QUESTION: Explain the several problems associated with the primary market?
ANSWER: PRIMARY MARKET: In a primary market, securities are created for the first time for the investors to purchase. New securities are issued in the market through a stock exchange, enabling the government as well as companies to raise capital. For transaction taking place in this market, there are three parties involved:
- Company
- Investors
- Underwriter
A company issues the security in a primary market as initial public offer and the sale price of such new issue is determined by a concerned underwriter which may be or may not be a financial institution. An underwriter also facilitates and monitors the new issues offering. Investors purchase the newly issued securities in the primary market. Such a market is regulated by SEBI.
FEATURES:
- It is also known as new issue market as it is the market for new issue of long term capital.
- Here the securities are issued by the company for the first time directly to the investors.
- On receiving the money from the new shares, the company will issue the security certificates to the investors.
- Amount obtained by the company after the new issues are utilized for expansion of present business.
- Financial assets sold only can be redeemed by the original holder of the security.
PROBLEMS FACED:
- INEFFECTIVE MOBILISATION OF SAVINGS: It is felt that new issue market has not fared well in the recent past. Particularly, the new issue market could not mobilize the adequate savings from the public. Hardly 5% of the household savings is mobilized for investment in shares and debentures. A larger portion of domestic savings goes to the private market or the financial institutions.
- FUNCTIONAL AND INSTITUTIONAL GAP: The new instruments in the new issue market do not appeal to the investing public. The reason is that the merchant banking which is the major player in the new issue market is still in its infancy in India.
In fact, the merchant bankers are not playing any development role and they do not pay adequate attention to the preparation of project reports, though it is their responsibility to do so. As a result the small investors are often deceived by the tall claims of the companies and they do not find the new issues attractive.
- RISK AVERSION: Underwriters and financial institutions subscribe more preference shares and debentures than equity shares. The reason is that debentures, being fixed income bearing securities are more attractive to the investing public, so they prefer debt over equity securities.
Understandably, they hesitate to invest in equity shares as they do not fetch any fixed income, so the companies themselves have shifted from equity financing to debt financing.
- INORDINATE DELAY IN ALLOTMENT PROCESS: The average investor in semi urban and rural areas has to send the application form for shares to the centres where banks accept it. He has to incur some expenditure on securing a bank draft or postal charges for mailing it. Till the shares are allotted, he suffers loss of interest. If shares are not allotted, he has to pay collection charges in getting the refund of application money.
Moreover. If the shares are allotted, there are inordinate delays in receiving allotment letters, share certificates and also in effecting transfer of shares. Again dividend warrants, refund orders, interest payments etc. are not encashable at par in all cases.
All these problems cause hardships to the small investors, especially in the rural areas and the rural investors get discouraged and refrain from applying for the new issues.
- PROBLEMS OF THE COMPANY: The issuing companies also suffer from certain problems. They are often tempted to present a rosy picture about the projected figures of turnover, profits, dividends etc. for the future, which can be avoided.
Secondly, some companies make exaggerated claims about their prospects to the public.
Thirdly, their claims about over-subscription are often false. Apart from these, there are no fixed norms for appraisal of the projects prepared by the companies.
| ALSO STUDY: | ALSO STUDY: |
| Depositories act 1996 | Functionaries of stock exchange |
| Money Market |
