares and on charges of misleading the investors. The Officials of SEBI
and SBI Capital Market, lead managers were charged for assisting Mr. Sachdeva.The
MS Shoes composite rights-cum public issue was later cancelled and the company was
asked to refund subscription.

The Irregularities:

The SEBI officials allowed Mr. Sachdeva to collect 50 per cent subscription on
application whereas SEBI guidelines clearly states that where on application and
allotment if an amount of more than Rs. 250 crores is to be collected, not more
than 25 per cent should be collected on application.

In case FCDs one-third of the issue amount should be subscribed by the

promoters to the equity or they should subscribe to 20 per cent of the proposed
debenture issue. Since the total issue as inclusive of share premium, the
promoters were required to subscribe to that extend. The promoters of MS Shoes
had subscribed to a large number of shares earlier at cheap rates were allowed to
reckon these shares for the promoters quota and exempted from bringing Rs.
85.65 crores.

24
 In addition, the promoters had issued back dated shares at a price of Rs. 50 per
share instead of the prevalent market price.

The SEBI officials also permitted MS Shoes to deviate from the stipulated
format under the heading Capital Structure. To further facilitate deception, SEBI
and SBI Cap officials permitted MS Shoes to further dispense with the
stipulation for disclosure pertaining to promoters contribution under the head
notes.

The case is still pending in the Supreme Court.

SEBI GUIDELINES FOR IPO

SEBI revised certain initial public offering (IPO) norms for the primary market with the
aim of bringing the book-building procedure in India on par with the global practices and
to encourage retail participation.

The scrapping of the office of the Controller of Capital Issues (CCI) in 1992 had lead to a
free-pricing era. There were several fall-outs: promoters and issuers tended to price their
issues at an unreasonably high premium. Modestly-priced issues were flooded with great
applications. Proportionate allotment, introduced in 1994-95, to tackle the problem of over-
subscription, was skewed in favour of the institutional investor and was also largely
responsible for marginalizing the ordinary investor.

To overcome the ills of unrealistic premium and over-subscription, SEBI introduced the
book-building procedure in 1999. In a book-building process, the issuer appoints book-
runners who are responsible for collecting bids from prospective investors. Investors, thus,
put in their bids within an indicated price band for the purpose of "price discovery". Based
on the bids received, a common offer price is then arrived at.

Besides the elimination of over-subscription by correct price discovery, another advantage

of book-building is that the time lag between making an offer, pricing and the listing of the
scrip is much less than in a fixed price issue. In a fixed-price issue, it would take between
one-three months for an issuer to file the prospectus with SEBI, get approval, market the

25
issue, collect subscription, make allotment and then get the stock listed. Often, with such a
long gap, the market conditions would change by the time the pricing was decided and the
offer opened, making the premium either too high or too low.

SEBI had initially allowed only partial book building with 75% of the total issue size
allotted for the book-built portion; the remaining 25% had to be compulsorily offloaded in
the general market at a fixed price, i.e., the price discovered during the book-building
process. In the book-built portion, only 15% of the issue was reserved for retail investors,
with the rest going to wholesale bidders. The hugely successful IPOs of Hughes Software
and HCL Technologies are some examples of partial book building.

Later on SEBI permitted the 100% book-building route with no fixed price offering,
apparently to cut down further the time taken to close the issue. The entire issue is, thus,
completed in a single stage.

The process of book building has an edge over a fixed-price IPO for several reasons. It
enables issuers to access market demand for the issue. Hence, if the price discovered does
not appear attractive, there is an option of deferring or even scrapping the issue. In fixed-
price offerings, in case of under-subscription, the underwriter had to step in to save the
issue from getting devolved. Besides, book-building works out much cheaper than
marketing the issue in the retail market, thus saving on promotional costs.

In March 2003, SEBI introduced some sweeping changes in IPO norms to boost investor
confidence after the bubble burst in 1995 with the MS Shoes fiasco.

It changed the eligibility criteria for IPOs, including a track record of distributable
profits to having net tangible assets, as it felt that profit figures could be fudged.
Earlier, companies floating IPOs needed to have a pre-issue net worth of not less than
Rs 1 crore in three out of five preceding years.

The new rules insist that companies floating IPOs should have net tangible assets of Rs
3 crore in each of the two preceding two years. Of this, not more than 50% should be
held in monetary assets cash or its equivalent such as securities.

It is mandatory for companies changing their names to ensure that a minimum 50% of
the total revenues are derived from the business activity suggested by the new
company.

26
 The definition of QIBs has been expanded, to include pension funds, provident funds,
port trusts, portfolio managers and insurance companies registered with the Insurance
Regulatory and Development Authority (IRDA)..

. The mandatory participation by QIBs in book-built issues has been reduced from 60%
to 50%.

It has reintroduced the moving price band concept in book-built IPOs. The band can be
moved by 50% either way. The issuer also gets the flexibility to change the pricing as
per market conditions, as against the floor price route.

Critically Evaluating the Book Building Method

Positive: Book building was first introduced in 1999 with the concept of a moving price
band, which allows the investor to bid within a pre-determined price range. If a particular
bid price is lower or higher than the pre-decided range, the system out-rightly rejects it.

However, in April 2000, SEBI did away with the moving price band concept and moved to
the concept of a fixed floor price, where an indicative price is pre-determined in the IPO.
The offer price is then arrived at depending upon the subscription.

SEBI now feels that indicating a floor price for the issue defeats the very purpose of book
building as maximum bids are received at or just above the floor price. This sort of under-
pricing was fast becoming a cause of concern.

If the issue is under-priced, it can result in lower net worth. But at the same time, the
company is saddled with an increased equity, thus making dividend pay-outs difficult.
Conversely, if the IPO is highly-priced and the price tends to fall down on listing, investors
lose money. Besides, the problem of over-subscription remained as maximum applications
were found to be at or just above the floor price. The latest IPO from Maruti Udyog (MUL)
is an indicative example.

In a moving price band, the range can be moved upwards or downwards, depending on the
demand and the direction in which the book is being built. Hence, if the demand is high
and investors are willing to pay a higher price, the issuer has the flexibility to revise the

27
band upwards by 50%, thus leading to a correct price discovery Consider this. Television
software company Cinevista Communications book-building issue in February 2000
carried a price band of Rs 175-Rs 200. But, later, owing to the unsatiated demand from
investors, the promoters moved the band upwards by 50% and the issue was finally allotted
at Rs 300. The IPO was oversubscribed 121 times and mopped up Rs 9000 crore against
the required Rs 76 crore.

Similarly, HCL Technologies had originally indicated a price range of Rs 500-Rs 540 per
Rs 4 paid-up share for its book-building IPO in December 1999. But sensing the market
mood, it revised the price upwards to Rs 580 per share. The issue was over-subscribed 27
times, generating Rs 20,100 crore.

Cadila Healthcare had originally indicated a price band of Rs 300-Rs 350 per share for its
IPO, which was over-subscribed seven times. But due to a lukewarm response from
institutional investors, the price was lowered to Rs 250. Even Mascot Systems, with a price
band of Rs 480-Rs 580, settled for a final price of Rs 480.

Negative: The concept of a moving price band, too, is prone to manipulation and SEBI
itself had shied away from it due to the very same reason. This was because in the earlier
era of moving price band, most of the bids came in at the upper end of the price band, thus
affecting the price discovery mechanism in a book-building process. The issuer, in such
instances, citing reasons of demand, could move the band up by 50%.

Citing the example of Cinevista Communications again, the heavy demand from investors
made the issuers increase the price band of Rs 175-Rs 200 by 50% at a final offer price of
Rs 300 per share. But, unfortunately, on listing, the price opened at Rs 202 per share, a loss
of 32.6% to IPO investors. The scrip is currently quoting at Rs 28.

SEBI has introduced a green-shoe option for the underwriter to retain about 15% of the
over-subscription in the book-building route to ensure stability of the post-issue price of
IPOs. Earlier, an underwriter was allowed to retain only up to 10% of the over-
subscription.

Positive: In case of book-built issues which are heavily over-subscribed, the demand for
stock post-listing exceeds supply, leading to volatility in market prices. However, if the
underwriter is allowed to retain some part of the over-subscription, the additional liquidity
in the stock would play as the balancing factor and stabilize the market prices.

28
Negative: The green-shoe option given to underwriters to help stabilize the post-listing
price will benefit them at the cost of investors. In a bull market, underwriters will opt to
accept an allotment of up to 15%, thus making profits if the scrip opens at a premium on
the listing day. Conversely, in a bear market, the underwriters will get the opportunity to
buy 15% stock at a price much lower than the stocks actual worth.

Sebi has lowered the mandatory participation of QIBs in book-built IPOs from the existing
60% to 50%.

Positive: The reduction in the mandatory allotment of 50% by QIBs in an IPO is a good
move, as a larger part of the IPO is then available for retail investors and the non-
institutional category. Sebi has also included insurance companies in the category of QIBs.

Earlier, in March 2003, Sebi had proposed the lowering of QIB involvement in book-built
IPOs from 60% to 40%, as that was sufficient to indicate the interest of QIBs and for the
purpose of price discovery.

In the international markets, there is no quota for small investors. However, in the Indian
context, this was not considered feasible. Hence, a small quota was kept aside for retail
investors, with a major share for QIBs.

But after a time, even the 60% allotment to QIBs was considered too high for participation
from small investors. Most book-building issues, thus, ended up in negotiated deals or
private placements.

With the flexibility to increase the quota in case of demand, a handful of institutional
investors always managed to get away with a major chunk of the IPO, leaving little scope
for the retail segment to participate. There have been instances of merchant bankers acting
in tandem with some favored institutional investors and allocating shares to them.

Take the example of the Hughes Software IPO in September 1999, the first partial book-
built IPO in India, which managed to raise a whopping Rs 6000 crore against the targeted
Rs 250 crore. More than 52% of the public offer of 43.75 lakh shares was allotted to a
mere 20 applicants.

The concentration of a major portion of floating stock with a small universe of large
investors is a perfect recipe for price manipulation. Market players feel that it was the
excess involvement of QIBs in book-built IPOs which led to the dismal performance of
some of them on listing. The IPO of Shree Rama Multi-Tech in February 2000, issued at

29
Rs 120 per share, was listed at Rs 110.25. Cinevista Communications IPO in the same
month, with an issue price of Rs 300, was listed at Rs 202. And even Cadila Healthcares
IPO was listed at Rs 196.90, against an issue price of Rs 250. Hence, with a 50%
mandatory allotment, there will be less scope for institutional investors to put in artificial
bids.

There is also a possibility of an artificial demand being created about the issue by the
book-runner and QIBs, just before it is slated to hit the market. This helps in attracting
higher bids from retail investors, who are blissfully unaware of the true worth of the
company.

SEBIs idea behind the reduction in the extent of QIB allotment is to increase the
allocation for retail investors up from the existing 25% to 35% to ensure that most of the
retail investors are able to get allotment.

Besides, the flexibility in allotment will ensure that, in case of overwhelming subscription,
issuers can reduce even the 50% institutional allotment in favour of retail investors. In case
of inadequate demand from retail investors, the shortfall can be made up through greater
allocation to other segments. In the case of Aksh Optifibre, a meagre 37.5% was allocated
to the institutional segment, what with huge demand from retail investors.

Take a more recent IPO, from Maruti Udyog (MUL), where hordes of retail investors piled
on for a slice of the pie and some even bid higher than the floor price of Rs 115 per share.
As a result, the government and the Maruti Udyog management allotted a huge 60% of
shares to retail investors. The higher allocation to the retail segment is expected to arouse
retail interest in forthcoming issues from Bharat Petroleum Corporation, National
Aluminum Company, Idea Cellular and Tata Consultancy Services.

Negative: A higher retail participation is, no doubt, good. But what if the retail response in
an IPO is not as high as that in Maruti? In such cases, the issue has to be targeted towards
the institutional segment. Besides, active participation from institutional investors gives
retail investors a considerable degree of comfort on the pricing issue.

To streamline the investment by QIBs, Sebi has prohibited them from withdrawing the bids
once made, though bids can be modified any number of times.

Positive: This will prevent excessive and multiple bids by QIBs which, unlike retail
investors, do not have to make upfront payment with their applications. Investment banks,

30
too, often goaded QIBs to bid in excess to show over-subscription, in order to hype the
issue.

Negative: Just the prohibition of the withdrawal of bid is not enough. There has to be some
way to ensure the commitment of institutional investors to the IPO, once they enter. A
better way would have been to impose a small margin on QIB applications. As against
retail investors who have to pay upfront the entire amount at the time of subscription,
institutional investors are allowed to make a part-payment of up to 20%, and pay the
balance on allotment.

In its effort to attract the retail investors to the primary market, SEBI has brought about
another sweeping change in the definition of a retail investor. Earlier, a "retail" investor
was the one investing up to Rs 10,000. But now the limit has been increased to Rs.50,000,

Positive: With rising income levels of investors and the affinity towards equity investment,
informed retail investors are pumping in more money into stock markets, with the help of
informed decisions. Besides, many good issues are at a substantial premium. Like in the
Maruti Udyog IPO at Rs 120 per share, retail investors would not get even 100 shares at an
investment limit of Rs 10,000.

Negative: One wonders if it is right to categorise an investor in that manner. Take i-Flex
Solutions IPO in June 2002, where an investor applying for 1000 shares at Rs 530 per
share, would have had to shell out Rs 5.3 lakh. Thats a huge amount for a "retail"
investor by any stretch of imagination. To define a retail investor in terms of value of
investment rather than the quantity of shares is much more logical. Besides, an
investment of Rs 50,000, too, is minimal, what with the availability of bank financing
for IPO investment

31
IPO Scene in Financial Year 2006

The six IPOs in FY 2006 together mobilized Rs 1038.69 crore. While two primary
issues came in the first half of the fiscal year, the remaining four were in the second half.
Three of the 6 IPOs were from the PSU banking stable Canara Bank, Union Bank of
India and Allahabad Bank. PSU banks went public to boost their capital adequacy levels,
against declining monetary support from the government.

1. June 2005: i-Flex Solutions

The I-Flex solutions issue was floated in June 2002 was over-subscribed by 2.7 times
against its target of Rs 210 crore.The issue was priced at Rs 530 per share with a face
value of Rs 5; the i-Flex issue was done through the 100% book-building route. The
stock was listed at Rs 549 per share a premium of 3.5%. Subsequent to its listing, the
i-Flex scrip witnessed a steady rise and is currently hovering over Rs 900-930 levels.

2. August 2005: Union Bank of India

Union Bank of Indias Rs 288-crore IPO at Rs 16 per share was the second to hit the
market in August 2002. The shares were offered at a price-to-earnings (P/E) multiple of
1.79, based on its FY 2002 earnings. The scrip was listed at a premium of 6% at Rs 17
and remained at the same levels till the end of December 2002.Since January 2003 the
stock witnessed a sudden jump to touch Rs 27.95 and has been trading between Rs 30-
40 since then.

3. October 2005: Allahabad Bank

The next in line was Allahabad Banks Rs 100-crore IPO in October 2002. The proceeds
of the IPO were used to strengthen its network in South India and expand operations.
The issue was significant as it intended to bring down the government holding in the

32
bank by 28.84% to 71.16%. The proceeds also helped the bank in improving its capital
adequacy ratio from 10.62% to 11.5%.The Allahabad Bank stock was listed at Rs 12.05,
a premium of 20%. Soon after listing, end of 2002, the stock jumped to a high of Rs
16.95 in January 2003, but nose-dived thereafter to touch a low of Rs 13.5. It is
currently trading at Rs 17-18.

4. November 2005: Canara Bank

Canara Bank came out with its public issue of 11 crore equity shares of Rs 10 each for
cash in November 2002. The IPO was floated at Rs 35 per share, at a premium of Rs 25,
aggregating Rs 385 crore. Canara Bank had planned to use the proceeds of the IPO to
augment its long-term resources and maintain a comfortable capital adequacy ratio, in
line with its estimated growth in assets. Post-IPO, Canara Banks equity capital base
declined to Rs 410 crore, while the government holding came down to 73.17%. Having
got listed at Rs 43 per share in December 2002, the stock witnessed a sharp rise and
touched a high of Rs 119.85 in May 2003, before settling at the current levels of
Rs 90-95.

5. February 2006: Radaan Mediaworks

Television content provider Radaan Mediaworks came out with its Rs 11-crore IPO in
February 2003. Priced at Rs 40 per share, the IPO reduced the promoter holding to 75%
with its equity base rising from Rs 8.13 crore to Rs 11.15 crore. The IPO proceeds were
for its long-term working capital needs, to reduce the high-cost borrowings, to go on a
national network and to upgrade its studio facilities in Chennai. The stock was listed on
the National Stock Exchange in March 2003. On listing, it soon jumped to its all-time
high of Rs 90.6 in May 2003, before settling down to a level of Rs 80-85, at which it is
currently trading.

6. February 2006: Divis Laboratories

The IPO of Hyderbad-based pharmaceutical company, Divis Laboratories, which hit the
market in February 2003, was the last IPO in fiscal 2002-03. Priced at Rs 140 per share,
the issue was done through the 100% book-building route, with a floor price of Rs 130
per share. The net proceeds of the IPO were to be used for its expansion plans. At a time

33
when the primary market was in doldrums, the Divis issue created a furore in the
market by getting oversubscribed by 19.5 times. Listed at Rs 161 per share, the stock
has been rising on a constant level, touching an all-time high of
Rs 408 in June 2003. It is currently trading at the Rs 385-400 levels.

A look at the IPOs in FY 2007

Company Industry Issue Period Route Offer Listing Vari. Current

size over price
(Rs) (Rs)
Price (Rs)
(%)

i-flex Solutions Software 21 Jun. 05 Book- 530 549 3.5 598.35

building
0

Union Bank of Bank 288 Aug. 05 Fixed route 16 17 6 59.90

India

Allahabad Bank Bank 100 Oct. 05 Fixed route 10 12.05 20 33.60

Canara Bank Bank 385 Nov. 05 Fixed route 35 43 22.8 158

Radaan Media NA Feb. 05 Fixed route 40 40 Nil -------

Mediaworks

Divis Software NA Feb. 05 Book- 140 161 15 1519.70

Laboratories building

Source: Capital Market

34
PSU Banks

A slew of second-rung PSU banks have lined up plans to tap the primary market with the
aim of returning equity to the government and augmenting their capital base to meet future
capital adequacy requirements. The Rs 250-crore IPO of state-owned Bank of Maharashtra
offering 10 crore shares was the first bank issue of 2004... The IPO, which will reduce
government stake by 25% to 75%, will increase its equity capital to Rs 580 crore. With a
book value of Rs 25 per share, the banks existing CAR is 11.76%.

Dena Bank is planning a second public issue to capitalise on the Bull Run in the market.
The government, which holds a 71% stake in the bank, will issue 80 crore shares to
strengthen its CAR, which is currently at 6%. State Bank of India associate State Bank of
Mysore (SBM) plans a new issue to raise its equity capital by Rs 50 crore to Rs 100 crore.

Federal Bank may also go for another round of public issue for fresh expansion and to
improve its CAR. Punjab & Sind Bank plans to come out with a Rs 100-crore IPO with a
nominal premium of Rs 10 per share for the expansion of its banking services. Canara
Bank, which has a paid-up capital of Rs 410 crore and has so far, returned Rs 277 crore as
equity to the government, plans an IPO to return another Rs 100 crore. After being on the

35
brink of closure two years ago, United Bank of India, too, is planning a maiden IPO to
raise Rs 50 crore to enhance its share value.

Sale of residual stakes in PSUs

Computer Maintenance Corporation (CMC) and oil retailers Indian Petrochemicals

Corporation (IPCL) and Indo-Burmah Petroleum (IBP) hit the market during February and
March.. Videsh Sanchar Nigam Limitd (VSNL), and aluminum major Bharat Aluminum
Company (Balco) are also in the the pipeline. The government currently holds 26% each in
CMC, VSNL and IBP, 33.9% in IPCL and 49% in Balco.

Early 2001, the Rs 5000-crore Sterlite group acquired a 51% stake in Balco for Rs 551.5
crore. In the same year in October, the government divested 51% in CMC to Tata
Consultancy Services (TCS) for Rs 152 crore. In February 2002, the Tata consortium
bagged 25% equity in VSNL for Rs 1439.25 crore and IOC acquired 33.6% in IBP. The
last case of disinvestment was in May 2002, when Reliance Industries acquired 26% in
IPCL for Rs 1491 crore. To avoid distress sale, the government plans to make the first offer
for sale to the strategic partners and allow them to consolidate their holdings before
making a public offering.

Technology outfits and BPO services

With the changing climate in the IPO market, many leading software and BPO firms are
likely to go public in 2004. The Rs 914-crore software services firm Patni Computer
Systems (PCS) came out with an IPO of 1.8 crore shares for an aggregate Rs 300 crore
during February 2004.. The IPO will result in a reduction in the stake of General Electric
(with 10% stake) and General Atlantic Partners (which invested $100 million). Post-issue,
the promoters stake will be reduced to 51.3% from 60.8% and the equity capital will be Rs
24.96 crore. The share of other venture capitalists will fall from 39.2% to 33.7%. The
proceeds of the fresh issue will be used for strategic initiatives and general corporate
purposes.

36
Another much-awaited IPO of 2004 is from Tata Consultancy Services (TCS), Indias
largest and the only billion-dollar software services firm. The company plans raise a
whopping Rs 3500 crore to expand and become one of the top 10 global IT companies.
Post-IPO, TCS will be demerged and corporatised as an independent entity. Sify, Indias
largest Internet Company, is also exploring the possibility of tapping the primary market
with an IPO. Nasdaq-listed Sify had earlier tapped the American capital markets twice with
its American Depository Receipt (ADR) issues. Delhi-based EXL Services and Daksh
eServices also plan to go public in 2004.

The Rs 300-crore Mumbai-based IT services and infrastructure solutions company CMS

Computers plans to float an IPO to raise Rs 100 crore. From onsite outsourcing model, it
plans to shift to an offsite outsourcing model for existing and new customers in the area of
e-governance, smart card solutions and data management.

Telecom

The Tata-Birla-AT&T combine Idea Cellular has firmed up plans to tap the market with a
Rs 500-crore IPO to raise funds to expand its operations. It currently provides mobile
services in five cellular circles of Delhi, Andhra Pradesh, Gujarat, Maharashtra and
Madhya Pradesh with a combined subscriber base of 20 lakh. Incidentally, this will be the
second IPO from a telecom company, after Bharti Tele-Ventures raised Rs 833 crore in
January 2002. Idea Cellular, with an equity capital of Rs 2300 crore, has 33% stake held by
Birlas and AT&T each, 32% by Tata and the remaining stake by AIG.

The Cabinet Committee on Disinvestment (CCD) is exploring the possibility of allowing

Bharat Sanchar Nigam (BSNL) to float a mega-IPO of Rs 5000 crore to generate funds to
roll out its international long-distance service early 2005. With over 32 lakh customers
presently for its cellular service, the telecom major hopes to breach the 10-million mark by
March 2005.

37
Entertainment

TV Today Network of the Living Media and World Media, which owns and operates Aaj
Tak and Headlines Today channels, floated an IPO to transfer equity shares held by Living
Media and Anika International to NRIs, Flls and foreign venture capital funds.

The Rs 1200-crore Rupert Murdoch-owned Star, the Rs 800-crore Sony Entertainment and
Prannoy Roy-owned NDTV also plan to go public. Entertainment Company Amitabh
Bachchan Corporation (ABCL) will come out with an IPO to form joint ventures for its
future projects in order to minimize its investment burden. Content major United
Television (UTV), engaged in television and content production business, is also planning
to float an IPO. Rajshri group, the Barjatya family-controlled film production and
distribution business house, is also planning an IPO to foray into the television software
business as a logical extension of its existing line of business.

Power

Power Trading Corporation (PTC) plans to double its equity base to Rs 150 crore by way
of an IPO. It is currently persuading the International Finance Corporation (IFC) to pick up
a 10% stake in it, following which it will tap the primary market with a Rs 150-crore
public issue through the book-building route. At present, Tata Power and DVC are the only
two non-promoter investors in PTC, apart from financial institutions holding 10% stake
each. Power Grid Corporation, another power player, is also planning an Rs 500-crore IPO.

The Rs 400-crore IPO of state-run National Thermal Power Corporation (NTPC) hit the
market in February 2004 and will offer greater visibility to the Rs 20,000 power major and
ensure a smooth fund flow for its expansion.

Pharma

Surya Pharmaceuticals came out with an IPO of 30 lakh shares of Rs 10 each at a premium
of Rs 30 per share aggregating Rs 13.5 crore. About 30% of the proceeds of Surya are
likely to be invested in infrastructure and machinery to strengthen its R&D activities, while
the balance will be used for augmentation of its working capital requirement. Post-issue,
the promoters continue to hold 72% of the equity, while the remaining 28% will be held by
the public.

38
Biocon India, has tapped the market with an IPO of Rs.250 crore, the proceeds of which
can be utilized to finance its expansion program. With an equity capital of Rs 200 crore,
the company is expected to issue fresh shares of 10% of its equity through the book-
building route. Its promoters currently hold a 70% stake in the company. Shantha
Biotechnics, which has recently launched a recombinant Streptokinase, plans to tap the
market with an IPO. The proceeds will be utilised for expansion of its capacity and to
provide an exit route to existing investors.

Security

The Rs 100-crore security solutions provider Topsgrup Detectives & Security Services
plans a primary issue of Rs 250-300 crore to expand its cash management services
comprising armoured trucks. The IPO proceeds will also be utilised to set up security
training colleges across India, such as the National Security Academy at Karjat near
Mumbai. Post-IPO, the promoter, which will continue to hold 80% stake, plans to expand
its existing fleet of 20 trucks to 40. It has recently entered into a strategic alliance with
Zicom Electronic Security Systems to market security equipments in India and abroad.

Airline

Airline Company Jet Airways has also decided to go for its public issue to fund its
expansion plans. Currently operating 255 flights daily from 40 destinations in the country,
the airline plans to soon begin its international foray and will fly to Colombo from
Chennai, Mumbai and Bangalore shortly. On the domestic front, it proposes to launch a
Kolkata-Agartala-Gauhati flight.

In Indian Airlines, the disinvestment panel had recommended a sale of 51%, of which 26%
was for a domestic strategic partner and 25% to the general public. It was earlier
approached by the Hindujas and the Videocon group. To begin the process afresh, the
government is considering the option of referring the airline to the Disinvestment
Commission.

39
Renewable energy systems

Chennai-based Indowind Energy, the wind farm development arm of the Rs 80-crore
Subuthi group, plans to enter the capital market with an IPO of 2.51 lakh shares for Rs 10
each at Rs 20 premium. With a pre-issue equity base of Rs 7.53 crore, this is the first
company from renewable energy to tap the IPO market. The IPO proceeds, which will
bring down promoter stake to 75%, will be utilised to fund its expansion plans, R&D and
market development.

Retailing

Retailing outfit Shoppers Stop is planning an IPO to part-fund its expansion plans. The
retail giant, with 13 stores in its portfolio, plans to take the number to 35 by 2007. A part of
the expansion plan will be funded through internal accruals and the balance from the public
issue. Against a turnover of Rs 302 crore for FY 2003, the company is looking to achieve a
turnover of Rs 750-800 crore by 2007.

40
 BOOK BUILDING METHOD

Overview

The book-building route a method of issuing or offering shares to investors at a price

discovered through a bidding process. In a fixed-price method, the offer price is decided by
the issuer before the issue opens.

In a book-building process, the issuer appoints lead managers who are responsible for
collecting bids from prospective investors, mostly institutional. Potential investors or
bidders, thus, have the flexibility of bidding for shares at different prices over and above a
floor price for the purpose of "price discovery". A common price is then arrived after an
analysis of demand, at which shares are offloaded to investors. Hence, a book-building
process enables better pricing with a wider institutional investor base.

Book-building is nothing new to India and there have been a couple of issues that have
followed this route. SEBI had so far allowed partial book-building with only 75% of the
total issue size allotted for the book-built portion; the remaining 25% had to be
compulsorily offloaded in the general market at a fixed price, which is the price discovered
during the book building process for institutional investors. Subscription is also possible
through online bidding, which makes the book (for inviting bids) accessible to public at
large. Before bidding for the issue, the investor can check details like the number of
investors who have bid, whether they are retail or institutional, and the price bids of other
investors. Based on this, and the floor price given by the issuer, the investor has the
flexibility to arrive at his own bid price and even revise it till the issue is open. Online
bidding ensures a greater level of transparency in arriving at the offer price.

41
100% Book Building

Advantages

Time lag between pricing and listing is less

Issue can be completed in a single stage, unlike partial book building

Results in a better price discovery as institutional investors have the necessary

expertise to analyze the information provided by the issuer, who in all
probability will be from the emerging sector, about which retail investors may
not have sufficient knowledge

Marketing of issue to wholesale bidders works out cheaper

Allows issuers to assess market demand and then fix a price band or floor price

Issue can be sold at the correct price, and not at a lower price, as was often done
in fixed pricing earlier in order to make it attractive to retail investors

Gives the option to defer or scrap the issue if the discovered price is not
attractive

Disadvantages

Institutional investors gain an upper hand in dictating the price trend

Retail investors may not have all the information to judge the issue and, thus,
may not be able to arrive at a correct pricing

With the high discretionary powers to lead managers, there is possibility of

collusion between issuers and institutional investors to hype the issue to get
retail participation

Possibility of negotiated deals happening between issuers and favored

institutional clients

Issuers may have to sell the issue cheap due to the collective bargaining power
of institutional investors

42
Difference between moving price band and floor price

Moving price band Floor price

Investors can price their bids within Investors can bid below, at or above the indicated floor
Definition
the price band only price

Most come at the upper end of the Bids come at or just above the floor price, again
Bids
price band and affect price discovery affecting price discovery

Get flexibility to bid in a wide range,

Investors tend to bid just above the floor price, leading
Investors and can revise bids in case the price
to under-pricing
band is moved either way

Have to accept all bids below, at or above the

Can reject bids that do not fall in the
indicated price. Have to choose one cut-off price at
price band. Can move the price band
which to accept bids. Usually, the offer
Issuers upwards or downwards by 50%
price is fixed at the level which gets the maximum
depending upon demand, leading to a
subscription, though the market may have an appetite
better price discovery.
for an even higher price.

Book Building Issues

43
 Company Issue Face Book- Bid/flo Offer Over- Listing Vari. Current
date value building or price sub- over Price
mechanis price (Rs) scription price iss.
(Rs) m (Rs) (Rs) price
(%)
Hughes Software Sep-99 10 Partial 480- 630 25 810.39 28.6 515
630
HCL Technologies Dec-99 4 Partial 500- 580 27 598 3.1 253.75
540
Shree Rama Multi- Feb-00 5 Partial 100- 120 46 110.25 -8.1 8.01
tech 120
Cinevista Feb-00 10 Partial 175- 300 121 202 -32.6 27.55
Communications 200
Cadila Healthcare Feb-00 5 Partial 300- 250 7 196.9 -21.24 470
350
iGate Global May-00 4 Partial 480- 480 8 575 25 209.75
Solution 580
Aksh Optifibre Jul-00 5 Partial 50 60 8 65 8.3 15.17
Mukta Arts Jul-00 5 Partial 150 165 4.65 220 33.3 49.20
Hughes Tele.com Sep-00 10 Partial 12 12 0.67 11.5 -4.2 ------
Mro-Tek Sep-00 5 Partial 95 95 1.4 96 1.05 13.70
Pritish Nandy Sep-00 10 Partial 155 155 1.56 150 -3.2 44.40
Comm.
Tips Industries Sep-00 10 Partial 325 325 3.1 342 5.2 32.70
Balaji Telefilms Oct-00 10 Partial 130 130 1.78 171 31.5 85.15
Aztec Software Nov-00 3 Partial 80 80 1.43 99 23.75 21.20
Creative Eye Nov-00 5 Partial 50 50 3.71 59.4 18.8 11.82
Bharti Tele- Jan-02 10 Complete 45 45 2.5 55 22.2 171.80
Ventures
i-flex Solutions Jun-02 5 Complete 530 530 2.72 549 3.6 598.35
Divis Laboratories Feb-03 10 Complete 130 130 19.5 161 23.8 1519.70
Maruti Udyog Jun-03 5 Complete 115 125 11 NA NA 521.85

The Hughes Software and HCL Technologies IPOs in September 1999 and November
1999 were partial book-building issues. A 100% book building issue implies that the entire
issue is completed in a single stage without having to make a mandatory fixed price

44
offering. Of Rs 1000 crore garnered from 5 IPOs during FY 2002, a huge chunk of Rs 834
crore was netted by the first 100% book-building issue of Bharti Televentures in January
2002. At a floor price of Rs 45 per share, the issue was oversubscribed 2.5 times and had a
retail investor base of 30%.

The second IPO through the 100% book-building route was i-Flex Solutions in June 2002.
Priced at Rs 530 per share against a book-value of Rs 5, the issue was over-subscribed 2.7
times against its target of Rs 220 crore. Retail investors were the most conspicuous in the
issue with over 11,000 applications and an average application size of over Rs 1 lakh.

This was followed by another book-building issue from Hyderabad-based pharma

company Divis Laboratories in February 2003 at Rs 130 per share, which was. Of the Rs
830-crore Maruti IPO, 25% is reserved for retail investors, who make bids up to 1,000
shares. This roughly amounts to a mobilisation of Rs 200 crore from the retail segment.

BOOK BUILDING -CASE STUDY: MARUTI UDYOG LIMITED

Company Profile

45
Indias largest carmaker Maruti Udyog (MUL) was incorporated in 1982, when the
government of India (GOI) entered into collaboration with Suzuki Motor, Japan (SMC) to
manufacture small passenger cars in India. It has played a vital role in developing Indias
car and car component industry.

MUL has a diverse product range that comprises ten basic models: Maruti 800, Omni,
premium small car Zen, international brands Alto and WagonR, off-roader Gypsy, the mid
sized Esteem, luxury car Baleno, estate Altura, Indias first MPV Versa and luxury SUV
Grand Vitara XL7, with over 50 variants and prices ranging from approximately Rs 2 lakh
to about Rs 18 lakh in the A, B, C and utility vehicle segments of the Indian passenger car
market. Of the above, nine models are manufactured in India and one model (Grand Vitara)
is imported as a completely built unit from SMC, Japan.

For the year ended March 2003, MULs net sales increased 3% to Rs 7253.50 crore, while
the profit after tax (PAT) rose 40% to Rs 146.40 crore. The growth was achieved by
enhancing the productivity, improving the quality and reduction in overall cost.

Domestic sales, which contributed 86.8% of the total sales, decreased 3.9% to Rs 7865.40
crore, primarily due to a 2.9% decline in the domestic sales volumes to 330,013 vehicles
and reduction of selling prices for the Maruti 800 in July 2002. However, the export sales
jumped 182% to Rs 670.80 crore due to an increase in export sales volume by 163.5% to
32,240 vehicles. Export destinations include the Netherlands, Italy, Germany, United
Kingdom, France, Bangladesh, Nepal, Sri Lanka, Chile and Egypt, mainly under the
Suzuki brand. Contribution of export sales to the total sales increased from 2.6% to 7.4%
during the year ended March 2003.

The overall market share of MUL stood at 54.6% down from 58.6% in the previous year.
The company primarily focused on the A & B segments (priced below Rs 5 lakh), which
are particularly price-sensitive and together constituted more than 84% of sales volumes in
the Indian passenger car market in fiscal 2003. It had a 100% market share in the A
segment and a 38.6% market share in the B segment, resulting in an overall market share
of 62% in these two segments. Also, A&B segments comprised 95.1% of the companys
total domestic sales volume in fiscal 2003.

However, the board maintained the dividend of 30% for the year ended March 2003. The
net worth increased by 20% to Rs 3009.30 crore due to higher net profit and on account of

46
the rights issue. Thus, the book value (BV) per share stood at Rs 104.13. The total debts
decreased 30% to Rs 456 crore, while the debt-equity ratio declined from 0.26:1 to 0.15:1.
Moreover, MUL has a comfortable cash position to meet its future working capital and
capital expenditure requirements. The total cash and bank balance including current
investments amounted to Rs 1005.70 crore.

Suzuki Motor Corporation (SMC), the parent company, is the largest manufacturer of mini
cars in Japan, in terms of sales volumes, with a market share of 31.6% in 2002. In May
2002, SMC took the controlling stake in MUL by subscribing to the right issue of
1,216,341 shares of Rs 100 each at a premium of Rs 3180 per share (which works out to a
premium of Rs 159 on a face value of Rs 5 per share) and the shareholding increased to
54.2%, while the GOI stake decreased to 45.8%. SMC also paid Rs 1000 crore towards
controlling premium to GOI.

For fiscal 2004 and fiscal 2005, SMC has agreed to provide a 10% discount on knocked
down components imported by MUL, except for the Altos built for export. The value of
purchases of components from SMC in fiscal 2002 and 2003 was Rs 780.40 crore and
Rs 790.20 crore, respectively. However, SMC was already giving a discount of 3% - 10%
on different models in the past also and, hence; this need not be treated as a totally new
benefit. Moreover, SMC has planned to make MUL the research & development center and
export hub in Asia.

The issue crossed its pre-determined mobilisation limit of Rs 830 crore within three
hours of opening. And, in four days, it was over-subscribed by over 400%, with majority
of the bids quoting higher than the floor price of Rs 115. Of the applications received in
the first four days, close to 80% were said to carry a bid price of Rs 120 per share, as
against a floor price of Rs 115.

The IPO is unique for several reasons. It is the first time that the IPO market saw a
market leader in cars, and that too a PSU, offering shares to the public. Besides, the IPO
came at a time when the capital market was starved for any significant issue. Its success is
likely to increase the governments thrust on privatising PSUs

It is another notable exception, whose shares were issued at a P/E of about 26 times its 03
earnings. Despite being quite high priced the share, which is just 17% off its 52-week high,
trades at a 257% premium to its offer price. In this case, its remarkable performance in the

47
quarters subsequent to the offer contributed to the spurt in its share price. The message
seems to be that if an IPO is not offered at what is prima facie an attractive price, and then
it can still do well provided there are enough reasons to justify the high valuation after
listing. The commendable performance of Maruti IPO saw renewed interest in the whole
gamut of PSU IPO which has entered the market.

Maruti Udyog

Sector Automobiles-Passenger cars

Sector P/E

No. of shares on offer 7,22,43,300

Offer price (Rs) 115*

Post-issue equity (Rs crore) 144.45

Post-issue Promoters stake (%) 75

IPO Open 12.06.03

Close 19.06.03

Listing BSE & NSE

Rating 51/100

*Floor price

Source: Capital Market

Maruti Udyog: Financials

Particulars Mar 1999 Mar 2000 Mar 2001 Mar 2002 Mar 2003

Sales 5862.80 6989.50 6716.90 7067.70 7253.50

OPM (%) 10.8 5.1 3.1 4.1

OP 632.10 357.60 -193.70 219.60 297.60

Other Income 399.20 357.40 321.40 318.00 362.40

48
 PBIDT 1031.30 715.00 127.70 537.60 660.00

Interest 56.00 66.80 74.60 76.40 55.80

PBDT 975.30 648.20 53.10 461.20 604.20

Depreciation 191.20 263.10 322.30 342.90 322.10

PBT 784.10 385.10 -269.20 118.30 282.10

Tax 261.10 55.00 0.20 13.80 35.10

Deferred Tax 0.00 0.00 0.00 0.00 100.60

PAT 523.00 330.10 -269.40 104.50 146.40

Adjustments -21.50 86.80 -112.80 14.00 21.50

Net Profit 544.50 243.30 -156.60 90.50 124.90

EPS (Rs)* 18.8 8.4 3.1 4.3

*Annualised on current equity of Rs 144.45 crore.

FaceValue: Rs.5

Figures in Rs crore

Book Building-Case Study: Divis Laboratories

Company Profile

Divis Laboratories is a Hyderabad-based pharma company, which is into bulk drugs and
contract research. Besides producing generic active pharma ingredients (APIs) and
intermediates for generics, the company has ventured into custom synthesis for select
MNCs by developing intermediates for the new chemical entities (NCEs) being developed
by them. It associates with these MNCs at the early drug development stage with the
ultimate aim of becoming a "preferred supplier" of APIs and intermediaries to such MNCs,
when their discovery drugs are launched in the market. Thus the company builds its API
pipeline and gets a ready market from MNCs, by associating with them from the basic
research stage.

49
It is promoted by Murali K Divi, who had also co-promoted Cheminor Drugs (now merged
with Dr Reddys Laboratories) and was its managing director till May 1990. He had also
co-promoted Globe Organics in 1998. The promoter group holds a 59.96% stake in Divis,
which will come down to 54.02% after the issue.

Divis Laboratories turnover has risen at a CAGR of 22.08% in the past four years, from
Rs 93.22 crore in FY 1997-98 to Rs 207.05 in FY 2001-02. Its operating profit margin
(OPM) has been gradually improving from 11.0% in FY 1997-98 to 23.6% in FY 2001-02.
As a result, the net profit has zoomed, from a negative Rs 2.06 crore in FY 1997-98 to
positive Rs 1.24 crore in FY 1998-99, which raced ahead to Rs 43.47 crore in FY 2001-02.
In the half year ended September 2002, it reported a turnover of Rs 114.43 crore, and OPM
of 23.6%. The net profit stood at Rs 22.61 crore. The long-term debt, as of September
2002, was Rs 42.10 crore. The debt-equity ratio has been steadily coming down from 1.1:1
in FY 1997-98 to 0.3:1 as of September 2002.

The taxation rate, rising gradually, stood at 20.7% of PBT for the half year ended
September 2002. Currently, Divis Laboratories enjoys a deduction of 50% of the export
earnings under section 80 HHC (down from 70% in FY 2001-02), which will come down
to 30% in FY 2003-04. Considering the fact that about 90% of the turnover is from exports
and in view of the phasing out of 80 HHC benefits, the income-tax incidence will increase
further in the years to come.

Divis Laboratories has been focusing on increasing its business in the regulated markets of
Europe and the US. These constituted about 73% of the turnover in the half year ended
September 2002. The domestic turnover constituted about 10% and the rest of the world
contributed about 17%. Since inception, Divis exported more than 90% of its turnover.
The companys regulated market-intensive approach augurs well in view of the substantial
potential and also superior margins therein.

One of the API products CIS Lactum, accounted for about 24% of the total revenue of
Divis Laboratories in the half year ended September 2002. It will continue to be a
significant part of the companys product portfolio over the next two to three years.
However, the realisations from this product have been coming down from around Rs 2199
per kg in FY 2000 to Rs 1970 per kg in the half year ended September 2002. Given the
sizeable contribution of this product to the revenue, the fluctuations in prices of CIS
Lactum can adversely affect profitability.

50
Overall, APIs contributed 78.6%, 85.3% and 71.7% of the turnover in FY 200, 2001 and
2002, respectively. This business is characterised by relatively low margin and wide
fluctuation in prices, impacting margin, in view of the intense competition. However,
Divis Laboratories is partly insulated from such vagaries, as it strives to be a preferred
partner for supplying APIs from its regulatory compliant plants. For the formulators to
switch over from one dedicated supplier to other is not feasible in a short period, in view of
the regulatory and quality issues.

Divis Laboratories has taken a strategic decision of adhering to Intellectual Property

Rights (IPR ). This will enable it to easily migrate to the emerging scenario, requiring IPR
compliance from January 2005 onwards, unlike many others, which will have to readjust to
IPR regime. The companys compliance with IPR has also enabled it to give assurance to
its MNC clients regarding compliance and procure custom synthesis business from them.

The focus by MNCs on their core competencies has opened opportunities for custom
synthesis manufacturers like Divis Laboratories to cater to their outsourcing requirements.
Constant focus on adherence to IPR, R&D capabilities to develop efficient and cost-
effective processes at short notice, complete infrastructure of process research labs, scale-
up pilot plant and validation block, and a large manufacturing facility complying to cGMP
standards capable of producing volumes with tight delivery schedules have given an edge
to the company in this field.

The custom synthesis and new products contributed about 28.3% of the turnover in FY
2001-02 and 32% in the half year ended September 2002. The ratio is not likely to be
significantly altered in the near future, and major revenue will continue to flow from APIs.

In the area of new products, the building blocks for peptides have reached commercial
volumes, and Divis Laboratories is currently developing nucleotide building blocks at its
research centre. Likewise, small quantities of carotenoids have been produced and sent for
evaluation to some leading customers, and the company proposes to commence
manufacture of carotenoids in the near future. If successful, these products can provide
good upside to the company.

The business from top customer accounts for 15.5% of turnover in the half year ended
September 2002, up from 8.7% in FY 2001-02, but down from 16.2% in FY 2000-01.
Similar fluctuations were also evident in the business from top five customers, which

51
accounted for 44.4%, 36.1% and 47.2% during this period. Hence, the operations can be
impacted by fluctuations in business from top clients, and, more so, on failure to sustain
business relationship with any major client. The managements response states that this is a
normal practice and the consent/licence will be renewed automatically within two months.
It has already financed this project through internal accruals and term loan.

Divis Laboratories entered the primary market with an issue of 32, 04,685 equity shares of
Rs 10 each, of which 12, 69,673 shares were fresh issue and the rest were offer for sale
from existing shareholders. The entire issue was through the book-building process, and
the floor price was been fixed at Rs 130 per share. The pre-issue equity capital was Rs
11.55 crore, increased to Rs 12.82 crore after the issue.

Normally, the markets give poor discounting to bulk drug companies due to the highly
competitive nature of this business and fluctuating prices (a sort of commodity business).
However, contract research which is a new development got a positive response from the
market which is very evident from the performance of the stock post issue.

Divis Laboratories: Financial Highlights

Mar2001 Mar2002 Mar2003 Mar2004 Mar2005 Sep 2006

Sales 93.22 106.6 152.7 187.99 207.05 114.43

OPM (%) 11 13.2 14.1 17.2 23.6 23.3

Operating Profit 10.21 14.02 21.58 32.38 48.92 26.66

Other Income 0.9 3.11 7.68 9.38 13.2 7.61

PBIDT 11.11 17.13 29.26 41.76 62.12 34.27

Interest 8.7 9.05 7.69 7.56 4.81 1.52

PBDT 2.41 8.08 21.57 34.2 57.31 32.74

Depreciation 4.46 5.03 5.97 7.29 7.95 4.24

PBT -2.06 3.06 15.6 26.91 49.36 28.5

52
Tax 0 0.03 0.12 1.1824 6.65 5.65

Deferred Tax 0 0 0 0 -0.92 0.24

PAT -2.06 3.03 15.48 25.73 43.62 22.61

EO 0 1.79 0.12 0.07 0.15 0

NP -2.06 1.24 15.37 25.66 43.47 22.61

EPS (Rs)* -1.6 1 12 20 33.9 35.3

*EPS is on annualised post-IPO equity of Rs 12.82 crore;

Figures in Rs crore

Source: Capital Market

Divis laboratories

Sector Pharma - Indian bulk drugs

Sector P/E 8.5

No. of shares on offer 32,04,684

Offer price (Rs) 130*

Post-issue equity (Rs crore) 12.82

Post-issue Promoters stake (%) 54.02

IPO Open 17.02.03

Close 21.02.03

Listing BSE, NSE, HSE

Rating : 53 / 100
*Floor price

Source: Capital Markets

53
ANALYSING AN IPO
GAS AUTHORITY OF INDIA

Issue Summary

Type Offer for sale by Min. 30 shares

the book-building subscription
route
Size Rs 15.6 bn (based Lead HSBC Securities and
on floor price) Managers Capital Markets (India),
ICICI Securities.
Floor Price Rs 185 Listing BSE, NSE and Delhi
Stock Exchange
Face value Rs 10 per share. Promoters Government of India
Shares on 84.6 million Promoters 57.4%
offer shares post issue
holding
Issue Opens: February 27, 2004
Issue Closes: March 5, 2004

Issue Structure
Employees QIBs Non- Retail
Institutional Portion
Investor
No. of shares Maximum of Maximum Minimum of Minimum
4.2 m shares of 40.2 m 20.1 m shares of 20.1 m
shares shares
% offered from Net Maximum Maximum Minimum Minimum
public offer 5% 50% 25% 25%
Minimum 30 equity Rs 50,001 Rs 50,001 30 equity
Bid/Application size shares shares
In multiples of 30 shares 30 shares 30 shares 30 shares
Maximum Not Not Not exceeding Not
Bid/Application size exceeding exceeding the size of the exceeding
5% of the the size of offer Rs 50,000
offer. the offer

Background

54
Government of India established GAIL in 1984 in order to develop the pipeline
infrastructure in different parts of the country. It is the largest natural gas transmission
company in India and operates a pipeline network of around 4,600 kms across the length
and breadth of the country. GAIL currently transports 63 million metric standard cubic
meters per day (mmscmd) of natural gas, representing approximately 90% of the total
amount of gas being transported through pipelines in India. It has ventured into other
related businesses such as upstream activities of production and exploration and
petrochemicals. It has 7 plants for processing of natural gas to produce LPG (liquefied
petroleum gas), thereby adding synergistic value to the profile.

Business

Sale of natural gas is the company's principal business contributing around 70% to the
topline. The company has 7 plants for processing of natural gas to produce LPG, which is
sold to domestic as well as industrial consumers. It has also entered into joint ventures to
market CNG (compressed natural gas) in cities like Delhi and Mumbai. GAIL operates a
petrochemical complex located along the Hazira-Bijapur-Jagdishpur (HBJ) pipeline, with
a production capacity of 260,000 tonnes per annum (tpa). Further, GAIL has ventured into
telecommunications business with Gailtel having a reach of 8,000 kms, providing
commercial bandwidth to customers. It also has a 12.5% stake in Petronet LNG, whereby
it has a take-or-pay obligation of 60% of the regasified natural gas and 100% transmission
rights. With the growing demand of natural gas in the country, it makes business sense for
GAIL to acquire a stake in the company.

55
 Segment wise Contributions

Revenues % of gross sales

Segment

Natural Gas 56136 68.6%

Sale of LPG 11556 14.1%

LPG Transmission 1884 2.3%

Polymers 7814 9.6%

Others* 4412 5.4%

Total 81802 100.0%

others include pentane, propane, butene and telecom

Promoters

GAIL India Limited is a flagship natural gas processing, transmission, distribution

and marketing company with a GOI holding of 57.4% stake (post-issue). After
extensive study that proved that the maximum economic value from natural gas
should be derived only by extracting value-added products, GOI established GAIL
in 1984 to set up a pipeline infrastructure across the country.

56
 P erce Post Post-
ntage Offer Offer
GOI 67.35 57.35
Public 32.65 42.65

Sector

The oil and natural gas sector has been traditionally regulated by the GOI. Till date, the
pricing of natural gas is regulated. As per the 1997 pricing order, released by the MOPNG
(Ministry of Petroleum and Natural Gas), gas price consists of consumer price,
transmission charges, royalties and taxes. The consumer price is determined by way of a
75% reference to the international prices of a basket of fuels. The transmission charges to
GAIL are fixed at Rs 1,150/MSCM for gas transmitted through the HBJ pipeline. Without
making it further complicated, there are other aspects like calorific value of gas that
determines the transmission charges. Further, the transmission charges shall increase by
1% for every 10% increase in the consumer price index. This escalation of 1% in charge is
reimbursed from the funds of deposit in the Gas Pool Account. GAIL contributes Rs 2.5 bn
to the Gas Pool Account, which is used as a mechanism to compensate Oil India Ltd, for
concessional gas prices.

57
World Energy Consumption Pattern

Region Oil Natural Gas Coal Nuclear Energy Hydro

(%) (%) (%) (%) (%)

India 2.8 1.1 7.5 NIL 2.8

North America 30.2 31.2 24.7 33.6 24.1

South and Central America 6.1 3.9 0.7 0.8 20.7

Europe and Eurasia 26.3 41.2 21.1 45.8 30.2

Africa 3.4 2.7 3.8 0.5 3.1

Middle East 5.7 8.1 0.3 NIL 0.3

Asia Pacific* 25.3 11.9 41.9 9.3 18.8

Source: Oil Companies

58
Consumption of natural gas in India

End-User\ (mmscmd) FY03 FY04 FY05 FY06

Fertilizer 23.5 24.2 22.1 23.9

Power 25.5 24.4 25.0 28.1

Sponge Iron 3.1 3.7 3.5 3.1

Other Industries 11.4 13.8 15.6 17.5

Total 63.4 66.0 66.2 72.6

Source: Oil Companies

59
From the above graphs, it is clear that in India, the natural gas market is underdeveloped. It
must be noticed that predominantly, it has been the power and fertilizer industry that has
been a major consumer of natural gas (almost 70% of natural gas consumption). Natural
gas accounts for just 8% of the primary energy consumed in India. However, the
consumption pattern indicates that the demand has been increasing and the share of natural
gas is likely to rise even further.

Reasons to apply

Near monopoly and high entry barriers: GAIL currently accounts for 90% of the
market share in case of natural gas transmission, which can be largely attributed to its
vast geographical presence across the country. It has a presence in all the major
industrial areas catering to over 400 consumers of natural gas. The high entry barriers
for the business of transmission, marketing and processing of natural gas shall further
help the company maintain its leadership in the long-term. The entry barriers are
primarily large-scale investment requirements and the high lead-time before the assets
generates a reasonable return on investments.

Increase in power generation capacities: As new power projects have been lined
up to meet India's energy requirements, natural gas demand is likely to rise, given that
it is a cheaper source as compared to naphtha. Further, it is expected that natural gas
shall be preferred over other sources largely due to the fact that gas-based power plants
need a shorter lead-time, can operate at a higher plant load factor and have lower
capital and operating costs as compared to coal-based power plants. Moreover, the
Petronet LNG relationship also brings synergies for the existing operations of GAIL.

Synergies within the business: GAIL's expansion in the LPG and petrochemicals
business has been facilitated largely by the fact that the company has an assured supply
of feedstock from its own supply of natural gas. Further, the company's vast pipeline
network has enabled it to enter into joint ventures for retail gas marketing in various
cities in India. With increasing acceptability of LPG as the primary medium of cooking
gas, GAIL is in a better position to exploit the situation, which shall be largely driven
by volumes

60
 Petrochemicals cycle uptrend likely to continue: Currently, the petrochemicals price
cycle is witnessing an uptrend and we believe this is likely to continue for another year
and a half. The fact that the per capita consumption of polymers (4 kg) in India is
among the lowest as compared to international average of 20 kg indicates the vast
scope for growth. Further, Indian companies spend, on an average, around 2% of sales
on R&D as compared to international average of 18%. Considering the fact that GAIL
has presence in this segment, we expect favorable prices to have a positive impact on
profitability in the medium term.

Dual integration: Currently, GAIL sources its natural gas requirements from ONGC
(84%), Oil India and consortia of joint ventures. However, the company has now
ventured into upstream activities of exploration and production with strategic partners
such as ONGC, Gazprom (Russia), OIL and Daewoo (Korea). This shall reduce the
company's dependence on external sources for the supply of natural gas to some extent.
At the same time, GAIL is setting up a national gas grid across the nation to enhance its
downstream presence. This, when set up, shall help the company reach out to the yet
untapped markets in the country. With natural gas demand likely to grow in the
foreseeable future and growing LPG demand, GAIL shall be in a better position to
capture a large chunk of the market.

Abolishment of Subsidies: Over the past few years, GOI has been reducing its share
in the LPG and SKO (superior kerosene oil) subsidy bill and it is likely that in the next
2 to 3 years, the GOI's share will reduce to nil. As of now, GAIL is one of the
companies, which is contributing to the subsidy bill. Going forward, we feel the oil
companies shall not bear the burden and pass it on to the end users. This shall not only
reduce GAIL's current outflow by way of subsidies, but shall also give the company a
reasonable return on the products as per market determined rates.

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 Year Subsidies

(Rs) LPG/cylinder Kerosene/litre

2004-05 67.75 2.45

2005-06 45.17 1.63

2006-07 22.85 0.81

Source: Oil companies

Reasons not to apply

Government regulation over prices: As per the Pricing order issued by the MOPNG,
GAIL gets a fixed transmission charge of Rs 1,150 per MSCM of gas. Further, it
receives an additional 1% on every 10% increase in the consumer price index, which is
paid through the Gas Pool Account, in which GAIL has to contribute Rs 2.5 bn
annually in quarterly installments with a lag of one quarter. If the government decides
to continue it's the subsidies price scenario, GAIL will continue to suffer. Government
regulations play a very important role in policies and to that extent, the risk profile of
the stock is higher.

Deregulation in natural gas pricing: Natural gas price is currently regulated with a
price band of Rs 2,150 per TSCM (thousand standard cubic meters) to Rs 2,850 per
TSCM. However, it is expected that the GOI shall soon deregulate the prices of natural
gas. In such a scenario, GAIL shall suffer to the extent that it uses natural gas as a
feedstock in the LPG and petrochemicals business, thereby squeezing margins in a
highly competitive environment. The company may not be in a position to pass on the
additional burden to the consumers.

Intense competition in the petrochemicals and LPG business: GAIL faces stiff
competition in the field of petrochemicals from established players like IPCL and

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 Reliance Industries and with the entry of IOC; the competition is likely to intensify
further. IPCL and Reliance together account for 70% of the polymer production
capacity in India and are the market leaders. IOC has already committed an investment
of around Rs 64 bn, which shall start operations by FY06. Besides, the GOI has
reduced import duties of polymers to 20%. Also, as part of its commitments to various
multi-lateral and bi-lateral trade agreements, India shall gradually eliminate tariff and
non-tariff barriers on petrochemicals products. In the long run, GAIL shall face stiff
competition from international players such as Exxon Mobil, Dow Chemicals and
Royal Dutch/Shell, apart from domestic players.

LPG and kerosene subsidies: GAIL and ONGC have been roped in to share the
subsidy on LPG and Kerosene and this shall have an adverse impact on the financials.
Further, the share of the Government's contribution in the subsidy is decreasing,
thereby adding on to the already heavy burden on these companies. Also, GAIL, being
a GOI controlled company, is not in a position to increase LPG prices due to political
considerations (elections round the corner).

High capital expenditure plans: GAIL has plans for large-scale capital expenditure
in the upstream activities of exploration and production activities. As per the estimates,
it has lined up a capital expenditure of Rs 1.0 bn in FY04 and Rs 2.3 bn in FY05 for
drilling in deepwater exploration blocks. Further, the company has planned to expand
its petrochemicals capacity by making an investment of Rs 7.2 bn in two stages.
Further, GAIL has lined up capital expenditure in increasing its pipeline network as a
part of the national gas grid. If revenue growth were to slowdown, higher capital
expenditure plans is likely to have an impact on the overall profitability

Telecommunications venture: In order to de-risk its revenue model, GAIL has

ventured into unrelated businesses such as telecommunications. It currently has 12
customers with VSNL, the largest customer, accounting for 69% of revenues. It further
plans to invest Rs 3 bn in phases to add 10,,000 kms to the network as part of its
National Gas Grid project, so as to connect the southern and eastern regions of India
and create an IP based network. While there are growth opportunities, this is a
diversification from its expertise and therefore, raises apprehensions.

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 High contingent liabilities: GAIL has a high component of contingent liabilities and
is also a defendant in many legal proceedings. The company is facing claims to the
tune of Rs 75.8 bn from excise, sales tax, customs and income tax authorities among
others. In case these claims do materialize, the company shall witness a major dent in
its financials.

Sector Gas Transmission & Marketing

Sector P/E 10.3

No. of shares on offer 84,565160

Floor Price (Rs.) 185

Post-issue equity (Rs crore) 845.65

Post-issue Promoters stake (%) 57.35

Offer Open 27.02.04

Close 5.03.04

Listing BSE,NSE

Rating 55/100

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GAIL INDIA FINANCIALS 31.03.06 31.03.07 31.03.08 31.12.08
Net sales 10059 10573 11768 9026
OPM(%) 22.1 22.9 25.7 25.4
Op. Profit 2220 2422 3020 2291
Other Income 142 210 319 168
PBIDT 2362 2632 3339 2459
Interest 197 227 186 105
PBDT 2165 2405 3153 2354
Depreciation 587 613 643 492
PBT 1579 1793 2510 1862
PBT after EO 1552 1802 2518 1860
Tax 426 467 850 619
Deferred Tax 0 149 29 2
PAT 1126 1186 1639 1239
EPS(Rs)* 13.5 13.9 19.3 19.6
Annualised on current equity of Rs 845.7 crore. Face Value Rs 10. EPS is calculated after excluding EO
and relevant tax. EO: Prior period ItemsFigures in Rs crore. Source : Capitaline 2000

Since GAIL has a unique business model, comparative valuations are not possible. At the
floor price of Rs 185, the stock is trading at a P/E multiple of 9.5x its estimated FY04
earnings and a price to book value of 2.1x FY04. Overall, we believe that entry barriers are
very high and long-term growth potential continues to remain promising. Therefore,
positives seem to outweigh risks from the long-term perspective. Going by the spate of
IPOs that have been lined up,. Improved fundamentals: Backed by business friendly
policies and cost reduction efforts, India Inc has cleaned up its act over the last few years
and has emerged leaner and meaner than ever before. On the demand side, while the fast
rising middle class and low interest rate regimes have ensured that the industries produce
more, advancements in technology, especially IT and cheaper access to financial markets
has resulted into higher shareholder wealth creation. However, relatively lower
consumption levels compared to other developing nations and continuous striving for
further cost reduction renders this as an opportune time for the investors to participate in
the growth story. Therefore, if one takes into account some of the changes that have been
listed above, it generates a feeling that things have definitely improved for the better. But
this in no way alters the risk profile of equities. Equities have always remained riskier than
other investment avenues and therefore valuations and the business model of the company
should be the primary emphasis.

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RECOMMENDATIONS

The guidelines for Investor in selecting an IPO

The Lead Managers act as a catalyst as they attempt to bring in some credibility to the
offer and their accountability is also very high. The lead managers credibility could
act only as an indicator to the proposed issue, but does not assure success. There
have been poor issues from good merchant bankers in the past. For the purpose of
security, one can look for category one lead managers for judging the quality of the
issue that includes DSP Merrill Lynch, HSBC Securities and Kotak Mahindra among
others.

Issues where post-issue promoters holding is more than 80% may indicate a lack of
liquidity in the stock since there are fewer shareholders trading fewer shares. Be
careful of companies that have issued shares on a preferential basis to promoters in
high proportion, so as to increase their stake in the company. Also find out if this is
an offer for sale or a genuine Initial Public Offering. In case of offer for sale, the
issuing company may not benefit totally. Look for companies in which venture
capital firms or financial institutions have participation or substantial interest. Also
look for the shareholding pattern. This would indicate the risk profile of the company
and the expectation of the institution from the company. In case of institution, look
for nationalized banks and all India level financial institution such as ICICI, IFCI
IDBI etc.

Be careful of companies whose cost of project and means of finance have not been
appraised by banks or financial institutions.

If the major portion of fund mobilized is being invested in land, buildings (the so-
called green field issues) are careful. If the company is utilizing a portion of issue
proceeds towards retiring high-cost debts, it would benefit the company in terms of
lower interest outflow and therefore higher profitability. Also check the proportion of
money that is being invested in new projects that it is venturing into. This would give
some judgement on the estimated profitability of the company.

The growth of the company in proportion to the growth of the market in which it
operates has to be seen. Also consider its market share or the projected market share

66
 vis--vis domestic competition. For example, figures of global software market or
Indian software market do not indicate the exact future growth potential of the
company since it is inclusive of all products and services. Export projection of the
sector need not necessarily reflect the export potential of the company. See what the
company is exporting and export income as a percentage of sales. Each sector has its
own internal and external factors that influence the operation of the company. For
example, software sector is vulnerable to high employee turnover.

Promoters previous experience in transforming organizations from the grass root

level in the same industry to a successful business. The experience they have in the
sector the company is operating in or any other sector. Promoter experience is very
crucial. Also check out the profitability of any subsidiary or affiliate company in
which promoters have a stakes or substantial interest. This would enable us to
ascertain the managements efficiency in terms of managing organizations.

Check for litigations against the promoters, nature of litigation and the promoters
extent of liability, if any.

What is the sales growth projected by the company vis--vis others in the sector and
the industry growth rate? If the market is growing at 20%, it does not mean that the
company would grow by 20%. Lets take a hypothetical example. X Company
manufactures paints. Assume that the market is growing at 12% per annum. If sales
of the company grew by, lets say 6%, it means that the company is growing at the
rate of 0.5 x the industry growth. This would help you in ascertaining growth
potential of the company.

Are the margins projected comparable with other companies in the same
sector?

Are there any unusual costs or unusual rise in other income (recurring/non-
recurring)? Some companies show an unusual rise in their sales and net
profits by 5-10 times. Justify this by comparing the sales growth figure.

Check the competitive scenario of the industry. If the company is claiming

that it is competing with e-enabled service providers, check out what type of
e-enabling services they provide. Addressing competition at a macro level
may reflect the exact picture.

67
 The price to earnings ratio (this is price that the issue is offered upon
earnings per share) which would throw light on the pricing of the issue.

operating margins (this is the income from operation less expenses from
operation),

Market capitalization (it is the number of share multiplied by the price at

which it is offered) with the current companies in the sector that are listed in
the market.

Companies with foreign exchange earnings are entitled to certain exemptions. If

the companys factory is in backward regions, they are entitled for subsidies as well as
some tax exemptions. Lower incidence of tax benefits companies as their cash flows
are increased to that extent.

68
BIBLIOGRAPY

BOOKS

S.K. Aggarwal, Stock Markets and Financial Journalism, Shipra Publication, First Edition,
1998.

Tom Taulli, Investing in IPOs- New Paths to Profit with Initial Public Offerings,
Bloomberg Press, 2000

Tadashi Endo, The Indian Securities Market- A Guide for Foreign and Domestic Investors,
Vision Books, 1998

MAGAZINES

Name of the Month& Publishing Name of the Name of Pg. no.

Magazine Year Agency article the author

Fortune Dec 03 Time Warner Can Google Grow Jenny 48-56

publication Up Mero

Fortune Nov03 Time Warner Why This IPO Adam 30-38

publication Wont Reignite the Lashinsky
market

Capital Market Apr03 Capital Debt Casts its ------ 4-17

Market Shadow
Publishers

Capital Market Dec03 Capital 2003 Looking ------ 4-16

Market Ahead
Publishers

Capital Market Feb03 Capital New Issue ------- 20-26

Market Monitor-Divis Lab
Publishers

Capital Market Jan04 Capital IPOs in 2004 ------- 11-16

Market
Publishers

Capital Market Feb04 Capital The Big Wave ------ 13-17

Market

69
 Publishers

Capital Market Mar04 Capital Reaching the -------- 11-17

Market Shores
Publishers

WEBSITES

www.indiainoline.com

www.investopedia.com

www.myiris.com

www.valueresearchonline.com

www.capitalmarket.com

www.businessweek.com

www.fortune.com

www.google.com

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