India: Buck is passed as ONGC’s IPO flops

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By:
Elliot Wilson
Published on:

Pricing was the biggest problem; Execution was confusing too

When Oil and Natural Gas Corporation (ONGC) announced it was preparing to sell $2.6 billion-worth of stock to institutional investors, few expected such a simple deal to go so spectacularly wrong.

This was, after all, a relatively small sale of 427.77 million shares by probably India’s most respected energy firm.

Yet everything that could possibly go wrong did so. The first mistake, say bankers involved in the sale, was pricing. ONGC’s six advisers – Citi, Bank of America, HSBC, JPMorgan Chase, JM Financial and Nomura – advocated caution. This was a deal that had to be done right, they said.

It involved an unusual – if not complex – deal: the first ever offer for sale (OFS) launched in India, essentially a block trade allowing company owner-promoters to auction batches of shares in a listed vehicle to institutional investors.

Moreover, it was a litmus test for a stalled privatization agenda, the first in a series of disinvestments by leading state firms, as New Delhi seeks to trim its widening fiscal deficit, tipped to hit 5.9% of GDP this year.

A nonsense price

Bankers recommended a price of Rs260 ($5.15). Nonsense, the government – the company’s largest shareholder – shot back. ONGC was a blue-chip company and should be treated by the markets as such. A floor price of Rs290 was rubber-stamped by Haleem Khan, head of the government’s department of disinvestment, 2.2% above the stock’s previous closing price of Rs283.55.

The government showed plenty of bluster in the following days. Khan forecast a "huge response from overseas investors", with friendly "sources" boasting of "overwhelming demand" from large institutional investors and sovereign funds.

Yet despite handing out plenty of invitations, virtually no one turned up to the party. Investors stayed away en masse. For a while, the sale looked in danger of collapsing. Orders dribbled in on March 1, the day of the auction, yet when the market closed at 3.30pm, there were concrete bids on just 292.2 million shares, most of them tendered by India’s largest state-run insurer, Life Insurance Corporation of India (LIC).

Humiliated, the government spin machine went into action. It blamed glitches in the electronic auction software for rebuffing perfectly good bids and a rush in end-of-day orders that crashed the system. Then it blamed the bankers for failing to sell a sale that should, in theory, have sold itself.

Oil and Natural Gas Corporation
of ONGC’s shares were bought by LIC 
Meetings went on through the night, and as dawn broke it became clear that just 98.3% of ONGC’s stock had been sold, with LIC buying a whopping 93.5% of the total, or 400 million shares. In essence, a benchmark disinvestment became a fiasco in which one arm of the state was leaned on to bail out another.

ONGC’s stock had been on a roll, jumping 17% in the first two months of the year. In the 20 days after the bungled OFS, it slipped nearly 8%.

Excuses have come thick and fast. Some are reasonable. Execution wasn’t great: computer systems were not aligned and some participants were confused about their roles.

"Part of the problem was investors being unfamiliar with a new mechanism," says a leading Mumbai-based fund manager. "The issue was only open for one day and bids weren’t visible."

It is notable that an OFS by privately owned IT company Wipro a few days later also fell short of its target.

However, the main factor behind the debacle, say insiders, was pricing. ONGC is a liquid stock and its traded price is an accurate reflection of what investors believe is a fair price. If anything, says the fund manager, "it should have been at a small discount, to incentivize bids".

"It was the biggest deal of the year," adds one banker involved in winning the deal for his foreign banks. "And it was totally screwed up – yet another example of the government not listening. It didn’t listen to the bankers as it knew better, as it always does. We all said price at a discount. The government was greedy – and look what happened."

This, say bankers, is the heart of the problem: a government with a tin ear and an utter disregard for the capital markets. Stock placements and initial public offerings by Indian state firms are a slog for investment banks. Most bid a single rupee – often the only way of securing a mandate – and do the work at a loss simply for the prestige of climbing up the league tables.

"What’s wrong with sell-downs is that banks tend to lose money on state mandates, so we put our second- and third-string teams on the job, and so you get untrained bankers doing a bad job of selling shares," says one investment bank chief executive.

Penny pinching

The saddest part of it, he adds, is that these are not all bad companies. "HPCL [Hindustan Petroleum Corporation], IOC [Indian Oil Corporation], the mining companies – these are really good, tightly run businesses but the government is messing them up royally with their penny pinching."

Yet for all the hand-wringing, nothing seems to have changed. Late last month, the Securities and Exchange Board of India (Sebi) said it was not planning to make any changes to the OFS auction model. Indian media quoted a Sebi source declaring: "We plan to continue with the existing guidelines."

"It doesn’t surprise me," says one Mumbai banker who did not work on the ONGC flop. "The whole disinvestment plan has been getting such a bad rap, and the government always finds new ways to make an awful mess of things.

"If it continues to act like this, with no comprehension or clarity on what it is doing, there is no way it is going to bridge the fiscal deficit."