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Corporate Mar 7, 2012

Did LIC break any Sebi norms in its purchase of ONGC?

By R Jagannathan

Let's say you are one of India's biggest business promoters. You know your company is planning to make an additional offering of shares a few weeks down the line, but the market is tepid. In order to get a good price, you ask a group company to start bidding up your shares in the market so that the IPO will fetch a better price.

Which rogue promoter is that?

But this is exactly what the Life Insurance Corporation (LIC) has done before the government's offer for sale of ONGC shares (a.k.a. auction) which ended in a controversy last week.

According to a Business Standard report, LIC - which ended up rescuing the issue as well - bought 157 million shares of ONGC between 31 December 2011 and 8 February 2012.LIC's buying was one factor that helped ramp up ONGC's share prices from around Rs 257 around end-2011 to Rs 283 around 8 February - a 10 percent rise.

Doubts about stock sale. Reuters

The auction was held on 1 March and did not deliver great investor excitement till LIC decided to (or was prodded to) play white knight in the dying minutes of the trading session. The stock exchange system, for reasons difficult to fathom, rejected some of the late LIC bids and the confusion was not sorted out till the next day.

The government had fixed a reserve price of Rs 290 and fell flat on its face. With few investors willing to pick up ONGC at an artificially high price, LIC ended up having to pay through it nose for it. It could have picked the lot cheaper both before and after the auction.

BusinessLine reports that LIC bought 37.7 crore shares in the ONGC auction of 1 March by paying Rs 11,426 crore for it.

The value of the ONGC share on Wednesday? Rs 278.75 on the National Stock Exchange.

So LIC's efforts to drive up the price have come back to bite it. Sure, one can say this may only be a short-term loss, but several questions can be raised about LIC's actions, especially the lack of basic corporate governance.

Sebi needs to investigate LIC's actions based on possible violations of its Prohibition of Fraudulent and Unfair Trade Practices Relating to Securities Market Regulations of 2003 (read the regulations here) and the Insider Trading Rules.

First: The Sebi law states that a company or intermediary would be in breach of its unfair trade practices regulations if a principal (LIC) or his intermediary indulges in an act of "buying or selling securities in advance of a substantial client order or whereby a futures or option position is taken about an impending transaction in the same or related futures or options contract."

The regulations also define fraud as "any act, expression, omission or concealment committed, whether in a deceitful manner or not by a person or by any other person with his connivance or by his agent while dealing in securities in order to induce another person or his agent to deal in securities, whether or not there is any wrongful gain or avoidance of any loss".

Did LIC breach these regulations? It is clear that LIC was buying ONGC shares in the run up to the auction. It is also clear that ONGC's share prices did rise - partly due to its exertions. Sebi could check if this action of LIC was the result of bonafide investment decisions or some other purpose - like stoking investor interest in ONGC before the auction. This can be done by the simple expedient of asking for the minutes of the LIC investment committee meetings in December, January and February. One needs to know who said what and why these purchase decisions were taken.

Sebi should ask LIC why it did not disclose this information if it was going to make such huge bids on 1 March. Why did this info have to come from the ONGC after the auction was over? Wasn't this material information relevant to the auction?

Second: LIC's investment committee does not seem to maintain a Chinese wall between promoter interests and policyholders' interests. The investment committee includes a government nominee - who is the principal and only shareholder whose interests may be at variance with those of policyholders. The investment committee's primary accountability is to policyholders, and not the promoters' disinvestment programme.

Says The Economic Times, quoting unnamed sources: "The composition of the investment committee of LIC, which includes a government official, again raises issues of corporate governance, especially in the context of the share sales of state-run companies such as ONGC where the issuer is the government."

Third: Has LIC done the right thing in the interests of policyholders? Assume for a moment that it is all right for LIC to bail out the ONGC auction using policyholders' funds. All through January and February, it was buying ONGC shares at much lower prices. Why then did it suddenly decide to pay top dollar when it was called to rescue the auction?

According to a report in BusinessLine, the insurance behemoth paid an average of Rs 303 per share at the auction when it was actually called to bail it out. If no one else was buying, why does LIC have to buy ONGC at Rs 303 when the reserve price was Rs 290?

Since these decisions could only have been taken by the investment committee, Sebi should probe if the government nominee on the committee had any role to play in deciding the bid prices in a failing auction where the government was begging for a rescue. Wasn't there a conflict of interest in this, or was everything done through oral instructions that can't be nailed down to any particular person, with the investment committee carrying the can?

Fourth: Wasn't LIC really an insider to the ONGC auction? And hence subject to Sebi's insider trading regulations which forbid insiders from trading in price-sensitive information that is not public?

The facts are these: LIC is government's wholly-owned organisation. The government has nominees on the LIC investment committee, and the insurer was also asked to bail out the issue. In fact, even before the auction, the government was passing on and receiving information from LIC on the ONGC auction price. This fact has been confirmed by no less a person than Disinvestment Secretary Haleem Khan. In an interview to The Economic Times, he let the cat out of the bag.

He said: "Let me share with you that since the day EGoM (empowerd group of ministers) decided to sell a 5 percent stake in ONGC, both official and unofficial circles confided with me that LIC is willing to take the whole quantity and at a very good price. In fact, the price then talked about was much more aggressive."

So it is clear: not only was LIC in know of the auction, but prices were also being bandied about between the promoter (the government), and its agent (LIC) when the issue was to be decided by the market. Firstpost has raised these issues before, but now the evidence of misgovernance is getting stronger.

Put these pieces together - LIC buying before the auction, LIC discussing prices with the government, and LIC finally bailing out the issue at higher than reserve price - and this appears to be a fit case for a Sebi investigation both under the unfair trade practices regulations and the insider trading laws.

by R Jagannathan

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