Unravelling the potential of IPOs in Bangladesh
Policymakers and market intermediaries must implement effective strategies to attract high-quality issuers, to ensure the sustained availability of sound companies in the market
An Initial Public Offering or IPO is an equity instrument that serves as a means for companies to raise capital by offering ordinary shares to the general public for the first time. This process is crucial as it ensures the supply of stocks through the primary market, thereby stimulating activity in the secondary market and contributing to overall market capitalisation.
Amid market fluctuations and macroeconomic challenges, the IPO has stirred both enthusiasm and scepticism among investors in Bangladesh. Declining IPO subscription rates and controversies in recent years have discouraged many investors. So, even though demand for IPOs has surged in recent years, concerns remain regarding the quality of IPOs.
Bangladesh's IPO landscape
A vibrant capital market thrives on the active trading of various financial instruments, such as equity, debt, derivatives and commodities, on the exchanges. In Bangladesh's landscape, while debt securities are progressing steadily from their early stages and frameworks for commodities, the equity capital market encounters challenges in making a lasting impact.
Keep updated, follow The Business Standard's Google news channel
Historical data from 2019 to 2023 reveals the Bangladesh Securities and Exchange Commission (BSEC) approved 41 Initial Public Offerings (IPOs), with a total of Tk3,887.20 crore capital raised by the issuers.
A closer look reveals a dominance of fixed-price IPOs over book-building IPOs. In the fixed price method, IPOs are issued at face value, while in the book-building method, IPOs are issued at a price above face value. It is determined through a price discovery mechanism.
Companies opting for book-building assume their fair value of shares exceeds the face value.
However, book-building issuers are significant due to their better fundamentals and higher fund requirements, making them potentially solid and investable stocks in the exchanges. Currently, we have very few such companies, but they play a crucial role in our indices and market capitalisation.
Navigating IPO challenges
Since our economy is dominated by bank-based financing, it is easier for companies to access bank loans rather than deal with the challenges of IPOs.
Another significant factor is the valuation methods used to determine fair value in book-building IPOs. In February 2021, BSEC issued a directive that prescribed the bidders to use only three methods – Net Asset Method, Yield Method and Fair Value Method.
While this directive may be a timely regulatory response aiming to introduce a standard approach in IPO price discovery, it has significantly demotivated many potential IPO-seeking companies. Some companies were eager to get listed in the exchanges to enhance their brand presence but later withdrew to avoid ownership dilution.
An amendment to the IPO rule in 2021 links the IPO size with the amount of the issuer's paid-up capital, restricting them from maintaining optimum paid-up capital to minimise ownership dilution.
Moreover, the lack of specialised incentives for listing is apparent. Apart from a tax gap between listed and non-listed companies, no incentive is broad enough to motivate companies. It contributes to their reluctance to plan for a strategic IPO listing. In the case of Multinational Companies (MNCs) and State-owned enterprises (SOEs), reluctance is often driven by bureaucracy, red tape and a lack of regulatory obligations to go public.
The role of market intermediaries in bringing good IPOs cannot be overlooked. Merchant Banks (commonly known as Investment Banks worldwide) are approved market intermediaries responsible for managing IPOs. From designing suitable capital structures to formulating overall IPO strategies, ensuring compliance with regulations, conducting due diligence and overseeing the entire fundraising process through listing with exchanges, merchant banks play a pivotal role in bringing quality IPOs to the market.
Given their significance, they should not only focus on quantitative measures but also assess the qualitative aspects. However, with 67 merchant banks (as of March 2024) competing intensely and the regulatory requirement to submit at least one IPO application every two years, there is immense pressure on them. Investment professionals often resort to aggressive dealings to protect their merchant banking licences, leading them to deviate from professional conduct.
Data shows that the 41 IPOs from 2019-2023 were managed by 32 merchant banks singly and jointly, with 13 merchant banks managing 24 IPOs alone. This disparity between the number of merchant banks and their activity level highlights concerns about their capacity. The lack of a structured framework for merchant banks to perform their roles, the shortage of skilled young professionals and the lack of ethics and reliability in the industry result in only a handful of active merchant banks.
Role of BSEC
The Bangladesh Securities and Exchange Commission (BSEC) has played a crucial role in monitoring and shaping market dynamics over the last five years. Subsequently, after issuing four amendments and nine years later, BSEC introduced the new rule 'Bangladesh Securities and Exchange Commission (Public Issue) Rules, 2015.'
So far, BSEC has issued three amendments to this rule as well. However, frequent amendments to rules and regulations every two years leave entrepreneurs perplexed about deciding to go for an IPO. This also creates numerous technical challenges for investment professionals who have been grooming clients for years to submit IPO applications.
Moreover, the requirement to submit a large number of documents along with a lengthy and tedious prospectus, including authentic signatures of key executives, consumes a significant amount of time and causes unnecessary pressure on meeting deadlines.
In this era of digitalisation and artificial intelligence, such labour-intensive and paper-based processes raise questions about Bangladesh's capacity as an emerging digitised nation. While policy-level initiatives by BSEC are commendable, it is high time to address the challenges in the IPO sector, which is significantly lagging.
Strategies to attract quality corporates in IPOs
Efforts to improve the IPO sector require coordinated actions from regulators, exchanges and merchant banks. Without making an IPO an attractive fundraising instrument, enticing good companies to go public is nearly impossible.
To achieve this, the IPO application review process needs rationalisation, focusing on minimising the fundraising period and compliance costs. The process should aim to complete the IPO project within 6 to 9 months for companies with good potential.
The digitalisation of the process is essential to shorten the IPO horizon and reduce manual and paper-based tasks. Moreover, document and disclosure requirements in the IPO Prospectus should be minimised by eliminating insignificant, repetitive and redundant materials.
The regulation should allow strong companies to design capital structures that align with their strategic objectives, enabling them to maintain fair dilution. Additionally, the company should receive its appropriate valuation, which reflects current financials and future cash flows while aligning with international standards and practices.
A coordinated effort involving BSEC, Dhaka Stock Exchange (DSE), Chattogram Stock Exchange (CSE) and Merchant Banks representatives can address these improvement issues, possibly forming a task force.
Considering all stakeholders' suggestions, issuing a comprehensive, robust and friendly new regulation for IPOs should be a priority to attract good corporates. This will stir confidence in potential issuers to plan for IPOs, with investment professionals guiding them on a fixed course of action.
Policy-level initiatives are crucial to steer non-listed companies seeking long-term project financing away from banks, which can be achieved by incorporating an equity portion through IPOs. Project financing, especially for new ventures, carries inherent risks for banks, and they should exercise prudence in deploying depositors' funds in such endeavours.
Integrating conditions in loan sanctions, such as requiring a reasonable portion of the total funds needed to be raised through IPOs for project loans over five years, may serve as a strategy to incentivize issuers to choose IPOs. This approach not only enhances the likelihood of quality IPOs entering the market but also enables banks to maintain prudent fund management practices.
To further incentivise companies to get listed, addressing the narrow tax gap between listed and non-listed entities is necessary. Despite several revisions in corporate tax rates, the current gap fails to offset the compliance costs for listed companies adequately. Presently, a 20% corporate tax is being imposed on listed companies after meeting certain conditions, while non-listed entities are taxed at 27.5% (except banks, insurance and financial institutes).
To encourage listing, listed companies should receive a tax incentive of at least 50% lower than non-listed entities.
Moreover, imposing legal obligations on State-Owned Enterprises (SOEs) and Multinational Corporations (MNCs) to get listed on the exchanges can be an effective strategy. Unlike in many countries where MNCs are required to list on local exchanges or fulfil certain regulatory requirements to operate within their borders, Bangladesh has no such obligations. This is something policymakers should consider.
Strengthening merchant banks' competence through tax rationalisation and incentivising professionalism is crucial, as currently, merchant banks are required to pay a 37.5% corporate tax, the same rate as listed banks, insurance and financial institutes.
Additionally, categorising based on business performance metrics could be introduced instead of imposing regulatory conditions requiring merchant banks to submit at least one IPO application every two years. This would inspire merchant banks to improve themselves to maintain their category and contribute to all investment banking segments rather than merely surviving under pressure.
Overall, merchant banks, as key actors, must promote professionalism and ethics in all dealings. BSEC has already introduced the Independence Golden Jubilee Award in 2022, a commendable initiative to motivate merchant banks.
Furthermore, conducting mass-level education on investment banking in Bangladesh, incorporating it as a core course from undergraduate studies, would enable young talents to discover challenging yet rewarding careers in investment banking, fostering future contributions to the industry.
Finally, forming Committees and Task Forces with representatives from key actors – Bangladesh Securities and Exchange Commission, Bangladesh Bank, Dhaka Stock Exchange, Chittagong Stock Exchange, National Board of Revenue and Merchant Banks – to address issues will enable swift implementation and response to make the IPO sector vibrant.
Moving Forward
Increasing IPOs is vital for market momentum and stability, requiring a delicate balance between market demand and investor assurance. Investment professionals must consider both quantitative and qualitative factors for long-term sustainability. Deep policy-level support is indispensable for addressing IPO challenges and ensuring market growth.
Rokibul Islam Bin Yousuf, FMVA® is an Investment Banking Professional at Prime Bank Investment Limited (PBIL)
Nahiyan Rahman Firat is a Research & Business Development Intern at Prime Bank Investment Limited (PBIL)
Disclaimer: The views and opinions expressed in this article are those of the authors and do not necessarily reflect the opinions and views of The Business Standard.
