L&T: Should Corporates have a Conscience?

One would think that a company which, according to an article in The Mint (Feb 28, 2019), has allegedly paid a bribe to officials in Maharashtra (USD 770,000 in 2013) and Tamil Nadu (USD 870,000 in 2015) on behalf of global giant software firm Cognizant and which is facing flak over a questionable Mumbai Coastal Road project that could potentially harm the environment would step back, pause, take a few deep breaths and fix its internal problems.

But L&T - now in the habit of steamrolling its way through the underground tunnels for the MMRDA-sponsored Mumbai Metro project and uprooting trees, lives and businesses - is in no such reflective mood. Despite protests from many environmentalists and local citizens caught off-guard by the tree-chopping antics of the BMC and the MMRDA for the implementation of the Mumbai Metro project, L&T is working at a rapid-fire pace to potentially destroy the natural coastline of Mumbai that could threaten the city with floods. Mumbai, for those who may have forgotten was ravaged by floods in 2005 and 2017. Reports on climate change suggest that Mumbai is in the global list of the Top 10 cities that will be hit by large-scale human and financial catastrophe as climate change causes sea levels to rise and changing weather patterns may cause unusually heavy downpours.

Rather than reflecting on the legality of the projects that it bids for and their potential environmental damage, L&T's management - "led" by yet another rubber-stamping board that dots the landscape of corporate India and makes a mockery of independence - is acting like the legendary barbarian at the gate. On March 18th L&T launched an open offer for MindTree with "bulldozers and saw chains", as tweeted by the mid-size software company's co-founder Subroto Bagchi.

L&T was quick to point out that: "We have bulldozers, we have cranes, we make things that make the nation proud. We make submarines, rockets, missiles and guns. We are a national company". Little surprise then that a government that loves "nationalists" and has a need to parade its might of submarines, rockets, missiles and guns ahead of a general election, should award a Padma Vibhushan to Chairman A. M. Naik on March 15^th.

While the CEO of L&T, S N Subrahmanyan was addressing the press on March 19 and positioning L&T's bid for MindTree as one full of "pyaar" and with "dil", civic, state, and national governments are already bowled over by L&T's love and good heart and seem overjoyed and thankful to L&T for undertaking many of their favourite projects that L&T is working on or has completed, including:

1. Statue of Unity - Sardar Patel Statue, Gujarat
2. Shivaji Statue - Chhatrapati Shivaji Maharaja Memorial
3. Vadodara-Kim Expressway, part of the Vadodara-Mumbai Expressway
4. Mumbai Coastal Road project

The merits of the MindTree acquisition are debatable. Buying a software firm is basically buying its people. And the people who founded MindTree don't seem too happy about it - what if the key team members were to leave? What if the clients were to leave? So an integration of MindTree with L&T may not be "value accretive" for some time - if it ever is! L&T's argument is that the founders of MindTree have retired. So? As the founder of investment firm, Quantum Advisors / Quantum Mutual Fund, I have retired and quit the boards of the companies I help create. But I believe that the "culture" I created remains. A large firm acquiring Quantum could kill the culture and overturn decades of building.

Importantly, before looking out and casting its net to ensnare MindTree, the Board should have directed L&T to look within. There are important questions that the Board of L&T, stacked with independents with glowing resumes, must ask:

1. Cognizant has filed a statement in the US that it has paid a bribe of USD 2.5 million for building campuses in India. It has paid a USD 25 million fine in USA to settle the fact that it has paid a bribe. So Cognizant has made a confession. The follow on questions should be "to whom was the USD 2.5 million bribe paid? Why? By whom?" The press report in The Mint and the settlement filed in the US courts suggest that the link is to L&T. L&T has denied its involvement. Shouldn't the senior members of L&T be questioned about this? Shouldn't the Independent members of the Board be asking for details - and resignations? Shouldn't L&T's bidding process for contracts be scrutinised? Where are the chowkidars on the Board of L&T? Or do the chowkidars step aside because L&T is a "national" company doing "national" work? Do the Independent Board members carry on with business as usual and is the MindTree acquisition a diversion from the rot within - or was this Cognizant affair just a one-time error that can occur in even the most respected companies by errant employees?
2. The Mumbai Coastal Road project and the role of its sponsor, the BMC - India's richest municipal corporation - should be examined. The project was first announced by Congress Chief Minister Prithviraj Chauhan and is now, in a modified form, being implemented with break-neck speed under the BJP-led Phadnavis government. The project is evolving with such rapid speed; it is difficult to believe that we are talking about a government project! If the BMC had applied the same amount of vigour and money to the pathetic state of foot bridges, open manholes, and gaping potholes an estimated 2,000 people's lives would be saved every year in Mumbai city. But saving lives does not generate hard cash - large infrastructure projects can generate hard cash. The corruption within the BMC and within governments is already well-covered in the press. Mumbai is one large construction site with a coastal project that could (i) risk the lives of tens of thousands, (ii) cripple the finances of the citizens of Mumbai entrusted to the BMC, and (iii) enrichen a few. And what is the risk to shareholders of L&T if, Cognizant-style, there was some funny stuff in the contract?

Let me pose a question: if L&T was asked to build a Nuclear Power plant at in the bustling area of Churchgate station, what would L&T do? Would L&T have a conscience?

My guess is that the thought of a radioactive leak at Churchgate station would make L&T do their own environmental and risk studies on this project. But for the Mumbai Coastal Road project, L&T has not done any study and relied on the BMC-funded studies. L&T has relied on external studies and reports which are probably similar to the ones that have caused footbridges to collapse, bridges to collapse, and buildings to crumble. The Rs. 6,800 crore contract for the Coastal Road project could earn L&T Rs. 400 crore in profits. An independent assessment of potential environmental damage and risks would probably cost Rs. 1 to 2 crore. L&T has not only forsaken its responsibility for risk-assessment but shown contempt for the social impact of such a project. It's ESG and sustainability claims ring hollow.

The opposition to the Coastal Road project as a way to solve the "traffic" problem of Mumbai is based on some hard data. The BMC wishes to spend Rs. 12,000 crore on the coastal road project that will, based on a study done by the Mumbai Environmental Social Network (MESN) in 2015, result in an additional 3 lakh passenger trips per day at an investment cost of Rs. 47.49 per passenger. An improved bus system at a cost of Rs. 2,700 crore would move 800,000 additional passengers at a cost of Rs. 3.70 per day (7.8% of the cost of the coastal road).

Over the past 7 years the BMC has denied funding to the BEST, which runs Mumbai's bus system. As a result, the number of buses in operation has shrunk from 4,385 in FY 2011 to 3,096 by July 2017. A city that is growing should have more buses, not less! Because of this lower number of buses and reduction in routes, BEST now clocks in 26 lakh passenger trips every day (July 2017) as opposed to 44 lakh in FY 2010 and 41 lakh in FY 2011. The BEST has a deficit of about Rs. 600 crore every year and is being asked to fund itself. The coastal road will cost Rs. 12,000 crore and will be used by less than 2% of commuters on a daily basis - and it does not fund itself via any toll collections. If the BEST placed the money that was earmarked for the coastal road (which will move fewer - and richer - passengers at a higher cost per passenger) then the deficit of the BEST can be plugged. Estimates suggest that a further estimated investment of Rs. 2,700 crore in the BEST and Rs. 4,500 crore in a suburban railway system would ease the traffic situation. Businesses based in Mumbai, who pay taxes to the BMC, should demand better commuting facilities for their employees so that they arrive and leave office in a hassle-free and comfortable manner.

As environmentalists have pointed out, if you were to remove 10% of the cars from Mumbai roads, the travel time from North to South Mumbai will be cut by 20% or more. Mumbai road commuters already experience the benefits of fewer cars on the roads - every time there is a taxi or Ola/Uber strike which takes vehicles off the road, travel time collapses. So, if this is commonly known, then why is the BMC willing to spend Rs. 12,000 crore on building a coastal road and stating that they will not charge any toll from Nariman Point to Bandra? Why is the BMC doing this for free? Why is L&T proceeding with a contract that has all the markings of a bad project and which, based on environmental parameters, could be the equivalent of building a nuclear power plant in Churchgate station? It is not a question of whether disaster will strike but merely "when"?

So, as a mere contractor, should L&T care about this? The argument that "we are builders and will build what we are asked to build" cannot hold muster for a company that prides itself on "sustainability" parameters. Hitler asked engineering companies to build gas chambers - and they did. From Siemens to Nestle to Hugo Boss to Standard Oil: these companies allegedly benefitted from actions of the Hitler regime. But that was then: today we live in supposedly a more enlightened corporate era. The coastal road could be Mumbai's gas chamber and L&T must hold itself up to higher standards of diligence when executing contracts that have a reputational and financial risk.

Naina Lal Kidwai - a respected banker who has credentials that many could only dream of having over multiple lives, including stints on the Global Commission on Economy and Climate - is an Independent Member of the Board of construction company L&T. She is also the author of "SOS: Survive or Sink - An Action Agenda for Sanitation, Water, Pollution, and Green Finance". I attended the book launch in 2018. While the effort and text-book desire to ensure that we Survive is commendable, is it possible that L&T - on whose board Naina Lal Kidwai sits as an Independent- is party to a project that increases the risk of Mumbai flooding and the people drowning? While no investor should expect Board members to be aware of every project and of every business decision but has the Board considered risks purely for selfish monetary reasons for shareholders of L&T? Has the Board of L&T set out rules of engagement for bidding for projects to minimize financial risk? Is the money spent on CSR and talk on worrying about society and the environment and having a person like Naina Lal Kidwai on the Board mostly a PR job to make the public feel that L&T has a conscience? An evaluation of risks of such projects is necessary: including a "what-if" of the project being abandoned because the court and the judiciary may rule in favour of protesters against a project on environmental grounds or charges of corruption. Or, if there is indeed a disaster willing to happen, what is the financial risk to the company and its shareholders?

The recent footbridge collapse at V T Station led to the arrest of the engineering firm that wrote the audit reports - more arrests may follow. A few years from now, if the Coastal Road was, indeed, to be seen as a cause for an environmental disaster in Mumbai, the guns will be trained on L&T. Brazilian mining giant, Vale, has announced on March 23rd that one of its dams in Brazil was about to collapse so Vale evacuated over 400 people. This news comes two months after another Vale-operated dam in the nearby city of Brumadinho collapsed on January 25th, unleashing toxic mud that contaminated rivers and killed about 300 people. Vale faces an estimated USD 7 billion in fines for colluding with auditors to state that dams were safe. The firm lost nearly 20% (USD 14 billion) in market cap within days of the collapse of the dam on January 25th - though the stock has clawed back some of the losses since then. If Mumbai is hit by the impact of climate change and the 6 metre high coastal road and reclaimed land are part of the problem that could result in loss of life and property, will L&T evacuate people from the city? Or be liable to pay for damages? Or, will it not matter to the existing management and Board members who may have retired with enriched pension plans and ESOPs by then?

Give the risks of bidding processes, bad construction and environment threats that such large scale projects face, the Board of Independent directors should care about the projects that L&T undertakes.

The shareholders of L&T must care about what the management of L&T does and ask them how they are dealing with the Cognizant allegations, the environmental and social risks of large projects, and the financial risks that may devolve on L&T - eventually paid for by shareholders.

Investors in the many mutual funds that own L&T shares and the holders of insurance policies where insurance premiums may be used to buy L&T stock, should call and ask their mutual funds and insurance companies what the fund managers are doing about the potential risks of owning the shares of a company that has bulldozers and chain saws - and has not done its own risk assessments of large projects like the Mumbai Coastal Road.

As signatories to the Paris Climate Accord, governments can continue their vikas agenda or find a balance between vikas and the environment. And should companies have a conscience? Is L&T a company where governance is weak and whether the Independent Board members and shareholders wish to fix the problems that exist - or continue hacking away at MindTree and shooting missiles towards them? For a company with Danish roots, where environmental concerns dominate development plans, L&T needs to recall the principles on which its foundation was laid. More so when a 21 km tunnel in the sister-Scandanavian country of Sweden (19 km of the 21 km will be underground) is using its cranes and its drilling machines to bypass the roots of trees so that no tree is uprooted! With cash in the bank, L&T has the money to use such technology.

L&T is taking a risky path and risking not only the culture established at MindTree but, via the Coastal Road project, potentially playing with a fragile eco system that could endanger the lives of millions of residents in Mumbai in the event of a 2005 or 2017 monsoon downpour. The L&T Board needs to call off the hostile takeover of MindTree, review the impact on the environment of large projects that L&T bids for, and examine in details the systems that led to the Cognizant bribes. L&T needs to bulldoze the rot within, not uproot trees and ecosystems and decimate companies and culture built by entrepreneurs.

A few disclosures:

• I helped found and grow Quantum Advisors and its affiliate Quantum Mutual Fund;
• Quantum Advisors (which manages capital for foreign investors) and its affiliate, Quantum Mutual Funds, used to own shares in L&T on behalf of our many investors. Given the indifference that L&T has shown for willing to adopt due process and a failure of its Independent Board to oversee the risks that the Company is taking, they have recently sold their shares in L&T;
• I happened to be at the book launch of "SOS: Survive Or Sink" at the NCPA in Mumbai in 2018 and was impressed by Naina Lal Kidwai's commitment to fight climate change;
• I am not an "environmentalist" by training or passion but I believe that companies must do more for society than grudgingly give a 2% CSR toll to obtain a "get out of jail free" pass for all the wrongs they may do to earn the 100 of profit.



Suggested allocation in Quantum Mutual Funds (after keeping safe money aside)

	Quantum Long Term Equity Fund, Quantum Equity Fund of Funds, Quantum ESG India Fund	Quantum Gold Savings Fund	Quantum Liquid Fund
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Disclaimer: The Honest Truth is authored by Ajit Dayal. Ajit is Founder of Quantum Advisors Pvt. Ltd. which is the Sponsor of Quantum Asset Management Company Pvt. Ltd – the Investment Manager of the Quantum Mutual Funds. Ajit is also the Founder of Quantum Information Services which owns Equitymaster and PersonalFN. The views mentioned herein are that of the author only and not of Quantum Advisors, Quantum AMC or Equitymaster. The information provided herein is compiled on the basis of publicly available information, internally developed data and other sources believed to be reliable by the author. The information is meant for general reading purpose only and is not meant to serve as a professional guide / investment advice for the readers. Readers are advised to seek independent professional advice and arrive at an informed investment decision before making any investment. Whilst no specific action has been suggested or offered based upon the information provided herein, due care has been taken to endeavour that the facts are correct, accurate and reasonable as on date. None of the Author, Quantum Advisors, Quantum AMC, Equitymaster, their Affiliates or Representative shall be liable for any direct, indirect, special, incidental, consequential, punitive or exemplary losses or damages including lost profits arising in any way on account of any action taken basis the data / information / views provided in The Honest Truth.