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CORPORATE FINANCE
Why Are The FIs Turning Militant?

Actually with rising shareholder pressure, swelling Non-Performing Assets, and the threat of downgrades, the financial institutions do not have much of a choice.

By Roshini Jayakar

G P Gupta, Chairman, IDBI;" We are taking tough stands to protect shareholder interests and our investments"Tough guys don't dance. Sometimes, they don't even finance. After withholding their support to the Associated Cement Companies' (ACC) proposal to issue preferential warrants to the promoters, the Tata Group, J.N. Godbole, the director nominated by the financial institutions--in this case, the Industrial Development Bank of India (IDBI) and the Unit Trust of India (UTI)--chose to remain silent at ACC's Extraordinary General Meeting on January 7, 1999. "Will Mr Godbole explain why the IDBI decided to act in this manner?" queried a shareholder. No response from the man representing 20.63 per cent of ACC's equity-holders although a decision had been delivered 90 minutes earlier. Result: the Tata Group had to quietly withdraw its proposal, including an amended one to issue warrants to all the shareholders of the company.

A couple of weeks later, on January 25, 1999, at a meeting with the Union Finance Ministry, the IDBI's Chairman and Managing Director, G.P. Gupta, said that the institutions would provide relief to steel projects--the institutions' exposure to steel companies is Rs 14,000 crore--only if priority was accorded by company managements to ensure their timely completion. Declares Gupta, 58: "Wherever shareholder interests are not protected, and to protect our investments, we are taking tough stands."

Once more, there is activism, even militancy, by the institutions. However, in this second phase, the message reverberating in corporate boardrooms, shareholder meetings, and even in the corridors of North Block is that of institutional governance. Shorn of the trappings of the past--when the institutions were forced to kowtow to diktats from the Union Finance Ministry--they are now being guided by bottomlines and shareholder pressures. Gone are the days when a Swraj Paul or a Dhirubhai Ambani could be stopped midway in his takeover tracks by politicians acting through the institutions. Today, the institutions are selling their shares only to the highest bidder. Says S.H. Bhojani, 54, Executive Director, ICICI: "(Activism) is a necessity. With accountability to shareholders, there has dawned a realisation that it is easy to build assets, but recovery is tough."

THE DRIVERS: At the heart of the institutions' new avatar are their Non Performing Assets (NPA) of Rs 12,000 crore. Of course, this is not their headache alone; the financial intermediaries sector is saddled with NPAs of Rs 57,000 crore. But the number of sick companies in the portfolios of the IDBI, the ICICI, and the IFCI rose from 425 on March 31, 1997, to 496 a year later. The bulk were concentrated in recession-hit industries like chemicals, textiles, cement, and metal products.

All this is telling on performance. The IDBI's net profits of Rs 1,008 crore in the first 3 quarters of 1998-99 were 3 per cent lower than in the corresponding period of the last year. Similarly, the IFCI's net profits dropped by 10 per cent to Rs 106.57 crore in the same period. The exception: the ICICI, whose net profits crept up by 1 per cent to Rs 720 crore in the first 9 months of the current year.

This is not going down well with the institutions' shareholders, especially private equity holders, domestic and foreign. There has been an astounding erosion of Rs 10,000 crore in the market capitalisation of the Top Three between April, 1998 and February, 1999. And the troika's scrips have been quoting at 65 to 88 per cent below their 52-week highs: Rs 35 (IDBI), Rs 49.35 (ICICI), and Rs 14.95 (IFCI) on February 10, 1999.

Not surprisingly, in November, 1998, the credit-rating agencies revised the ratings outlook on the ICICI and the IDBI from Stable to Negative. At bb, that is 2 notches above Speculative Grade. Says Navin Agarwal, 26, Vice-President, SVS Securities: "There is concern about the rising NPAs since the quality of the institutions' assets is deteriorating."

The bottomline: the need to improve asset quality is forcing the institutions to aggressively defend their investments. Comments P. Narasimham, 57, Chairman, IFCI: "Accountability has increased due to pressure from the private shareholders, the need to raise resources, and to prevent a ratings downgrade. So, the risk-management techniques and capabilities of the institutions are at the centre-piece of the action." Adds K.V. Kamath, 49, CEO, ICICI: "While efforts have been made to support viable units facing temporary problems, an aggressive approach has been adopted towards wilful defaulters."

Over and above the market pressure, the institutions are aware that the banking crises in Asia and Japan were caused by faulty lending-decisions, influenced by a cozy nexus of politicians, bureaucrats, and industrialists. Which they are now trying to consciously resist. Says the IDBI's Gupta: "It is the institutions who take decisions, and not the government that is indicating what we should do. In sectors where we have high exposures, it is in our interest to scrutinise each project before providing additional assistance."

Sure, there are many solutions, but each has its own set of problems. Says N.K. Jain, 51, Joint Managing Director & CEO, Jindal Iron & Steel Company (JISCO): "Caution is needed while trying to change a system which has been in existence for years." The options before the institutions:

PLEDGING PROMOTERS' STAKES: Term-lending institutions that have a sizeable exposure in companies have agreed to commit fresh funds only if the promoters pledge their shares to them. This strategy comes into play in case there are cost or time over-runs, and the promoters are asking for concessions in terms of infusion of fresh funds or moratoriums on repayment.

As the shares come with voting rights, the institutions can, per force, bring about changes in management. For instance, Mukesh Gupta, the 41-year-old Vice-Chairman of Lloyds Steel has already pledged the promoters' 20 per cent stake in the company to the ICICI. The company approached it in March, 1998, for an additional Rs 60 crore to complete its galvanising project at Wardha (Maharashtra). Agrees Minoo Shroff, 69, Executive Vice-President, Raymond: "Pledging of shares is a good deterrent."

That's theory. Pledging of shares need not be good collateral. After all, what good are a company's shares if they cannot service debt? In reality, the institutions continue to provide loans to companies that are on the verge of default to prevent their NPAs from rising. Adds JISCO's Jain: "Changing the company's management may not really help since the performance of a company depends on various other factors. What is more crucial is to stabilise the project, and generate cash-flows."

ASKING PROMOTERS TO EXIT DIVERSIFICATIONS: In many cases, companies attract funds for one project, and then, divert them to diversifications. Often, the institutions are to be blamed. Facing the prospect of classifying an account as sticky, they are then forced to advance more loans. For instance, Essar Steel (institutional stake: 29 per cent) was extended loans of Rs 4,929 crore to finance several projects including a 2 million tpa hot-rolled coils unit. But while they were being implemented, the company invested huge sums in other companies.

Result: Essar Steel has gone back to the institutions asking for fresh loans of over Rs 2,300 crore to finance the repayment of $250 million (Rs 1,062.50 crore) of foreign debt due in July, 1999, and to fund its expansion-plans. There is no reason why these companies should not be asked to exit from their diversifications. Similarly, the institutions can ask the promoters to curtail further expansions until the company puts its house in order. However, this could have a long-term impact on the firm's health--and the institutions'.

RESCHEDULING LOANS: A report by the Financial Sector Initiatives Group of the Prime Minister's Advisory Council on Trade & Industry has suggested that the institutions should not be allowed to reschedule loans. The recommendation adds that the intermediaries should stop funding units that are unlikely to be viable in future. And that the capital structure of entities which have NPAs, but are inherently viable, should be restructured to ensure loan-servicing.

That leaves a turnaround to market forces. There is no guarantee that the company will take care of the other factors, like improving cash-flows. Says Hari Mundra, 48, CFO, RPG Group: "Industry expertise is something which the institutions are developing so as to spot trouble in a company ahead of a crisis." The success of such a strategy would depend, to a large extent, on the freedom to decide where to park funds and the ability to set exposure-levels--not yet the institutions' rights. At present, the Reserve Bank of India's (RBI's) Prudential Norms specify:

  • The exposure limit to any industry should be 15 per cent of the portfolio.
  • The exposure to a single company should be 25 per cent of the institution's net worth. And the exposure to any group should be 50 per cent of institution's net worth.

However, a Working Group, set up by the RBI in September, 1998, to review these definitions stated that the exposure-limits here were too high compared to most other countries. A member of the Group told BT that the RBI should only prescribe the exposure-limits to individual borrowers, and allow the institutions to decide the group's ceilings on a case-by-case basis.

CORPORATE GOVERNANCE: There are other options too. Institutional directors on the boards of companies could play a proactive role in the company's management. While such a model is prevalent in the US, corporate governance hasn't really come up as an issue in the country.

For instance, the institutions, led by the IFCI, pressurised M.M. Thapar, the CEO of JCT, to revamp the company's board, appoint concurrent auditors, and set up asset sale committees. They are yet to ratify the names of the new directors, auditors, and committee members. Says RPG's Mundra: "There is a dilemma in terms of how much time they can spend on corporate governance. They cannot be part of the executive team since they also have to be auditors."

While the institutions have been trying to assert themselves, the ground-realities havn't changed. Even today, political power-brokers can push through unviable bailouts, and the institutions role in takeover tussles remains ambiguous. For example, they have still not taken a stand in the battle between the two partners in LML: the Singhanias and Piaggio.

Says Anil Singhvi, 38, Treasurer, Gujarat Ambuja Cement: "The heat is on, and if the institutions don't react today, it will be too late tomorrow. But this is more talk than action." Adds Sudhir J. Mulji, 40, Vice-Chairman, GE Shipping: "They will not be assertive and independent unless they are privatised." Clearly, not only do the financial institutions have to work out their role in the New Economy, they must first decide whom they are responsible to: their old stakeholders, or their new shareholders.

 

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