|»5 Minute Wrap Up by Equitymaster|
On This Day - 9 AUGUST 2012
Is this sector the new Kingfisher?
In this issue:
The problem of inefficiency and under capacity has seeped into the country's electricity sector since decades. The Electricity Act of 2003 did seek to sort out some problems with State Electricity Boards (SEBs). But after a few years of promising performance the latter are once again defunct entities. To add to the problem, they have also dragged several banks and financial institutions into the mess!
The government's enthusiasm to add power generation and transmission capacity was well placed. But coercing government lenders to lend to SEBs without adequate collateral was completely uncalled for. As per Financial Express, the outstanding loans to state power utilities has grown to a staggering Rs 6 trillion or 6% of India's GDP! The total borrowed funds from banks alone have grown by 56% in the past two years. What is even more appalling is that roughly a third of these are loans were taken to fund past losses. The losses are so massive that they cannot even be serviced through tariff hikes. And as a result the government wants PSU banks and power financers (like Power Finance Corp. and Rural Electrification Corp.) to restructure these loans. In other words, the financers have to take the brunt of these bad loans on their own books!
Despite such gross misuse of funds, states continue to follow a cautious and staggered approach on tariff hikes. For states like Rajasthan, Madhya Pradesh and Tamil Nadu tariff hikes in the range of 65% to 80% will be needed to bridge the revenue gap for the SEBs. Such tariff shocks are, of course, not politically feasible!
Extensive reforms or privatization of the SEBs seems to be the only way to get the sector and its lenders out of the mess. But that is only possible after the stakeholders take some accountability for their misdoings. Meanwhile it will be the PSU banks adding to their restructured loan books. Ones that have already been burdened with aviation sector loans.
Clearly, it will be wrong to put the entire blame on Mr Shuqing. The lacklustre Chinese economy is a bigger reason why stocks are heading nowhere. In the same breath, it will be naive to expect stock market reforms alone to turn Chinese equities into a wealth creating machine. Reforms no doubt are important but the bigger differentiators lie elsewhere. Stock markets flourish in countries where property rights are respected and where there is an efficient dissemination of information. They flourish where there is a strong focus on return on capital and the management works in the interest of all stakeholders. And as long as these qualities keep coming up short in the Chinese economy, no amount of stock market reforms will do the trick we believe.
The image of India as an investment destination has been tarnished due to a slew of scandals in the recent few years from Satyam to 2G scam. Hence, the need of an institutional reforms and fraud prevention and control mechanism can't be over emphasized. To address this, the Government of India has suggested the need of a watchdog regime to protect investors from the financial frauds. While the possibility of corporate frauds can't be totally ruled out, we believe that a proactive approach will to some extent discourage such practices. However, setting up such practice will just be a beginning. The Government will need to modify it time to time to make sure that offenders don't find a way to get around the loopholes.
It is true that as markets mature Indian consumers will look for better returns from their bank balances. However, unlike in the telecom sector, banking sector is unlikely to see a huge customer shift due to interest differential. The new players could initially attract customers with better rates. But getting too aggressive on this count will sound doom for them. As like the aggressive telecom players they will be writing their own obituary.
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