I am too lazy to write anything by myself, here's another one from business world only ...
Meet Purshottam Budhwani of Mumbai, proud owner of a whopping 286 savings bank accounts with various branches of HDFC Bank. Get to know the entrepreneurial Maheshbhai, who collected the voter IDs of illiterate slum-dwellers to open demat accounts in their names. Get introduced to the extraordinary 798 demat account holders, all having common addresses and all of whose bank accounts have Biren Kantilal Shah as their common first holder.
What is common to the demat accounts of Santosh Kumar, Santosh Lal, Vajpai Rajendra, Morye Rajendra, Meena Rathod, Mina Abhang, Vivek Barbe, Vivek Lad and Vijay Sudam? They all have the same signature. Bhagvesh Vania, Abhilash Rathi and Abhilash Desai look exactly the same. Their demat accounts have the same photographs.
All of them play their little parts in Sebi’s 252-page investigation report into the IPO scam. They illustrate the rot at the heart of the IPO retail allotment process. The institutions engaged in the IPO process — the depository participants (DPs), banks, registrars, auditors and depositories — had all thrown caution to the winds. Thousands of account holders have furnished identical addresses and have the same introducer. Bank and demat accounts were opened without checking identities, funding for IPO applications was easy and at ridiculous margins, inspection reports were shoddy and the penalties for errors — laughable.
The Modus Operandi
The scam was a simple one, the objective being to make as many applications as possible for the retail portion of IPOs so as to get the maximum number of allotments. Twenty four key persons identified by Sebi, called ‘master account holders’, opened thousands of benami demat and bank accounts with the sole objective of cornering the retail portion of IPOs. (35 per cent of an IPO is reserved for retail investors — small investors whose subscription for the issue is less than Rs 50,000. This has now been revised to Rs 1 lakh).
But it has now emerged that the master account holders — people like the now infamous Roopalben Panchal — were not the kingpins of the scam. Rather, they were acting as agents for a web of financiers, 85 of whom have been identified by Sebi. The financiers lent the money for making IPO applications to the master account holders. The applications were made through the thousands of benami demat accounts, also known as the beneficiary owners (BO). When allotments were made, the BOs transferred the shares allotted in off-market deals before the stock exchange listing to the master account holders. These key persons, in turn, transferred the shares to the financiers, who made their money by selling most of these shares on the first day of listing, often within the first few hours, realising windfall gain. Thus they made windfall gains due to the difference between IPO price and the listing price.
In short, the reservation for the retail investors was abused. The cornering of shares meant that many genuine applicants either did not receive allotments, or received fewer shares than they would otherwise have got had all the players played by the rules.
How The Scam Was Detected
After the YES Bank issue, SEBI noticed that a large number of shares were sold in off-market deals after allotment but before listing. On scrutiny, the trail led to a middle-aged Gujarati housewife called Roopalben Panchal, who allegedly opened thousands of false demat accounts, several of them having the same address. Many of these accounts had been opened as early as 2003. The scope of the enquiry was accordingly widened to include 105 IPOs between 2003 and 2005. Of these, the allotment process in 21 IPOs was misused.
The Money Involved
In spite of hogging the headlines, the amount involved in the IPO scam is not big compared to other scams that have shaken the markets. The total profit made by the key players, according to Sebi’s calculations — Rs 72.38 crore.
That’s roughly the amount estimated by the Income Tax Department as well. IT sleuths put the total money made by these operators at Rs 60.62 crore between 1 January 2004 and 14 October 2005. What’s more, the beneficiaries even paid tax of Rs 14.66 crore on their gains. No wonder the stock market brushed off the Sebi order so nonchalantly.
How much of the retail allotment did the fraudsters manage to corner? 2.37 per cent of the TV Today issue, 2.71 per cent of Patni Computers’ issue, 2.09 per cent of TCS issue, 1.3 per cent of the NTPC retail allotment, 0.5 per cent of Jet Airways and 3.74 per cent of Suzlon. These are not large proportions and the loss to each individual applicant would be very small.
Nevertheless, given the ease with which the system can be abused, it is a miracle that the scam hasn’t been bigger. Consider how each institution involved in the IPO process not only turned a blind eye to the irregularities, but in some cases, Sebi has alleged active collusion.
Depository Participants And The Banks
The investigation report implicates 12 depository participants (DPs) in the scam. Prominent names like Motilal Oswal Securities, HDFC Bank and IDBI Bank are among those that have been asked not to open any fresh demat accounts. SEBI has also asked NSDL (National Securities Depositories) to inspect 15 other DPs, which have more than 500 accounts sharing a common address.
The report points out that a total of 58,938 demat accounts had been used for cornering the retail portion of the IPO. Of these, 84 per cent or 49,708 were held with Karvy DP.
Karvy’s misdeeds take up the bulk of the report, with Sebi alleging that they had actively colluded with the master account holders to manipulate the system. What’s more, Karvy is also alleged to have fabricated documents to show that it had complied with the proof-of-identity and proof-of-address requirements for opening demat accounts.
The report contends that the scam wouldn’t have been possible if the banks had exercised more caution while opening accounts. Banks linked to the scam include HDFC Bank, Centurion Bank, Bank of Punjab, Bharat Overseas Bank and Vijaya Bank.
Earlier this year, the RBI had penalised ING Vysya, Citibank, HDFC Bank, IDBI Bank, ICICI Bank, Standard Chartered Bank, Bharat Overseas Bank, Indian Overseas Bank and Vijaya Bank accusing them of facilitating the scam. In short, thanks to the lucrative business of IPO financing, banks seem to have been only too happy to have turned a blind eye to the irregularities, as long as they made money.
The Depositories
The investigation report comes down heavily on the negligence of the two depositories — NSDL and CDSL (Central Depository Services). NSDL’s systems were found to be inadequate. For instance, TCS has confirmed that since inception the software designed for NSDL was never required to check for similar addresses and similar names. Inspections of DPs were conducted perfunctorily, and errors never rectified. Moreover, penalties for non-compliance were so small that they did not serve as a deterrent. In one instance, NSDL levied a penalty of Rs 300 for opening an account without obtaining adequate proof of identity.
Sebi hasn’t spared the auditors either. The report points out that Haribhakti & Company has been Karvy’s internal auditor since the beginning of 1997, but they have never pointed out any flaw in case of accounts opened with similar addresses.
Sebi’s Role
While Sebi’s efforts to uncover the IPO allotment scam are commendable, the market regulator cannot evade its share of the blame. The rules state that “Every depository must ... conduct an annual inspection ... and forward a copy of the inspection report to SEBI.” What did Sebi do with these reports? Did it simply file them? Or did it check whether the systems were really in order?
The high-handed manner in which it arrived at its conclusions, without allowing many of the banks, DPs and depositories named to present their side of the story, was also uncalled for. Legally, of course, an interim order can be passed without giving a show cause notice to the entities. Also, Sebi has gone on record to justify that a personal hearing would have delayed the decision. But legal experts do not buy this argument. “Was there an immediate crisis looming on the stock markets, like the Harshad Mehta or Ketan Parekh one?” asks a market expert.
Also, the regulator’s dismal record in having its orders overturned on appeal should have made it more cautious. This time, too, Sebi had to keep its order against Indiabulls Securities in abeyance within a day, when the latter argued that the customer’s shares deposited in their accounts were meant as margin money. Karvy has contended that contrary to what Sebi has said, it did not finance IPOs. Questions are being raised about unfair treatment as it was only Indiabulls that got the chance for a personal hearing the morning after the order.
Clearly, Sebi did not think through the impact of its ban on Karvy DP. Karvy alone has around 7.25 lakh demat accounts. Investors have been given only 15 days to shift their demat accounts to other DPs. What happens to those investors who are abroad or on vacation? What about the fresh charges that investors would have to bear? No wonder the Andhra Pradesh high court has stayed the order.
Then there is the bar on Karvy Computershare from taking on any fresh business. Market participants feel that such an action should have come only after a sufficient back-up had been created, as Karvy handles more than 50 per cent of the IPO registration work.
Why The Scam Could Be Bigger And Heads Could Roll
It’s very possible that the scam could still get bigger. Sebi has, so far, focussed its investigation only on cases where 500 or more demat account holders have made transfers during the pre-listing period to another account. As the report says, this approach ‘would not capture instances of benami dematerialised account-holders where such off-market transfers did not take place, or where such off-market transfers took place a few days after the date of listing.’ In the case of the Renuka Sugar IPO, the key operators did not make off-market transfers of the IPO shares that they cornered and so it hasn’t been followed up in the report. Also, the first IPO where the key operators made their debut was the Maruti Udyog IPO in June 2003. But, since the benami demat accounts used by the key operators in the Maruti IPO were less than 500 in number the issue has been excluded in the investigation.
More heads could also roll because Sebi has referred the matter to RBI and the Income Tax department and has filed complaints with the CBI. Sebi is also initiating prosecution proceedings against the concerned entities.
IPO Underpricing
But weren’t the financiers and key operators taking a risk in cornering IPO allotments? Couldn’t they have made a loss if the IPO listed below the issue price? In reality, they were taking little risk. Numerous studies in markets across the world have shown that the book building method of price discovery leads to severe underpricing of IPOs. The reason is simple: while the merchant banker undoubtedly wants the best deal for his client (the company whose IPO he’s selling), he wants an even better deal for the large institutional investors with whom he places an issue. That’s because he will have to deal repeatedly with these big investors again and again, for every issue that he manages. His relations with the issuer, on the other hand, are not so frequent.
Given the prevalence of underpricing and the huge listing gains that can be made, the system is naturally prone to abuse, whether it’s by Roopalben in India or a big investment bank like Salomon Smith Barney in the US. What’s more, demand for IPOs rises rapidly in bull markets, increasing the listing gains. In these circumstances, some have advocated an auction system in IPOs, the most recent example being the Google IPO in the US.
The Solution
One way out of the problem will be to spend a lot of time and money to ensure that multiple applications are weeded out. But Sebi hasn’t been able to do that in all these years, in spite of setting up a working group on multiple applications, which submitted its report five years ago. Proportional allotments have been mooted and the maximum application amount for the retail investors increased from Rs 50,000 to Rs 1 lakh. Yet people continue to try and take advantage of the reservation for the retail investor by submitting multiple applications based on various permutations and combinations of their names, and applying in the names of friends and relatives. All that the financiers and ‘master account holders’ have done is expand that practice manifold.
Nevertheless, the point is that the system has been abused and glaring loopholes have been discovered. The question is: how to fix it? The key issue is to weed out benami and fictitious accounts. This can be done by a unique identification system — PAN cards are now being touted as the panacea. But even if a fool-proof system of identification is introduced, it won’t take much to induce slum-dwellers to lend their names for creating dummy accounts. In the circumstances, the simple solution would be to remove the root of the problem and eliminate the special reservation for the so-called small investor.
do ask the meaning of terms u dont get ....
cheers
CS