Sucheta Dalal :Govt's plan to rollout red carpet to FIIs needs to be pondered on
Sucheta Dalal

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Govt's plan to rollout red carpet to FIIs needs to be pondered on  

Jan 22, 2007

The Finance Minister is planning a “big bang approach to capital market reforms” including scrapping of FII (foreign institutional investor) registration and steps to make India the preferred option for India Inc to raise funds, this paper reported on Friday.

The move to smoothen the inflow of foreign portfolio funds into India ostensibly aims to encourage Indian companies to raise funds in the domestic market. But the large over-subscription numbers for domestic IPOs (initial public offerings) shows that decisions to list overseas have nothing to do with FII fund flows. Many issuers of FCCBs (foreign currency convertible bonds) merely use the instrument to bring back their own money stashed abroad and alternate markets like AIM of London have become popular because the listing process is quick, requires minimal disclosures and fetches better pricing.

This means that along with scrapping FII registration, the FM will also have to tell the Securities and Exchange Board of India (Sebi) to dispense with its “observations” (IPO clearance process) and allow companies to access the market without any checks. We can then return to the heady days of the early 1990s when an orgy of fund raising followed the scrapping of Control over Capital Issues and finally killed the primary market and caused widespread losses to investors.

I would have expected that the FM would at least examine the quality of FII investment in India before planning to scrap the registration process. There are indeed hundreds of good quality FIIs who look for serious investment opportunities, but there are also plenty of others who are profiting from dubious tactics such as front running, price manipulation and financing deals.

So far, the regulator has made no serious attempt to check the operations of shady FIIs or foreign brokerage firms. In July 2006, the Securities Appellate Tribunal (SAT) also charged Sebi with making a “grave error” in letting off two foreign brokerage firms “lightly” despite the “gravity of the charges proved against them”. The regulator had banned Credit Suisse First Boston and Dresdner Klienwort Benson for a mere 18 months for colluding with Ketan Parekh’s market manipulation.

Sebi has now got itself a sophisticated, online, real-time, integrated market surveillance system that claims to track market manipulation more effectively. Its first action has been the Nissan Copper case, whose price was ramped up from Rs 40 to Rs 137 on the day it was listed (December 29). The 40 entities under investigation include three FIIs — ITF Mauritius, VACUF Limited and Venus Capital. A Google search suggests that they are either interconnected or close associates in other deals as well.

Lets now look at Shree Ashtavinayak Cine Vision, a company that set a record of sorts by being oversubscribed 6.6 times despite a poor IPO grading of 2 out of 5. A couple of weeks ago, I wrote that subscription to this issue came from retail and high net worth institutions. It was assumed that institutional investors, with a fiduciary responsibility, would stay away from an IPO with a poor grade. Minar International, the first IPO with a similar low grade had failed when institutional investors (market sources say it was Canbank) refused to invest.

I now learn that even the institutional quota of Shree Ashtavinayak was in fact over-subscribed several times. I asked Sebi for the names of these ‘bold’ institutions that had “rejected” the CRISIL grading and subscribed to the issue. The list is an eye opener. First, it includes ITF Mauritius and VACUF Ltd, the two FIIs identified by Sebi for further investigation in the Nissan Copper case. A Google search shows that VACUF already has done a bulk deal in the shares.

Two other investors are public sector entities Sicom Ltd and Industrial Development Bank of India Ltd. Does the latter still exist? Isn’t it now IDBI Bank? Sebi’s records clearly show an entity registered under the original name, which is making ‘bold’ investments in low graded IPOs.

Canbank Mutual Fund, which refrained from investing in Minar, was a big investor in Shree Ashtavinayak through three schemes - Canbalance, Canbalance II and Canequity Diversified. Did all three fund managers think alike despite Chinese walls? Have they each justified the investment to Trustees of their Asset Management Companies? More importantly, are the Trustees alert and asking questions, especially in the background of Canbank’s notorious involvement in the Harshad Mehta scam in 1992? At that time the nexus between its fund managers and Harshad Mehta drilled a big hole in two popular schemes. Ultimately the parent Canara Bank paid out a few hundred crore rupees to bail out this scheme.

The mutual fund database classifies Canequity as a high risk, below average performer with a low rating. Canbalance is also classified as a high risk scheme. More importantly it is a debt oriented scheme that has chosen to invest in a low-rated IPO. Only Canbalance II, an equity oriented scheme, has a high grading.

Standard Chartered Enterprise Equity Fund is another investor in Shree Ashtavinayak. This fund, launched in the middle of last year, has a 14 per cent return against its benchmark (BSE 200) which rose 43 per cent. Sahara Mid Cap Fund, which also invested in the company, has a corpus of just over Rs 11 crore (something else for Sebi to ponder over) and an indifferent performance.

The list of other investors provided by Sebi are HSBC Financial Services (Middle East) Ltd, Elara India Opportunities Fund, Deutsche Securities Mauritius Ltd, Capital Growth Investments, Swiss Finance Corporation (Mauritius) Ltd, LB India Holdings Cayman II Ltd and India Max Investment Fund Ltd.

Clearly, there is plenty for Sebi to investigate in the information it has provided this paper itself. Does the FM still want to allow FIIs to enter India without registration and not worry about their influence on the quality of new listing? This seems strange, given that Indian investors have little freedom to find safer investment destinations.

-- Sucheta Dalal