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February 09, 2008

Impact of the IPO pullouts

Here are the takes of two market observers on the pulling of the Wockhardt Hospitals and Emaar-MGF IPOs this week.

Arun Uday of HSBC PE points to the role of IPO rating agencies.
It’s been one hell of a week for the markets, swinging wildly like a yo-yo and if all that wasn’t enough, in the midst of it, we have the Wockhardt IPO fiasco. I can’t recall any other instance in recent memory when such a renowned company had to withdraw its IPO the way Wockhardt has had to. While the management of the company has blamed it on the prevailing weak market sentiment, it’s clear that there’s more to it and that someone somewhere was being overambitious. It’s just incidental that I have been contemplating and blogging on the interplay between perceptual (or “synthetic” as I referred to it earlier) reality and fundamental reality, and in this case, its quite obvious that there was a huge disconnect between the two. of the serious lapses that needs introspection from the regulators is the role of the newly introduced IPO rating agencies. The IPO had been given a 4 on 5 rating, which meant that it had been charecterized as “above average”. The sub prime crisis has already put the rating industry in the US in a cloud and both the regulator and the agencies themselves need to ensure that this nascent move in India doesn’t lose credibility and fall flat because of events such as this. Would like to end with this quote from a conference call with S&P where they were asked by a hedge fund manager who was referring to the agency’s move to downgrade billions of dollars of mortgage-backed securities. He said, “I’d like to understand why you’re making this move today and why you didn’t do this many, many months ago.” “It’s a good question,” responded the S&P analyst.“You need to have a better answer,” said the fund manager.

"Fairval" expects a "double whammy" impact for Real Estate companies.
Let’s look at the implications. Withdrawal of issues clearly has the potential to delay capital investment plans not only of the two companies in question, but of others lined up to tap the markets in the next few months. It is quite possible that over 2008, Indian IPO markets see far less capital raising then originally envisaged. Emaar’s IPO itself was planning to raise around $1.5bn. Let’s say equity capital raising gets impacted by $3-5bn. Count the debt this equity may have supported, and capital available to companies could easily have reduced by around $10bn, just because of events of last week. Next 1-2 months will be crucial. If this temporary setback assumes larger proportions, then it could start having ripple effects on the broader economic scenario.

...Correction in real estate sector is another likely possibility. Real estate companies may face a double whammy. As it is, consumer demand has slowed down, since prices are unrealistic both in housing and commercial real estate. Builders have been able to hold prices, since they have had abundant access to capital in the last 1-2 years. In other words, they have had the ability to hold stock. Now, they may face capital starvation for some time.

One can safely assume that no real estate company would dare to tap domestic capital markets for the next 3-6 months, till a credible sector leader tests the market and brings investor confidence back to the sector. Most real estate companies are highly committed at this point. Their sky high valuations are built on ultra-aggressive growth projections, to deliver which have huge need for capital. If, due to the Emaar-MGF fiasco, these companies get temporarily starved of capital, then their bargaining power vis-à-vis consumer may come down sharply. While this may lead to a massacre in real estate stocks, for the real economy, it will be good. Lower price for consumers of housing and commercial real estate is far more important than high prices for investors in real estate stocks.

Arun Natarajan is the Founder & CEO of Venture Intelligence, the leading provider of information and networking services to the private equity and venture capital ecosystem in India. View free samples of Venture Intelligence newsletters and reports.