Good offerings, bad offerings

In what can be seen as an international precedent, capital markets regulator, Securities and Exchange Board of India (SEBI), has made it mandatory for companies to get their Initial Public Offering (IPOs) graded. The official reason seems to be fear — bad companies hitting the IPO trail and vanishing with 'gullible' small investors' money. Is the fear and therefore the move justified? Does this take away a market function? Deepti Bhaskaran takes on the questions

• What is IPO grading?

It is a service offered by rating agencies aimed at providing an assessment of equity issues offered to the public. The grade assigned to a company reflects the assessment of its 'fundamentals', in the rating agency's opinion. The grading is done on a scale of one to five, where one indicates a company with the weakest fundamentals, and five indicates a company with the strongest fundamentals.

• Who grades IPOs?

Currently three rating agencies — Crisil, Icra and Care — are offering IPO grading services. It is now mandatory for a company to get a grading before it goes public. This grade also has to be mentioned in the company.

• What is the basis of this grading?

Broadly, there are five parameters on the basis of which the rating agency will arrive upon a grade — earnings per share, financial risk, accounting quality, corporate governance and management quality. A company excelling on all of these parameters will get a good grading while not so good companies will have a lower grade.

• What is the idea behind this grading?

Grading of an IPO is expected to help an investor decide whether to partake of the company's future or whether to give it a miss. A good grading reflects strong fundamentals and a potential for the company to sustain market volatility. A company with a grading of five is more likely to recover from a crash and is more likely to stay on a growth trajectory than a company with a grading of three or two.

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