Safety nets


The stock market correction that took place in May this year not only robbed investors of their hard earned money but shook their confidence as well. It had a cascading impact on the Initial Public Offering (IPO) segment too. The “IPO Street� that was once buzzing with activity had all of a sudden become quiet. This was because several IPO that were listed at a premium were trading below their allotment prices.

Though, the markets today have been able to bounce back, investors are wary of entering the markets especially the “IPO Street�. To win back the retail investors, IPO are now being packaged with ‘safety nets’

What is a ‘Safety Net’?

‘Safety nets’ can be either defined as an exit option that is being provided to the public issue subscribers, whereby, they do not face the risk of erosion of the capital invested or an opportunity to buy shares of the company at the allotment price after more than a year of its listing on the bourses.

Types of safety nets on offer

1. Buyback of Shares:

Under this option, the concerned company is offering to buyback its shares from investors (resident individual allotted) who have subscribed to its public issues, at the allotment price. In effect, these companies are offering the investors a ‘put option’ This put option gives the investor the right but not the obligation to sell the shares back to the company at a fixed price, before a particular date (6 months from the date of allotment of the shares).

This option protects investors, for some period of time, from the risk of losing their principal investment as they can activate the put option if the share price of the company dips below the allotment price and they do not foresee the share price to rise in the future.

2. Issue of detachable warrants:

Another option that is being tagged with public offering is the issue of warrants, which may be converted into equity shares of the company, at a later date. The warrants are issued at a discount to the offer price, allowing the investor to pay the balance at a later specified date (within 18 months, as per SEBI guidelines). The advantage is that investors can wait and watch the performance of the company before they put the entire amount of money into the issue. In case the company does not perform as the investor had perceived, he can choose not to opt for the conversion of the warrants. The sum at stake would be the initial amount paid up at the time of the offer.

Though a safety net provides an adequate cushion for investors, one must read the fine print carefully. Firstly, these offers have a validity attached. Secondly, in the case of the buyback option, only a fixed number of shares (a maximum of 1,000 as per SEBI Guidelines) can be sold back to the company, at the specified price.

Quite recently, there were two issues offered to the public with safety nets:

Usher Agro Limited, an agro-processing company, offered retail investors a safety net scheme through its lead manager IDBI Capital Market Services Ltd. As per the scheme, IDBI Capital Market Services offered to buyback up to 800 equity shares from each of the original resident individual allotees at the issue price of Rs. 15 per share. The scheme remains open for a period of six months from the date of allotment of the equity shares.

Orbit Corporation, a real estate construction and development company, has floated a public issue of 91 lakh equity shares. Each share is offered with a detachable warrant that can be converted into an equity share of the company at a later date.

Sometimes, a safety net could send wrong signals to the investors, who may interpret this gesture as a lack of confidence on the part of the company about the future price movement of its shares.

To put to rest investors’ apprehensions leading merchant bankers say that this option is offered only after they have gone through the fundamentals of the company. They suggest that rather than a ‘lack of confidence’ a safety net should be perceived as an exercise on the part of the company to instill confidence in investors about its potential growth. Finally, it does provide investors with an early exit route, which assures liquidity, safety of the amount invested and limits losses.