Category: Your Money

The Sahara India Pariwar Saga

Here’s yet another turn in Sahara-SEBI war. Subrata Roy, CEO and group chairman of Sahara Group has approached the Supreme Court to postpone the hearing scheduled for April 22. That’s when Justice K.S. Radhakrishnan is expected to consider SEBI’s petition to detain Subrata Roy and directors Ashok Roy Choudhary, Ravi Shankar Dubey, and Vandana Bhargava to initiate contempt proceedings against them.

English: At home of Subrata Roy Sahara

Sahara Group was instructed by the Supreme Court in August 2012 to refund ₹24,000 crore to investors in 3 months, along with 15% interest. The charge on Sahara Group, its CEO, promoters and directors is that the firms Sahara India Real Estate Corp. Ltd. (SIRECL) and Sahara Housing Investment Corp. Ltd. (SHICL) raised funds through optionally fully convertible debentures (OFCD) without complying with prudent disclosure and investor protection norms such as notifying investors when their deposit matures or KYC norms. Moreover, majority of investors in Sahara’s scheme come from rural villages and small cities who were attracted by the interest rate but have no idea what OFCD means.

SEBI argues that under the guise of Residual Non-Banking Corporations (RBFC) distributing OFCDs, the firms were running regular deposit schemes and para-banking activities – a breach of SEBI regulations and the Companies Act. An OFCD scheme runs only 10 days while Sahara has been collecting money for years – from over 23 million people. That too in a highly irresponsible manner as their investor records show – incorrect names and addresses, no nominee record, etc. In effect, if an investor does not come to Sahara with debenture papers, the money will stay in Sahara’s pockets – an observation made by courts too.

SIRECL had collected ₹19,400.87 crore from investors by March 2008 and SHICL ₹6,380.50 crore. With the 15% interest, Sahara must pay back over ₹38,000 crore to investors. The company claims 86% of the funds have already been refunded except ₹5,120 crore which they have paid to SEBI on the court’s order.

Since Sahara has failed to make further expected payments to SEBI and their investor records show bizarre gaps that could mean they are bogus, SEBI has passed an attachment order on bank accounts and assets associated with SIRECL and SHICL. Sahara has filed an appeal with Securities Appellate Tribunal (SAT) to appeal on this issue on April 20.

Sahara claims that SEBI has no jurisdiction in the OFCD matter as they are a privately held company and hence answerable only to the Ministry of Corporate Affairs. This argument does not wash with the Supreme Court of India or SEBI.

What of the investors that Sahara accepted money from? Roy claims that none of his 110 million investors have anything to complain about. But reports have come in of strong-arm tactics towards investors who are coming in with their papers and conversion of investments to Roy’s newest venture Q-shop without investor’s consent.

Meanwhile, Sahara Group has acquired acres of land in Delhi, Gurgaon, Mumbai and purchased controlling stakes in hotels abroad with possibly the funds accumulated from SIRECL and SHICL. That’s not a crime but it rightly raises questions for which Sahara doesn’t have convincing answers. Is it the road to doom for Sahara or will Subrata Roy’s entrepreneurial soul find a way out yet again?

 

Indian IT and Contingent Liabilities

Contingent liabilities are serious future obligations like lawsuits, warranties, etc. that may or may not be a problem. For example, if your parents guarantee your home loan, then if you make all your payments on time and do not default on your mortgage, there is no contingent liability on your parents. If you fail to make the payments, your parents will incur a liability.

Maybe its not a problem yet, but it appears the Indian IT companies are getting into riskier contracts in search of revenue. It used be that Indian IT companies were predominantly “body shops”, i.e., most of the contracts were labor based. An hourly or monthly labor rate was assigned to different skill levels and the contract outlined the total labor anticipated and quality of service goals. However, over the last 3-4 years, there has been a significant uptick in “gain sharing” contracts where the service provider obtains a share in the savings when outsourcing creates permanent cost savings. A gain-sharing contract better motivates the provider to innovate and to reduce operating costs.

The problem is that these contracts are not transparent to investors. How much of the anticipated revenue has been booked upfront? What if there are no “gains”? What if provider has a windfall year and the client decides to renegotiate the formula? Also, are investors aware of the risk-mismatch in contracts between what the provider has with its employees and its clients?

Investors should demand greater disclosure of these contingent liabilities before taking revenue numbers at face value.

Conglomerates: Heartbreak hotel?

Conglomerates are companies that either partially or fully own a number of other companies. Sprawling conglomerates litter the Indian landscape: from the Birlas to the Welspun Group, they have a finger in just about every pie.

The case for conglomerates can be summed up in one word: diversification. Because the business cycle affects industries in different ways, diversification results in a reduction of investment risk. A downturn suffered by one subsidiary can be counterbalanced by stability, or even expansion, in another venture.

The core of the idea came from a Harvard Business School proposition that management is management. If you could manage an oil business; you could also manage a movie studio, because the basic fundamental principles were the same. But anybody who has actually managed a business knows that success depends on understanding deeply the industry in which one operates. However, the megalomaniac allure of being everywhere and owning everything is hard to resist. After all, managers are also human, aren’t they?

The case against conglomerates can be summed up in two words: size and complexity. Bigger size slows down decision-making while complexity creates confusion. Diversified companies often allocate capital to keep poorly performing divisions alive. The market would have cut them off, but in a diversified firm, good money is thrown after bad. For investors, conglomerates can be difficult to understand – accounting can leave a lot to be desired and can obscure the performance of separate divisions. Behind every Tata company there is the unlisted and opaque Tata Sons lurking in the background.

So should we break up these behemoths and force them to be independent entities? It depends. Research shows that companies with one division operating in a high-growth industry and another in a low-growth industry will generally do a worse job of allocating capital than one with two divisions operating in industries with comparable growth prospects. It means that the Reliance of yore, the vertically integrated petrochemicals major, is an example of a “good” conglomerate. Whereas the new Reliance, the one that wants to be in every vertical possible, is an example of a “bad” conglomerate.

Forewarned is forearmed!

Sources:
spinoffadvisors
CFO.com

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Gold vs. Jewelry

Today’s collapse in Gold took down gold jewelers like Titan (-5.05%), Gitanjali (-2.98%) along with gold lenders like Muthoot (-12.71%) and Manappuram (-9.84%). I understand why gold loan companies might be in trouble if the downtrend continues. The biggest question being whether their customers can top up their LTV given that the collateral is down -13.81% this year? However, unless the jewelry guys got into some nasty hedging bets, isn’t falling gold prices a net positive to them?

Women secretly know that gold jewelry is a bad investment. Trinkets falls 30% in value the minute you take it out of the showroom. The investment angle was something that they use to make men feel better about blowing away money. The drop in gold prices actually makes it more affordable so I would expect foot traffic to retail jewelers would actually increase.

As price decreases, consumers will buy more of the good.

There are significant headwinds affecting gold. Chief among them the ECB’s pressurization of Cyprus’ central bank to sell its gold reserves to help pay for the country’s bailout. That has raised expectations that other distressed euro-zone members might be forced to sell gold as well. Other factors include bearish forecasts such as from Goldman Sachs, the slow improvement in the U.S. economy, and the perception that gold is no longer needed as a safe haven.

However, if you are with me on the thesis that, in reality, jewelry buyers are not buying gold for investment but for consumption, then the drop in gold prices are a net positive to jewelry companies.

[stockquote]GITANJALI[/stockquote] [stockquote]MUTHOOTFIN[/stockquote] [stockquote]MANAPPURAM[/stockquote] [stockquote]TITAN[/stockquote] [stockquote]GOLDBEES[/stockquote]

Introduction to Financial Markets

Ever wonder why we have banks? Where does money come from? Why do we need the Reserve Bank? And yet, these concepts and institutions touch every facet of our lives. Let’s begin a journey to understand the basics of this financial system we are in. Over a period of the next few weeks, we’ll go over the different spokes of the financial wheel from a beginner’s point of view.

Reference material for the following posts comes from the book ‘An Introduction to Global Financial Markets’ by Stephen Valdez.

Why do we need any financial markets? Who are the players?

First there are parties who need to borrow money – these parties could be individuals, like you, private companies or governments. People may need to borrow money to pay off home loans and so on, private companies may need to borrow money to further their growth and expansion, and we all know governments need to spend a lot of money on public projects for which taxes collected from citizens is probably not going to be sufficient!

Then, believe it or not there are parties with surplus funds that they are willing to lend to the borrowers. We all know that idle cash doesn’t make money on its own! They may be people depositing savings in a bank, insurance or pension funds, or companies with profits to invest. In an ideal world where every borrower could meet a lender and vice versa without any intermediary, there would be no need for financial institutions or markets. But as it happens, we need intermediaries to facilitate the transactions between borrowers and lenders – the intermediaries are banks, other financial institutions and markets.

To give you a perspective – a private investor might deposit money in a bank at a 10% rate of interest p.a. for her savings account. Meaning that for a deposit of Rs. 1,00,000, she will get Rs. 1,10,000 back from the bank at the end of the year. How will the bank get the additional Rs. 10,000 to pay the investor at the end of the year? Obviously the bank will need to invest that money elsewhere, where the rate of interest is greater than 10% p.a. leaving enough profit for the bank to pay back the investor plus a surplus amount which is income for itself. We’ll see what options the bank has in a bit, but before that let’s take a look at the different types of securities in play in the financial markets.

Securities at play

Bonds

Bonds, also called debt instruments, are securities that pay out fixed amounts at regular intervals. That’s why bonds are also known as fixed income products or securities. Governments or private companies issue bonds when they want to raise capital. The purchaser of a bond is basically granting a loan to the issuer, which will be paid back over at the end of the borrowing duration. In the meantime, fixed interest payments are made by the borrower (the bond issuer) to the lender (purchaser). The fixed interest payments are also called coupons because in the days of yore, bonds were actually pieces of paper with the principal amount borrowed, interest rate and maturity printed on them. Interest payments could be redeemed by tearing off the coupons attached to the bond!

In our banking example above, the bank could purchase a fixed interest bond with a 12% rate of interest p.a. That means the bank earns Rs. 1,12,000 at the end of the year, leaving enough money to pay back the private investor in addition to a Rs. 2,000 profit for itself.

Of course, the ability of the borrower/issuer of the bond to pay back the principal depends on their creditworthiness which is what makes the bond desirable to purchasers. A government for instance, is considered safe as it’s unlikely to go bankrupt and will be able to repay its borrowings. The creditworthiness of private companies is a range determined by several credit ratings agencies such as Moody’s or Standard and Poor’s who assign ratings based on their analysis of the company’s liquidity.

Equity

The terms equity, common stock and shares are used interchangeably to mean the same thing. Shares are another means for companies to raise money from investors, but unlike bonds where fixed interest payments are made in return for the investment, shareholders don’t get fixed payments but actually own part of the company, corresponding to their share in the company’s profits. The percentage of the company owned by a shareholder would be proportional to the number of shares they own as a percentage of the total number of shares of that company in circulation. If this is the first time the company has issued shares to the public to raise capital, it’s called a new issue or the Initial Public Offering (IPO). Unlike in the case of bonds, there is no expectation for the company to return the original investment; the returns are realized in the form or capital gains when the company is profitable. Since the investor is part owner of the company, profitability increases the share prices, so the shareholder can sell the shares to other interested investors at a higher price in the secondary market.

We shall cover both these types of securities in much more detail in the coming weeks in addition to the several more complicated securities like options, swaps, forwards, futures and derivatives.

Next week, we talk about the history of banking and the different types of banking – commercial banking and investment banking. Stay tuned!

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