Promoters invent ways to hide pledged shares - The 5 Minute WrapUp by Equitymaster
Investing in India - 5 Minute WrapUp by Equitymaster
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Promoters invent ways to hide pledged shares 

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In this issue:
» India has 12th highest number of HNIs
» Oil prices dip on biggest inventory release
» Is the original Silk Route re-emerging?
» Will the G20 be successful in tackling high food prices?
» ...and more!


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00:00
 
During early 2009, India's market regulator SEBI made it mandatory for promoters of listed companies to make disclosures in case of pledging of shares with borrowers. You would recall that this announcement came on the back of the Satyam scam wherein the promoter of the company, Mr Ramalinga Raju, had pledged nearly all of his shares.

Since then investors have been quite wary of putting their money in stocks which have a significant portion of pledged promoter shares. At a time when the RBI has been raising interest rates, the likelihood of promoters not being able to fulfill their financial commitments is a matter of concern. Not just that, even if the prices of such stocks fall below a certain level, the pledge shares could trigger a sell-off from financiers. As a result, such stocks are facing a lot of pressure and have in recent times underperformed the broad Indian stock markets.

But the story is far from over. To escape the ire of investors, promoters are now increasingly resorting to novel ways to avoid the regulation that makes it mandatory for them to disclose the number of shares pledged with lenders. Official data from the stock exchanges suggests that promoters of more than 800 listed companies have pledged shares worth more than Rs 1.5 trillion. But the size of the leverage could actually be much bigger if you consider the ones that go unreported. One easy way how promoters escape disclosure is by transferring some of the promoter shares to a special purpose vehicle (SPV) which is directly or indirectly controlled by them and to raise money against those shares.

It is both amusing and scary that clever businessmen always find ways to take advantage of loopholes in the system. By the time the regulator comes around to fix this, they would find other avenues. The cat-and-mouse game will go on forever. That is why we believe the promoter's integrity should be well assessed. A clean and shareholder-friendly past track record would be a fair proxy of the same.

Do you think a high portion of pledged shares is a threat to the stock price? Share your comments with us or post your views on our Facebook page.

01:17  Chart of the day
 
Today's chart of the day shows that India has for the first time made it to the Top 12 league of world's wealthy investors. In 2010, the number of India's high net worth individuals (HNIs) rose by 21% to 153,000 which is the 12th highest in the world. This rise has come on the back of a healthy GDP growth rate and relatively buoyant real estate and stock markets. Overall, the Asia-Pacific region registered the strongest growth in HNI population in 2010.

Data source: Merrill Lynch-Capgemini World Wealth report

01:48
 
Considering its importance in driving global economy, any sharp movement in crude oil prices certainly deserves a closer look. Thus, when Brent crude slipped by over 6% yesterday, the financial media went berserk. For the uninitiated, the fall in crude oil prices was a result of the International Energy Agency's (IEA) decision to release emergency stockpiles. In all, 60 m barrels of oil would be released at a rate of 2 m barrels per day over the next one month. Of this, 30 m barrels would come from the Strategic Petroleum Reserve (SPR) of the US. This is indeed good news for global crude prices. But the announcement has created a furore in the US. And the real motive behind the move has been brought into question.

Critics of the US President have argued that the SPR is meant for emergency only and they could see hardly any on the horizon. Hence, they believe that reserves have been released to appease the American public and gain the resultant political mileage out of it. The US Government has however maintained that the decision has been taken to make up for the reduced supply of crude from the Libyan crisis. Either way, we are happy that this has brought some relief to crude prices. If prices stay low for long, it will certainly help India in its quest to lower inflation. Long term though, crude prices seem to be headed only one way and which is up.

02:37
 
Hundreds of years ago world trade was centered on the continents of Asia and Africa. The 'Silk Route', which was a network of busy trade routes, started in China, and ended near the Mediterranean Sea. Could we soon see this route re-emerge from our history books? Well, it seems so.

Lately, the emerging market's growth model was dependent on exports to developed nations. But now, America is seeing its global clout waning and Europe is in a severe debt crisis. The US is currently China's largest trading partner. However, according to a report by HSBC, in two decades, India, Brazil or Russia are likely to be the main destinations for Chinese exports. A sea change in world dominance is on its way and it may go back centuries. The dollar's dominance as a reserve currency will gradually fall. China is now investing heavily to protect raw material and energy supplies from Africa, Middle East and Latin America. The dragon nation is expected to be the top economy by 2050 and India 3rd on the list.

03:08
 
It's that time of the year again. It's time to file your income tax returns. The moment one starts to earn an income; this process looms over their head like a dark cloud. But there is good news. People, who have a taxable income of Rs 5 lakh or less, do not need to file income tax returns. This move was announced by the Finance Minister and is being implemented from this year onwards. It is important to note that this refers to taxable income and not actual income. Taxable income is the total income of the person less the deductions under various sections. So if a person has a total income of Rs 6 lakh and has invested Rs 1 lakh in the allowable deduction schemes, then such a person's taxable income would be Rs 5 lakh. That is within the allowable limit. So for those who have just started earning or do not earn over Rs 5 lakh can rejoice. They are saved from the effort of filing their tax returns.

03:46
 
Global food production has been adversely impacted this year. Unpredictable weather patterns in many regions across the world affected farm output and caused disruption in food production. Not surprisingly then, food prices in the early part of this year soared. While supply glitches have been one of the factors driving food prices, rise in demand from emerging countries such as India and China and speculative activities in the commodity markets have also done their bit in fueling food prices.

Little wonder then that the G20 farm ministers met and settled a deal this week aimed at tackling high food prices. The plan includes among many other things increasing agricultural output and improving market transparency through a new database. Removing export restrictions for food aid is also part of the agenda. While there were proposals to regulate commodity derivatives mainly from France, most of the members seemed against the idea. At the end of the day however, ensuring sufficient food for its citizens is the responsibility of the government of every nation. What each government chooses to do to bolster agricultural output is the crucial part that will determine the direction in which food prices head.

04:30
 
In the meanwhile, the Indian stock markets have been trading strong today. At the time of writing, the benchmark BSE Sensex was up by 428 points (2.4%). All sectoral indices were trading firm except consumer durables. All Asian stock markets were also trading in the positive except Taiwan. Europe too has opened in the green.

04:50  Todays' investing mantra
"With the exception only of the period of the gold standard, practically all governments of history have used their exclusive power to issue money to defraud and plunder the people." - Friedrich A. Hayek
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6 Responses to "Promoters invent ways to hide pledged shares"

vkshah

Jun 27, 2011

It is very strange that laws are strictly enforced in other develped countries - they even do not spare the celebrities if they commit an offence.
In the say, I doubt whatever strict laws are enacted, it is a will which plays an important role for implementation.
I apprehend about our success for any law

Like 

shome suvra

Jun 25, 2011

Keeping shares in the demat accounts and having negative lien on it is another way of evading disclosures.The fall in value of shares by a certain amount require margin calls.High debt-service coverage ratio, low cash break-even,high return on equity are some of the conditions to be put forward by the lenders.

Like 

tony fernandes

Jun 25, 2011

Hi. I believe that the Rs 5 Lac bar, for exemption from filing IT returns, is with reference to salary income only.

Kindly clarify this, to avoid problems, for non-salaried assessees.

Many thanks.....tony

Like 

sunilkumar tejwani

Jun 24, 2011

yes of course, pledged shares with financiers is always a big threat to the integrity of the market as well as share price. The moment financier gets whiff of some turbulence in the stock price, he will happily dump to protect his interest. A lay investor should always be on guard & not invest in such companies, whose promoters have pledged their shareholdings.Also the financiers have first hand information about the financial position of the company, which gives them unfair advantage over other common investors.

Like 

Pradeep

Jun 24, 2011

Apart from the integrity of the promoters, we also need to look at the fact that the Regulator has to be proactive and anticipate these kind of moves by the regulated. Why did'nt the SEBI issue the directive saying that shares pledged includes those which may have been pledged using SPV's. As a REgulator, SEBI is fully aware that the SPV's are common route adopted in recent times. SEBI regulations are all knee jerk reaction and reactive to a particular situation without a forethought of the possible outcomes.

Like 

Dileep K Gupte

Jun 24, 2011

Unless the business integrity and competence of the promoters to run that business has been proved over a period, pledged shares, directly or indirectly through SPVs should raise eyebrows.This matter should also be highlighted by stat auditors, and satisfactory explanation about use of these funds by promoters should be given to them.

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