Those who live by the sword die by the sword. Is crony capitalism in India to be slayed by cronies? Unless specific, urgent attention is paid to expanding the market for distressed assets being resolved under the Insolvency and Bankruptcy Code (IBC), and deficient rules remedied, cronyism would emerge the victor, as well as the vanquished.
IBC is a milestone in the evolution of Indian capitalism, along with banking regulator RBI’s decision, when Raghuram Rajan was governor, to put an end to the practice of banks dressing up bad loans as healthy ones. Rajan’s successor, Urjit Patel, has moved further along the path so opened up, winding up various schemes under which loans turning bad could be camouflaged. Now, even one day’s delay in servicing a loan would bring on bankruptcy.
Need Clarity on Goal
Indian promoters are used to playing fast and loose with the public’s savings routed to them via the banking system, thanks to the right political connections. They inflate project costs, take money out of the project during execution, share it with the political bosses and throw some loose change at the bankers, too.
They loot the company further, when the company acquires other companies, or even when the company makes large purchases — vendors are only too happy to kick back a hefty commission to shell companies in tropical paradises, where sunlight scorches bare skin but is blocked by crafty banking rules.
In case the company runs into financial trouble, they manage additional loans from banks and, eventually, debt write-offs. If, after all this, the company turns sick, the promoter stays in the pink of health, having made his pile from the company, while employees, suppliers, minority shareholders and creditors malinger, along with the company.
IBC, more focused successor to past provisions of the revamped Companies Act, was meant to put an end to this state of affairs and wrest a company from the management that has run it into the ground, sell it off as a going concern, if possible, or as broken-up assets after liquidation. Crony capitalists saw in this an opportunity to shed their companies’ unserviceable loans by means of buying back the companies when they are sold off as a bankrupt asset.
The government saw the political backlash in letting a promoter who had, say, built up a bad loan of Rs 40,000 crore, buy his company back in the resolution process, shorn of all debt, for, say, Rs 16,000 crore. Since the haircut the banks take on their loans would have to be provided for via fresh injections of capital, this would have meant the taxpayer subsidising the promoter to the tune of Rs 24,000 crore. So, the government amended the rules to disqualify promoters of bankrupt companies from bidding for resolution assets.
This did not solve the problem, however. If the market for distressed assets is not vibrant enough, the asset would be picked up by another large company at a discount to its actual worth. By disqualifying failed promoters, the government took out one set of potential buyers from the market, depressing the price discovered and increasing the banks’ haircut, the burden on the taxpayer to recapitalise the banks and the gain to the successful bidder.
Create a Market for Assets
The government failed to clarify the public policy goal in the resolution process, creating confusion through restricted eligibility for buying the assets and introducing a scorecard for vetting bids.
This is ridiculous. There is no need to look at the horoscope of the bidders. Look at the bids, in terms of their net present value — a bid that offers huge amounts, say, 10 years hence might turn out to be worth less than a bid that is nominally smaller but offers cash upfront.
Maximising realisation from the sale of distressed assets is the public policy goal in resolution. It would minimise the haircut banks have to take, and, if the successful bid leaves cash on the table after paying off creditors, pay off unsecured creditors, employees and even shareholders. To pursue this goal coherently, there has to be creative initiative, not leaving it to an underdeveloped market.
In the first large resolution under IBC, Electrosteel Steels was sold at a price that entailed a haircut of about 60% for the banks. Vedanta acquired 1.5 million tonnes of steelmaking capacity for Rs 5,320 crore. If it had to set up that capacity from scratch, it would have had to spend well over Rs 11,000 crore. Vedanta outbid Tata Steel and Renaissance.
Why should only steelmakers bid for a steel asset? Why shouldn’t retirement funds enter the fray, in partnership with, say, SAIL or a professional with a stellar track record?
There has to be unambiguous clarity on the public policy goal in resolving bad loans, and all rules that conflict with the goal should be amended. Bidding must continue till all bidders drop out, save one.
Otherwise, crony capitalists would snap up assets on the cheap, the taxpayer would have to cough up extra money to recapitalise banks and sundry creditors and shareholders would sue the government for having defrauded them of potential revenue through stupid rules that prevent discovery of the highest possible price for resolution assets.