Delisting: Reversing logic with book-building

WITHOUT CONTEMPT

Transnational foods major Nestle SA recently withdrew its shares from trading on the London and Paris stock exchanges, after having withdrawn from the Tokyo, Amsterdam, Brussels, Vienna and Frankfurt exchanges. Nestle wants to concentrate its trading only on the SWX Swiss Exchange.

Luckily for Nestle, India does not figure in the list of exchanges where it was listed (an Indian subsidiary is listed here, but foreign exchange laws have historically prevented foreign companies from listing in India).

Had Nestle been listed here, the tail would have truly wagged the dog. Delisting from Indian stock exchanges could well have presented Nestle with the most expensive invoice in the world"" thanks to the notorious reverse book-building process stipulated under the Sebi (Delisting of Securities) Guidelines, 2003.

Recently, in a breath of fresh air, Sebi demonstrated leadership by expressing its intent to review the unprecedented reverse book-building mechanism.

Truly, the guidelines had been written with misplaced patriotic zeal""of believing that we in India could teach the world how public shareholders have to be rewarded when a company decides to delist. However, like many matters patriotic, the guidelines have become the resort of the scoundrel.

Reverse book-building entails public shareholders bidding for the price they would like to be paid to sell their shares to promoters to enable a company to get delisted. These price bids may be changed by the public shareholders until the last day. Reverse book-building entails a floor price, that is a minimum price below which a bid cannot be made.

The price at which maximum number of shares are bid is to be offered to all public shareholders, but this is not adequate. Public shareholders have to actually sell their shares to the promoters, and as a result, public shareholding has to fall below the prescribed minimum.

The guidelines have several inherent conflicts and contradictions in a number of areas, including what constitutes the prescribed minimum public shareholding. However, these ambiguities pale in comparison with the extortionate nature of reverse book-building.

Ridiculous situations have arisen because of this law. Recently, public shareholders quoted a price of a few thousand rupees per share to permit delisting of a company whose share price in the market had never ever crossed a few hundred rupees. The promoter was willing to gladly sell his entire 80 per cent stake at half the price so discovered.

Whenever there is a remote whiff of an impending delisting proposal, the market price shoots up. Market operators know that delisting proposals present an unfair and untrammeled opportunity to extort money.

They start purchasing the stock and inflating the market price, which is not too difficult considering that the floating stock for delisting candidates naturally tends to be low. Cases of promoters being forced to jettison delisting transactions mid-course because of news leakages and the resultant unreasonable cost of delisting, abound.

Reverse book-building flies against the teeth of all other forms of price discovery in the capital market. In the primary market, it is the purchaser who makes purchase price bids to help discover a price, and seller may set a band.

For preferential allotments, the law prescribes a statutory minimum price, which is a function of historical price movements. The Takeover Code entails a minimum purchase price, which is a function of a genuine commercially negotiated price, historical price movements, and even fair market valuation (for infrequently traded stocks).

Reverse book-building alone entails computation of a mandatory sale price, over which the buyer is designed to have no control whatsoever.

Perhaps Sebi could start by enabling delisting by payment of a price computed in accordance with the preferential allotment guidelines. After all, what is a good market-driven price for out-of-turn entry into a stock, ought to be good for payment to public shareholders to delist the company.

It is all very well to write a law to provide for Indian depository receipts to enable foreign issuers to list their stock on Indian stock exchanges. But with such lop-sided and unfair laws like the guidelines, no respectable foreign issuer would venture near the Indian stock market.

It is only if one assumes that the objective of the guidelines was to make it unfairly expensive for companies to delist, that one could proudly state that the guidelines have worked well. After all, depending on where one stands, 14 completed cases of delisting in well over two years may be perceived to be as much a success, as is evidently a failure.

The preamble of the Sebi Act entails the promotion and development of the securities market, as much as it entails investor protection. Most certainly, the law does not entail promotion of extortion.

It takes leadership and vision to acknowledge that a homegrown attempt to teach the world how to regulate delisting poses a serious systemic infirmity. But such acknowledgement is only half the work done. The guidelines clearly are crying out for repair.

The author is a partner of JSA, Advocates & Solicitors. The views expressed are his own.

somasekhar@jsalaw.com