Why have we not learnt any lessons from Kingfisher?

Dec 17, 2014

In this issue:
» The biggest risk to your portfolio over next 10 years
» Are we revisiting Asian financial crisis?
» Government's disinvestment targets too ambitious?
» Roundup on markets
» ....and more!

Rs 70 billion! That is the amount of money Indian banks had to writeoff with just a single corporate entity defaulting on loans, while downing its shutters. And this is not too long ago. Just 2 years back, in 2012, financial entities particularly PSU banks, woke up to the nightmare of Kingfisher Airlines' bankruptcy. And what did the government do? It chose to use tax payer money to bailout the beleaguered airline.

Readers would recall that the promoter of Kingfisher had then made a request to then Finance Minister and the Civil Aviation Minister for bank funds at concessional interest rates. Kingfisher also fetched as much as Rs 12.1 bn in new loans after banks agreed to convert Rs 13 bn of its existing debt into preferred shares. Top banks like SBI and ICICI Bank ended up with over 5% stake in the carrier, which they never recovered. And the policy makers, regulators etc, including the RBI, were content with passing laws against willful defaulters.

What did investors do? They continued to speculate on the stock of Kingfisher Airlines, as it managed to trade on the bourses, despite being in no business whatsoever! They also paid no attention to the fact that by nature aviation is a business that is more likely to destroy wealth rather than create wealth in the long term. And in doing so invested in stocks of other aviation companies like Spicejet, taking cues from other big investors.

It now seems more likely that Spicejet too is all set to go the Kingfisher way! The aviation company is all set to get a Rs 6 bn 'hand holding' from banks. And the government insists that it is not a bailout! Even as the loss making company owes Rs 20 bn to various stakeholders, the DGCA has allowed it to extend its advance booking period from 30 days to until 30th March 2015.

As our friend and editor of The Daily Reckoning, Vivek Kaul, wrote recently, it is high time we save capitalism from the crony capitalists! We cannot agree more!

The efforts to put an end to such 'privatization of profits and nationalization of losses' must be universal. Investors on their part need to make efforts to weed out such chronically wealth destroying companies from their portfolios. Government and regulators need to take stern action against the promoters of such companies. And most importantly, tax payers in India should appeal for a legislation to ban bailouts

Needless to say, none of the stakeholders have so far learnt any lessons from the Kingfisher debacle. And we will not be surprised if the promoters of Spicejet too get away in a similar manner!

Do you think the shareholders of PSU banks should object to bailing out chronically loss making companies? Let us know your comments or share your views in the Equitymaster Club.

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Besides being wary of business models that are inherently detrimental to the interests of shareholders, what are the other risks investors need to fortify their portfolio against? Well, renowned investor and chairman of the Templeton Emerging Markets Group, Mark Mobius, is of the opinion that the biggest risk that could infect investor portfolios over the next 10 years is accelerating deflation or exploding inflation. These two extremes hitting markets, could cause havoc in terms of volatility.

Right now many nations face a deflationary environment. But then with cheap money continuing from flow from developed markets, the liquidity situation may remain sanguine. Further, excessive money printing could lead to hyper inflation in developed economies at some point of time. This is because the banks that receive this money from central banks haven't been lending it. If there's a rapid reversal of that, you could see inflation move up very quickly, and the reaction of central banks could be intense, and excessive, in withdrawing liquidity from the markets. Thus investing in companies that can withstand both inflation and deflation is the best way to insulate your portfolio. Companies with strong brands and quality products will have pricing power even in a deflationary environment. Similarly these entities will be able to pass on cost hikes in an inflationary environment.

Meanwhile, the slumping oil prices and currency crises are also giving investors enough reasons to remain jittery. As per an article published on Bloomberg.com, the Russian economy is expected to contract sharply by 4.7% if oil prices remain at current levels. Further, there are very high expectations of Venezuela defaulting on its bonds within a period of five years. In addition, 20 of the most traded emerging market currencies fell to the lowest levels since 2003 a few days ago, with the Ruble moving past the 64 per dollar mark for the first time, while Turkey's Lira fell to an all-time low; Indonesia's Rupiah hit levels seen way back in 1998.

In addition to all this, the Fed is expected to start its interest rate hike trend sometime in mid-2015. This is expected to drive a lot of hot money back to the US from the emerging markets; thereby making the countries termed as 'fragile' on account of poor current account deficit situations quite vulnerable.

All of these points mentioned above are in fact quite similar to the situation that emerging markets were in way back in the late 90s, a point in time when the Asian financial crisis hit this part of the world. Oil prices were then on a downward trend. Emerging market currencies were weakening. And Russia sunk into a debt trap and witnessed devaluations.

There are however some differences from then as well with some of them being the flexible exchange rates, much higher amount of foreign reserves held by such nations as a whole, and less proportion of foreign debt.

As compared to other emerging markets, the situation at home seems to be way more stable. While oil imports are expected to bring down the import bills, there are also concerns over the effect the overall weak global market will have on exports, which could pretty much nullify the impact.

Nevertheless, considering India being way less vulnerable than some of its emerging market peers, it could continue to keep the nation as a preferred investment region in the emerging market space for some time. However, that is not to say that any crisis like situation will not impact the sentiments towards country at all.

 Chart of the day
Now, even as the Indian government tries to better the economic situation by reining in fiscal deficit, it may not have much luck! Today's chart of the day shows the government divestment targets and actual receipts over the past four years. As you can see, the government has been trying to sell off investments to the tune of Rs 300 to 400 bn over the past four years. However, it has largely been unsuccessful in doing so. While it came close to its target in FY13, this was largely an effect of lowering the overall target by a fourth. The shortfalls over this period averaged to about 48%.

Will the Govt's divestment target be met this year?

For the current year however, the government has upped the target a bit. It stands at Rs 430 bn. The government has already garnered Rs 17 bn through the sale of SAIL. However, the big ticket divestments include Coal India and ONGC which are expected to garner about Rs 200 and Rs 100 bn respectively for the government; thereby, making them quite critical to meeting the divestment target of the year.

So will the government be able to meet its divestment target this year? Well... your guess would be as good as ours. But there are some factors that need to be taken into consideration - as have been highlighted by the Business Standard. Some of which include LIC's capability to buy, the overall market conditions, the business environment of the two companies and the overall sheer size of the divestments (something that India has not seen in the past).

While there have been news reports of the government being encouraged by strong demand of the recently concluded SAIL's offer for sale, the fact of the matter was that LIC acquired more than 72% of the shares that were up for sale. Also given that these businesses are dependent on the energy sector - one that is going through its own set of concerns at the moment - one cannot be certain as to how their financial performances (and their impact on valuations and the outlook) would play out in the short run - by the time the offers hit the market. Nevertheless, in the overall scheme of things, given that Indian markets are going through a boom phase - notwithstanding the volatility witnessed in the past few weeks - investor interest should remain high. However, factors such as the discounts offered to retail investors and institutional participation (FIIs mainly) will largely determine the success of the divestments.

After starting the day on a weak note, the Indian markets were trading around the dotted line as buying activity picked up as the day progressed. At the time of writing, the BSE-Sensex was trading lower by about 23 points or 0.09%. While stocks from the healthcare and auto spaces were the least preferred, those from the oil & gas and metal spaces performed well today. As for global markets, Asian stocks were trading firm while European stocks were trading weak.

 Today's investing mantra
"Proper accounting is like engineering. You need a margin of safety. Thank God we don't design bridges and airplanes the way we do accounting." - Charlie Munger

This edition of The 5 Minute WrapUp is authored by Devanshu Sampat and Tanushree Banerjee.

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17 Responses to "Why have we not learnt any lessons from Kingfisher?"

v chandrasekaran

Jan 5, 2015

A thought provoking article.Bailing out continuously loss making companies in any industry is waste of resourses.We must work together for a speedy legal dispensation of such cases.

Like (1)


Dec 22, 2014

Instead of throwing good money against bad --Govt of India --should bring in a system where the Debtor gets a holiday from the creditors --allowing it free to stratagise it Growth / Revival --something akin to CHAPTER 11 in the US.
Yu dont destroy a business edifice -because it made some strategic
mistakes--give it a chance .

Like (1)


Dec 21, 2014

Why cant we take the government to court for throwing good money after the bad - in an attempt to save those rich owners.

But we cannot afford to lose taxpayers money to protect the rich promoters like Maran and company

Like (1)

Ganapathy Sastri

Dec 19, 2014

Not much is known about amounts collected from individuals who gave personal guarantees. How much have promoters of King Fisher or Spice Jet have lost or will lose with other shareholders?

Like (1)


Dec 18, 2014

These Crony Capitalists and these their supporters in bank management and politicians who have looted, and are looting the hard earned savings of common people of India are the worst type of criminals. Any one who fails to pay back loans, for any reason what so ever, needs to be sent to treated as public enemy. Such people should be first sent to jail, and all the wealth owned by them and their close family members, should be confiscated to the State. They should be made to pay the full cost of their detention in jail and subjected to hard labor to recover the full value of loans taken by them.
2. All loans and savings should be linked to inflation index, so that savers get a real rate of returns on their investments and borrowers pay real value of loans taken by them. The present arrangement that penalises the savers with deflated returns and rewards the borrowers deflated refunds is highly UNJUST. The Savers can well be called MUGS and Borrowers as THUGS.
3. The Bank managements who advance bad loans need also to be held accountable, for their failure to assess to credit worthiness of the borrowers. They are more often than not complicit in such cases.

Like (1)


Dec 18, 2014

Banks and its employees Should come forward to Stop Immediately and act autonomously not to Bail out such Industries.Not only that they should be booked under stringent laws of the land for recovery not only their individual properties but also to be attached all the properties they are connected with.

Like (1)


Dec 18, 2014

I feel I am wrong, but taking clues from the past I feel that it is like throwing tax payers money in the see!

Like (1)


Dec 18, 2014

I agree with the author.the shareholders of banks should see that such companies are not given any money unless they come out with a solid plan and guarantee.

Like (1)


Dec 18, 2014

If the newspaper reports of a 600 crore extension of facility to a bankrupt company is true - I think it's a case of a decision maker going against all the odds and taking a speculative risk.
There should be a mechanism by which the approvers of this lending should put in writing the reason for taking a decision - which is not showing ANY signs of fiduciary responsibility.
In the event of Spicejet failing those approvers should be immediately jailed and all their wealth confiscated. When PSB leaders know that they will spend the better part of life in jail - if they take decisions which are plain reckless (for whatever ulterior reasons), you will see them stop this nonsense.
Till such time these people don't see a life behind bars ... nothing will happen.

I remember our honorable PM saying that all ministerial directives to the bureaucrats should be in writing. If the PSB honchos claim that it was a directive then the same should apply to them as well. If not, the PSB chief should understand they alone will be accountable for failing the fiduciary responsibility and be jailed...

Like (2)

H K Prakash

Dec 18, 2014

Force Rajan to make banks take a 100% hair cut (provision for Bad Debt) in loans to borrowers whose business has failed totally like crashed bevda's!
Banks in turn will stop playing "footsie" with losers like bevda
It may interest you to know that voluntarily a British co called Stephenson Shipping stopped ops (after 300+ years of being in business) as they found the future not appealing!

Like (1)
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