October 17, 2016
The price you pay for over-leveraging is loss of your best assets. And yes, conglomerates are being cut to size.
Conglomerates in India got created during the crony capitalist years of the licence-permit-raj, but it was in the post-liberalisation period after 1991 that they became unwieldy and bloated.
Debt kills. Especially heavy debt taken on during bullish times.
The $13 billion deal to sell 98 percent of Essar Oil to Russia’s Rosneft, Trifigura, and United Capital Partners, announced on Saturday by the Ruias, is one more piece of evidence that India’s over-leveraged businesses are having to sell their crown jewels in order to remain afloat. It is further proof that Indian conglomerates will have to shrink before they can grow again.
A few days ago, over-leveraged Anil Ambani inked a pact to sell 51 percent of the tower assets of his telecom company Reliance Communications (RCom) to Brookfield for Rs 11,000 crore. While the deal may take some time to consummate, essentially it will convert the owner of the towers (ie, RCom) into a tenant. RCom will be using the same towers for running its network and pay lease rents. Again, a case of giving up your crown jewels to reduce debt.
In July, the Aditya Birla Group sealed a deal to buy debt-burdened Jaiprakash Group’s 17.2 million tonnes of cement capacity for an enterprise value of Rs 16,189 crore. Again, this was a case of a forced firesale. Asked why he was selling his best businesses, Jaiprakash Group Executive Chairman and CEO told ET Magazine in an interview: “In tough times only good things go. That pain of selling some of our best assets will be there for life.”
Vijay Mallya, who managed to crash-land Kingfisher in 2011, has lost not one but two of his crown jewels, United Spirits, which is now controlled by Diageo, and United Breweries, which is now controlled by Heineken. And all because he over-leveraged himself in trying to run a thin-margin vanity business like airlines using money from his cash-generating booze businesses. Folly comes in many shapes and sizes and Mallya is now unable to return to India to face the music.
And there are many, many more. From the GMR Group to GVK, from Lanco to Adanis, from the Jindals to DLF, and even the Tatas and Birlas, there is no question they all have to deleverage (for a more complete compilation of India Inc’s debt-laden conglomerates, read here).
Conglomerates in India got created during the crony capitalist years of the licence-permit-raj, but it was in the post-liberalisation period after 1991 that they became unwieldy and bloated, having built large business with little equity capital and too much debt. India Inc presumed that liberalisation meant a free party on someone else’s money, with crony bankers replacing crony politicians of the licence-permit era as the new benefactors. This process peaked during the UPA years, which saw the worst kinds of corruption from 2G to Coalgate to Commonwealth Games. If corporations are not investing now, and banks are unwilling to lend money to big projects, it is because of the deleveraging process now underway.
Deleveraging in a downturn always means that only valuable assets can be sold. And conglomerates will be left with smaller, weaker businesses. In the Ruias’ case, for example, Essar Oil’s sale reduces the size of the group by a hefty 80 percent, reports Business Standard, with oil currently bringing in four out of every five rupees of group’s revenues and profits. Essar Oil is India’s second largest refinery with 20 million tonnes of capacity, with related port and power infrastructure, all of which will be part of the deal.
Prashant Ruia, Essar Group Chief Executive, seemed to suggest in post-deal interviews that the sale was driven by good valuations, but this was only the cover story. The deal was actually forced by the group’s excessive debt, Rs 88,000 crore in its various Indian operations, and Rs 33,000 crore in its global holding company, adding up to over Rs 1,21,000 crore. With the sale, half the Indian debt (the bits on Essar Oil’s books) will be shifted to Rosneft and Co, and any excess earnings will be used to reduce the group’s other debts. Ruia talked about total debt falling by Rs 75,000 crore – which would still leave group debt at around Rs 46,000 crore.
The deal also leaves the rump Essar Group with the weaker bits of businesses, also highly leveraged, including Essar Steel, Essar Energy (with interests in oil and gas exploration, and a British refinery), Essar Ports, Essar Projects, and Essar Power.Banks are trying hard to exit Essar Steel.
Despite putting on a brave face about downsizing his group by 80 percent by selling Essar Oil, Ruia admitted to Reuters in an interview: "It was an emotional decision, it was a very tough decision. It was a difficult decision for people involved in the company and those who were involved in the business and building it.”
The moral of the story should not be lost on anybody. Debt kills. Especially heavy debt taken on during bullish times. Even a group as big as the Tatas has not been able to hold on to large bits of Corus Steel, bought at a high price in the boom-boom years before 2008 due to debt. It is not clear if its telecom business will be retained in the group, given the huge legal battle now underway in paying off DoCoMo which is exiting Tata Teleservices.
The price you pay for over-leveraging is loss of your best assets. And yes, conglomerates are being cut to size.
Jagannathan is Editorial Director, Swarajya. He tweets at @TheJaggi.
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