Miscellaneous: Stock Exchanges; Online IPO Applications

There are two pieces in the Economic Times today that deal with stock exchange operations and electronic settlement in IPOs.

1. Alternative Trading Systems

The first is an op-ed by C K G Nair and M S Sahoo that explains the metamorphosis that the stock exchanges are undergoing. They write:

“For the past few years SEs have been in the process of shedding their old skins to look young and to remain vibrant. Organisational innovations (corporatisation and demutualisation), institutional innovations (emergence of regulators and self-regulatory organisations – SROs, clearing corporations), market innovations (alternate trading systems — ATSs), outsourcing and technological changes have been making the SE horizon too narrow prompting questions on their very relevance.

Interestingly, some of these have been autonomous changes, willingly adapted and adopted by the SEs.

Electronic communication networks (that facilitates trading of securities among its subscribers), crossing networks (that matches orders for execution without first routing to a SE), negotiated dealing system (which matches orders in government securities) are market innovations that challenge the core functions of the SE.

Similarly, there are electronic systems which display buy-sell quotes of counter-parties to enable the buyers and the sellers in the corporate bond market to strike deals either at the SE or bilaterally. These ATSs, some of which are called ‘dabba trading’ in Indian context, are diverting trades from SEs.

The unbundling bandwagon has made heavy inroads into SE operations. Many specialised service providers have taken up core functions of the SE. Specialised securities settlement systems have come up the world over to handle post-trading activities.”

Since stock exchange operations are being fragmented and spread out over several entities, it gives rise to some interesting legal issues:

“Thus trading, clearing, settlement, market regulation, listing and broking are no more the exclusive prerogative of SEs. There is no function which is core or exclusive to a SE. While core functions of a SE are being taken over by/transferred to other agencies, the definition of ‘stock exchange’ in the Securities Contracts (Regulation) Act (SCRA) in India hardly protects the turf of the exchange.

The SE under the law is a body corporate, incorporated under the Companies Act, for the purpose of assisting, regulating or controlling business of buying, selling or dealing in securities. Thus, all corporate intermediaries in securities market, all of whom assist in dealing in securities, are SEs while the negotiated dealing system which provides trading platform for government securities is not.

Are the SEs only to implement the regulations made by statutory regulators? That too, when they have limited enforcement powers and they operate in competition with the less regulated new world of ATSs? Or else, do the ‘traditional’ SEs still perform an essential function in capitalism?

Yes, they do. SEs are legal entities having full statutory backing in all jurisdictions, while ATSs are far from achieving such an overarching statutory backing even in the jurisdictions they are permitted.

Legal vacuum is a major constraint in the growth of markets and organisations such as exchanges that fill up the void become institutions. The cost of regulation of a market with no exchange like central facilitator and with overcrowded, thinly legalised multiple commercial entities, will be too high and impractical.”

This gives food for thought and the need for possible further research, especially under the provisions of the Securities Contracts (Regulation) Act, 1956 and the Securities Contracts (Regulation) Rules, 1957.

2. Online Investing in IPOs

An editorial suggests that IPOs applications need to be shifted to the electronic mode to speed up the application process for investors from the current 20-day period from application to refund. It states:

“Better process management can shave off a few days at the most, but certainly not compress it to seven days that SEBI is reported to be targeting.

For that to happen retail applications, at least a substantial portion, would have to shift to the electronic mode. This sounds a big task, but is doable because a good part of the information such as address and bank account details going into a physical IPO application is already available with depositories. Suitable software can import all that information on to an online form through the investor’s unique depository number or PAN.

All that the investor would then need to mention is the bid amount and submit the check. This would require greater number of application centres, but post issue closing work would be cut down substantially. In fact, in such a situation even banks and post offices could also collect applications for a fee.”

This raises an important question as to why IPO applications are still required to be made in physical form while several other processes, including filings with the Government (for example the MCA-21 under the Companies Act, 1956) can be made online. Perhaps the time is opportune for a change in the process.

About the author

Umakanth Varottil

Umakanth Varottil is an Associate Professor at the Faculty of Law, National University of Singapore. He specializes in corporate law and governance, mergers and acquisitions and cross-border investments. Prior to his foray into academia, Umakanth was a partner at a pre-eminent law firm in India.

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