LIC's road to the IPO

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LIC's road to the IPO

  • The Life Insurance Corporation of India (LIC) filed its draft red herring prospectus to kick-start the initial public offering (IPO) process.
  • The Government, which owns 100% of LIC, will be offloading 5% of its stake through the IPO.
  • All the proceeds from the IPO will go towards meeting the Government’s disinvestment target for FY22.

What does the LIC do?

  • LIC makes money by selling various kinds of life insurance products.
  • It collects premiums from customers promising to pay a certain amount as insurance cover in case of death, disability due to accident, etc.
  • When LIC annually pays out less against individual claims than what it collects as a premium from all its policyholders, it makes a profit.
  • The company also invests some of the premium and other surplus money into stocks, government bonds and other investment products, returns from which add to its overall profits.
  • LIC currently pays out just 5% of its profits to the sole shareholder – the Government.
  • The remaining 95% of the profits are either reinvested back into the company or distributed to policyholders as bonuses.
  • This allows LIC to market its insurance policies to its policyholders as investment products besides the element of risk coverage
  • Critics argue the returns offered by LIC are lower when compared with other investments.

Why are policyholders worried about the IPO?

  • The Government has recognised that the way LIC distributes its profits can turn out to be a problem in attracting a lot of investors.
  • Investors who buy shares of LIC would want a larger share of the profits earned by LIC each year if they are to purchase the shares offered by the Government at a price desired by the Government.
  • This means that the share of profits that are distributed to policyholders is likely to drop as the Government tries to sell its stake in LIC at the best price.
  • In short, as the Government tries hard to make its stake sale attractive to investors participating in the IPO, the returns that policyholders could expect from their policies could diminish going forward.

What lies ahead?

  • Policyholders may likely reconsider their investment in LIC’s products as the percentage of LIC’s profits redistributed to them drops going forward, thus affecting their returns.
  • Also, the primary appeal of LIC among policyholders has been the implicit sovereign guarantee offered by the Centre which has convinced policyholders to park their money with LIC despite low returns.
  • LIC parks most of its capital in government bonds and this money can be better used in other ways that yield higher returns and also help the economy.
  • The higher returns can even trickle down to policyholders if greater competition is encouraged in the insurance industry.

Impacts of listing of LICs

  • Profit-making for govt: The government is trying to make the most of the brand value of LIC, as it is one of the few remaining profit-making entities owned by the state.
  • Better returns: Listing will boost LIC’s efficiency and thereby policy returns.
  • Reforming insurance sector: LIC will also become more competitive.
  • This will put pressure on its peers to innovate.
  • Better financial position: Less govt interference will be positive for LIC’s financial health.
  • Risk-free: As long as sovereign guarantee over the maturity proceeds and sum assured to continue, policyholders won’t perceive any risk.

Various challenges

  • Structural challenges: LIC may evolve into a bank like many of its global peers like Axa, Berkshire, and Munich Re.
  • Market hurdles: It remains to be seen if the Indian share market is ready to absorb such a large public issue.
  • Impact on growth: The size of the IPO will determine the extent of liquidity it will suck out, but Indian markets do not have the depth to take the issue of a very size.
  • Fears of disclosure: The Company’s books and operations have been opaque for far too long but it is trusted by 250 million policyholders.
  • Investors trust at risk: Being one of the biggest financial institutions of the country, the move to privatise LIC will shake the confidence of the common man

Way Forward

  • Over the years, LIC has become ‘the lender of last resort’ to the Government of India.
  • Confronted with high fiscal deficit and economy in crisis, the government has to find resources.
  • The government could utilize the money gained by selling off its stakes to improve services in public goods like infrastructure, health and education.