Watch out for pledged shares; they're key to a company's health

Sep 02 2013, 08:12 IST
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Cos with high amount of pledged promoter shareholding are susceptible to erosion in stock prices. Cos with high amount of pledged promoter shareholding are susceptible to erosion in stock prices.
SummaryCos with high amount of pledged promoter shareholding are susceptible to erosion in stock prices.

tenure of one to three years and carry a margin requirement of two or three times,” said the ICICIdirect report. This means that the promoters have to keep shares worth 2-3 times the money borrowed.

Market experts say that in the current environment, banks have grown risk averse and are largely giving loans backed by collaterals which is also leading to a rise in pledging of shares.

“Banks are going for largely collateral backed lending in the current environment and while it is getting tough to raise funds a lot of promoters are resorting to pledging of shares to raise funds,” said Rikesh Parikh,VP, equity strategies, Motilal Oswal Securities.

Rise in pledging is a result of overall stress in the system. While in some cases promoters may have pledged shares to fund their own contribution for any new project, in other cases their pledging would have gone up with fall in their share prices to make up for additional security requirement against the borrowing.

While the overall system is witnessing the pressure, there are some sectors that are positioned much worse than others. The infrastructure and real estate sector are the worst positioned in terms of the promoters holding that is pledged. For Infrastructure sector 31.5 per cent of the promoters holding stands pledged while for real estate sector it stands at 30.3 per cent.

Next in line are textile and the capital goods sector where it stands at 27.7 and 22.2 per cent respectively.

Where does the risk lie?

As the fund raised by way of pledging of shares come at a premium, higher pledging by the promoter reflects a weak financial health of the company and the promoter and his inability to get cheaper source of funding.

The risks lie on several fronts. On the business front, such companies may find it tough to maintain their margins as most of the borrowing through pledging of shares is at a higher cost. In case of pledged shares, the lenders hold the right to sell the shares in case the promoter defaults on his repayment and the lender can sell the shares in the open market which may lead to fall in share prices. In certain cases, the promoters may also end up losing management control of the company.

In a recent case, State Bank of India in April 2013 sold shares of United Spirits and Mangalore Chemicals and Fertilisers that were pledged to them by Vijay

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