IFR India Offshore Financing Roundtable 2016: Part 3

IFR: I want to move on and discuss the process that’s underway where the government is looking to sell stakes in 51 companies held under the Specified Undertaking of Unit Trust of India (SUUTI) umbrella. The RFP and bank selection process has been quite convoluted, with inter alia conflict of interest issues clouding proceedings. Is the SUUTI sell-down process being conducted to get the optimal result, bearing in mind there’s US$8bn-$9bn at current valuation on the table for these companies?

[NOTE: A week after this roundtable discussion, the Indian government hired Citigroup, Morgan Stanley, ICICI Securities, HSBC, SBI Capital and JM Financial to manage the sale of SUUTI-held stakes in Axis Bank, ITC and Larsen & Toubro.]

Sumit Khanna, Deloitte: I have one comment to make about the Indian government: like Indian promoters they are exceptionally sharp and shrewd. I ran IPOs for a large part of my life until 2012 when I was with HSBC and then Morgan Stanley. On each and every one of them, the bankers paid the government to do the IPO. They were paid a one rupee fee on paper but they had expenses on top of that that they didn’t pick up, which were sometimes as high as US$4m-$6m for each of these big IPOs; expenses borne by the banks as the cost for running the IPOs.

Abhimanyu Battacharya, Khaitain & Co: Generally speaking the RFP process is used for all the divestments the government undertakes. In recent times, the RFPs for some of the divestments have been revised, primarily because banks have been telling the government that working for a particular fee or for no fee doesn’t work.

On one of the transactions we are working on, the RFP has been revised twice and banks have had to be reappointed twice. Some of the complications that you’re seeing on the SUUTI RFP process stem from the government trying to divide the process between the various banks so that they pitch accordingly for the work that they want to do and get paid accordingly; it’s linked to compensation.

In government RFP processes, there is a concept called L1 that essentially means if you charge the lowest fee you have a very good chance of getting onto a government deal. For law firms, it’s based on technical scores and the fee that you will make. For the banks it’s based on the number of deals in that particular sector and the fee you will charge, so it’s a mix of various factors. The manner in which the government is running the SUUTI process may not be optimal but it’s borne out of certain circumstances that are unique to divestment processes in India.

The appointment process has evolved over time. The banks have been pushing back in terms of the work that they are willing to do. What Sumit said in relation to the deals that he has worked on is absolutely right. IPOs are expensive processes, what with roadshows all over the world. The point that there are expenses that have to be picked up has been made categorically clear to the government.

Bharat Reddy, JP Morgan: In this particular instance the realisation number you mentioned is fairly substantial. Out of the 51-odd companies that the government intends to sell under the current SUUTI sell-down ITC, Axis Bank and L&T account for the vast majority of that number.

These three entities are in very different sectors. Axis Bank is in financial services, ITC you could say is in agriculture/agribusiness (it’s difficult to describe tobacco as a stand-alone industry) but it’s also in a lot of other things like hotels, paperboard/specialty paper, IT, packaging and retailing. L&T is an infrastructure play. The government’s key concern is avoiding a conflict of interest.

If you look at these three different sectors – and I’m not even talking about the rest of the 48-odd companies – they cover a very substantial swathe of the market so it’s the way the conflict of interest is defined, structured and policed that would actually result in banks applying for the mandate or banks being not willing to step forward.

It’s not only doing the business for a particular fee; it’s also precluding yourself from doing business for any other company in that sector for a period of time. As Abhimanyu pointed out, the government has been very proactive in this instance. A lot of the banks’ concerns have been addressed and taken care of.

IFR: One sector that has featured in India ECM news is insurance. Beyond the companies that have already been pursuing IPOs, we’ve had a regulatory proposal that suggests that insurance companies have to list after eight years (10 years in the case of life insurance). I gather there’s something like 32 unlisted insurance companies in India that could all at some point become IPO listing candidates. Does anyone have any intelligence around the government’s proposal and how much expectation there might be in the capital markets around deal flow?

Tarun Gupta, T&A Consulting: Insurance is one sector that requires a lot of capital. You have foreign participation in Indian insurance companies and scenarios where some of the potential joint ventures have not grown because some of the Indian partners were not able to bring in sufficient capital. As capital requirement in this sector, in most of the matrix, we are way below insurance penetration when we look at any of the major yardsticks so yes, this will require capital and we will see activity in our domestic markets. I’m not too sure from the offshore side, but on the domestic side insurance would be one of the key sectors over the mid-term where we will see activity.

IFR: Before we move on I’d like to open up to the audience for questions.

Delegate: I have a question for Sumit regarding the conversion of debt to equity under the Strategic Debt Restructuring (SDR) regime. Do you think it’s detrimental to companies? Will it help the banks from the perspective of promoters?

Sumit Khanna, Deloitte: Our regime on distress is evolving so while part of [a company’s] debt can be converted to equity under the SDR regime and that gives banks a majority shareholding, the banks do not become the promoters. The promoter remains in situ. The banks will not take the responsibilities one is supposed to be taking as a promoter, and they don’t have any effective mechanism per se for intervention in terms of management of the company.

Banks are not in the business of managing companies and they don’t have a mechanism for being able to do so in cases of bankruptcy. So while the SDR regime is a step in the right direction, unfortunately it’s not gotten us to the point it should. Banks convert, get the equity and regularise the debt but after that it’s still the promoter running the assets as they were earlier but with much less skin in the game. There’s not really anything you can do. No bank will take on the onus of being a promoter.

IFR: I have one more question to ask the panel before we move to our conclusion. We talked about the IPO pipeline but one of the things on the minds of regulators in India has been the dearth of qualified institutional placements. Some of their concern was whether this was down to regulatory factors rather than purely market factors. Will we see an uptake in QIPs?

Abhimanyu Battacharya, Khaitain & Co: You’re right, the QIP market has been slow. We saw a few last year but this year it’s been really very slow. I don’t think there’s any one reason you can point to. The market’s major focus has been on domestic IPOs and those have largely been PE-driven processes where private equity investors who invested about seven or eight years ago are selling their stakes and getting out. Maybe that’s taken some sheen off the QIP market.

It’s certainly not a regulatory problem; the QIP process has been around for more than 10 years and the regulations and processes are well defined. There is no problem from a QIP perspective; in fact it’s become even better from a Companies Act standpoint. It’s just that the focus of the market has been largely on public offerings.

Also, QIPs are for listed companies and the factors affecting some of them have been there for everyone to see and some companies’ stock has not performed well; companies that need this kind of capital but which have a lot of debt on their books. For a lot of companies in troubled sectors, the focus of some of the larger groups we work with is on debt-management. At the right price I’m sure promoters will look to infuse capital but they want to ensure they don’t sell their stock too cheaply.

IFR: I wanted to go along the line now and ask each of you to articulate the things that are on your mind when it comes to equity financing, be it offshore or onshore. What are the top two or three things on your radar screen? What’s your broad medium-term perspective? What near-term challenges are do you see emerging that cloud your view?

Tarun Gupta, T&A Consulting: I go back to the point that one of the panellists made, which is that as a country we need to access all investor pools. The government recognises that. I’m very pleased at moves to facilitate foreign investor participation and to encourage Indian companies on their international reach. Hopefully this will continue.

Our prime minster has gone on record saying we want to be among the top 50 countries in which to do business, which is very ambitious but shows that all steps are in that direction. As we do that, clearly our companies will be looking to access capital wherever it’s most competitively available and for investor diversification.

Different markets will offer different propositions. It could be e-commerce companies looking at the US; it could be REITs looking at Asia or life sciences and European businesses to Europe. Every market has something to contribute. Where I think maybe it would help and I think we’ve touched upon is more clarity on implementation, like for example, taxation for DRs. If I had one item on my wish list, it would be that policy that is put in place is actually implemented.

Just in terms of the offshore listing of large business group subsidiaries or IP carve outs, our discussions are at a stage where we’re looking at a 12 to 24-month time horizon.

Sumit Khanna, Deloitte: I’ve always been a big fan of the Indian economy, so I guess my views will be a little biased. You can put two broad categories out there: internal reasons for growth and reasons that are not endemic to India but would lead to growth irrespective.

Clearly we have a huge domestic economy. We have increasing consumption, we have government programmes now. On regulations, the government is making a difference and changing policy. They are making the economy a lot more efficient. It’s not just GST, but it’s also things they’ve done in terms of agricultural procurement and so many things that are invisible. This will pay rich dividends.

Internally it seems there is alignment for now; how long the political forces will allow that to continue is anybody’s guess but it seems that we are on a good wicket to have secular growth going into the future. That growth is only going to increase from here on, once due time has passed between the policy measures changing and whatever time it takes for them to take effect. The second is that the world at large is helping India, so there used to be BRICS, now there’s only ‘I’.

On another matter, there was a huge furore about the Vodafone tax case in India, if you remember. But just the other day we had the situation with Apple where the EU said the company owed €13bn in back taxes with a potential €6bn of interest charges. Apple said: “We don’t owe that money”. Ireland said: “You don’t owe us that money either”. But the EU still said Apple owed €19bn in back taxes. I think people should start appreciating the Indian tax system and even conclude this is a better tax system to live with than many others.

In summary, internal and external reasons are going to propel our growth. Moreover the quantum of capital in the world is not shrinking but the options are not there so it’s a matter of time. People may wait, they may watch but eventually they will need to deploy that capital in growth somewhere. Otherwise that capital will start shrinking. Hopefully it becomes a self-fulfilling prophecy: capital will be needed to be ploughed here in India for growth. As more and more capital comes in, it will fuel a cycle. Hopefully good things are waiting to happen.

IFR: A question on private investment and the corporate capital-raising cycle and this notion of the PE exit cycle coming to an end: what is your best guess as to when that happens?

Sumit Khanna, Deloitte: Maybe another 18 months or so, but other things are happening that people are not focusing on. There are so many pension funds sitting in India today and they are killing each other to put money in deals. They are stretching the definition of the deals they typically do in the countries they’re present in. This is the safest long-term money in the world.

Why are they changing the boundary conditions of what they qualify as investments? Because they have no alternatives.

Mithun Gole, Sterlite Power: India needs a lot of infrastructure investment in the next 10 years. As Sumit and Tarun rightly pointed out there is a complete alignment of ideas on the government side. The right steps have been taken to ensure that the best products are designed and timely market access is provided to global capital.

Globally in the infrastructure space if you put together the total market cap of all the yieldcos, MLPs and REITs, it’s close to US$1trn. The government realises that access to this pool of capital is critical for Indian infrastructure to develop in the way it is envisaged. Local capital won’t be able to fulfil these requirements. I believe the right steps are being taken in this direction and as time progresses it’s all there for us to see how things pan out.

Bharat Reddy, JP Morgan: I’d like to draw attention to the depositary receipt scheme, which the government announced almost two years ago. For one reason or another it has still not been procedurally implemented. To recap, the DR scheme essentially offers a variety of options to both listed and unlisted Indian corporates to raise capital overseas and raise visibility.

There are principally two sets of challenges: the regulatory challenge and Abhimanyu spoke briefly about the tax issue. On the regulatory side SEBI needs to implement the scheme by giving appropriate guidance to both local custodians and depositaries on their respective roles. On the tax side, in the finance bill last year there was some clarification given by the tax authorities wherein they mentioned that tax benefits related to depository receipts would only be available to companies listed in India with sponsored DR programmes.

That leaves out the entire gamut of unlisted programmes, which perhaps, especially those with private equity investment in areas that exchanges like the Swiss exchange are well versed in, such as biotechnology, healthcare and life sciences, would probably get a better valuation if they were to go there directly. Because of this regulatory and tax, let’s say, lack of alignment at this particular point in time, they are unfortunately not in a position to do so.

There’s also some ambiguity around the securities transactions tax and capital gains tax. If a company does an IPO in India then the private equity investors only have to pay STT. On the other hand if they do an overseas direct listing they might come under the ambit of capital gains tax, which is significantly higher. Secondly, as per the tax norms as they stand, depository receipt-to-depositary receipt trading offshore of companies not listed in India is liable to be taxed in India.

Now this is quite confusing and one really doesn’t know how this will work out and who exactly should be responsible for paying such a tax. If the tax authorities in close consultation with SEBI can implement the 2014 DR scheme, I think that will give an impetus to a number of companies to raise money offshore. On timing, we are trying to come to a resolution fairly shortly.

Abhimanyu Battacharya, Khaitain & Co: On my wish list I would like to see more products being rolled out. For various reasons we have been largely equity-oriented. Debt instruments have taken time to pick up in this country; corporate debt is still in its infancy compared to the equity cult we have in India. The regulator is aware of this and has been trying to push corporate debt. The other important aspect that we’ve been discussing is the development of Masala bonds. This is a good development that helps broaden the avenues that companies have to access offshore financing.

On our wish list we want to see more products. Working with regulators we hope InvITs get rolled out soon. Whoever is the first out of the blocks, hat’s off to them because it’s taken a lot of time and a lot of effort.

Various arms of the government and the tax authorities need to have some kind of co-ordination when they are putting regulations out. They need to work in tandem; it’s no use having a liberalised DR scheme if your tax issues are unresolved. I think a lot more coordination from the government, assistance in getting better products out, easing the avenues for companies to access capital, both domestically and internationally; these are some of the things that are in our wish list as corporate lawyers.

Valeria Ceccarelli, SIX Swiss Exchange: I share the majority of the comments that have been made. On one hand there’s hope that this positive momentum in India will continue, fostered by reforms and government action. Of course clarification on some of the regulatory points, in particular related to capital markets as it has been highlighted by the other panellists, would be welcomed by all capital market participants, and in particular by issuers.

I believe the possibility for companies to have a broader number of products to access both domestic and international capital markets will help. We hope that the confidence we are seeing now will continue and will translate in more capital market activity, including offshore, through equity, DRs and other products and through raising capital out of the international subsidiaries of Indian groups.

IFR: Thanks very much indeed, everyone, for your comments.