Of bonus issues after maiden floats: DNA 19th February 2008

Reliance Power’s latest move sets a precedent that would be hard to reverse
The Reliance Power episode is quite singular in capturing different facets of the capital market.
Think of it. Here is a company that only has a project report to set up 12 power plants for 28,000 MW after three years. Profits would then be possible after a further five years. Yet, the IPO draws an amazing response, with applications amounting to a fifth of the country’s gross domestic product.
What could possibly explain the rush?
Two things, by and large: First, a ‘great name’ as promoter - a name that has always delivered in the past - and second, human greed or avarice. People were willing to buy the share at Rs 450 on hopes that they would make double the amount on listing.
Naturally, they were disappointed when the price crashed (from Rs 430-450 as issue price to a low of Rs 332).
Now, to placate such investors, there is this call for a bonus issue by the promoters. Is the move justified?
The equity market is like a casino where people enter knowing fully well that they can win or lose. Of course, everyone hopes to win, or rather that they will win at some point.
When the stock prices rise without any fundamental change in the economic environment or the company they have invested in, they do not ask why? The companies, on their part, do everything to keep the sentiment up with bonus and rights issues, dividends, and at times also make not-so-good accounts look acceptable.
Therefore, logically speaking, when prices fall, for whatever reason, there is no reason to grumble. If investors stretched too far for the Reliance Power issue, then it is their bad luck, just as what happens to other scrips during various time phases. There can theoretically be no reason for placating the investors with a bonus issue.
Then why is this sop being extended?
Well, a promoter carries a risk when there is an IPO for a project that is yet to take off but has been launched with much fanfare. A fall in price could dent the perceived confidence of the promoter, though it may be due to several reasons as in this case, where global sentiment was depressed and other stocks also too took a beating.
But, even this does not justify the bonus issue since it has been barely a month since the issue opened and this is too short a period to judge the stock, especially since the project was to come up in three years and everyone knows how it is with infrastructure. Quite surely, the long-term investors will remain with the project.
There has thus to be another reason. Reputation risk becomes pertinent here since a promoter who cannot deliver immediately on expected returns could run a problem with future issues, and in this case, it could be the share issues of Reliance Communications and Reliance Infratel.
If the same group has to come out with new issues for existing or new projects, which probably are to reach out to the investors on the strength of the promoter’s name, then the risk of rejection or lower valuation is particularly high.
While such a move would naturally be in accordance with Sebi guidelines — there would be no issue of corporate governance here as it would be run through the regulator — the question to ask is whether the move is desirable.
This is because the bonus issue will set certain precedents which will affect the market for times to come. Every time there is a fall in the price post-listing, there will be a clamour for such an issue from investors, and the promoters will have to think hard. There is hence the fear of segmentation of the issuers, into those who care and those who don’t care for the investors.
And what about existing companies with shares that are listed but not doing well? Would they also be tempted to go in for bonus issues to placate investors? This is the trap companies may be headed towards when such precedents are set by the large and most reputed promoters.
Whether or not we like it or like to accept it, the share price and its movement over time affect the reputation of the promoter/ company in its normal operations. Better price-earnings ratios command a lot of respect when a company goes in for a global depository receipts issue and improve its ability to borrow in domestic and international markets, market capitalisation, etc. Now, companies would be pressurised into resorting to such moves, which will send confusing signals to the market.
The decision, hence, to provide bonus shares to investors on the grounds of compensating them for the trust reposed in the IPO merely because of a fall in the value by say Rs2,000 crore, needs to be debated more closely as it would set precedents that would be hard to reverse in future for the market as well as the promoters.
To quote from Shakespeare: “We still have judgment here, that we but teach bloody instructions, which, being taught, return to plague the inventor.”