The greenshoe buoy for public issues

INVESTING

S Ramachandra lost heavily in IBP's divestment issue. Allotted 300 shares at Rs 620, Ramachandra decided to cut his losses as price of the scrip started to plummet.

He sold his shares at Rs 565, making a loss of about nine per cent. His elder son reacted much slower, and sold his 200 shares at a price of Rs 529, ending up with a loss of over 14 per cent against the allotment price.

He had little option but to sell the shares since he had availed of a bank loan in order to subscribe to the issue. Banks today lending against shares charge an interest of about 10-12 per cent.

Sonia Singh, another retail investor also lost out in the recent government's divestment programme when she invested in 500 shares of CMC at an offer price of Rs 485 per share.

The price of this scrip is today trading well below the issue price at Rs 474, though it had been listed higher and was ruling at about Rs 494 in mid-March. While Singh continues to hold on to her investment, she feels let down.

For the first time in the Indian stock market, an issuer has decided to protect investor interest. ICICI Bank will be the first entity to offer "comfort to investors since the Securities and Exchange Board of India (Sebi) regulations have allowed for the greenshoe option," said the bank's deputy managing director Kalpana Morparia.

ICICI Bank's Rs 3,050 crore public issue opening tomorrow in a price band of Rs 255-295, is seen to be aggressively priced "" when one considers the current share of Rs 295.9 hovering near the book-building price band.

However, the management has decided to be more proactive in the interest of investors by offering the greenshoe option of Rs 450 crore in ICICI Bank's public issue, which will be used to stabilise the share price if warranted.

"If the Sensex falls the price of the scrip will equally fall. The greenshoe option thus acts as a safety net for investors and is a standard global practice," said Morparia.

Given the size of the issue, price volatility in ICICI Bank scrip is expected. DSP Merrill Lynch Ltd will act as the stabilising agent to buy the bank's shares whenever the price falls below the issue level for a period of one month post-allotment or till the shares up to the value of Rs 450 crore under the greenshoe option are exhausted.

Greenshoe is a provision that enables the underwriting syndicate to purchase additional shares at the original price, which will be used by them in the event of the market price falling below the allotment price.

The name comes from the fact that Green Shoe Company was the first entity to grant such an option to underwriters.

So how does the mechanism operate in the interest of investors? The Life Insurance Corporation of India, currently holding 7.98 per cent stake in the private sector bank, will lend shares worth Rs 450 crore to DSP Merrill Lynch.

The funds will be kept in an escrow account to be used by the stabilising agent for buying shares in the secondary market. This secondary market intervention will continue for a period of one month after listing or whenever the amount of Rs 450 crore is exhausted, said DSP Merrill Lynch head of corporate finance Sanjay Sharma.

So where does that leave retail investors? The greenshoe "safety net" is likely to give "comfort" to retail investors and encourage their response as there is an assurance that the offer price will be maintained for a period of one month.

The recent spate of public issues, which were aggressively priced saw little retail participation. ONGC's Rs 10,200 crore divestment was highly under-subscribed by retail investors, primarily on account of the pricing.

Nevertheless as retail investors got the shares at a five per cent discount to the Rs 750 cut-off price at Rs 712.5, on allotment of the shares, the scrip was immense volatility.

Investors encashed on the price differential between the allotted price and the prevailing market price as they stood to make handsome gains of 16 per cent upwards. Today the market price rules around Rs 840 plus.

It is not just the spate of government divestment issues that has seen market prices falling below the respective allotment price. Even in the private sector Patni Computer scrip for instance is languishing well below the Rs 230 offer price at Rs 216 as of yesterday.

Stock market stats show that the price of certain stocks tend to lose value on the very first day of trading without any negative news. International figures indicate that many stocks have lost 50 to 60 per cent of their initial price in weeks of listing.

Why does this happen is essentially because of the lack of demand post listing as the shares starts trading. This can cause the stock to plummet below its offer price.

If shares are sold to every possible buyer during the offering, no one is left to buy the stock post issue. This is unlike in the Maruti initial public offer, which was oversubscribed 10 times. the oversubscription naturally created demand and with higher allotment given to retail investors, institutional investors started buying.

Globally investment banks win business not only on the strength of the banking team or track record, but also on their willingness to commit the firm's capital in the aftermath of the issue.

Their role then is to provide support by buying unwanted shares. Hence the key behind effective underwriting is to ensure heavy demand among those investors who failed to get allotment.