Big Money: Book building not always efficient

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The book-building process to fix the price of shares in companies going for listing or for the issuance of new shares is generally accepted as an efficient method to arrive at a fair value for new shares.To a large extent, the price is determined by bidders participating in the book building.. The issuer and the investment bank set a price range but ultimately, the price is determined by the bids from investors.As opposed to the price-fixing method, the book-building process ensures that the company does not lose out if the price is fixed too low, as has been seen in some instances. In such cases, the newly listed shares can even hit limit up on the opening day.Such “leakages” do not happen in new issues via a book-building exercise.But book building only works well in an efficient market where bids are transparent, there is no allocation of a large chunk of new shares to special investors at a discount, and most importantly, no external forces egging on large funds to take up blocks of shares at prices bandied about by analysts.In such circumstances, the book-building process does not necessarily produce a market-driven price. Locally, these elements are not rampant but they sometimes prevail.How can we forget the initial public offering of Time dotCom Bhd, which was a listing that should not have been allowed in the first place.The listing was not done through the book-building method. Nevertheless, funds such as Kumpulan Wang Amanah Pencen ended up taking blocks of shares in the heavily undersubscribed IPO.Rightfully, the government-linked funds should have resisted if they found that the valuations were not right. But that didn’t happen. Some research reports justifying the IPO price of RM3.30 did not help the case for funds to resist taking up the shares.After a few quiet years, the demand for new listings is beginning to pick up locally. IPO fever is hot in Shanghai and Hong Kong and is slowly but surely building up in the domestic market.Following Maxis Communication Bhd’s announcement that it would list its Malaysian operations under Maxis Bhd, Berjaya Corp said it would list Berjaya Retail Bhd, to comprise the 7-Eleven chain of convenience stores and Singer outlets (see Page 12).In both instances, a large chunk of the shares to be placed out are to approved bumiputera investors, meaning the likes of Permodalan Nasional Bhd, Lembaga Tabung Haji and Felda.In Maxis’ case, out of the 2.25 billion shares that are to be sold during the IPO, about 937 million shares, which constitutes 42%, are to be allocated to approved bumiputera investors.In the case of Berjaya Retail, of the 101.88 million shares that Berjaya Corp is offering for sale in its listing exercise, some 90% of the shares are to be allocated to approved bumiputera investors.The prospective valuations of the impending IPOs can be demanding, depending on how one looks at it.In the restructuring prior to the listing, Berjaya Retail is purchasing the two companies at 23.5 times price earnings multiple based on its current year earnings. Even if the  performance of Berjaya Retail improves by 100%, theoretically, the PER multiple will come down by half which is still more than 10 times PER.As for Maxis, at a price of between RM5 and RM6, the stock is not cheap even if it is based on its dividend payout potential. Its dividend story is also not compelling if one considers the competitive landscape and slow growth opportunities locally.The plus point for Maxis is its high earnings margin before interest tax, depreciation and amortisation (Ebitda), which, at  almost 50 %, is one of the highest for a telco. Now, if the bumiputera institutional funds agree to take up their entire entitlement at a price agreed with the promoters, in some ways, the IPO price can be more or less determined.This is because the pressure will be on other conventional funds, such as the EPF, to take up the remaining limited portion, if they choose to do so. Also, the conventional funds have to take up the shares at a premium compared to the bumiputera portion. The research reports that have come out so far are looking at valuations of between RM5 and RM6 for Maxis. As for Berjaya Retail, the reports are not out yet.So far, only one report has a more realistic value of RM3.90 to RM4.66 for Maxis. This is based on the valuations of Bhd, which in reality is the closest comparison to Maxis.Under such circumstances, funds that are convinced the new shares coming onstream are expensive should stay out or bid based on whatever fair price they feel is right. They should stand by their own valuations and not be swayed by research reports or prospective bids from the book-building exercise, After all, they have a choice!

This article appeared in Corporate page of The Edge Malaysia, Issue 775, Oct 5-11, 2009