IPO Mandatory Grading SEBI

Please see below my letters to the Chairman of  Sebi – Securities and Exchange Board of India during Oct. 2010 as well the one in 2007 to the then Chairman of Sebi and the then Managing Director of CRISIL. Sebi had introduced a wonderful ‘mandatory grading’ for companies that go in for IPO. Please have a look at it.

Dated: 30-09-2010

Shri C B BHAVE, Chairman
Securities and Exchange Board of India, Bandra(East), Mumbai 400051

Dear Sir,

Sub: IPO Grading:

With keen interest I read the report recently quoting you thus: ” “In a bid to maximise returns for promoters, they (investment bankers) are not looking at the interests of investors,’’ Mr Bhave, chairman of the Securities and Exchange Board of India (Sebi), said at a banker conference. “You need to introspect whether it is a healthy practice. If you keep investors disappointed day in and day out, the cause of investors will only be a lip service. ”

In this context I am pleased to attach my letter dated 29 April 2007 to the then Chairman of Sebi with a copy to the then MD of Crisil. I appreciated the steps taken by Sebi particularly the assurance given by the Chairman of Sebi: “In a letter to the rating agencies and industry bodies, Sebi chairman M Damodaran says, The measure…is being decried in the hope that it would be discontinued. It is Sebi’s intention to press ahead with the introduction of the mandatory grading

I continue to have the same views even now that Sebi should insist on the continuation of the mandatory grading exercise. My above referred letter to Sebi clearly indicates the guidance to do the grading exercise explaining therein the treatment of intangible, as the mandatory grading necessitated to grade the parameters set by Sebi on five process areas: Earnings Per Share, Financial Risks, Accounting Quality, Corporate Governance and Management Quality My suggestion given was to treat all the five as intangible including EPS converted into Relative efficiency. The purpose of my sending to CRISIL was to make the rating agencies aware that there is a good possibility to do the grading, having found the approach paper presented during that time by P.K.Choudhry of ICRA as absolutely inadequate not having understood the concept of grading for IPO.
The concept of IPO is what you have clearly articulated, i.e. looking at the interests of the investors. Investors are not interested to know how the issuing company had done in the past financially, but how they would ‘govern’ in the future, which is the very purpose of the five criteria set by Sebi for grading. The grading gives an assurance of the ‘governance’ of the promoters as of now and how it would be taken further by providing the grading of say Management Quality that stands at the time of IPO at 2 and that how they would reach the target of 5 say within a year or two. As of now, all figures that are generated during the IPO is best forgotten once the allotment takes place. I have gone through several of the grading given by rating agencies and one has no clue whatsoever how they give the grading for a few days only. To be fair to the promoters one should also look into their clueless ways of rating: In fact when I inquired about the reason why his organisation got an IPO Grading of only 1, this is what I got the reply, from: AN Lakhotia: dated

30th April 2007. QUOTE:

Dear Sir,

I am really impressed by your interest on the subject. At MBL it is our endeavour to adapt the organisation. However I am at a loss as to how to salvage the damage caused to MBL by the unfair grading by a reputed agency like CRISIL on wrong premises and widely circulating the same. with regards, A.K.Lakhotia UNQUOTE

I am pleased to inform you that I have authored and published a book Titled: Inactivity Based Cost Management [IBCM] with a Sub-Title: “Measurement of Intangible: Governance, Ethical & Fiscal Responsibility and Accountability.” and the crux of the matter is no different from what I had sent to Sebi in 2007. I am pleased to attach the Preview of the book for your study. There are 18 chapters with the last Chapter on Business Ethics where I have elaborated the measurement of fiscal responsibility incorporating the criteria of process areas set by Sebi. There is an extensive coverage in the book that runs to nearly 270 pages in the book form, on the various financial scandals from Lockheed beginning 1977 to Siemens in 2007, with analysis of IASB,FCPA, OECD and UNCAC. UNCAC is taken up as the main case-study on application of the principles of IBCM. To quote from the book relevant to IPO: QUOTE: ” The contrast is striking between an Investcorp private-placement memorandum and a prospectus approved by the Securities and Exchange Commission. The SEC-approved prospectus for Gucci is filled with warnings and disclaimers, including a section on “risk factors” that runs 3½ pages. A Saks private placement memorandum circulated to mostly Arab investors discusses risk factors in less than a page and the language is much less blunt. UNQUOTE
I have at length elucidated the demarcation line between Ethical Responsibility and Fiscal Responsibility thus: “Free enterprise is an expression of freedom, whereas Ethical Responsibility is an expression of liberty, that threshold values emanate to bridge Ethical and Fiscal Responsibility.”

The theme of the book is: Activity is a cost incidence whereas Inactivity a Cost Consequence. It is imperative to measure Cost Consequence. Balance Sheet measures the Cost Incidence whereas Cost Consequence is left to be faced by the public. Cost Consequence is the very essence of Governance and IBCM provides the platform to box the Accountability so that Cost Consequence
could be evaluated. If the mandatory grading before an IPO and followed-up later correctly it will be a great opportunity for the entrepreneurs with good governance to showcase their capability to the public who can distinguish the wheat from the chaff opening up an entirely different corporate and market structure. Same applies to the Private Equity investors who have burnt their boats badly these days.

I shall always be at your service should you need my expertise in this field. The purpose of this book is to establish in the same line as IASB, an International Ethical Standards Board – IESB. I implore Sebi to take a lead.

Jayaraman Rajah Iyer

Kodaikanal, India

The regulatory body of different countries must adopt this mandatory grading for all the companies that go in for an IPO.

Below you may please check on the letter written to Sebi April 29, 2007:

Mr. M. Damodaran
Securities and Exchange Board of India SEBI Bhavan, Plot No. C-4A,G Block, Bandra Kurla Complex,
Mumbai 400051

Dear Sir,

SUB: Grading – Methodology – for IPO
I am a Chartered Accountant with varied experience in Industry here in India and abroad, aged 64, and had taught specialized subjects to some of the management schools in Mumbai as a visiting faculty. My speciality is the evaluation and measurement of intangibles.

Economic Times reported, quoting you thus: “In a letter to the rating agencies and industry bodies, Sebi chairman M Damodaran says, The measure…is being decried in the hope that it would be discontinued. It is Sebi’s intention to press ahead with the introduction of the mandatory grading exercise.”

I became curious after looking at the website of CRISIL, the rating of one of the companies going in for IPO at 1/5 meaning the lowest rating and was wondering how the company would be finding themselves in a fix being unaware of the areas of improvement to reach the rating of 5/5. This is in response to my curiosity related to my specialized field of intangibles that I offer my comments and a methodology if found useful would strengthen the measures initiated by SEBI on IPO rating. I am a great supporter of the measure undertaken by SEBI in this direction as I find this is an absolute necessity for Indian companies to optimize their disciplines.
My suggestion: Grading category: “This grading is based on the rating agencies’ assessment of company’s fundamentals and considers the parameters such as earnings per share, financial risks, accounting quality, corporate governance and
management quality.” It is interesting to note that the last 4 categories belong entirely to the realm of ‘Intangibles’. When a grading of 1/5 or 5/5 is given it will be a combined rating of ‘tangibles’ for 1 above and ‘intangibles’ for items 2 to 4. The parameters referred are only a beginning and in future it could possibly grade ‘Human Capital’ or ‘Intellectual Capital’. This suggestion raises these issues and brings about a consensus to have a methodology which is i. simple, ii. understood by all and iii. provides a base of measurement to genuinely improve upon the corporate transparency.

It is a square peg in a round hole. We try to represent the intangible in a Balance Sheet with as many accounting standards to support the inclusion but fail to do so when an intangible such as brand value or human capital needs to be represented. The theory I propose is to identify and isolate intangible as intangible without mixing up with any tangible items. ‘Corporate Governance’ or ‘Management Quality’ cannot be values in terms of figures but can be graded no doubt. What is needed is the recognition that these elements form part of the domain called ‘intangible’ and treat the same as such independently.

This is imperative in understanding the methodology to grade for the purpose of IPO or otherwise. To start with category ‘EPS’ is being replaced with ‘Operational efficiency’ to fall in line with the other 4 areas under observation as intangibles.
Kindly bear with me the examination to derive from the empirical analysis, as an intangible needs to be seen and observed, before grading them. It is not an easy subject, but as I see being mentioned that such a grading system is not done anywhere in the world excepting in India, I am too willing to assist SEBI and the rating agencies in implementing this process of grading effectively. I have brought my own thesis into this and I have a few case studies should there be a need for further discussion.
Thanking you,
Yours truly,


Cc: Mr. Ravimohan, MD, CRISIL

Between 2007 and 2010 the rating agencies have continued to rate this IPOs at their whims and the public continued to invest in shares without a clue about what the rating given means. This is a case of how ‘good intentions’ can turn into broken promises and wasteful spending.  If ‘good intentions’ needs to be strengthened then the rating system must be robust based on good foundation to be referred as a substance. Without creating the same both the rating agencies as well Sebi have failed miserably in their good intentions. Both should get the method of assessment of the four areas of intangible available from my book, Inactivity Based Cost Management: Measurement of Intangible: Governance, Ethical & Fiscal Responsibility and Accountability.


Jayaraman Rajah Iyer

Kodaikanal, India

Twitter: @jayaribcm
Author of Inactivity Based Cost Management:

27 Oct. 2010

Published by jayar

Author - CorporateMOM - Sustainability of Corporate Stability

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