Cracking the honey pot

Costly capital is coming under scrutiny, says Peter Rodgers

What attack on the City could possibly unite leading lights in the Labour party, US investment bank Morgan Stanley, former Tory minister Francis Maude, Steve Robson, a senior Treasury official, John Mayo, finance director of Zeneca and Will Hutton, the polemical author of The State We're In?

The connecting thread is their apparent suspicion that investment managers are undermining British industry, by making it unnecessarily expensive to raise new capital. It's a suspicion substantiated by the fact that the Office of Fair Trading is now concluding an inquiry into the fees charged by the City for underwriting new share issues for companies. Expected to report later this year or early next, the OFT may well toss the whole issue over to the Monopolies and Mergers Commission for a full investigation.

The OFT has opened a wriggling can of worms. Underwriting fees are only a small part of the larger argument, but because fund managers' fees are hard to defend, they may find it difficult to fight off a wider inquiry.

While market forces are rampant in the City, underwriting fees have been curiously immune from competition. Fees are 2 per cent of the value of a share issue, with 0.5 per cent going to the merchant bank, 0.25 per cent to brokers, and 1.25 per cent to sub-underwriters (mainly pension and insurance funds) who guarantee to buy the new shares if no one else will. Not surprisingly, the OFT suspects a cartel is driving the gravy train.

To head off an MMC inquiry, the National Association of Pension Funds and the Association of British Insurers are trying to demonstrate to the OFT that it is possible to make fees more competitive and flexible. After a meeting with the London Investment Banking Association (LIBA) earlier this month, the NAPF and the ABI wrote to their members warning them to expect more flexible under-writing fees.

One suggestion, which came from Schroders, was to auction part of the sub-underwriting to introduce competitive pricing. But LIBA admits it is unlikely that such innovations will be in the market place in time to impress the OFT. But not only may the initiative be too late, it is proving impossible to treat fees in isolation because they link into three other areas about which investing institutions are extremely sensitive: pre-emption rights for shareholders, the high dividends paid by British firms compared with overseas rivals, and the overall cost of capital.

Some institutions wonder whether they are being fitted up by an unholy alliance of US investment banks, and the Treasury, which is encouraging the OFT to blow open the whole capital-raising process.

Thus Mr Maude, who now works for Morgan Stanley but also chairs the Government's deregulation panel, is allied with Mr Mayo of Zeneca - a former Warburg executive who advised on the demerger from ICI - in wanting a thorough overhaul of the capital raising system and a whittling away of pre-emption rights. Cheering them on are the other London-based US investment banks, and firms such as SBC Warburg. These critics claim that pre-emption rights restrict the ability to market UK company shares to foreign investors, creating a blockage on the supply of cheaper capital.

The argument supporting the claim that pre-emption rights are too expensive, rests on the sale of equity in rights issues to shareholders - the new shares are normally at a discount, which is equivalent to adding a free scrip issue of new shares into the pot. To offset this, companies ought to cut their dividends, otherwise their total cash payouts will rise, making new capital expensive. But in reality, companies are too afraid of shareholder reaction to make such cuts -a fact which undermines the defence of the pre-emption rights system.

The NAPF and the ABI have belatedly written to their members suggesting directors do cut dividends when they make rights issues. Yet the strongest defence of pre-emption rights is the simplest. Why remove these rights at a time when most people agree that big shareholders should start exercising a longer term and more thoughtful discipline over their companies? There is no better moment to influence a company than when it comes forward cap in hand.

Start your day with The Independent, sign up for daily news emails
ebooksAn unforgettable anthology of contemporary reportage
Latest stories from i100
Have you tried new the Independent Digital Edition apps?
Independent Dating

By clicking 'Search' you
are agreeing to our
Terms of Use.

iJobs Job Widget
iJobs Money & Business

Recruitment Genius: Digital Optimisation Executive - Marketing

£30000 - £35000 per annum: Recruitment Genius: The UK's fastest growing, multi...

Recruitment Genius: Financial Reporting Manager

£70000 - £90000 per annum: Recruitment Genius: A Financial Reporting Manager i...

Recruitment Genius: Payments Operations Assistant

£23000 - £25000 per annum: Recruitment Genius: They win lots of awards for the...

Recruitment Genius: Telephone Debt Negotiator

£13500 - £20000 per annum: Recruitment Genius: This nationwide enforcement com...

Day In a Page

Sepp Blatter resignation: The beginning of Fifa's long road to reform?

Does Blatter's departure mean Fifa will automatically clean up its act?

Don't bet on it, says Tom Peck
Charles Kennedy: The baby of the House who grew into a Lib Dem giant

The baby of the House who grew into a Lib Dem giant

Charles Kennedy was consistently a man of the centre-left, dedicated to social justice, but was also a champion of liberty and an opponent of the nanny-state, says Baroness Williams
Syria civil war: The harrowing testament of a five-year-old victim of this endless conflict

The harrowing testament of a five-year-old victim of Syria's endless civil war

Sahar Qanbar lost her mother and brother as civilians and government soldiers fought side by side after being surrounded by brutal Islamist fighters. Robert Fisk visited her
The future of songwriting: How streaming is changing everything we know about making music

The future of songwriting

How streaming is changing everything we know about making music
William Shemin and Henry Johnson: Jewish and black soldiers receive World War I Medal of Honor amid claims of discrimination

Recognition at long last

Jewish and black soldiers who fought in WWI finally receive medals after claims of discrimination
Beating obesity: The new pacemaker which helps over-eaters

Beating obesity

The new pacemaker which helps over-eaters
9 best women's festival waterproofs

Ready for rain: 9 best women's festival waterproofs

These are the macs to keep your denim dry and your hair frizz-free(ish)
Cycling World Hour Record: Nervous Sir Bradley Wiggins ready for pain as he prepares to go distance

Wiggins worried

Nervous Sir Bradley ready for pain as he prepares to attempt cycling's World Hour Record
Liverpool close in on Milner signing

Liverpool close in on Milner signing

Reds baulk at Christian Benteke £32.5m release clause
On your feet! Spending at least two hours a day standing reduces the risk of heart attacks, cancer and diabetes, according to new research

On your feet!

Spending half the day standing 'reduces risk of heart attacks and cancer'
With scores of surgeries closing, what hope is there for the David Cameron's promise of 5,000 more GPs and a 24/7 NHS?

The big NHS question

Why are there so few new GPs when so many want to study medicine?
Big knickers are back: Thongs ain't what they used to be

Thongs ain't what they used to be

Big knickers are back
Thurston Moore interview

Thurston Moore interview

On living in London, Sonic Youth and musical memoirs
In full bloom

In full bloom

Floral print womenswear
From leading man to Elephant Man, Bradley Cooper is terrific

From leading man to Elephant Man

Bradley Cooper is terrific