An Investor has to be observant in cases where the promoter pledge is more than 50% and if the pledge proportion crosses the 75% threshold over a period of time then it is essential to be extra vigilant and cautious.
As per the latest pledged shares data released by the BSE, there are a large number of companies where promoters have pledged shares in varying proportions. The total value of pledged shares is Rs 2,28,100 crore—surely a sizable value. At least that is enough to create panic in the market when financers start selling.
Adding to the woes, in the case of 45 companies, 100 percent of the promoter holding is pledged. In the case of 225 companies, more than 70 percent of the promoter stake is pledged, whereas in 332 companies more than 50 percent of the promoter stake is pledged. Normally, 50 percent is considered to be the warning signal for investors to be observant.
What exactly should investors do when promoters pledge shares?
Here is a quick checklist:
- An investor has to be observant in cases where the promoter pledge is more than half of the holdings. If the pledge proportion crosses 75 percent threshold over a period of time then it is essential to be extra vigilant and cautious. That is when the stock becomes vulnerable to sudden movements in price.
- There are different reasons why promoters pledge shares. Normally, promoters pledging shares to meet temporary bridge financing requirement is understandable. Quite often promoters use the shares as a temporary pledge and exit the pledge by repaying the loan. This is acceptable.
- Investors need to be cautious when promoters start using pledged shares to get working capital funding from banks and financers. That is a sign of stress on the balance sheet and investors must be cautious.
Understanding mutual fund financing of promoters
- In the last few years, Indian mutual funds have been flush with liquidity but had limited investment options. That was when mutual funds started investing in corporate debt. As a safety measure, this was also structured as a promoter funding by taking a pledge on the promoter’s stake.
- In a large number of cases, a substantial chunk of promoter stake was pledged and hence when stock prices fell they did not have further shares to pledge. Also, the cash crunch meant that they could not bring in additional margins leading to the sell-off.
What needs to be done to better regulate pledge shares reporting?
- One of the big challenges in the entire pledged issue is appropriate and timely reporting. Sensitive data disclosure once a quarter just does not serve the purpose. Here are a few thoughts:
- One way would be to put the onus of disclosure on the promoters themselves who must be required to immediately disclose to the exchanges and to the regulator as soon as the pledge is created. Another scenario that promoters tend to use is the temporary transfer of shares or casual agreement to offer shares which don’t get reflected in the pledge data, which is also applicable to any change of title of shares held by the promoter either by selling in the market or by transferring it to some other beneficiaries. This needs to come under the ambit of regulation.
- There must be a distinct credit rating for promoter funding on the lines of the CRAMEL model. This is still largely unregulated because it is secured and done by NBFCs. These ratings are essential to protect the interests of the minority shareholders.
- Promoter funding should only be permitted through the traditional bank and NBFC route with greater disclosure. Mutual funds funding promoters under the guise of debt investment creates multiple risks for the unit holders and for the shareholders.
The Article has been authored by Mr. Mayuresh Joshi, Portfolio Manager, Angel Broking & it appeared on 18th March 2019 12:25 pm, on the following website -www.moneycontrol.com