Doctors failed to diagnose own symptoms

A.V.Rajawade makes some intuitive statements on the Wall Street fiasco. The best I quote

“…With total assets of $640 billion, [Lehmann Brothers] would be the largest ever bankruptcy filing in history. Those who charged millions of dollars as fees for advice on restructuring or selling others’ businesses could not manage to save their own…”

I concur. I have been way too immersed in the I-Banking sector to refute that. I know their mediocre and credentialist ways. In the PE world, mediocrity just rules the roost.

.

Oh, what a birthday for Mr.Pandit...

Says the Economist.

VIKRAM PANDIT has just celebrated his 51st birthday, but this will not be the best week of his year. His first set of quarterly results as boss of Citigroup was one for the history books, for all the wrong reasons: a record net loss of $9.8 billion, driven by a whopping $18.1 billion in pre-tax write-downs and credit costs on exposure to subprime mortgages. This was more than even the most pessimistic analyst had forecast—although gossip had pointed to $20 billion or more. But that doesn’t bar the off-shoring vendors including the SWITCH from extracting their pound of flesh.

.

It’s their opportunity, stupid…
.

Tata-JagRover bet - will it payoff...?

“It is dangerous to substitute return on equity with business hubris when doing deals, and the whole thing had better make business sense” – goes T.N.Ninan of Business Standard on the Tata-Jaguar/Land Rover deal.

Ninan is sceptical even though Ratan Tata is getting both brands for $2 billion, much less than $5 billion paid by Ford to acquire them back in 1989 and further $10 billion that went into Jaguar to refurbish it. Rover is profitable, but Jaguar reportedly lost over $700 million in 2006 and perhaps over $550 million in 2007; it is expected to lose $300 million more in 2008. Rover sells close to 200,000 vehicles a year, but Jaguar sales have been falling quite sharply in its main market, the United States. He wonders whether Tata has bitten off more than he can chew. I am also reminded of Mitchell Madison and Whitman Hart deal where two billion $$ companies merged only to find the combined revenues were far less than $2 billion.

While Ninan concedes – going by earlier Tata buyouts overseas including Corus - that “Tata seems to have a good head for corporate strategy”, he doubts whether Tata would be able to achieve what Ford could not. He cites the examples of recent Sovereign wealth fund investments in Citigroup and Morgan Stanley (there are UBS, Merryl Lynch and Bear Stearns too) where the investors remain passive and would not insist on management control - but Indian acquirers love control. I say they have the chutzpah.

May be Ninan feels Tata could be in for a jam in this deal because of dealer perceptions, as he says “the people whom Tata would want on its side are the dealers in the US, but they seem to think Indian ownership is poor branding”.

My sense is that Ninan’s comparison of Tata-Jag Rover acquisition with fund infusion into American banks by Asia’s Sovereign funds is not quite up. Those funds are basically financial investors that focus on maximising ROI on their forex surplus as a part of their portfolio management strategy. To that extent, it's their fiscal management strategy too. They are concerned more about returns and not where it comes from. They simply don’t have the strategic bandwidth to take control and run diverse businesses that they invest in. Moreover, the managements of American banks like Citi, Merryl Lynch, Morgan Stanley are not bad by themselves going by the size and scale they've notched up. Just that they took a few bad bets that backfired. But that is to be expected because banking is indeed a business of betting on credit risks of varying degrees. What if those bets had paid off? But Tatas (and Lenovo example that he cites) are strategic investors with a track record of running global businesses and it’s not right to put them in the same basket as pure financial investors like wealth funds. The rationale behind their investments are fundamentally different. Tata would have certainly done their math and if the experience of Corus acquisition and its on-going integration is anything to go by, they would make the most of Jaguar-Land Rover deal too.

.

Controlled bleeding or cauterization...?

Agreed, not so upbeat title for an Economist story with no hemal touch. But as an opener, it isn’t entirely out of place either. The metaphor fits in water tight. Excerpts -

"That was the unappealing choice facing UBS, a Swiss bank which has been badly hurt by the carnage in America’s mortgage market. Today, the bank opted for the latter. First it opened the wound, by announcing a hefty $10 billion write-down on its exposure to subprime infected debt. UBS now expects a loss for the fourth quarter, which ends this month. It may end up in the red for the entire year. Then came the hot iron: news of a series of measures to shore up the bank’s capital base, among them investments from sovereign-wealth funds in Singapore and the Middle East."

[It started with Merryl Lynch, then Morgan Stanley and Citi Group bringing up the rear.] "Why then did this new batch of red ink still come as a shock? The answer lies not in the scale of the overall loss, more in UBS’s decision to take the hit in one go. The bank’s mark-to-model approach to valuing its subprime-related holdings had been based on payments data from the underlying mortgage loans. Although these data show a worsening in credit quality, the deterioration is slower than mark-to-market valuations, which have the effect of instantly crystallising all expected future losses."

Will this bloodbath end, ever…? Loss of reputation for a conservative bank like UBS is deep enough cut. What is worse is the impact that has exposed the fluidity of its capital adequacy ratios at the tier 1 level. Of course, it has rich friends ready to pitch in. The white knights include sovereign-wealth funds (GIC, Singapore) and rich middle east investors that have pledged support to shore up its bottomline by infusing SFr 19.4 billion. Marrying bigger-than-expected write-downs with bigger-than-expected boosts to capital looks like the right treatment in this environment. But UBS still cannot be sure that its problems are over.

.

Don't hire an engineer when you need an accountant

Ashish K Bhattacharya rants on the poor accounting literacy of MBAs. He seems to be quite modest in that he restricts it to students not wanting to specialize in finance; but I go even the specialists are no better.

Map it to reality. It’s almost six months since MBA bankers in Wall Street began counting losses on CDO’s built into sub-prime mortgages. Heads roll, albeit with bumper payoff. Numbers fly. Here, here and here. But they’re still counting. Most of these MBAs have engineering background and they are supposed to be good, sorry; brilliant at math….!

But look at what these “financial engineers” have done to the credit markets. They invented the time bomb – subprime derivative time bombs I mean. The exotic derivatives that the MBA designed, called CDOs kept all liabilities off balance sheet and investors had no idea what they were letting themselves in for if borrowers go broke. They did and that’s why they are still counting.

This is the leitmotif of this whole thing: Half baked MBAs played havoc with mortgage banking. They write loans just to build the book, thinking they will worry about risks later. But now it's later.

Financial Risk management has long ceased to be the preserve of conscientious accountants that feared risks, knew the law, respected disclosure, and lost sleep over declining ROI. Now it’s the domain of MBAs that contrive fabulous stock options and packages for themselves. Or worse, it’s usurped by robots and algorithms. That’s how it becomes financial engineering. Shareholder who? They ask. Look at the exotic derivatives that hid more than they revealed. A shareholder is often the last to know the exact liabilities of the business, a piece of which he actually owns.

Hire MBAs by all means. But make sure they have their fundamentals right and their feet stays rooted to the ground.

.

Lend but don’t call back

Looks like India has its own subprime disaster in the making. ICICI Bank recently took the unprecedented step of paying Rs 15.5 lakh in the form of fixed deposit and insurance covers to the family members of a Mumbai borrower who committed suicide allegedly after being harassed by recovery agents of the bank, there was a case of recovery agents being beaten up when they approached a borrower to ask for payment against overdue amounts.

Until recently, personal loans were one of the most sought after segment by banks after they found that individual lenders default rates were far lesser than corporates and other organized borrowers. They relied on agents to press recovery from defaulters and mostly it worked. Now this segment has also crept up to `organized’ category – at least in beating up recovery agents that come calling – the threat of willful default looms large even by those who can afford to repay.

Time to short banks? ICICI, HDFC, Indusind, Centurion Bank of Punjab have all built up a good deal of personal loan books. Great shorting bets, I guess…

What do you think…?

.

Rewarding the Lemons

Lately, this story from my younger days cross my mind often.

.

The Emperor Paul, of Russia, was so provoked by the awkwardness of an officer on review that he ordered him to resign at once and retire to his estate. “But he has no estate," the commander ventured. “Then give him one!" thundered the despot, whose word was law, and the man gained more by his blunders than he could have done by years of the most skillful service.

An involuntary smile came to my lips as I think of the ravage caused by subprime mortgage lenders and the liquidity infusion from central banks of US and Europe….

Rewarding the lemons?

.