“Policy makers and investors need to take a more balanced and contextual view on share pledging by family promoters rather than castigating the phenomenon.”
A
research study, authored by Dr. Nupur Pavan Bang, Professor Sougata
Ray, Nandil Bhatia and Professor Kavil Ramachandran of the
Thomas Schmidheiny Centre for Family Enterprise at the Indian School of Business
(ISB), highlights the prevalence of share pledging in the Indian context and
the possible implications that pledging may present for stakeholders,
especially in family firms.
Using data for 1,492
firms listed on the National Stock Exchange of India from 2009 to 2019, the
study finds a decline in firm value, higher crash risk and underinvestment in
innovation by firms where promoters of family firms pledge their shares. The
study also shows how some firms have utilized share pledging by family
promoters as a tool to raise capital for strategic projects and create value
for the stakeholders.
The various scandals,
loss of control of the firm by family promoters, regulatory responses and
warnings led to the common perception that all share pledges by promoters are
bad. Existing empirical research around pledging of shares is sparse and does
not account for the heterogeneity among the possible use-cases of capital
obtained from pledging of shares. The study calls for more nuanced studies on
pledging to explore this anomaly contextually and to avoid painting all cases
with the same brush.
Co-author, Professor
Sougata Ray explains that “the commonly peddled negative narrative on
pledging often dissuades fact based, informed, balanced, and nuanced debates on
its utility, causes and consequences, backed by rigorous research in spite of
its ubiquity in India and many other economies of the world. Along with large
sample data driven research, there is a need for case study based research on
pledging in order to understand the variations of the same.”
The study was released in
a webinar in the presence of Dr. Satyanayana Chava, Founder and CEO, Laurus
Labs; Professor Prasanna Tantri, Executive Director, Centre for Analytical
Finance, ISB; the authors of the study; and industry stakeholders. It has
important implications for investors, regulators, board of directors, and even
family members. Pledging of shares, coupled with bad decision-making and/or
over ambitious growth plans, resulted in complete destruction of family wealth
in many family firms. There is need to create awareness and build stronger
family governance processes that would put checks and balances with regards to
excessive pledging.
Speaking at the webinar,
Dr. Nupur Pavan Bang said, “The study provides a clarion call for
acknowledging that pledging is an important tool to access financial capital
for family promoters. It is a legitimate way to raise entrepreneurial financing
amongst family businesses and a source of fund to turnaround the family firm if
it is in trouble. Policy makers and investors need to take a more balanced and
contextual view on share pledging by family promoters rather than castigating
the phenomenon.”
The
study lists important implications for stakeholders of family firms, such as,
promoters, family members of the promoting family, investors, the firm’s board of
directors, and the regulators. A few of them include:
- Over-optimistic
investment plans and over-pledging of shares by the promoters, without
pre-planned repayment strategies, are likely to lead to a crisis later.
-
Investors must keep
a track of their portfolio and regularly evaluate if the controlling
shareholders of the firms in which they have invested have pledged their
shares.
-
Board of directors
of firms must caution controlling shareholders from over pledging their stakes
and should shield the firm from such shareholders if they try to manage the
margin calls by taking hasty or short-term view decisions in the firm.
-
The study also has
insights for the regulators such as the RBI and SEBI to take more balanced view
of pledging when making policies.
-
Further, there is need to create
awareness and build stronger family governance processes that would put checks
and balances with regards to excessive pledging.
