Switch to IPO auction

The Securities and Exchange Board of India (Sebi) order on the "IPO scam" has been repeatedly amended by Sebi itself, and has received adverse rulings in many courts. In particular, the Securities Appellate Tribunal (SAT) ruled that Sebi did not have the powers to give instructions to the promoters of the National Securities Depository Ltd (NSDL) on revamping its management team. On the one hand, this is a welcome development, for it reaffirms the institution building that has taken place at the NSDL. The NSDL is shaping up as a centralised database capacity with useful applications in other areas such as tax administration and the creation of a database for market participants and investors (MAPIN). Sebi was clearly overreaching itself when the existence of multiple applications at IPOs was used to claim that the promoters of the NSDL should revamp the NSDL management team.

However, much more important lessons need to be drawn from the collapse of this deeply flawed order. India is increasingly becoming a stock market dominated financial system, and the top functionaries at Sebi and MoF need to apply themselves to strengthening the enforcement process. The first issue is the infamous "ex parte order". Sebi has the powers to give instructions to market participants when there is a rare emergency. This authority is being misused. An informal thumb rule needs to be agreed upon, where each Sebi chairman has only one use of this bramhastra in his three-year tenure.

The second issue is that of professionalism and clarity of processes. A fixed process needs to be agreed upon, where the first step is to ensure that a well-drafted show-cause notice is sent""in private""to the accused. Sebi should look at the UK and the US for role models for how these legal documents are drafted, with near mathematical precision and a complete absence of florid language. The release of this show-cause notice to the public constitutes libel, for it is a mere accusation. Next, a quasi-judicial hearing needs to take place in private within Sebi, where the investigators argue as the "prosecution", and a dedicated "bench" of two board members listen to the defence, and award a penalty. There should be a full separation between this "bench" within Sebi and the board member(s) who handle investigations. Such internal checks and balances will reduce the outright mistakes that have been coming out in Sebi orders owing to prosecutorial zeal.

The third point is that it makes much sense to take on one entity at a time, instead of writing one jumbo order about 24 entities. If (say) Sebi had first done Karvy through the above process, then the flaws of Sebi's positions would have rapidly surfaced, which would have informed Sebi's actions against the other 23. By doing a low-quality jumbo order against 24 entities, Sebi has lost the battle, for this order is being torn to bits by courts all across the country. It is better to work in milestones of five pages of top-quality order at a time, and actually win battles.

The last point is about recognising that regulatory capacity is scarce. There is only so much that Sebi can do. Retail quota in IPOs is a policy mistake, which is now generating a huge waste of time on the part of Sebi and myriad finance companies owing to the "IPO scam". It is far better to fix the underlying policy mistake, by switching the IPO market to a pure auction, so that questions of multiple applications just do not arise.