Mr.Bernard Shaw has been perceptive

"If history repeats itself, and the unexpected always happens, how incapable must Man be of learning from experience" – George Bernard Shaw

So I read Sandeep Singhal, MD, Nexus India Capital ( PE fund) and Pankaj Dhandaria, Director, Transaction Advisory of E&Y, reaffirming India as an attractive Investment destination for PE funds as it has robust financial, legal and regulatory framework, mature markets and although moderated, still being reckoned as a growth economy. The long-term perspects of funds, with 7-10 year lock-ins, is aligned with India’s medium- to long-term growth potential. So isn't it time for all the old rhetoric to make a comeback? You bet -on india’s long term prospects, an aspirational young population, the entrepreneurial spirit, resilience, perseverance and innovativeness of Indian promoters that promises great returns to patient PE investors or so it begins to go.

So I ask, why did they run away…? Have something changed in between…?

Pankaj argues Indian infrastructure and Industrials offer great opportunity since there are several projects now reasonably valued, yet to achieve financial closure. They all need capital.

So it’s been always… They found it so and that’s why they came here… What made them dump it all and run…?

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According to Bain & Co, a consultancy, private equity funds invested a total of $1.4bn in 2006, and $3.6bn last year. However, in the year to date aggregate, Pipe investments have totalled $1.4bn.

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They had better recognize the problem is with the PE investor mindset. Especially the foreign ones. They chased projects madly when valuations were ridiculously high, deals I thought should never happen, happened. But they haggle for downside protection and guaranteed returns now when demand has slumped and a recession looms. I hear them say as FT quotes it “Private equity firms will no longer invest in straight public equity. If we do these investments, we want some kind of structured protection.” Here’s another from Sri Rajan, Head - PE practice, Bain & Co, India: “Given the current investment climate, the existing Pipe model has lost favor among private equity funds operating in India. Understandably, firms are now looking to invest in ways that offer them downside protection.”

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O.k, some late wisdom that. It dawns only when PE investments go deep under water (Blackstone’s $165 M in Gokaldas Exports now down by 51%, it's $150 M exposure in Nagarjuna Construction is down by 69%). So is PIPE investments made by Warburg Pincus, Apax Partners and General Atlantic. Recently one of my clients in infrastructure space sought a valuation of 15x multiple (it used to be valued at 35x earlier which it felt was too low), the PE fund didn’t budge. They insisted the project be valued at 5x. But when market had been at its peak and PE multiples of 50x were offered for companies yet to find as much as a name, they hardly batted an eyelid and emptied their coffers.

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So it’s a strange kind of logic, PE investors follow. [Mr. Bernard Shaw has been perceptive, ain’t he?]. Blame it on their B-Schools and chill out...
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"Hire, but sterilize"

Ok. So the global financial meltdown offers a very good opportunity for Indian Investment Banks and Brokerages to poach back talent from global peers.

As the hirers seem to reason, the investment bankers with global experience could win some bulk institutional clients for their masters and will be adept at selling exotic derivative instruments etc. as they have a better understanding of such products.

But hey, wait a minute… Is it not the same tribe that brought their clients (and Masters) down by inventing toxic `Yen Carry’, `MBS’, `CDO’ and `CLO’s that finally did them in? Who will want a re-run...?

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So I mangle the old signature phrase Ron Reagan used while warming upto Soviet Union - "Trust, but verify"..... I go "hire, but sterilize"

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Welcome the SME exchange

I can’t wait for the SME exchange to arrive. I have at least 20 mandates from SMEs that form majority of my client list to raise capital in the region of Rs.5 crores - Rs.50 crores. During the crunch times like this, Banks are too cagey and they just act up. Local financiers are hawkish and money doesn’t flow exactly at remunerative costs.

SME exchanges can bridge the gap since it could bring together savvy public looking for portfolio diversification. SEBI has rightly set the minimum lot for investment at Rs.1 lakh so that investors with requisite savvy and having the optimal risk appetite only participates. I welcome it for yet another reason – it would give significantly higher visibility to future large cap contenders as could be multi-baggers as well in the short to medium term…

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Who is calling the money shots?

Who is India’s monetary authority? Is it RBI or Ministry of Finance? Traditionally RBI it is but of late the center of gravity is shifting more towards North Block. The pattern is too obvious not to be noticed—the real decision-makers are now in the central secretariat in New Delhi. Ideological divide, perhaps? RBI remains the statutory authority, but it is an open secret that the man in charge is P Chidambaram. A peskily independent RBI governor has retired, and a strong-willed finance minister has made sure that he will not be faced with another situation where his views are either ignored or not acted upon.

First, a new governor of Reserve Bank of India was appointed and, in a symbolic departure from past practice, the new incumbent went across directly from the finance ministry. Then, a new ‘liquidity committee’ was set up, chaired by the finance secretary. Now, a new economic advisor with a strong background in finance has been appointed in the Prime Minister’s office. A day later, the finance minister calls the heads of the state-owned banks with the intention announced in advance that he wants bank lending rates to drop. On cue, immediately after the meeting, one bank chief after the other announces interest rate cuts.

Critics of Dr.G.V.Reddy (Raghuram Rajan and Percy S Mistry) often argued the western orthodoxy that RBI should focus on a single objective of achieving a target rate of inflation. They usually oppose central bank interventions in the currency market, want quicker movement towards capital account convertibility, greater integration with global financial markets and the introduction of sophisticated financial instruments. But traditionalists supported Dr.Reddy with the counter-view that the financial crisis that has gripped the western world is not an advertisement for financial integration, that India can do without the periodic financial crisis that has consumed other developing countries with open capital accounts.
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I like a hybrid. Coming from a business family and community, one can understand why Chidambaram is hawkish on stock markets (except in matters of FDI ceilings where he surprisingly shoots down CCEA and DIPP moves seeking to allow FII to breach them). While RBI should indeed be the strategic authority, constructive suggestions from Ministry of Finance and other regulatory authorities can be heeded if not obliged. Controlling inflation is indeed the primary responsibility of RBI, but inflation is not the outcome of monetary logistics – it is rooted in market demand and supply imperatives. RBI can at best control money supply, hike or cut CRR, SLR or Repo rates but it can’t stop you from paying a higher price or ask you not to buy stuff. It could not even bring down the inter-bank call rates that hover around 11-12% as opposed to the normal 2-3%, despite the recent rate cuts. That can only be possible if the economy has multiple sources for fund flows. It can infuse or squeeze out liquidity to an extent, but it can never replace a generous flow of funds coming from a buoyant global sentiment. Over-indulgence by either would lead to catastrophic outcomes.

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Welcome to mezzanine... but will it work...?

Hard times call for novel solutions. Real estate sector took it in the chin and is deep in trouble. Bankers don’t lend, properties don’t sell, investors shun the asset class and even Private Equity that once was its messiah wouldn’t take to it kindly.

In comes Mezzanine financing. It is a debt-like instrument consisting of cash income and an equity-linked component, sandwiched between debt and equity on a company’s balance sheet. Here usually a strategic investor (say a PE firm) funds a company through debt and equity. The net cost of investments is 20-25%. Of this, 15-20% is paid as interest on debt and the remaining 5-10% is offered to the private equity investor as warrants at zero cost.

Now my question. The real estate sector lost its sheen when land prices rose to obscene levels and construction inputs like steel, cement, equipment and consumables became unremunerative. The final product, a house or commercial unit could not be sold at a reasonable cost. When liquidity dried up, the highly capital intensive real estate sector lost its only lifeline for working capital – Bank / PE funding. That was the death knell.

So how is mezzanine structure going to solve the problem of absent cash flows? When you expect the payback in the form of part interest and part stake, cash flows matter all the more. How will the borrower meet the interest obligations? Equity may come cheap, but if the sector takes longer to recover and people continue to give priority to survival than property acquisition, how do they expect valuations to improve? Even if valuations improve, with equity markets in a downward trend, how long will they stay put with value erosion and no interest income?

Clearly more than a missing link here. May be the structure envisages high margin collateral to cushion the downside. But most real estate companies are already highly leveraged, no cushion will offer complete comfort ;-)

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No more band-aid; Need bold fixes

Just got back after a vacation to Mussoorie hills for over a week. Had a great time driving around the hills and eating choicest Punjabi, Tibetan, Chinese and South Indian food. It had been more of a `getaway’ - unless someone truly wanted to witness the market mayhem.

Now back to work. The first thing that strikes me in the morning is the now almost daily paean from Mint Street. They have done it several times in the recent past. Tell me – does it really matter?

If RBI is serious about liquidity reinfusion, it should by now have realized that the cuts of 50 basis points or 100 bps are loose change in these times of massive financial drought. Cash flows of businesses are fast drying up; the ones that have cash to spend are fearful of counter party risk. No one is trusting the other. There is no real economic exchange.

So I have a one line agenda for this crucial Monday meet, if it is meant to be that – facilitate Economic Exchange. Let's call it EE.

If the meet were ever to yield a positive outcome, it has to be by way of drastic measures. I for one think post cut repo rate at 7.5% is still a bomb. It has to be around 5% levels so that banks that borrow can make some meaningful credit forward. Why do I say this? I am glad my bank deposits earn me 11% if I park it in my mother’s (a senior citizen) name, but I am equally wary that the bank has fewer avenues to deploy that high cost money. How many takers will lift credit at rates higher than 14% (assuming that bank will have an administrative cost of 2% leaving it a margin of just 1%)? If ever they do, what business will earn still higher return so that they are able to pay it back to the bank? So I worry about the sustainability of that higher return that I get before moving on to worry about the probability of retrieving my capital.

So this is what I suggest to D.Subbarao, RBI guv. He shouldn’t just stop at cutting rates, he should inspire the banks to lower their lending rates and deliver EE. Money flow has to resume. Liquidity is the current that can drive the economy forward. We’ve all experienced it during the bull years April 2003 – Sept 2007 and we know the difference now. I would even go FM and SEBI should be infected by RBI’s bold moves. It should leave the doors open for every serious investor to walk in with his money and do business on our markets. That's EE for you. Short term measures and band-aid type fits and starts don’t mean much in these hellish times.

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How about tax exemptions for equity investments for the next two years? Cut Dividend distribution tax? Lower income tax rates leaving more money in the hands of the investors? Think on these lines and surprise us on Tuesday morning bozzos... and see the markets giving a thumps up to that ;-)

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The analyst and his forecasts

The analysts are a shameless lot.

Their forecasts have been proved wrong time and again, still they don’t hold back. Wonder who pays them to dish out muck!

Goldman Sachs? Its analysts earlier predicted crude will touch $200 a barrel. It slid to $80 levels. Thank the consumers that lowered their demands. Now they guess it to touch $50 a barrel. Should we be scared it will climb back to $100 plus…?
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The crooks beat me by a wide margin

It takes a lot to build a reputation. To ruin it, takes not more than a few split seconds or just some fast spreading SMS rumors. ICICI bank realized it lately when some small town sub-broker (bent on shorting ICICI stock) viralled mass SMS saying the bank is in trouble.

Result – stock price plummeted (Friday it fell by 27%) and depositors withdrew their funds. What began as a trickle in some remote Tamilnadu town soon spread across the country catching the bank unawares.

The bank management did everything possible – it’s CEO gave repeated assurances, got even FM and RBI / SEBI to make public statements in support of its inherent strength, stuck notices on ATM counters - to arrest the damage. But it seems the drain of deposits and goodwill has been massive, or so it seems after the seriousness of purpose with which it is going after the offenders – that includes a Tirupur sub-broker of Motilal Oswal and a mass SMS portal and a free research site (with disabled stock tip links)!

Talk of Web 2.0 empowerment! Like guns, the crooks use it first… Email? Spammers run amok. Bulk SMS? It’s the fiefdom of hole-in-the-wall operators and pranksters. Now a small town sub-broker giving India’s second largest bank a run for its money - quite literally! Wish I could do something positive – say, build my business – by unleashing its power. But that I’ve found is not as easy. The crooks beat me by a wide margin! All that I could manage was to reduce my exposure to ICICI bank. May be silly. But, they say only the paranoid survive. Who is not afraid…?

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A bailout for everyone?

Bailout – seems to be the latest trend. After Wall Street banks lined up before the US Fed, it’s the turn of India’s private carriers before the Ministry of Finance.

They want the government to bail them out by -

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- Offering Interest-free loan with a “bullet” (one-time) repayment after three years
- Bringing ATF under ‘declared goods’ for uniform sales tax
- Reduction or withdrawal of duty on spare parts for aircraft maintenance
- Scrapping customs and central excise on ATF
- 50% reduction in airport landing, route and terminal navigation charges for 24 months
- Freeze on further increases in airport service charges

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Vijay Mallya (Kingfisher Airlines) has an interesting aside “The government has not moved at all. It seems it wants everybody in this country to travel by train because the airlines are bleeding heavily”.

Imagine Vijay Mallya in Punjab mail…!!!

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Heading into anti-bubble?

I think we are getting into some kind of an anti-bubble.

In a bubble, prices become disconnected from values because purchasers believe that, whatever the fundamentals, they will soon be able to sell what they have bought at a higher price. The bubble must burst eventually because the supply of new people willing to buy at ever higher prices will be exhausted, and generally bursts sooner than that because people come to realize this.

In the opposite of a bubble, prices become disconnected from values because sellers believe that, whatever the fundamentals, they will soon be able to buy what they have sold at a lower price. The anti-bubble must also eventually collapse because the supply of new people willing to sell at ever lower prices will be exhausted.

And then there are some that chooses to live in denial. And there are others that believe otherwise. Where do you think we’re headed?

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Bailout bill passed; now comes the hardest part

Yes. Getting the $700 billion mother of all bailout up and running.

From what it seems like Hank Paulson and his crack team (filled with ex-investment bankers, attorneys and accountants) has its priorities cut out. It will have to decide which assets to go after first, and who to buy them from. Congress has given Treasury wide discretion to decide what assets to target. Although most of the funding is likely to go toward buying up mortgage-backed securities and whole home loans still held on the books of the lenders who originated them, Treasury can also buy up construction loans, home equity loans, or even credit-card debt or car loans if it decides that is necessary.

Does that mean Treasury is likely to start out buying from banks, in an effort to shake the credit markets back into shape – biggest banks first, in that order? If so, whether to go after widely held MBS or exotic one-of-the-kind stuff…? Whoever Treasury buys from initially, the biggest issue is one of pricing the assets since market for these securities has dried up, making it hard to figure out what any of them are worth amid fears that the underlying mortgages have gone sour faster than expected. If they price it too low, banks won’t attend the auctions. If they price it too high, the government will be taking too much load. The task will be somewhat simpler when Treasury buys assets from firms that have already marked down the value of their assets to current fire-sale prices. Anyways, the initial success of the plan should have a multiplier effect in helping bolster other banks, even if they don't take part in the auctions. By purchasing assets similar to those that other institutions hold, Treasury would essentially establish a new market price, which the nonparticipating banks could use to improve their balance sheets. That might also reassure other investors enough that they start buying as well.

The irony is, Paulson will not be able to find asset managers to run this that don't already have distressed assets on their own books; there's no one else to do it. Hiring people to fix the very problem they helped create will be an issue. For that matter even Hank Paulson is an ex-Goldman Sachs alumnus – a part of the problem in a way. Conflict of interest or not, success of the program could hoist Hank Paulson a big hero, may be win him a candidature for next Presidency. Failure would mean a return to economic dark ages - not just for America, if the downward drift of global markets (post passage of the bailout bill) is anything to go by!

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Parsing the crisis

T.T.Rammohan squeals in Business Standard

On risk management and quality of leveraged assets

“The top investment banks have vanished as a class [not] because they were highly leveraged: In financial institutions, leverage or the ratio of debt to total assets, can be misleading as a measure of financial risk. The management of asset risks is equally important. A financial institution can be highly leveraged but if its assets are of high quality or are highly diversified, the institution is not exposed to high risk….

Investment banks may have had a leverage of more than 20:1 but some high-profile banks in Europe today have even higher leverage. What counts is leverage after adjusting for the risks of various assets. The European banks in question would not be allowed to operate if their leverage was not in conformity with regulatory norms. ….The trouble with the investment banks was not so much leverage as poor asset quality and heavy dependence on short-term funds.”

On short selling

“Short-sellers were right on Lehman, so short-selling should not be banned: Yes, short-sellers were right in sensing that Lehman had more problems than it had disclosed. But, in times of crises, it makes sense to ban short-selling because a fall in share prices sets off a vicious spiral that pushes an institution quickly into bankruptcy. A fall in the value of equity causes leverage to rise, which causes the debt rating to fall. This, in turn, prompts demands for higher collateral, which forces distress sale of assets, which erodes equity value. Before you could say ‘Hank Paulson’, the firm is gone. In financial crises, as in times of war, the normal rules of information must stand suspended and this applies to price discovery [enabled] by short-sellers.”

Splendid. Wonder how well K.V.Kamath’s defense goes down with people!

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Foreclosure of FCCBs?

Remember FCCB frenzy of 2003-07 period? Almost every public listed company went ahead and borrowed in foreign currency egged on by the cheap (Yen carry) debt available then. When mixed with the rising stock markets back in India, the convertible bond was simply irresistible as a funding option for financing acquisitions and new ambitious projects. The option looked so alluring given the bubble valuations that most companies got. Let me put this in perspective with one example.

Take for instance Subex Ltd. This was known as Subex systems before, a micro cap company that was into developing software for telecom fraud management / revenue assurance (billing) solutions. The company was doing fairly well when the market frenzy drove its stock price up from Rs.150 to Rs.850 levels. But then the inevitable happened and it was bitten by the M&A bug. Acquisitions by Subex include the fraud management assets and technology of Mantas in March 2006, Lightbridge in August 2004 and Alcatel in July 2004. Along came street smart merchant bankers that peddled GDR / FCCB routes and Subex never looked back. Then it bought out UK based Azure solutions in April 2006 at a phenomenal price of over $140 million and its balance sheet was by now stretched way too thin.

The promoters recognized the fortune and smartly began to cash out. Now they hold just 9% of the company. Majority shares are with FII, GDR custodians and general public including body corporates. Now the FCCB is coming home to roost. FCCB outstandings are currently about Rs.846 crore and conversion hurdle is far away at Rs.897 per share, whereas its stock is currently languishing at Rs.82. So the investors are certain to press redemption in which case the company’s net debt will rise to Rs.1057 crore. Peg that against revenues of about Rs.178 crores and a net loss of Rs.78 crores for trailing four quarters. [EPS is –Rs.22]

Can this company with a negative earnings Rs.22 per share repay a debt of Rs.1057 crore? Of course, we know worst cases have turned around. I can think of ESSAR STEEL that defaulted in its FRN obligations back in the 90’s. The first of its kind to get that ignominy. But that was a steel company that collapsed under the weight of industry downturn. Not because of overstretching its balance sheet for adventurous acquisitions. So when the industry turned around and its realizations got better, the company came back into black and with a few calculated forays into Oil, Shipping and Telecom – it became a trailblazer in the Indian stock market history.

Subex is not alone. The list is long – Aurobindo Pharma, Hotel Leela, HCC, Bajaj Hindustan, Ranbaxy… so it goes. Never forget the fundamentals. Go for a forex loan only if your earnings in the same or a stronger currency is enough to cover the projected outgo in constant currency terms. Better still, have the proceeds deployed in tangible assets that can be liquidated without jeopardizing the solvency status of the company. Acquisitions can wait.

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The symptom is worse than the disease

So, DLF goes about the mock play – sorry buyback.

Earlier I had concluded that such false bravado is a symptom of DLF management being new to the listed public market. That explains why they try to zig and zag with the price action in the markets. Markets dance to a non-rhythmic rhapsody, not a synchronized symphony. Company managements can't keep pace with it without breaking down. Stock prices may go up or down in public markets, but management’s priority should be effective supervision of operations. By announcing a Rs.1,100 crore buyback when stock prices sag while having plans to raise QIP of Rs.10,000 crore in hardly six months down the line, they betray impulsive overreaction. As I said before, DLF may be a large enterprise; but they lack the maturity required to stay put in that bracket.

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Get your act together, IT vendors...!

Readers of this blogstream should be wary of my screams for innovation in India’s IT vending space.

Now here is an analysis that explains why overwhelming focus on one sector – Financial Services – is extremely vulnerable. With the Wall Street turmoil, some of India’s big IT outsourcing vendors face a frosty weather.

I shall repeat. Go beyond BPO, ADM and easily replicable services. Differentiate. Make meaningful dents in diverse high-end fields like system integration, data center management, remote architecture support, process automation coupled with product innovations that stun the markets with their utilities and features.

And…And…And… Focus on domestic market. You’ll be in far better control. See Bharti has awarded its $1 billion IT infrastructure maintenance contract to IBM, not to any of our famed vendors ;-)

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When balls choke up your lungs, hardly can you talk

Candid admission by KKR. Given that the buyout firm has not yet gone public, that frankness is quite refreshing. Yet unusual by Indian PE fund manager standards, huh?

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Yet it is. More to follow.

”The lack of credit has materially hindered the initiation of new, large-sized transactions for our private equity segment and, together with declines in valuations of equity and debt securities, has adversely impacted our recent operating results,” KKR said in its SEC filing.

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The firm’s total investment loss for the first half of 2008 compared with a total investment profit of $3.4m in the first half of 2007. Its net loss for the 1st half 08 totals $1.1m, compared with a profit of $667.4m for the same period 2007.

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KKR, which has made investments in numerous household names such as Toys R Us, mattress maker Sealy and asset manager Legg Mason Inc, said its fee income in the first half of the year was $135.3m, compared with $115.4m a year ago.

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Imagine the fate of India investments of PE funds. There is far less swagger in their gait and I hear them talking a lot less these days. When balls choke their lungs, they just can’t talk; let alone getting candid ;-)

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Killing I-banks is stifling innovation in structured finance

In a watershed moment, Goldman Sachs and Morgan Stanley last night abandoned their status as independent investment banks (and morphed into larger Universal Banks) in a move marking the end of an era on Wall Street. While the change appears to be a technicality, it means that both banks have equal and permanent rights to access emergency funds from the US central bank, the Federal Reserve – their only lifeline to stay alive. They will also be far more tightly regulated.

Well, in a way the Fed has ruled, though in this late hour of credit crisis, enough is enough. Suddenly I hear all Wall Street honchos, analysts and even erstwhile CEOs of these investment banks publicly admitting that it is the way to go. The era of independent investment banks had to end – as it has, now.

I look back a bit. Is it so simple? Isn’t it a bit ironic that the time-tested business models of the independent I-banks have suddenly become unviable? Were they inherently weak or has it been the lack of prudence that did them in? Or is it the lack of oversight and the unfettered, excessive leverage in ratios of 33:1 to blame?

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Specialists are specialists. They will have to stay that way. Can someone bring cardiology, a specialized domain under general practitioners because a few recent heart surgeries performed by cardiologists have failed?

I have a feeling they are prescribing the wrong medicine for the illness. What do they want, United Socialist States of America?

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The USSR brand of socialism failed because it was founded on anarchist theory – everybody’s property became nobody’s responsibility. Amercian free market economy is based on greed that is just human instinct like lust, envy or anger. They implore one to beat competition and excel. They are creative spurs, not unsystematic or anarchist self-serving socialist wet blankets.

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Get local. A Tata Steel ranked 65th in the global steel industry could acquire a Corus (ranked 5th) because of the liquidity provided by those enabling models. Now it’s going to be a slog all the way for the ambitious. This is like turning off the tap on growth when all that was needed was enforcing stricter compliance by a bunch of alert regulators. There is a strong case for these I-Banks to remain independent for the global economic engine to keep purring. The leverage that provided liquidity to help the poor afford homes is not entirely a bad idea. The level of social benefits that it entailed is not to be easily forgotten. The fault lay in promotion of fallacies like the house prices will always rise. Blame it on running poor credit checks on borrowers and allowing reckless leverage models. At best, are they not simple process lacunae? More importantly, haven't they been emitting strong enough signals for the Fed and SEC to reign them in, which they chose not to? Isn't it something that can happen even now, under Universal Banking? You agree?

I-banking as a division of another commercial bank will sure lose focus, its innovative drive and finesse. It can never be as nimble if it is burdened with the yoke of reserve requirements and Credit-Deposit ratios. It will lead to sub-optimal performance and deals won't get done in the same pace, at least. It will certainly fail to attract the best brains that can thrive only in a liberal, innovative ecosystem that spurs creativity and ingenuity. Can we make do with Levi Strauss type archaic regimes devoid of dynamic innovative spirit? Can we honestly say we never need structured finance innovations (imagine the convenience of a `sale and lease back’ and other factoring mechanisms) with changing times and dynamic business needs? That would be pure tactlessness wearing the masks of precautionary excesses. Just not up.

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We're easily the most resilient amongst BRIC

Are we the best amongst BRIC?

Here is the update on the stock markets of Brazil, Russia and China. I think comparatively India is far better.

In Brazil, yield spreads of Brazil's government overseas bonds over comparable U.S. Treasuries, as measured by JPMorgan's EMBI+ index, widened sharply, reflecting an increase in investors' risk aversion toward Brazilian assets. The index 11EMJ showed the country's bond spread widened by 39 points to 349, the highest since November 2005.

In Russia, Government and central bank officials were locked in talks with the chief executives of Russia’s biggest investment banks throughout most of the day on ways to halt the market collapse, which has wiped nearly $800bn off the country’s stock exchanges in a matter of months and sent stocks spinning down to levels last seen in 2005. The two main bourses, the MICEX and RTS, had suspended stock trading until further notice from the state’s main financial regulator.

China? Please don’t ask. Here is a report from Epoch Times I had linked above -

“The truth about China’s stock market is actually not a secret, and most investors probably already knew it. That is, China’s stock market is a tool used by the government to re-distribute and re-organize social wealth on a grand scale, which means that it is a tool to clean out Chinese people’s savings accounts. The biggest winners in this process are, of course, government officials and their relatives who are the most well-informed about the actual value and re-organizing plans of those that control state wealth; as well as institutional investors who collaborate with them and who rely on insider tips to control the stock market. Those people have already made huge fortunes in the process. This is the truth about China’s stock market….

Actually, the goal of China’s stock market was not purely an economic one when it as originally established. When former Premier Zhu Rongji set up stock market in Shenzhen, he said that China’s stock market was meant to get money--to get money in the market and give it to companies that were unable to get money, and because these companies were unable to make money, they needed monetary support.

China’s stock market has been established to operate like an ATM for the listed companies. For the majority of the listed companies, economic reform is nothing but a mechanism to trap money. Many heavily indebted State-owned companies have been listed in the stock market after re-packaging. All of a sudden, they become the new stars in the market with easy loans and finance. The foundation of a stock market is the listed companies. With a weak foundation, how can any high stock price be affordable? The deflation in stock prices is therefore predictable.”

So, India - is far better any day. We just have 12% plus inflation and some high interest rates. There is no sham in the system, the companies are real and investors are long term. Stay invested if it is your personal savings and not borrowed funds. We're in for some not so quick turnaround - to allow the dust to settle around the world. As for savvy global investors, it seems to be their only emerging market bastion that's left...

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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.

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Dreamworks - high on ideas, low on fuel

The much hyped deal between Steven Spielberg’s Dreamworks and ADAG’s Reliance Big Entertainment now rests at the mercy of JP Morgan Chase.

Although Reliance is poised to invest $500 million in the venture for a 50% ownership stake, that deal hinges on the group getting a firm guarantee from lead bank JPMorgan Chase to raise up to $700 million in debt financing to satisfy the business plan to make four to six movies a year. JPMorgan, which will not underwrite the entire portion of the loan as DreamWorks had hoped, will now attempt to syndicate it -- and that could take months.

Did you say months? That soon? Given the turbulence in the wall street, Spielberg will not have many options that are not already underwater.

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Crude breaches $100; So what?

Quoting at $98.49 a barrel, crude violates the $100 psychological level. Since crude surged to a record $147.27 a barrel on July 11, it has tumbled by over $40, or more than 27 percent. Still, prices remain close to 14 percent higher this year than in 2007, and a barrel of benchmark crude still fetches four times what it did five years ago.

Now hang on, don’t rush to the gas stations. The dollar has breached Rs.45/- level, so you pay almost the same in dollar terms, pal ! Mukesh Ambani’s mole in cabinet has already sounded you out ;-)

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Way to go, Guv

Is it upstart flamboyance or anticipatory bail application? I am not too sure as I read into RBI guv D.Subbarao’s statements barely three days into office.

While sticking to 8% growth peg (bravo!), he uses terms like “mathematical inevitability” – now what does that mean? Does he believe the economy could outwit slowdown advocates or does he swear by the efficacy of statisticians at his disposal to bring up that magic number or does he put the onus on the fickleness of number games?

Early days anyway. But he did mention “shared responsibility of RBI and all other regulators” – now that’s an inclusive statement. Even if his faith in the economy (or his statisticians) holds out or not, he will not take it in his chin, alone.

Can’t think of a better way to begin the innings ;-)
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Wait until they mop up

More on DLF buyback.

Realty and infrastructure is a capital intensive industry that is badly mauled by the global liquidity crunch. With demand for high end luxury homes and commercial complexes waning, the focus is on low margin budget buildouts. Even as realty companies conserve every rupee they can to meet the resources crunch, DLF worried about the falling share price (down by more than 50% from its peak of Rs.1225 in Jan 08) and announced a Rs.11 billion buyback (at price not exceeding Rs.600/- a share) to reassure itself and its minority investors.

Now is that a wise decision at this crunch time? As a long term shareholder I can’t care less. Know why? This whole buyback exercise is a temporary prop. Remember what happened to Ranbaxy stock recently? Even institutional shareholders like LIC and GIC tendered their entire holdings in the offer and the stock fell to Rs.450 levels from Rs.580 post buyback. So if you are a long term investor and want to pick up asset rich DLF cheaply, just wait for the mop up exercise to be over. Even after a recent downgrade, Deutsch Global values DLF NAV at Rs.532 a share.

Not bad. The news is that after the statutory cooling period of six months (for fresh capital issues) is over, DLF has plans to raise Rs.10,000 crore by way of private placements. When the market knows this, the buyback offer is just false bravado... The problem is DLF may be a sizeable enterprise; but its management is new to public markets behavior. So when the stock price falls because of market's general indifference towards the realty sector, DLF management is overreacting.

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They too will learn...!

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"Follow the money"

When you have almost three-fourth of the world economies reeling under trade deficits and hyper inflation, companies like Nokia issuing profit warnings, it’s time to explore alternative destinations to do business. After all, the dictum is – follow the money :-)

I was recently part of the team that did some early due diligence for a Korean firm interested in issuing Islamic bonds in the Persian Gulf and far east. Yes, Islamic bonds. But why should a Korean major drool over religion tainted security? The question was not for us to ask, they were paying us. But as we delved deep into the task, a few facts got cleared.

Sharia-compliant mortgages are typically structured so that the lender itself buys the property and then leases it out to the borrower at a price that combines a rental charge and a capital payment. At the end of the mortgage term, when the price of the property has been fully repaid, the house is transferred to the borrower. That additional complexity does not just add to the direct costs of the transaction, but can also fall foul of legal hurdles. Since the property changes hands twice in the transaction, an Islamic mortgage is theoretically liable to double stamp duty. So how do we structure it?

Confidence is one thing, hyperbole another. Most of all, the industry’s expansion is tempered by its need to address the tensions between its two purposes: to serve God and to make as much money as it can. We faced difficulties in design and structuring an instrument that has to comply with Sharia – that needed to be communicated to the client, a non-muslim. Hell, it needs to be certified not by a professional rating agency, but by Islamic scholars that are terribly in short supply! So we struck a deal with some American financiers that recycle documentation rather than drawing it up from scratch. But to our amazement, we found something pretty weird. The contracts they now use for sharia-compliant mortgages in America draw on templates originally drafted at great cost for, hmmm… no, you would never guess it - aircraft leases!

And we thought we have to refine our systems and processes to adapt to a changing financial world order. But there are imperfections and mediocrity galore even in the most credentialistic circles. That knowledge allows us enough headroom for creative neglect and recreation. We could even be setting trends with what we seek to build. Now we are all charged up. Someone is paying us too.

Why do you think I love this business? I am on my way, getting to be a Sharia specialist ;-)

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Rip the control freaks; they ran out of arguments

Nice argument in Business Standard editorial seeking sugar decontrol.
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Why should the cabinet put on hold the proposal to free up sugar supplies by the food and consumer affairs ministry? What are its concerns?

Do they fear rise in sugar prices fueling inflation that is already high? Think again. The 11 million ton carry over from last year’s record production covers 55% of our annual consumption of 20 million tons. Even if the acreage under cultivation drops, it’s absurd to assume that it would drop over 45% - especially at a time when sugar is turning a multi-use crop needed for production of ethanol and even power generation beyond just sugar and alcohol. Decontrol in fact, allows sugar mills to press more supplies from the buffer stock into the market that will help push the prices further down, not up.

Will decontrol make PDS sugar costlier because state governments will have to buy from open market when levy is abolished? Not at all - since the proposal recommends central government to compensate the state governments by subsidies that was so far being borne unjustly by the sugar producers instead of the government. It will also eliminate the arbitrary price determination by central /state governments that often doesn’t consider market realities and result in expensive litigation.

I add one more point. How long can governments mask economic realities? Prices crash during times of over production and will creep back up when there is a shortage. It happens with Gold, Steel, Cement, Paper and all commodities. Any attempt to artificially control prices will only lead to manipulation and corruption. Why have the illusion of control and not just let go? We had controlled petrol, diesel, fertilizers and sugar and still we got a double digit inflation. So why harp on to something that is fast running out of arguments?

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SIP for Land acquisition...?

And you thought small investors learn from big investors. Well for major corporates in Real Estate it seems to be the other way round.

DLF is setting up a Land Acquisition Fund – by transferring 15% from its annual revenues to its corpus to avail of any good buying opportunity – akin to Systematic Investment Plan (SIP) often recommended to small investors for buying mutual fund units every month. The advantage being, a small investor need not time the market and can take advantage of market at every level by investing fixed sums of money every year.

Good idea? What do you think? Next what? Pay STT and gain LT capital gains exemption?

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Tight rope walk

Bolstered by the initial success of its bid to acquire UK-based Imperial Energy, state-owned Oil and Natural Gas Corporation Ltd (ONGC) is planning to list its wholly-owned overseas exploration subsidiary ONGC Videsh Ltd (OVL) sometime in 2009. Well, the aims are clear – to get a premium valuation from international markets, build up its net worth (share premium stands credited to General Reserves can be capitalized through bonus issues to existing shareholders later - helps expand paid up capital) besides gaining acquisition currency.

But being registered in India, regulations require a domestic float before an overseas one.

Except that there is one hitch. The Indian government will be itching to use its revenues to subsidize the loss suffered by state owned oil marketing companies (like it does with ONGC) that sell petro products at a steep loss – to keep it affordable for the masses. No government ever had the guts to say `No' to subsidies so far. Now if OVL is listed abroad, will those foreign shareholders like their company to subsidize oil guzzling Indian masses? Will they understand APL – BPL divide? Looks like a tightrope walk. OVL will have a tough time convincing Indian government why it can’t subsidize India’s oil marketing companies and conversely will have it stiff explaining why it should support Indian government’s efforts in controlling oil price parity while on roadshows that precede the IPO.

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Resurgere surge - stock in play?

Resurgere mines (RESU.BO: Quote, Profile, Research) IPO debut took my breath away.

Coming at a time when bearish overtones rule, the miniscule 4-4.5 million shares offered in this IPO received bids of about 1.2 times. A very lukewarm response. In normal conditions one would call it a “scrape through”. Debut listing price was also at a very marginal premium of Rs.2/- (i.e. Rs 272.05) on the BSE, over its issue price of Rs 270. No marked bidding frenzy was observed when the book was open. QIB had bid for 1.3 times and HNI about 2.4 times. Retail turned their back on it with just 0.4 times. CRISIL had assigned a '1/5' grade to the offering, citing the management's limited track record in the iron ore business and the fact that the company's financial returns are vulnerable to spot price movements of iron ore.

Normally such dubious issues begin to slide post listing or just maintain price levels. But this was not to be. What happened later was astounding.

Within minutes of listing yesterday, the scrip touched a high of Rs 299 and over 3 lakh shares exchanged hands. The share price surge in a weak market at record volumes - 33 million shares on the BSE - raised eyebrows given the low rating and cautious brokerage. It closed at a whopping Rs.524, a premium of about 100% on day 1. Today the scrip rose by another 20% and hit the upper circuit to close at Rs.625.

Clear signs of something-wrong-somewhere. But not enough for SEBI to sit up and take notice. May be, we should wait for a couple years for CBI to ferret out the rot, well after the smarts have pasted it on unsuspecting investors that might get caught in the wild dance...

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The leftist misfit

In Buddhadeb Bhattacharjee, the progressive Chief Minister of WB, we get to see a helpless reformist that doesn’t enjoy the support of his party colleagues.

After Mamata Banerjee, the Trinamool Congress leader managed to stop work on Tata Nano project at Singur, now it’s the turn of real estate major DLF to push the CM with “act-fast-or-else-we-move-out” language. DLF has plans to develop 4840 acres at Dankuni, 20 kilometres from Kolkata at a cost of Rs.330 billion. It has paid Rs.2.7 billion to the state government as advance, but only 20 acres have been acquired so far.

Recently while meeting corporate leaders in WB, to a question on “government-sponsored bandhs” and “Opposition-sponsored bandhs,” the Chief Minister replies: “I do not support any bandh. I agree it is not helping anyone...But unfortunately as I belong to one party and they call a strike, I keep mum.”

Then he added, to loud applause: “But I have finally decided that next time I will open my mouth.” Woof! This is spunk.

Could this be the man the WB can afford to disgruntle? It’s difficult to make up our minds who has erred in this whole drama. Have the govt. acted in haste in allowing these industries to acquire farm lands of poor farmers? Have they not been offered the right prices? Have the jobs offered in these projects adequately compensated for the loss of farm income for those land owners? And finally, what else does Mamata want?

Buddha is too right to remain a leftist misfit. Mamata didi looks more left than right. She should join the Left and Buddha should leave WB and head for Gujarat, Maharashtra or other industry friendly states if he wishes to feel welcomed (Read “CPI(M) distances itself from Buddhadeb's remarks “ topic)

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That is commitment

43 years with L&T, 33 years in the same house and 15 in his first boss' room - constance defines the man A.M.Naik, Chairman and MD of L&T, who's building much of India's infrastructure.

“L&T is my hobby, the rest is work,” he says in this interview.

His post retirement plans include moving to an apartment near L&T’s Powai factory so that “when I die, I’ll be facing L&T”.

That is some commitment quite!!! Remember Naik is a professional CEO, L&T not being his family business…

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Smart Cricket

Rajasthan Royals won the DLF IPL cricket tournament is old story. Now the champions are going public – not with their fame, with private placement and further on the stock markets with an IPO!

In January this year, Rajasthan Royals, the only foreign-owned team (investors include Lachlan Murdoch, son of Rupert Murdoch) among the eight IPL franchisees, made a bid for $67 million for the team, the lowest among all the DLF IPL teams. Led by Shane Warne, the Royals won the tournament. Reportedly the only team that is in the black — first-year expenses were estimated at $20 million and revenues are in the same range.

Wonder what other franchisees that are still licking wounds feel as they read this…

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"Remember, nobody got hurt between 2003-07"

Manjula Chawla and Srinivasa Rao debate `treaty shopping’ and `round tripping’.

"Treaty shopping" occurs when a third-country resident derives benefits from a tax treaty intended to serve only the interests of residents of specific bilateral treaty nations. "Round tripping" refers to the practice of local investors that take money out of the country and bring it back in under the guise of a non-resident to escape the tax net.

I say subjecting capital to excessive regulation is dumb because it encourages smart people to lock up capital in unproductive boxes. Say No to drug money or terror funds by all means. But capital that takes a trip just because of excessive tax rates should be viewed through a different prism. Keeping in mind our infrstructure needs, it should be winked at.

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I would rate it as enterprise. It is smart money anyway. If you don't let it flow, it will head elsewhere. Isn't it downright stupid to let go ?

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Why spoil the party? Let the good times roll. Remember nobody got hurt between 2003-07 bull run ;-)

What say you, reader?

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For some, a bubble is forever

This one looks like a googly. What to make of this?

An Indian company [Great Easter Energy Corporation (GEEC) promoted by Y.K.Modi – that is into CNG exploration and production] listed in AIM of LSE in London is now seeking to issue shares in the Indian market. Reportedly a Rs.10 billion issue, 50% of which is an offer for sale by existing GDR holders (they call it `sponsored’ issue quite funnily - even as the GDR holders are seeking to exit the venture!). About Rs.5 billion will accrue to the company out of the issue proceeds (and remaining Rs.5 billion to exiting shareholders). GEEC currently has accumulated losses of Rs.216.37 million in its balance sheet.

Net increase in paid up capital will be just Rs.50 million or so. That means a fat premium of close to Rs.199/- per Re.1/- share in a down market even as the company is barely into revenues (Rs.49.39 million for FY 2007-08). The company has initially raised $20 million in December 2005 (1$=Rs.44 then) – that means the investors are in a hurry to recoup 5.68x their initial investment. Begs the question - why the hurry?

It will be fun to watch how this rip-off IPO is rated by the agencies and how it gets palmed off to investors – both suspecting and unsuspecting. But the real fun will be to watch its outcome, that will be an indicator of the level of investor gullibility ;-)

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Issuers should take Merchant Bankers to task

Talk of clumsy merchant banker allowing semantic distortions and when hauled up by SEBI, refuses to yield. Outcome? Botched business plans of issuers!

SVPCL, a Hyderabad based manufacturer of computer stationery floated its IPO in October last year, and raised Rs 34.5 crore. Though the issue was fully subscribed, BSE denied permission for the shares to be listed on the exchange because of an apparent misstatement in DRHP. This was because UTI Securities, the lead merchant banker responsible for post-issue compliances, had expressed its inability to give an undertaking as required by BSE under Section 73 of the Companies Act, 1956.

The IPO, which got subscribed little over one time, was stalled after BSE refused listing permission as the company had inadvertently mentioned on the cover page of its red-herring prospectus that at least 50% of the net issue to the public shall be allocated on proportionate basis to QIB. The legally appropriate term to be used was ‘up to’, and not ‘at least’.

Why not the merchant banker be hauled up for errant drafting that they do? Should they not make it up to the issuers? Who is responsible for semantic distortions creeping into DRHP?

What else the issuer pays fee to the merchant bankers for? If they were to draft it, why would they hire a merchant banker? The CFO and Company Secretary can sit together with lawyers and bring about even an IPO, except that SEBI mandates appointment of Merchant Bankers. Now that it has lost the case against the exchange, SVPCL must file proceedings against UTI securities for refund of fees and for damages...

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Economy? Go to hell !

“The battle against inflation will likely come at the expense of economic growth, which looks set to decelerate in the second half of 2008 amid cooling domestic demand and persistent external weakness,” says Sherman Chan, an economist with Moody's. The recent decline in global oil prices will not lower India's rate of inflation, which will remain "stubbornly strong" in the coming days despite monetary tightening by the central bank. Until next June, energy prices will also remain notably higher on a year-ago basis because of the cut in subsidies two months ago. The rise in global commodity and food prices is still a major driver of inflation in India. The retreat of oil will only help ease the pressure on the government to further raise domestic energy prices, according to Ms.Chan.

Makes sense. Now read what the Deputy Chairman of Planning commission Montek Singh Ahluwalia has to say. The fiscal deficit target set at 2.5% of GDP for 2008-09 is set to be higher by a significant margin. It is estimated the deficit will be breached by almost twice the budgeted target due to high oil prices and a whopping fertiliser subsidy bill. There had been a substantial increase in off-budget numbers and there were good reasons for this. He said the fiscal deficit is not a long-term problem as, next year, some of the increases would not be repeated and a significant revenue buoyancy would help ease the situation.

All hopes. On the ground inflation remains the growth killer. RBI can raise interest rates, mop up dollars to arrest a falling Rupee (that inflates oil bill) and introduce monetary measures like hiking CRR and Repo rates. Now the key element is augmenting commodity supplies. Who controls that? Commerce and Industry Ministry? It’s just a toothless caricature of its once powerful self (when quotas prevailed and licence raj was full on). Now I conjure up its icon Kamal Nath only as our emissary at WTO to make sure the talks fail!

Enough drama. Getting back to reality. Raw material costs are up 26% while interest charges are substantially higher at 34%. But instead of passing on these higher costs through price hikes, companies have retained them on their accounts so that growth is not compromised. Is this compromise sustainable at such low net margin growth? But then, there are more important issues to resolve!

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How fair is Fair Market Value?

The whole world seems to despise Fair Value or Mark-to-Market (M2M) accounting standard that is, what an asset would be expected to fetch right now in a sale. It’s when regulators enforced it, the banks had to expose their ugly underbelly that led to massive write downs. It now stokes a fear that whether the liquidity crisis will eventually lead to a solvency crisis. As holders of mortgage-backed securities (MBS) and the like revalue their assets at fire-sale prices, they are running short of capital—which can lead to further sales and more write-downs. Are the bean counters ensuring a crash? Asks the Economist.

So is historic cost accounting an alternative? Hardly. It could be worse. In a crisis prices fall until bottom-fishers start to buy. Yet when assets were booked at their original price, rather than at market price, banks could delude themselves—and investors—that dross was gold. Look at Japan, where the economy was sunk for most of the 1990s by stagnant loans to “zombie” companies. Historic-cost left investors in the dark about valuations; it was also prone to fraud and fraught with moral hazard, since sloppy lending went unpunished.

It would be perverse to ignore market signals when finance is increasingly based on broad capital markets. Fair-value accounting is indeed flawed. To paraphrase Winston Churchill, it is the worst kind of accounting, except for all the others. But one can be careful on selection of the benchmark.

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what it takes to discipline

So it takes huge 6.07% fall in quarterly profits to discover self discipline….
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The PE bland dish

In the spiceland of India, nobody likes a bland dish!

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But that's what PE funds have lately become. I revisit their fundamentals. Private equity investing may broadly be defined as "investing in securities through a negotiated process". The majority of private equity investments are in unquoted companies. Private equity investment is typically a transformational, value-added, active investment strategy. It calls for a specialized skill set which is a key due diligence area for investors' assessment of a manager. The processes of buyout and venture investing call for different application of these skills as they focus on different stages of the life cycle of a company.

This is the world view of PE and the reason why savvy investors buy into private equity funds, classifying them as a premium asset class and crediting its managers with superstar status.

But in India, the superstars hardly sizzled. Strategic input? My foot! They whimper and whine and take refuge in quoted equity. They settle for minority stakes, wield no great influence in the board and look no different from passive public market investors. So do their dull and dreary strategies and they do what an average investor does – see how they follow Rupee cost averaging.

I think the investors in these funds will fare far better buying Index funds. They can at least save all that management fee and the carried bonus they pay for bobbing up and down with the market sentiment.

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Bonding with convertibles

No I am not talking about sexy Alfa Romeos here.

Falling stock prices mean that investors have to increasingly rely on the bond part of the convertible securities for returns.

More than $1.4 trillion of equities worldwide are now on loan, about a third higher than at the start of 2007, data compiled by Spitalfields Advisors, the London-based firm specialising in securities lending, show. Almost all of that is being used to speculate shares will fall, according to James Angel, a professor at Georgetown University who studies short-selling.

Negative Yields Investors were willing to accept negative yields of as much as 11.5 percent in January to buy Reliance Communications Ltd.’s zero-coupon convertible bonds maturing in 2011, as the company’s share price on Jan. 9 climbed to a record 821.55 rupees, 71 percent higher than the 480.68 rupee conversion price set when the $500 million of securities were sold in March, 2006.

Investors are now asking for more than 5 percent yield to buy the bonds of the Mumbai-based company, India’s second-largest mobile-phone operator, as the stock has fallen 48 percent from its record, according to Nomura Holdings Inc.’s prices.

“This market is becoming a busted universe, offering little equity value,’’ as a HK based analyst Viktor Hjort said. “As stock markets are repriced, people should treat the share option portion of a convertible bond just as a lottery ticket and start looking at the asset from pure credit fundamental perspective.’’

But then there are many other wide open, lucrative avenues for ever enterprising investment funds.

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The telco balls of brass

Here. Admire the telco chutzpah. Telcos getting back with a vengeance with 3G iPhone pricing that is nothing short of a rip off. Get ready to pay Rs 31,000 for the entry-level 8GB phone and Rs 36,100 for a 16 GB memory. Both Vodafone and Airtel will launch the iPhone on August 22 and early reports suggest that they would be able to sell over 100,000 phones in the next 12 months.

It is much cheaper in the US (because the telcos subsidize it) where the handset is available for $199 (Rs 8,358) plus $99 (Rs 4,158) as an annual contract with the carrier that has the exclusivity. In India however, neither company will offer a subsidy.

The telcos here flout all license conditions but will shamelessly cry for a level playing field when TRAI chose to open up open access internet telephony to ISPs that are technically resellers and not carriers. Our experience with Indian carriers has been one of abject apathy to overcharging despite their vast customer base. Unless TRAI tracks down areas where telcos gouge Indian customers and direct them to slash costs, they will never. Opening up internet telephony is the latest.

But tell me something. Isn’t there a recession that we’ve been bracing up until a few days back? Now I hear folks queuing up to buy iPhone at nearly 3x the price that it sells in the US. Have we turned incurable gadget freaks or is it that we have suddenly discovered a ton of data to download or that we get lost on our way home without a state of art GPS or will we die starved of entertainment feed from much touted direct connection to YouTube that the 3G avatar is expected to provide?

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Why not let go ?

Why is the Government so much bent on micromanaging individual company financing decisions? Take ECB rate ceilings for one. They say for accessing foreign loans of 3-5 year tenor, the current interest rate cap is 200 bps over six-month LIBOR. For loans maturing beyond five years, the ceiling is 350 bps above LIBOR.

[Today 6 month LIBOR is 3.10 %. RBI wouldn't let Indian companies borrow at rates in excess of 3.1 + 2.00 =5.1% for loans of 3-5 year tenor. Contrast this with Indian bank PLR of 14-16%. Now which is beneficial to a borrower? Do the math.]

I have a client that is badly in need of funds to complete its commercial complex that is in its last leg. We have identified a willing lender in a foreign bank. But regulations stand in the way.

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Now why would RBI strangle business plans? Well, I can understand the borrowing risks borne by individual companies do translate into an overall country risk. But this problem is already addressed by the overall annual cap on foreign commercial borrowings. Within the overall quota, the government must accommodate smaller companies, which may have to pay somewhat higher interest rates. Currently the bias clearly appears to be in favor of big corporate houses and, in fact, 30 per cent to 40 per cent of the foreign borrowing quota every year is cornered by three to four big industrial groups. The small- and medium-size companies suffer the most in an economic slowdown as they do not have the muscle of big businesses to withstand the pressures of business cycles. The Government by its diktat prevents them from borrowing at a higher cost, slamming the only way they can get lenders interested in them. In these times, policy must provide them succor rather than make things more difficult.

A company is best placed to assess its own risks. If a small company can manage its business efficiently even after borrowing a little dearer, so be it. Take the case of my client. Even if it borrows at 500 bps above 6m LIBOR, it would still be borrowing at just 8.1%, which is a good 600 bps below Indian bank PLR! But RBI says it's ok if you sink deep into high cost Indian debt, but says no to significantly cheaper foreign loans. Isn't this ridiculous? That too when we have a problem of surplus foreign currency reserves at about $300 billion at the last count! The industry is demanding this be relaxed in view of the general uptrend in interest rates globally. To the extent interest rates have moved up globally, it makes sense to relax the interest rate ceilings.

Will RBI relent? It will have to, soon. The Prime Minister’s EAC read the tea leaves and is confident of the ability of the financial sector, as also the maturity of the corporate sector to support the higher growth process. But for that to turn real, RBI should let loose all those strings.

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any which way the cookie crumbles

Did you say, bad times for I-bankers? Oh, Really...?

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The smarts don’t buy it. They make money every which way. If they don’t get to do enough deals, they’ll make money undoing it.

"Yahoo shelled out $36 million in the first half of 2008 to the outside advisers that helped the company navigate stormy buyout talks with Microsoft and the ensuing proxy threat from activist investor Carl Icahn.

Yahoo leaned on investment banks Goldman Sachs Group, Lehman Brothers Holdings and Moelis & Co., and law firm Skadden Arps Slate Meagher & Flom, after Microsoft made its initial $44.6 billion offer, which was made public in February.

The negotiations collapsed in early May when Yahoo rejected an even richer $47.5 billion offer, but Microsoft came back later that month with an offer to buy Yahoo's search operations a la carte. As that failed, Icahn, who has a long history of challenging corporate boards, threatened to replace all of Yahoo's directors with his own hand-picked slate so he could negotiate a sale.

Yahoo's $36 million tab, disclosed in a regulatory filing, amounts to about 5 percent of the $673 million in profit Yahoo reported in the first six months of the year."

So, now you know the name of the game... it is survival...!!! Fling a deal and see if you can pull it off; and if you can't, make sure that it's botched right ;)

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Something is gotta' give

As I sat listening to that lilting Phil Collins number – "One more night...."



"Please give me one more night, give me one more night
One more night cos I can't wait forever
Give me just one more night, oh just one more night
Oh one more night cos I can't wait forever...."

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Something rhymed deep inside... A chime....?

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Yeah, got it! My friends working in I-banks have just one prayer these days - God, give us just one more bubble - like that famous Phil Collins song... First, some M&A deal stats –

No. of transactions - 663 in the H1-07 to 467 in H1-08, with a sharp slump in deal value dipping by over 40% from US$38.4 billion in H1-07 to US$21.4 billion in H1-08. The active sectors include Pharmaceuticals, IT&ITeS, Banking & Financial Services (BFSI) and Real Estate. The outbound investments accounted for US$ 8.2 billion of M&A activity spread over 96 deals.

Financing overseas acquisitions has been tougher owing to the global market conditions and high interest rates. The global crisis sprang from expanding credit squeeze, high oil prices and rising inflation and now they cause slowdown in M&A activity in H1-08.

Even the macro numbers aren’t giving room for hope. The Prime Minister’s Economic Advisory Council (EAC) has revised the growth rate down to 7.7% for 2008-09 from its earlier estimates of 8.5% (and last 4 year average of 8.9%). Rubbing salt in the wound, It also expects inflation to scale 13% soon. Takeaways –

Trade deficit is likely to widen to 10.4% of GDP in 2008-09 compared to 7.7% in 2007-08. Merchandise imports would grow to $332 billion, Exports would grow to $205 billion, leaving a deficit of $127 billion. Export growth could be $22.5% while import growth would be higher, thanks to high crude prices.

High oil import bill and a decline in capital flows are pushing current account deficit to an all-time high of 3.2% of GDP during 2008-09. The estimated deficit for the year is $41.5 billion. In Q1/Q2 of 2008-09, deficit could be over 4.5% of GDP. The estimated 3.2% current account deficit for 2008-09 is more than double the deficit of 1.5% in 2007-08. The only year when it crossed 3% was 1990-91 — when it touched 3.1%, as we were facing a major foreign exchange reserve crisis. The silver lining now is that forex reserves stand at over $300 billion — far above the comfort level.

Capital flows would decline to $71 billion in 2008-09, far lower than the previous year’s $108 billion. Despite the decline, the net addition to forex reserves would be $30 billion.

Now to fiscal mismanagement. The government comes down heavily on private sector for not being transparent about its currency losses. But when it comes to its own affairs, it sweeps a lot under the carpet – think off budget Oil / Fertilizer subsidy funded by bonds that pose serious risks to the extent they are unfunded in the budget. But then you can’t speak much about that.

Just hope something is gotta’ give! Another bubble...? I don't mind... ;)
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Domestic VC firms get a reprieve

The new guidelines, being drafted by the finance ministry and the capital market regulator SEBI, may not allow VCs to invest in listed companies and restrict them only to startups.

I see this as an attempt to remove the differences in treating foreign and domestic VC funds. One of the aspects being reviewed is the minimum capital required for VCs to set up shop in India. Currently, domestic VCs need to have a minimum capital of Rs 5 crore to operate, while foreign VCs don’t have any such requirement.

So end of the road for pipe investors? Not really. I say this to PE firms. Mature. Now that valuations are beaten down, start looking for buyouts (or buy-ins). Act like a true blue private equity investor. Don’t harp at pre-IPO minority stake buys, listing gains and easier exits. Develop specific domain expertise and prowl for worthless company managements that are badly screwing up shareholder wealth. Believe me, there are plenty of them across the listed segment – Large cap, mid cap and small cap. Get immersive, play active roles in shaping the fortunes of those companies and see if you can truly make a difference.

If yes, you’re in the game. Stick around and have fun.
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Unjust enrichment - ESOPs for nominee directors?

Has SEBI yielded to the pressures of IAS lobby? It seems likely.

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Financial Institutions (FI) and Banks that take direct exposure in companies nominate their representatives in the Board of the assisted companies to safeguard their investments. They ensure that no decisions affecting the interest of their employers or that as might jeopardize the return on their investments should be taken by the company boards. So to the company concerned, these people offer no strategic value. In reality, they just pocket the sitting fees and incessantly nag the company managements with requests for availing company guest houses (or shamelessly ask for hotel accommodation where no guest houses are available) for their family vacation or call for their cars for their family trips. At the board meetings, they are busy devouring the fried cashew nuts and feeding on anything that looks like food while the managements play havoc with the enterprise (declaring dividends even as the company is reeling under high cost debt, siphoning off company funds by way of unsecured inter-corporate loans to below investment grade (promoter) group companies at low interests, passing liberal executive remuneration resolutions, writing off personal expenses of directors). Remember, the appointment as nominee flows directly from their employment with the investor institution.

Now these nominees are being allowed entitlement for ESOPs from the companies where they are nominated. Here is a funny story of two LIC directors on the Board of L&T fighting it out :-)

Last year, there was a two-month face-off between LIC and GIC and their nominee directors, B P Deshmukh and Kranti Sinha, on the board of Larsen and Toubro (L&T) after the nominee-directors refused to return shares allotted to them by the construction major in spite of directions by both the institutions that its nominees should not accept any Esops. Sinha and Deshmukh held 20,000 and 30,000 L&T shares, the market price of which was Rs 3.5 crore and Rs 5 crore, respectively, at the time.

The two financial institutions moved the Bombay High Court to bar their nominee directors from dealing in these shares. Both directors lost their jobs on the L&T board. The matter was later settled out of court after the former directors returned their employee stock option shares to the company. After this, all financial institutions that hold equity stakes in various companies had written to them asking them not to issue Esops to their representatives to avoid a similar situation.

I have a few questions –

a) Aren’t nominees just what they are - employees of investor institutions? How can they be entitled to a perk that is available to the permanent employees and non-wholetime directors of companies even as their attendance at the board meetings are only to protect the interest of their employer?

b) Where does the loyalty of the nominee (post ESOPs) lie? To the management of the company that enriched him or to the PSU employer that pays him a piffling salary in comparison?

c) How can the employer expect the ESOP awarded nominee to protect their interests? Why would they go against the company that enriched them?

d) What strategic value could the nominees offer to the assisted company that belongs to an entirely different vertical? Let’s say an IDBI nominee (a banking professional) in the Board of a power company - can he ensure leakproof transmission and distribution of power? (Now don't tell me he could suggest low cost financing measures - we know how financially savvy they are; just take one look at earnings growth of their parent institution itself. You get the picture?

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Sleight of hand or indifference?

Ah, well there you have it. Companies reporting financial results in ways as are most convenient.

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Under the Indian laws, Companies prepare accounts for two different purposes under two different set of regulations. The one under Schedule VI of the Companies Act, 1956 for statutory purposes and shareholder review. Another is in compliance of the Income Tax Act, 1961 that is recognized by the Income Tax authorities. While the former lays emphasis on disclosure and shareholder information, the latter stresses on revenue recognition and tax compliance. Often there are divergences between the two because of which the financial results are often at a variance.

For example, Schedule VI of the Companies Act permitted companies to adjust the exchange gain/loss to the cost of fixed asset. So if a company bought a fixed asset for $10 (Rs 400) with a forex loan and suffered an exchange loss of say Rs 30, it could add this loss to the cost of the fixed cost (Rs 400 + 30). They get to claim depreciation (read tax savings) on that inflated cost of the asset as well.

And then there is the accounting standards prescribed by ICAI that falls somewhere between the two. ICAI AS-11 calls for recognition of this loss of Rs.30 by charging it to P&L account without adjusting the actual cost of the asset (which is eligible for depreciation). The existing treatment allowed companies that had foreign currency borrowing for acquisition of assets to inflate their assets position on account of adjustment of exchange differences every year. The companies that did not resort to foreign currency borrowing for acquisition of assets had a disadvantage as they were required to write off their financing cost in the profit and loss account.

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As of now, the first-quarter results of several big companies such as Reliance Industries, Reliance Communications, Bharti Airtel and Jet Airways would have been a lot worse had they followed the Accounting Standards (AS) 11 rules prescribed by the Institute of Chartered Accountants of India (ICAI).

Even under the International Accounting Standards (IAS), Prior to the 2003 revision of IAS 21, an exchange loss on foreign currency debt used to finance the acquisition of an asset could be added to the carrying amount of the asset if the loss resulted from a severe devaluation of a currency against which there was no practical means of hedging. That option was eliminated in the 2003 revision. ICAI too followed suit in 2003.

But reading that news item gave me scope to laugh a lot. The excuses of Reliance Industries, Bharti, Jet, sound so flimsy. Most of them have taken refuge under legal opinions (many retired judges depend on it for their livelihood) that are available for a price. Reliance Communication chose not to respond. When you are living in denial and trying to fool yourself, silence is the best option.

Or is it indifference?

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The charity incentive

“The Inflation can drop below 8 % if confluence of factors like fall in global crude oil followed by a good monsoon work”, says Prime Minister's Economic Advisory Council (EAC) Chairman C Rangarajan.

It touched 11.98 per cent for the week ended July 19.

And then? The improved fiscal conditions would be used as an excuse to pursue populist schemes in an election year. The government already have to fund the generous farm loan write offs ($18 billion at the last count) and the liberal pay hikes to the government staff ($5 billion in arrears and $2.5 billion annual outgo). The latter is now deferred (a bungling government waking up to the folly?) emphasizing the thoughtlessness of the award. Now I think of the majority tax paying tribe that gets no benefit from any of it - the non-government employee citizen or a farmer with no loan outstanding. You think I am biased? Here is Moody’s rating, for the record !

I might rather donate all my taxable income to the Red Cross. That will make me feel a lot better.

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Doc says "Drug all analysts for a while"

What do many financial analysts and business media have in common? A drive to talk our economy – into a depression.

To begin with, they over-research the financial services sector (FSS) and extrapolate it into their broadbased prophecies. Go tell them FSS is not the whole economy. FSS (at Rs.1.65 trillion) account for just under 14% per cent of India’s GDP (Rs.12 trillion). Ranting against RBI for its three rate hikes in two months betrays poor understanding on their part.

I ask them to set their clock back by about 5 years and take a peek. Back in 2002-03, we had rate drops in quick succession that drove up bond prices, when banks and bond funds declared phenomenal returns. Now it's just the reverse of that and such shifts in dynamics only confirm the prevalence of a cycle and hence room for hope that they will go back to where they came from. What matters at a world level and for countries is that total nominal demand should be rising fast enough to support a sustainable rate of real growth but not so fast as to generate runaway inflation. That’s exactly what Guv. Y.V.Reddy sought to rein in by hinking repo and CRR earlier this week. In spite of India’s exceptional experience in this “nice” (non-inflationary, constantly expansionary) decade, this demand expansion is rarely going to take place along a simple straight line, but it makes sense as an average over a period.

The world economy as a whole has clearly hit the buffers. Demand growth has been too high for world supply potential. This is the common factor behind the rise in oil, food and commodity prices, which has struck the OECD countries as a rise in imported inflation. At present, commodity overheating in some of the BRIC (Brazil, Russia, India, China) countries coincides with economic slack in Europe and North America. This is no more paradoxical than the situation that confronts central banks when some regions are depressed and others over-buoyant.

No one really knows what the permanent element is in the rise in oil, food or commodity prices. [Is it surging demand, squeezed down supplies or flip side of derivative positions in oil futures market?] Even if there is a long-term upward trend in these primary prices, there is likely to be a temporary fallback. Meanwhile, shall we ask the analysts to just shut up, stop staring at the screens and prognosticate?

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