Long and Short II: Of credibility crisis, debt traps and solving insolvency
Hello!
A massive infrastructural giant gave kickbacks to credit rating agencies presumably for favourable ratings, a housing finance company is close to shutting down and Rs 1 lakh crore of public debt is on the line, RBI fined the biggest bank in the country for hiding defaults and frauds, india’s insolvency court made a dangerous decision and government borrowings seem to be stuck in a debt trap. That’s just some of the stuff that happened last week which caught my eye. Too much for a Saturday morning, eh? I know. Let’s jump right in and I promise there’ll be something good at the end.
Credit ratings lose credibility
I had chronicled the ICRA-IL&FS saga on a Twitter thread where I pointed out how ICRA kept on waxing eloquent about the beleaguered group’s management and experience even as it was defaulting on its liabilities.
While there’s no resolution in sight for IL&FS which owes at least Rs 20,000 crores to just the banks, stories about its senior management giving kickbacks to famed credit rating agencies emerged on Thursday and Friday. The stories listed details of football match tickets, villas, contribution to trusts and even shirts as some of the gifts offered by the group to rating agencies professionals across Icra, CARE, India Ratings and Brickwork Ratings.
Most rating agencies declined to comment on the reports pretending to be still studying them but the reports did create a dent in the veracity of the ratings provided by these agencies to many other industry leaders.
Speaking of ratings, CARE Ratings sent its MD & CEO on an indefinite leave pending a SEBI investigation. It appointed an interim CEO but decided to keep him out of the ratings decisions, apparently to “ensure independence of ratings”.
Situations like these are not the first time. Many in my network recalled 2007-2008 when the subprime crisis hit the US and the actions of rating agencies came to light where they gave preferable ratings to dubious loans which consumers bought believing the ratings. However, it is important to note that the whole ratings model is broken. It needs to go.
Rating agencies need to be either made irrelevant or much more accountable. This can only happen through more regulation but not of the post-facto kind. Rating agencies chiefs need to be held personally accountable for the wrongdoing. Mismatch of ratings should call for criminal prosecution and the model of companies paying rating agencies for any kind of rating needs to be eliminated.
Another day, another bankruptcy
Is DHFL the next IL&FS? Many are still buying DHFL stock hoping to make a quick buck when it rises with the tide in the markets but the sad reality of the situation is that, last week, the company camecloser than everto shutting down and didn’t shy from even saying so publicly.
The company said it was "undergoing substantial financial stress" and its ability to raise funds was "substantially impaired and the business has been brought to a standstill with there being minimal/virtually no disbursements."
"These developments may raise a significant doubt on the ability of the company to continue as a going concern," it said in notes accompanying results for the fourth quarter ending March 31, signed by the Chairman and Managing Director Kapil Wadhawan.
Banks have about Rs 40,000 crore exposure (out of its total Rs 80,000 crore debt) to the company with SBI, Bank of Baroda and Yes Bank leading the pack. Meanwhile, the resolution plan for the company apparently involves *borrowing more*. DHFL is said to start seeking Rs 1200 - Rs 1500 crore in loans every month to start its lending business which it hopes will lead it to the road to recovery. Godspeed!
Solving insolvency
On July 17, Andy Mukherjee, Bloomberg’s firebrand columnist wrote a scathing piece about an insolvency tribunal’s decision to remove preferences between secured and unsecured creditors in the insolvency proceedings for Essar Steel, the country's most high-profile insolvency case. Mukherjee wrote about how it sets a bad precedent which will increase credit costs for India Inc, lead to a crash for PSU banks shares and make foreign investors flee.
Just 24 hours later, the government approved many crucial changes to the Insolvency and Bankruptcy Code itself which it hopes will override the problematic judgement in the Essar case. Apart from clarifying that secured and unsecured creditors need not be treated as equals, the amendments put a strict time limit of 330 days for a resolution and reinstated the committee of creditors as the one in the driver’s seat.
SBI saga
Last week, I wrote about how SBI chief Rajnish Kumar isn’t a happy man these days. He’s been angry at the insolvency code because of Essar Steel decision that we just spoke about and at the pace at which insolvency proceedings are happening. Now, he’s even angry at journalists asking questions about Jet Airways insolvency and the possibility of liquidation.
"How can I foresee what will happen in the NCLT This is the first case of the aviation sector that will be tested," he shot back.
Now, he’s got even more reasons to be angry/disappointed/mildly dismayed. SBI, nation’s largest lender, has been charged a Rs 7 crore penalty by RBI for “non-compliance with norms related to NPA identification and fraud risk management, among others”. I unpacked what it means in a Twitter thread herebut the summary is that the bank failed to report bad loans on time to the banking network set up by RBI, it also failed to flag doubtful accounts on time and at times, it didn’t make enough provisions for these debts which forced RBI to levy the penalty.
However, the big question is this: SBI bad loans reduced 23% to ₹1.72 trillion as of 31 March from ₹2.2 trillion in the previous year. This is the same date as the RBI audit. How big is the hole between reported numbers and actual numbers?
Debt trap for the government of India?
All of us have analysed, dissected and even fact-checked the budget 2019 and the overall picture isn’t too great (unless you are reading opinion pieces by India Inc CEOs). But, economy and markets watcher Sonali Ranade spotted something that many of us have missed: Interest payments on government borrowings are now rising faster than the GDP itself. This has the makings of a debt trap, she said.
Debt trap: a situation in which a debt is difficult or impossible to repay, typically because high interest payments prevent repayment of the principal. You can read this fascinating thread here.
Hot stuff
Asian Development Bank has just cut India's growth forecast to 7% from 7.2% earlier. ADB said this is because of "the unexpectedly weak FY2018 outturn". This is just the latest in the series of growth estimates about India being cut, including the RBI itself. Here's an awesome chart which shows exactly where the problem lies.
FM Nirmala Sitharaman batted for protectionism in her budget in the garb of boosting ‘Make In India’, Mint found. Tadit Kundu analyzed the budget and found that the list of items on which tariffs have been increased or introduced is far longer than the list of items where they have been reduced or removed.
Vivek Kaul, my favorite finance teacher, wrote this insightful piece about how the higher prices that we are paying on petrol and diesel thanks to the budget hikes are going to help public sector banks provision against bad loans.
Income Tax Department can fine you up to Rs 10,000 and even send you to jail now for seven years if you fail to file your return on time (i.e. July 31, 2019).
Meanwhile, ShopClues seems to have finally shut shop, so has Aditya Birla Payments Bank, 75 engineering and technical colleges are winding up and even Ashok Leyland has shut down one of its plants temporarily due to weak demand.
Now, the promised good news: IndiGo reported a stellar performance with its profit rising more than four times year-on-year to more than Rs 1200 crore. It largely happened due to Jet Airways’ departure and reports noted that investors want peace more than anything right now. (Long and Short predicted last week that there's good news in the offing for investors from this board meeting!)
That’s all for this week. Only 241 weeks left now for India to become a $5 trillion economy.
Happy weekend! I look forward to your bouquets and brickbats.
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See you next week!