Flawed public listing regulations and corporate tax cut: How rational is it?

Subject to exceptions for Tobacco, Telco, Banks, Insurance and NBFIs, standard corporate tax for a listed company is 25 percent as against 35 percent for an unlisted one. A company can enjoy further 20 percent tax cut in the first year of its IPO, if it offers at least 20 percent share to the public.

The underlying aim of giving such incentives is to encourage MNCs and other profitable companies to get listed with the stock exchanges. We have shortage of supply of quality scripts in the market. It is believed that the companies will take advantage of the tax differentials and thus their enlistment with the exchanges will increase the supply of good shares and make the market attractive for the domestic and foreign portfolio investors.

The public listing of companies is also a mean to diversify the concentrated ownership and ensure enhanced corporate governance of the companies. Investors for long have been demanding steps to compel MNCs and other large-scale companies to get listed with the stock exchange.

Instead of regulatory intervention the government opted to use fiscal means, leaving the decision to the discretion of the companies. It is in this context the government introduced the discretionary tax, hoping that such measure would help increase supply of quality shares, enhance liquidity, diversify concentrated ownership and thus make the market more attractive to the investors.

To what extent such policy has succeeded to attain its primary purpose is a matter of research and beyond the scope of this article. What we would like to argue here is- whether it is rational to give tax cut to companies whose ownerships are highly concentrated and does not maintain the minimum public shareholding criteria?

Any tax-cut is a cost to the country and requires prudent judgment as to the benefits being derived from such costs. Because of certain flawed regulatory provisions both in our tax and listing regulations, as discussed in the subsequent sections, companies are taking benefit of the tax-cut without contributing to the very purpose of the incentive.

As per tax regulations any company listed with a stock exchange qualifies for reduced corporate tax as discussed in the beginning of this write up. There is no condition as to the amount of public shareholdings. A company that have 40 percent public shareholdings and another one that offers five percent to the public are equally eligible for reduced corporate tax.

Listing of companies is regulated by Bangladesh Securities and Exchange Commission (BSEC). According to BSEC's Public Listing regulations 2015, a company must offer at least 10 percent of its paid up capital or Tk150 million (whichever is higher) to the public to be eligible for public listing among other criteria. In September 2019, BSEC amended the minimum public offer condition replacing Tk150million with Tk300million.

Minimum public issue requirement is designed with the aim to diversify the shareholding concentration and increase the supply of shares in the market. This gives general investors particularly the small scale investors an opportunity to invest in the shares of good companies. However, there are several inherent flaws of the BSEC regulations.

First, BSEC's 10 percent or Tk300 million rule applies only during initial or repeat public offer and does not require the companies to maintain this free float on a continuous basis. Second, the provision applies to companies that go for IPO or RPO after enactment of the statutes.

The regulation is silent about the companies that were already listed with the stock exchanges (before enacting the regulations) and does not fulfill the minimum public shareholding criteria. We may mention here that India in 2010 revised its minimum public shareholding requirement to 25 percent of paid up capital.

The listed companies not fulfilling the minimum free float condition were given three years time to diversify the holdings through selling off the sponsors' share to the public. Indian law also requires the companies to maintain the minimum public shareholdings on continuous basis failure of which calls for penalty or de-listing of shares. The listing regulations of the stock exchanges of Bangladesh do not provide for any such provision.

Taking advantage of the regulatory gap, many listed companies and the small cap companies in Bangladesh are enjoying the benefit of lower tax although their public shareholdings are very minimal. We conducted a short survey on the free float of 15 companies listed with the Dhaka Stock Exchange (DSE).

The samples represent the companies traded at highest per unit share price (as on January 30, 2020) and exclude two state-owned enterprises. Of the 15 companies nine are multinationals and six locals. We found that 11 of the 15 companies (comprising 6 MNCs and 5 locals) fail to meet BSEC's minimum public shareholding requirement set for an IPO.

Sponsors of Berger Paints hold 95 percent of the paid up capital leaving only five percent or Tk23.2 million for the other investors. The non-controlling shareholding of other 10 companies though holds at least 10 percent, the paid up capital (in terms of value) issued to them are much less than BSEC's revised minimum standard of Tk300 million.

The capital base of these companies are so small that the public shareholdings in terms of value is between a paltry Tk8.1 million and Tk60.9 million, significantly lower than BSEC's minimum standard. Considering that, non-controlling shareholdings includes institutions and foreign investors, the real free float is even minimal.

Under the current regulations, we cannot call these companies to be non-compliant as there is no compliance requirement at all. The question is whether it is rational to give tax relief to those companies whose public shareholdings are so small? A further analysis of the latest annual report of our sample companies would reveal that the government losses a ball park tax amount of Tk930 million by way of giving tax cut to six MNCs alone.

The amount would be significant if similar other listed companies of the market are taken into account. General investors and the capital market are benefited a little from their enlistment while we sacrifice a significant amount of our public money.

Bangladesh's requirement for public shareholdings of listed companies is one of the most lenient in South East Asian standard. India and Malaysia require at least 25 percent of the paid up capital to be offered to the public which need to be maintained on a consistent basis. Indian Finance minister in her last budget has proposed to increase the holding to 35 percent which if implemented would require a hefty Rs1 trillion worth of shares to be offered by the controlling shareholders.

Listing regulations of Thailand requires 25 percent public shareholding if the paid up capital is less than THB3 billion and 20 percent if it exceeds THB3 billion. In the Philippines the proportion varies on the paid up capital with maximum 33 percent for companies having paid up capital less than PHP500 million and minimum 10 percent for companies with paid up capital over PHP10 billion.

Because of our policy loopholes, we are sacrificing our tax without deriving the benefit for which such tax incentives are being given. Policy makers should therefore look into our listing and tax regulations to make the incentive programme really effective. BSEC may revise its public listing regulations requiring existing companies not maintaining the minimum public shareholdings to offload shares to the public to fulfill the requirement.

They also should amend their regulations so that a company once listed must maintain the minimum free float on a continuous basis as has been done in India and other countries.