Cut-Off Price Option – IPO/FPO vs. Offer for Sale (OFS)

by Shiv Kukreja on July 26, 2015

in Uncategorized

This post is written by Shiv Kukreja, who is a Certified Financial Planner and runs a financial planning firm, Ojas Capital in Delhi/NCR. He can be reached at skukreja@investitude.co.in

Power Finance Corporation (PFC) Offer for Sale (OFS) will take place today on the stock exchanges. The government has set its floor price as Rs. 254 per share and would likely raise around Rs. 1,700 crore in this OFS. Retail investors, investing Rs. 2 lakh or less in this OFS, will get 5% discount on the allotment price. Yesterday, I had posted the details of today’s OFS. In order to understand the OFS process, you can check this link – Offer for Sale Process.

OFS is like an auction in which the bidders are usually required to revise their bid prices in order to emerge as the successful bidders at the highest bid prices. But, unlike an auction, OFS process is still very complicated for the retail investors to understand and it is very difficult for them to track the indicative price on a real-time basis and revise their bid prices accordingly in order to successfully get the share allotted in these OFS.

Cut-Off Price Option Introduced – To overcome this problem, SEBI last month made it mandatory for companies to provide the option to retail investors to place their bids at the “CUT-OFF” price in addition to placing their price bids. PFC OFS would be the first OFS after such a change has been implemented by SEBI.

So, for the first time in an OFS, you’ll find the option to bid at the Cut-Off price and need not continuously follow the indicative price and revise your bid price. Whatever price is fixed by the government as the cut-off price, the successful retail bidders will get the shares allotted at that price. But, there is still a catch here for the retail investors and the catch is how the cut-off price will be determined by the government.

In an IPO or FPO, there is a price band – an upper price and a lower price. At or between these two prices, the cut-off price is set by the promoters or the selling shareholders. So, the investors know in advance the upper limit & the lower limit of the allotment price.

But, here in an OFS, there is only one price which gets disclosed by the promoters or the selling shareholders and that is the floor price i.e. Rs. 254 per share in the PFC OFS. There is no upper price limit at which the retail bidders would get a confirmed allotment and there is no method by which they could guesstimate it. In today’s PFC OFS, the government will fix the cut-off price for the retail investors only after the OFS gets over and in case of huge oversubscription, the price could go higher even beyond one’s comfort levels.

Taking the example of the REC OFS, the issue got oversubscribed to the tune of 5.5 times in the retail investors’ category and the allotment price got fixed at Rs. 331.75 and beyond. So, all those bidders who placed their bids at Rs. 331.75 or higher got the REC shares allotted. Now, in case of PFC OFS, suppose the Cut-Off price gets fixed at an exceptionally higher price of Rs. 261.25 i.e. Rs. 275 less 5% discount, which is higher than your estimated cut-off price, in that case you’ll have no option but to have the shares allotted at Rs. 261.25.

Allotment Method with “Cut-Off” Price Option

As per the information available on the NSE website“Sellers may provide retail investors option to bid at “cut-off”, where the allocation to retail investors shall be made based on the cut-off price determined in the non-retail category.”

“Bidding at “cut-off” ensures that the retail investor will get allotment where the allotted quantity will depend upon the demand at various price points.”

So, unlike an IPO/FPO, there is a risk of an unexpectedly higher cut-off price in an OFS and the retail investors should remain mentally prepared for a higher allotment price before they decide to bid in PFC OFS.

There is one more method of share allotment which the government could adopt and that is by fixing the indicative price as the cut-off price, giving 5% discount to the retail investors on this cut-off price and allotting at least one lot to every successful retail bidder. I think this would be a good method of allotment so that every retail investor gets a confirmed allotment and the cut-off price gets fixed very close to the indicative price.

As it is for the first time that cut-off price option has been introduced, it is very difficult to know how exactly the government is going to calculate the cut-off price and do the allotment. Let’s wait & watch how it pans out.

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