Sebi to Crack Down on Inflated IPO Subscriptions, says Puri

SEBI Plans Action on Inflated IPO Subscriptions – Impact Analysis
Source:Original reporting by ET Bureau on January 20th, 2024, published in Economic Times.

Table of Contents

Analysis for a Layman

Madhabi Buch, the chief of SEBI (Securities and Exchange Board of India), has announced measures to control the oversubscription of IPOs driven by illegal practices rather than genuine demand. The focus is on addressing issues like multiple applications through mule accounts, which are trading accounts controlled by third parties allowing manipulative trades.

These mule accounts are being misused to bid for IPOs with no real intention of share allotment. Nearly 70% of investors tend to sell shares immediately on IPO listing to book quick gains, contributing to the perception of a market bubble. SEBI aims to stabilize the market by distinguishing such speculators as traders rather than investors. The policy changes are expected to improve transparency and reveal the actual demand for IPOs.

Impact on Retail Investors

The regulatory crackdown on artificial IPO euphoria is likely to force retail investors to temper short-term expectations for quick listing gains. The illegal practices created FOMO (Fear of Missing Out), pushing small investors to apply solely out of fear. The return of rationality will benefit investors seeking sustainable growth.

This development also means tighter scrutiny on company financials and valuations by merchant bankers, minimizing the risks of poor-quality issues receiving easy money riding market momentum. However, reduced liquidity may limit access to hot IPOs.

Diligent retail investors stand to gain from rising quality control, ensuring that only sustainable businesses tap into the markets. On the flip side, speculative traders may see a dented opportunity to capitalize on mispricing between the issue price and listing peaks. The transition encourages long-term wealth creation over speculative gambling.

Impact on Industries

Companies backed by private equity or venture capital may slow down planned IPOs, witnessing a change in market sentiment. However, quality names with proven economics can test investor appetite through innovative instruments like SPAC listings.

Bankers must increase diligence efforts on projections and valuations submitted by issuers, anticipating greater scrutiny. The IPO pipeline may witness temporary moderation, but technology providers can enable tighter monitoring mechanisms for subscription applications and UPI payments.

However, a contraction in retail capital supply increases interest in alternatives like private equity and credit lines for startups if listing delays. The AIF (Alternative Investment Fund) industry may see increased demand as investors seek accredited options.

Thus, businesses pursuing transparency and long-term value creation are better positioned despite near-term flux. The shift in equilibrium improves the competitiveness of fundamentally driven companies compared to publicity-chasing opportunists.

Long Term Benefits and Negatives

Instilling balance in IPO processes prevents systemic overheating and reckless investor risk-taking, as seen in past bubbles. Guarding the integrity of markets enhances economic stability despite some growth tradeoffs.

Sustainable issuers can adopt global best practices on disclosures, communication, and governance to retain investor trust. Markets gain maturity, limiting excesses. However, higher compliance burdens can discourage small businesses from public listings in the near term.

Regulator credibility also hinges on bringing credible deterrence against past violations. A seeming heavy-handed approach without concluding pending cases raises policy uncertainty for legitimate entrepreneurs considering public market debut.

Short Term Benefits and Negatives

Immediately, the regulatory crackdown expects a sharp reduction in speculative trading frenzy, allowing sound equities appreciation to return. This provides entry opportunities for long-term investors in quality names at reasonable valuations.

However, the funding winter can halt discretionary capex across growth sectors like technology and consumer internet, putting pressure on private valuations. Venture capital markets may accept resetting deal expectations to bridge the gap with public counterparts.

For companies, the current environment helps save high IPO expenses, avoiding futile price discovery attempts. Operational focus continues unbroken while monitoring regulatory cues before reinitiating listing plans.

But businesses witnessing sharp sales traction may find delay suboptimal if consumer sentiment swings prove unpredictable, postponing capital raising. Market-readiness again undergoes a test after precision preparation.

Thus, stability returns but through an expected phase of uncertainty transitioning norms. Patience is key for ecosystem participants as policies evolve to balance flexibility and discipline suiting India’s expanding economy.

Potential Impact of Sebi’s IPO Crackdown and AIF Pledging Proposal:

Indian Companies:

Gainers (5-10):

Retail-Focused Brokerages: Increased focus on long-term retail investors due to Sebi’s comments could benefit brokerages catering specifically to this segment, like Angel Broking, IIFL Finance, and Motilal Oswal Financial Services.
Reputable Merchant Bankers: Stricter scrutiny of IPO subscriptions could favor merchant bankers with a strong track record and compliance adherence, potentially benefiting firms like ICICI Securities, Kotak Mahindra Capital, and Axis Capital.
Companies with Genuine IPO Demand: Companies with strong fundamentals and real investor interest might see more stable post-listing performance due to reduced artificial inflation of subscriptions.
Financial Technology Companies: Increased focus on investor education and digital onboarding due to Sebi’s concerns could create opportunities for fintech companies providing related solutions.
Infrastructure Investment Funds: The potential allowance for AIFs to pledge shares of investee companies could benefit infrastructure project developers and funds focused on this sector.

Losers (5-10):

Merchant Bankers Involved in Malpractices: Companies identified as using artificial subscription methods could face fines, reputational damage, and restrictions on future IPO activities.
Companies Relying on Inflated IPO Valuations: Companies artificially boosting valuations through mule accounts might face corrections in post-listing trading, impacting investor confidence.
High-Frequency Trading and Day Trading Firms: Reduced volatility and less artificial price movements due to Sebi’s actions could negatively impact HFT and day trading firms focused on short-term IPO flips.
Small and Mid-Cap IPOs: Increased scrutiny and stricter requirements could make IPOs more challenging for smaller companies, potentially hampering fundraising access.
AIFs Engaged in Misuse: If Sebi implements checks and balances to prevent misuse of AIF pledging, some funds currently engaging in rule-bending might face restrictions and reputational consequences.

Global Companies: