The logo of the Adani Group can be seen on the façade of one of its buildings located on the outskirts of Ahmedabad. file | Photo Credit: Reuters
the story So Far: Morgan Stanley Capital International (MSCI), the global index provider for financial markets, on Friday announced that it will reduce the free float designations for four Adani group companies across several indices. As of January 30, these companies had a weighting of 0.4% in the MSCI Emerging Markets Index. The decision was taken following MSCI’s decision to review the free float status of companies belonging to the Adani Group following concerns from investors. Besides Adani Enterprises, MSCI will cut free floats assigned to Adani Total Gas, Adani Transmission and ACC. These changes will come into effect from 1 March.
What is free float?
Free float refers to the proportion of the total outstanding shares of a publicly listed company that are readily available for trading in the market. Generally, shares held by promoters and large institutional investors are not normally freely traded in the market. The free float of a company can sometimes give investors a rough idea about the potential liquidity of the company’s shares in the public market. It should be noted that the weightage assigned to a company’s stock in some indices is based on the market capitalization of the company.
The market capitalization of a company is calculated based on the free float of the company and the market value of the stock of the company. Therefore, a decline in the number of freely floating shares of a company can lead to a decline in its market capitalization and reduce its weighting in indices.
What led to MSCI’s decision?
The decision to reduce the free float assigned to Adani shares comes in the wake of a report released by US-based investment research firm and short seller Hindenburg Research last month. Hindenburg had alleged that over 75% of the outstanding shares of various Adani group companies were owned by his promoters. Indian market regulations stipulate that non-promoter public shareholders must hold at least 25% of the total outstanding shares of the company. The rule is expected to prevent manipulation of stock prices by promoters who may influence the price of a stock by trading among themselves if they hold a substantial portion of the outstanding shares. Specifically, Hindenburg alleged that the Adani group used offshore shell entities to hide holdings by family members of chairman Gautam Adani. If true, this would reduce the proportion of outstanding shares readily available for trading in the float or market.
MSCI earlier said that “characteristics of certain investors” in the Adani group suggested that they should not be considered part of the company’s free float. Nathan Anderson, founder of Hindenburg Research, had said in a tweet that MSCI’s decision to review the free float status of Adani group companies validated his firm’s findings against the group.
However, MSCI’s decision to cut the weight assigned to Adani stocks in its indices going forward may not be solely due to concerns over the free float of these stocks. Shares of Adani Group companies have fallen heavily in the last few weeks, which has affected the market cap of these companies. In fact, since the release of the Hindenburg report last month, the Adani group has lost nearly $110 billion in market cap. Since many indices are built on the basis of the size of the market capitalization of securities, the fall in Adani shares has also affected the weighting of these stocks in the MSCI index.
What will be the effect?
MSCI’s decision will adversely affect capital flows into Adani’s shares. Many passive investors invest in indices that are constructed by bodies such as MSCI. Therefore, a cut in the weightage of Adani’s four stocks in the Emerging Markets Index, which stood at 0.4% as of January 30, will reduce the amount of money coming into these stocks. In fact, Goldman Sachs believes that India’s weight in MSCI’s emerging markets index could drop by 20-30 basis points following the consequential reduction in the weighting of Adani shares.
Being part of an international index allows companies to easily access capital from foreign investors. Even the Government of India has tried to get its bonds listed on global indices. Due to MSCI’s decision, some analysts estimate that there could be outflow of around $500 million from Adani shares. All this could adversely affect the group’s efforts to raise capital from investors, be it in the form of equity or debt offerings. Notably, Moody’s on Friday downgraded the credit rating outlook of Adani’s four issuer units to ‘negative’ from ‘stable’.