Budget 21: Don’t Waste This Crisis, Just Smooth the Wrinkles

Budget 2021 will be marked by a severe economic crisis & a visible resolve to adopt market-friendlier policies.

5 min read
Can PM Modi take advantage of this economic crisis to bring market friendly policies?

It’s Budget time folks, so bring it on, policy weapons, warts, and wrinkles!

But this time, the Budget will be written when COVID-19 has already destroyed over Rs 16 lakh crore (more than $ 200 bn) of output in just the first half of the year. So even if we grow by the fabled ‘double digits’ next year (just watch out for those boasts), we will not reclaim what we already had before the pandemic struck. So, it’s a real, soul-killing economic devastation that we are staring at, perhaps the only impetus to force a status quoist apparatus into action. But mercifully, there are also three straws swirling in a gentle, optimistic breeze. They’re not infallible, they’ve got a few wrinkles, but at least they’re honestly, genuinely reformist.


Lakshmi Vilas Bank (LVB) is Dead; Long Live LVB!

The Rescue

Lakshmi Vilas Bank (LVB) was a tiny ‘legacy’ private bank set up before the liberalization of the early 1990s that spawned such giants as HDFC, ICICI, Axis, and Kotak. It had made losses for twelve trailing quarters, wiping out equity and denuding capital adequacy to zilch. Its Rs 21,000 cr depositor base was in serious jeopardy. The Reserve Bank of India (RBI) had been scratching around desperately to find a rescuer, but one deal after another was falling by.

I am sure the regulator must have flirted with options that had been exercised in similar crises earlier, when failed operators were shoved down the throat of stoic, unable-to-complain-or-resist public sector banks.

Think about BCCI thrust on SBI in 1991, or Global Trust forced on Oriental Bank of Commerce in 2004, down to SBI infusing life-saving capital and taking custody of Yes Bank as late as this year - so, you see, the bad habit was intact.

Therefore, it was natural to assume that the Indian state would pick up its lazy, discredited—even dangerous—playbook one more time and inflict the LVB tragedy on a Bank of Baroda or some such hapless taxpayer-owned entity.

But the regulator had a pleasant surprise in store for crusty commentators like yours truly. It literally pulled a rabbit, aka the $ 47-billion DBS Bank, out of the hat, aka Singapore, and handed over a neat, ready-made package of 4000 employees and 550 branches in south India, to garnish the rather minuscule 30 branches operated by the south Asian giant here.

That gave DBS Bank a fetching story for the Tamil diaspora in Singapore, and complete ownership in exchange for a piffling commitment of Rs 2,500 cr in fresh capital, because the existing equity of LVB was written down to zero with one swish of the regulatory sword.

And in a final twist of the knife, the RBI had a post-transaction epiphany when it annihilated Rs 370 cr of tier-2 bonds, sweetening an already sugary deal for DBS Bank with this additional, unwarranted gift.

As soon as the shocked bondholders recovered from this unexpected blow, they were seen rushing to Madras High Court which, not surprisingly, has already given interim relief to aggrieved shareholders. That is where the tale hangs right now.

The Wrinkle

As is evident, I applaud the government’s rescue plan for discarding old, bureaucratic stereotypes, and handing over the asset to a robust foreign buyer. It’s a bold, fresh, break-the-clutter, market-friendly move. But there’s a residual wrinkle which shows how our babus (bureaucrats) are still too trite and unfamiliar with free-market policies.

Why was bludgeon used to write off equity, and later tier-2 bonds, to zero? Why not fairly value the asset, and then write down the losses in sync with the ‘risk hierarchy’ of contractual capital?

The first blow would be to equity holders, followed by unsecured debt holders, followed by quasi-secured lenders, and so on? That would have been the perfect scheme, but well, at least we’re pulling out of the dreadful quicksand of statist policies.


Air India: Were we Selling the Airline, or Peddling Debt?

The Sale

The government has been struggling to get rid of Air India for two decades. It was first mooted under Atal Bihari Vajpayee in 2000, then shelved under Manmohan Singh, but formally notified by Prime Minister Modi in June 2017. All good, except for the fact that such onerous conditions were put on its sale—including a strategic veto for the government with a 26% shareholding, a ban on corporate actions like merger/amalgamation by the new owner, and a ban on changing the brand name - betraying how clueless India’s bureaucracy was about market economics—that made it unsellable!

So, Air India carried over as a failure from Modi’s first term, after which some conditions were tweaked to make it attractive, including amputating Rs 30,000 cr in debt to leave just Rs 23,000 cr for the new buyer to deal with. But Covid-19 made a sale even under those relaxed terms impossible.

Finally, the state was coerced into making a commercially sensible concession that, frankly, it should have accepted on Day One, viz the bidder could now quote his purchase price at ‘enterprise value’, that is, he could buy the asset without picking up even a rupee of the Rs 23,000 cr debt.

The Wrinkle

Frankly, every asset sale takes place at ‘enterprise value’, which is defined as ‘equity value plus net debt’. Even if you don’t understand acquisition economics, plain common sense will tell you that. I mean, when you go to buy a house valued at Rs 2 cr, and it has a mortgage of Rs 1 cr, how much would you pay the seller? You would pay him Rs 1 cr, and take on the mortgage of Rs 1 cr, right? Similarly, any buyer of Air India would adjust his quoted price depending on the amount of debt he would be taking over from the government—the lower the debt he would assume, the higher the equity value he would pay the government to buy the airline. Simple. Elemental.

But then, why did the government waste 3 years in accepting a principle which is taught in Finance 101?


BPCL: Don’t Blink, Don’t Blink, Don’t Blink

The Exit

Perhaps the most ringing reform of the Modi government is the intent to privatize Bharat Petroleum Corporation Limited (BPCL), which racked up a net profit of $ 1 billion and was the second largest public sector company by revenues in 2018-19. In flowery prose, it’s a crown jewel. By effectively banning other taxpayer-owned companies like ONGC and IOC from bidding for BPCL, the Modi government underlined its hitherto half-hearted commitment to genuine privatization.

Remember those hideous ‘sales’ of HPCL to ONGC for Rs 37,000 cr, and Rural Electrification Corporation (REC) to Power Finance Corporation (PFC) for Rs 15,000 cr? Mercifully, by staying the course with BPCL without straying into those ‘pseudo sales’, despite a Covid-induced erosion of 20% in its stock price this year, Modi is signaling an unswerving resolve, finally!

The Wrinkle

When the EOIs (Expressions of Interest) for BPCL were opened, none of the big boys, from Saudi Aramco to Total to BP to Reliance, were in the fray. Only Vedanta seemed to be leading the pack of prospective buyers. Understandably, the sigh of disappointment was audible, with early murmurs of pulling in ONGC and IOC to do the ‘hideous trick’ once again. Gosh, if that were to happen, it would be a catastrophe, not a wrinkle. Please Prime Minister, DON’T!

To conclude, then, we seem to be heading into Budget Season with an energising cocktail—a debilitating economic crisis plus a visible resolve to adopt market-friendlier policies! I wonder why I am feeling a faint whiff of optimism.

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