OFT refers rights issue underwriting to MMC

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The Independent Online
The Office of Fair Trading dealt the City a severe blow yesterday after it referred the underwriting of rights issues to the Monopolies and Mergers Commission. Tom Stevenson, Financial Editor, reports on the latest move in a long- running battle between the OFT and the investing institutions.

John Bridgeman carried on where his predecessor as Director-general of Fair Trading, Sir Bryan Carsberg, left off yesterday, acting on a long- standing threat to refer the fixed-cost underwriting of cash calls to the MMC. The Monopolies Commission has a year in which to decide whether the City is responsible for a complex monopoly that unnecessarily increases the cost for companies of raising money from the stock market.

The decision comes as a disappointment to the City's investment banks, which have made a concerted effort in recent months to devise schemes that would reduce the cost of underwriting and so fend off a costly and time-consuming inquiry. The terms of the referral made clear that Mr Bridgeman considered the City had come up with too little too late.

Traditionally the cost to a company of raising money on the stock market has been a fixed 2 per cent of the funds raised, but last month Schroders slashed the cost of raising money for housebuilder Berkeley to half as much. Other banks have followed suit.

At issue is the traditional practice of offering institutions 1.25 per cent of the value of a rights issue in exchange for a promise to buy the shares on offer even if the market price falls sharply and no-one else is interested in taking up their rights.

In the Schroders-devised Berkeley issue, investors were instead asked to say how much they would accept in exchange for taking on the risk. The uncertainty was also lowered by offering new shares at a substantial discount to the prevailing market price. Institutions took a lower reward because the chance of the share price falling below the rights issue price was much slimmer.

Mr Bridgeman said: "This market has had several warnings that a failure to introduce greater competition and flexibility would result in an MMC investigation. But, after studying the terms and conditions of 60 rights issues since October 1996, my conclusion is that these innovations have not gone far enough."

He conceded that the City had introduced some new schemes and welcomed initiatives by the Association of British Insurers and the National Association of Pension Funds, the umbrella bodies for the big institutional investors that stand accused of profiting excessively from the monopoly they hold over underwriting.

Although cheaper innovations have been introduced in several rights issues, Mr Bridgeman said he was concerned that the majority of cash calls still used the traditional underwriting method.

He said: "I remain concerned that competition is not working effectively in this market. Standard fees have been charged for underwriting in at least 50 per cent of recent rights issues. In spite of some tendering for sub-underwriting, the fees charged allowed sub-underwriters to make substantial profits over and above what might be regarded as reasonable. The industry has had long enough to behave more competitively and the time has now come for a full MMC inquiry."

Mr Bridgeman said he hoped the inquiry would answer a wide range of questions about the underwriting process. He wanted to know whether there was more scope for competition between underwriters, whether an underwritten issue provided the best value for money or whether issuers should opt for other methods such as the American system where banks take on the whole risk of an issue but often charge much more for doing so.

The inquiry will go to the heart of the institutions' passionately held pre-emption rights, which ensure that the owners of a business are given first call in any subsequent cash raising exercise. They fear that other methods, such as American style placings of stock, could lead to a dilution of their control over the companies they own.

Mr Bridgeman said he also wanted the MMC to investigate whether companies were receiving impartial advice regarding their cash raising efforts and whether there was enough competition between brokers in relation to underwriting.

Outlook, page 25

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