Common stocks, also known
as equity share (or equities) carry the ownership of the public entities. The
holders of these securities share in the rising prosperity of the company. The
holder of common stock entitles the voting right on any agenda that are
presented on the annual general meeting of the company. On the other side of
the coin the holder of common stock bears the ultimate risk associate with the
entity. They are the residual claimants of the income. The common stocks are
usually listed in the stock exchange and widely traded in the secondary market.
A corporation whose stock is not publicly traded is said to be closely held.
Their share might be traded via Over-the-Counter (OTC) market.
The Initial Public
Offering (IPO) is the first step to distribute the equity share to the public.
In Nepalese perspective IPO is offered in the face value. At this stage public
bid their money for the equity share offered. In the case of
under-subscription, the company who underwrite the share with the authority
buys the unsubscribed share. However, in the event of over-subscription, the
total number of share is allocated on pro-rata basis. If pro-rata basis is not
possible because of the minimum number of share to be allocated, then the share
will be distributed on lottery method, so that maximum number of investor can
be benefited. The Nepalese law have clearly prescribed that 40% of total public
issue should be kept aside for small retail investor. An investor holding an
equity share is a partial owner of the organization.
After a public issue, if
the entity is in need to rise the fund again for the expansion of its business
(or because of legal constraints), there are various options available for the
enterprise. The first one is to provide dividend in the form of stock, in
general providing stock dividend or bonus share. While providing stock dividend
the investor doesn’t have to pay anything, however, their monetary return will
be reduced. It will increase the core capital of the enterprise. The stock
price of the enterprise in the secondary market is generally affected
positively in secondary market in the event of stock dividend. This will
eventually increase the market capitalization of the firm. After those stock
dividends available for trading in the secondary market, the individual share
price of the firm will be adjusted at lower price so that the market
capitalization remains same.
The second method to hike
the capital of the enterprise is to offer Further Public Offering (FPO). The
process of issuing FPO is almost similar to the Initial Public Offering. The
only major difference is that, in FPO public can see the performance of the
equity share of the firm in the secondary market. They can analyse from the
historic data and calculate the ratios & values and make comparison to
other firm. Like in IPO, FPO also can have under-subscription or
over-subscription situations, which are managed like in IPO. On the basis of
past few year financial performance the regulatory body have provided room to
offer FPO in premium price in Nepal. The
latest example of Further Public Offering in Nepal are Shikar Insurance with
Rs. 550 added premium, Reliance Lotus Finance at face value and Nepal
Investment Bank with Rs. 501 added premium. The FPO increases the public
holding percentage in the enterprise and the promoter (or the existing
management) might lose control on the firm.
The third and the very
common method of increasing capital of an enterprise is Right Issue. Like other
option to hike the core capital right issue also needs an approval from the
annual general meeting or special general meeting of the firm. The right issue
doesn’t change the ownership structure of the enterprises. Only the existing
shareholder can apply for the right issue and only up to the amount of issue
that has been offered. For example, an investor holding 500 units of share of
ABC company and the right issue is of 50% (or 2:1) then that particular
investor can apply for up to 250 units. The investor also holds the right to
provide his/her right to another existing shareholder. However, the total right
that investor can exercise should be within the pre-defined level. The investors
also hold the right to not to exercise his right.
Why
equity share is available for auction?
There are various reasons
for an equity share to be available to the auction, such as;
-
In the event of right issue, if the
investor is aware about the right issue but doesn’t want to exercise his right
fully or partially then the number of equity share remains un-applied. In this
condition, Securities Issue Guidelines 2065, Paragraph 7, Sub-Paragraph 8, has
clearly mention that those un-applied shares should be sold via a fair method
like auction.
-
If the investor is un-aware about the
right issue or is financially default, then shares remain un-applied and again
according to the same claws mention above brings the equity share to the
auction.
-
In
most condition, right issue brings a problem for the investor that occurs in
decimal figure. For example, if an investor is holding 10 units of share and
the right issue is of 25% then in such situation if the investor applies only
for 2 units and 0.5 unit of share being unapplied. If there are thousands of
such applicant, this will lead to significant number of share being un-applied
and eventually bringing them to the auction.
-
The other situation is pretty unusual
however there is a fair chance that this situation can occur in long run of an
enterprise. The legal restrictions made from the regulatory body or act seek to
maintain promotor and public shareholding ratio in the enterprises. In Nepalese
context, Nepal Rastra Bank, NRB (Central Bank of Nepal) directs Bank and
Financial Institution (BFI) to maintain at least 30% public holding and no more
than 70% of promotor’s holding. In a long run because of those fractional share
the holding percent of public might be less than the actual required. In such circumstances,
the enterprise ask permission from regulatory body (like SEBON, NRB or
Insurance Board in Nepal) to sell few thousand number of share to the public
via auction to maintain that minimum legal requirement.
-
The another situation is offloading the
institution’s current holding. In context of Nepal an enterprise is not allowed
to hold the share similar industry, however, this was not a problem on the
past. So, there are many enterprises in the market they hold the share of other
enterprise of similar industry. For example, holding the share of Nabil Bank by
NIDC. At present, the existing law doesn’t allow to hold such cross holding
share. So, those enterprises have to offload these share. And these share
generally sold to public via share auction. For example: To comply with the
central bank’s directive that all BFIs give up cross holdings in other BFIs,
Rastriya Banijya Bank Limited had called a tender to divest 56.52 lakh units of
promoter shares of Nepal Investment Bank Limited and 1.96 lakh units of
promoter shares of Nepal Awas Finance Limited. In some instance
enterprises also offload their share just to rise fund from their shareholding
without the concern of cross holding as well.
What
is equity share auction?
Equity share auction is a
method of selling equity share to the public through a fair auction process.
For this, the enterprises who need to sell the share first need to get an inform
the concern regulatory bodies, along with the decision of their board meeting. After
this they can make a public announcement (in some unusual event they may need
permission from the regulatory bodies). The public announcement can be done by
publishing a notice on national level daily newspaper. In context of Nepal,
such notice should be published in minimum 2 national level daily newspaper and
at least 15 days ahead of such opening of sale. A brief information containing
the available number of share, minimum price per share and other related things
should be made available to the regulatory body and should also be published in
company’s website. (SEBON, press release, 21st Baishakh, 2073).
Furthermore, Securities Board of Nepal also urges to publish such information
in at least 2 major online news site, 2 major FM Radio and on 2 major national
level financial newspaper, so that public get adequate information.
After such information
announced to the public there will be certain days available for the investor
to put their bid in a sealed envelope. Before that the investor must deposit
the full or partial portion of their bid on the specific bank account and
attach it with the auction form. Auction form can be purchased on a very little
price (sometime free of cost as well) from the company or sales representative.
Some company also made these form available to download from internet. All the
collected bid applications from investor will then open in front of those
investor or their representative at once on the specified time and venue.
However, if some investor or their representative is absent on bid opening day,
this will not restrict on making the announcement result. A few adequate number
of investor or their representative is supposed to be enough to remain as the
eye witness of the process. There is no legal requirement, that a
representative from the regulatory body should be present at the announcement
result.
After all the submitted
bid is checked then the investor willing to pay highest per unit price will get
the share. If that investor bid for the fewer unit then the investor with
second highest per unit price will get the share. This process will continue until
the last unit of share is sold. In the event that there are two or more
investor willing to pay exactly same price and the remaining unit of share is
less than what they have asked, then usually those shares are sold on a
pro-rata basis. The minimum value that the share has been sold is called
‘cut-off-price’. The investor buying
share at cut-off-price make the highest initial profit. Here, the term profit
has been used because the cut-off-price is assumed that will remain below the
market price of the stock exchange. In the event of equity share being very
scarce to trade on secondary market, there might be significant chances that
the cut-off-price will be higher than the Last Transaction Price (LTP).
Merits
and Demerits of Purchasing Share via Auction.
There are few pro and
cons while purchasing securities via auction, they can be summarised in
following points.
1.
The decision of auction is made in short
span of time while comparing to IPO or FPO. Generally, it takes two weeks'
period for an investor to get decision on their investment, while, it take
about two months' period to get decision on their investment in IPO and FPO.
The benefit is that the investors' money will freeze for very little time and
the opportunity cost will be nominal.
2.
The Cut-Off price in the equity share
auction is generally less than the secondary market price (see table below),
which indicates that investor can buy equity share at discounted price. Some
time it is as low as 54% (Ref: Premiere Insurance auction data). This indicates
that the investor has to wait less time to get desire profit amount.
3.
The investor can analyse the performance
of the stock in advance. This means the stock is already being listed in
secondary market and the behaviour of the stock can be analysed more carefully
based on the previous data. The investor does not have such option while
purchasing stock through IPO or FPO.
4.
The share being sold through auction get
listed in secondary market in very little time with compare to IPO or FPO. So
the securities can be traded in very short span of time. (Except few exception)
5.
The investor doesn’t have to pay brokerage
commission and regulatory fee while purchasing via auction method.
Similarly, there are few
demerits as well. They are;
1.
The investor has to wait for the bid to
open and to get result of the auction. This process roughly takes two weeks'
time to get the decision. The investor has to sacrifice longer time to get
share comparing to share purchasing via secondary market.
2.
Cut-Off price works as a mystery price
level, it differs in each and every share suction (see table below). It is
almost impossible to predict the cut-off price in share auction. So, while
targeting to bid near cut-off price investor may bid at the lower value than
the cut-off price.
3.
The process of equity share auction is
less monitored by the concerned regulatory bodies. The process lacks some kind
of legal support as well.
The following table is
shows the data of recent share auction in Nepal. Auction for more than 50,000
unit and securities which has been regularly being traded at secondary market
has only been considered for the discussion.
S.N.
|
Company
|
Unit available for auction
|
LTP before auction
|
Cut off price
|
Cut off Percent of LTP
|
1
|
Sunrise Bank (1)
|
2,18,454
|
590
|
556
|
94.24
|
2
|
Century Bank
|
1,41,061
|
370
|
352
|
95.13
|
3
|
Neco Insurance
|
67,941
|
434
|
380
|
87.56
|
4
|
United Insurance
|
103,425
|
414
|
356
|
85.99
|
5
|
Progressive Finance
|
84,276
|
161
|
148
|
91.93
|
6
|
Premier Insurance
|
1,61,333
|
505
|
277
|
54.85
|
7
|
Garima Bikash Bank
|
93,784
|
242
|
200
|
82.64
|
8
|
Western Development Bank
|
80,269
|
211
|
151
|
71.56
|
9
|
Taragoun Regency Hotel
|
7,00,000
|
245
|
243
|
99.18
|
10
|
NIC Asia Bank
|
4,33,901
|
845
|
792
|
93.73
|
11
|
Prime Bank
|
53,415
|
470
|
430
|
91.49
|
12
|
Himalayan General Insurance
|
62,845
|
399
|
352
|
88.22
|
13
|
Butwal Power Company
|
188,930
|
924
|
825
|
89.28
|
14
|
Shangrila Dev. Bank
|
71,773
|
398
|
367
|
92.21
|
15
|
Innovative Dev. Bank
|
51,903
|
432
|
415
|
96.06
|
16
|
ICFC Finance
|
60,903
|
251
|
233
|
92.83
|
17
|
Sunrise Bank (2)
|
1,66,248
|
519
|
426
|
82.08
|
18
|
Laxmi Bank
|
1,86,462
|
478
|
478
|
100
|
19
|
Citizens Bank
|
6,28,041
|
729
|
681
|
93.42
|
20
|
Sanima Bank
|
1,68,532
|
641
|
690
|
107.64
|
Table 1: Recent equity
share auction data of Nepal.
Chart 1: Concentration of
Cut-Off percentage of LTP on equity share auction
This chart shows the
stock's cut off price percent with Last Transaction Price (LTP). The line is
highly concentrated with the range of 80% to 100%. The cut off percent of
Premier Insurance was record low among the data, at 54.85%. The cut off price
of Taragoun Regency Hotel was above 99% and Laxmi Bank was exactly 100%. The
data also shows that the Cut-Off price for Sanima Bank's 1,68,532 units' equity
share was above the LTP. It was recorded 107.64%, which is highest among the
data we have considered. And it is the only stock whose cut off price recorded
above the LTP. It is one of the abnormal decision that investor had made while
bidding. The last day to make the bid was on 2nd October 2016, the
transaction history of Sanima Bank on 2nd Oct at Nepal Stock
Exchange looks like as below;
#
|
Date
|
LTP
|
% Change
|
High
|
Low
|
Open
|
Qty.
|
Turnover
|
1
|
2016/10/02
|
641.00
|
-1.23
|
650.00
|
640.00
|
650.00
|
13,974
|
8,984,950.00
|
Table 2: Stock
transaction data of Sanima Bank on 2nd October, 2016.
This shows that, almost
14,000 units of equity share were traded at the range of 640 – 650 on 2nd
October but on the other hand the investors were interested to pay premium
price to the for the same stock. This is a very unusual event to see. The wise
decision is to buy stock from secondary market at the lower price rather than
bidding premium price on auction.
Chart 2: Showing the relation
between actual cut off price and LTP.
The above presented chart
shows the actual cut off price amount with respect to each individual share,
the chart shows that regardless with the price of the share the cut off price
generally lies slightly less than the last transaction price of the share excluding
some exceptions. It can be generalized that, regardless of the price of the
stock, the usual trend is that the range of the cut off price generally lays
just below to the Last Transaction Price (LTP). The first chart indicates the
concentration zone at the range of 80 to 90%. The simple mean of the Cut off
percent of LTP comes to be 89.5% If we exclude the abnormal case of Sanima
Bank, whose Cut Off price was set at 107.64% of LTP, then the simple mean of
the data will be 88.55%. This means any investor bidding at the price range of
88 to 90% of LTP can expect to get share on auction. Being more specific and
excluding the data of Premier Insurance whose cut off price was considerably
very low with reference to the above range, the simple mean of the data will be
90.42%. The above three figure indicates that the appropriate range to bid to
expect for allocation of share is 88 – 90%. If the stock is not trading
regularly in the secondary market, then LTP varies with the current
circumstances and that makes it difficult to predict the range. For example,
let's take the auction data of NB Insurance, whose LTP was Rs. 154 on 4th
October, has auctioned 41,837 units of ordinary equity share. The cut off price
was Rs. 1151 and the highest bid amount was Rs. 1860. The actual reason behind
this is that the script was halted for trading for long period in Nepal Stock
Exchange. When the trading resumed it was traded below the par value. It
gradually gets the pace to rise and was traded at Rs. 154 before the closing
day for the auction. However, the demand for the stock was very high and the
supply was almost zero, this imbalance leads to the rise in the stock price
which was reflected in the bidding amount by the investor.
Conclusion
Buying share through
auction is an option available for the investors. Most of the investors do not
want to lose the option available to them. Investment decision are based on the
risk and return principle of the finance, and this process is not an exception
to the principle. The process of buying share mostly rely on the assumptions of
arbitrage, which means, buying a particular item at lower price on a one market
and selling it on another where it has been highly priced. The difference is
the arbitrage profit. Auction bidder seeks for that arbitrage profit and the
interesting thing is that each and every investor makes the different profit on
the same stock depending on their bid amount. The investor who makes the
maximum profit bids at the cut off price and the investor who bids less than
the cut off price, will get no return but only bears the cost. The cut off
price differs in each and every auction, it's impossible to find the exact cut
off price. By analyzing the recent trend with similar nature of auction, the
safe range can be identified where investors can expect to be allocated share
for them. But there is no guarantee at all. However, the rational decision than
an investor can make is to bid around or slightly below than the identified
range and make a regular study and follow the other investors investing
behavior carefully.
Ajaya Dhungana
Officer, Securities Board of Nepal
MBA (Finance), University of Gloucestershire, UK
(Views are based on personal judgement.)
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