Vivek Kaul
Arvind Kejriwal led India Against Corruption (IAC) unleashed the second round of its attack on the relationship between Robert Vadra and DLF on October 9,2012. Vadra is the son-in-law of Sonia Gandhi, president of the Congress party, and the Chairperson of the United Progressive Alliance which governs the country. DLF is India’s largest listed real estate company. IAC has raised several issues in its media release, some of which I try and explain here.
What was Vadra doing owning a DLF subsidiary company?
Northern India IT Parks Private Ltd is a company with an issued capital of Rs 25 lakh. The company has issued 2,50,000 shares with a face value of Rs 10 each. Robert Vadra owns 2,47,500 shares of the company. His mother Maureen owns the remaining 2,500 shares. This means Robert Vadra owns 99% of the company.
Both Robert and his mother Maureen were appointed as directors of the company on June 19,2008. The balance sheet of the company as on March 31, 2009, shows an investment of Rs 2,50,000. This investment was made to buy a 50% stake in DLF SEZ Ltd on October 13, 2008. This investment does not appear on the balance sheet of the company as on March 31, 2010. DLF bought back the stake from theVadra owned Northern India IT Parks in September 2009.
In its statement released to the press IAC had asked what role Vadra played in the period of almost one year during which DLF SEZ was in his control.
DLF issued a statement on October 9,2012, explaining the same. “In the DLF SEZ Holdings Pvt. Ltd, 50% of shareholding was acquired by M/s. North India IT Parks Pvt. Ltd. in October 2008 at the face value of Rs 2.50 Lakhs. The said 50% shareholding was subsequently bought back from M/s. North India IT Parks Pvt. Ltd. in September 2009 fully at face value of Rs. 2.50 Lakhs, as the proposal for developing SEZs could not take off due to deep recession in the market in year 2009. No benefit or gain was made by Mr. Vadra or DLF, in this regard.”
So Vadra did not gain any money by owning 50% of DLF SEZ. But that does not mean he did not gain anything at all. He used money he got from DLF to buy apartments, land, plots etc, without having to pay any interest on it.
How did land valued at Rs 15.38 crore suddenly appreciate to Rs 58 crore?
Sky Light Hospitality Private Ltd is another company owned by Robert Vadra. It has issued 50,000 shares with a face value of Rs 10 each and so has an issued capital of Rs 5 lakh. Of this Robert Vadra owns 49,900 shares and his mother Maureen owns 100 shares.
Sometime between April 1, 2008 and March 31, 2009, the company bought a plot of land of 3.5acres in Manesar, Haryana. This can be said because the balance sheet of the company as on March 31, 2009, shows this entry. But the balance sheet as on March 31, 2008, does not show this entry.
This plot of land is valued to be at Rs 15.38 crore in the balance sheet of Sky Light Hospitality. Against this plot of land DLF gave Sky Light Hospitality an advance of Rs 50 crore by valuing the land at Rs 58 crore. As the company said in a statement on October 6 “Skylight Hospitality Pvt Ltd approached us in FY 2008-09(i.e. the period between April 1, 2008 and March 31, 2009) to sell a piece of land measuring approximately 3.5 acres…DLF agreed to buy the said plot, given its licensing status and its attractiveness as a business proposition for a total consideration of Rs 58 crores. As per normal commercial practice, the possession of the said plot was taken over by DLF in FY 2008-09 itself and a total sum of Rs 50 crores given as advance in instalments against the Purchase consideration.”
So what does this mean in simple English? It means that Vadra’s Sky Light Hospitality approached DLF to sell the 3.5 acre of land it had bought at Rs 15.38 crore. DLF valued this land at Rs 58 crore and gave Vadra’s Sky Light Hospitality an advance of Rs 50 crore against this land. The point that arises here is this. Sky Light Hospitality bought the land between April 1, 2008 and March 31, 2009 for Rs 15.38 crore. They also approached DLF during the same period to sell the land. DLF in turn valued the land at Rs 58 crore. This is a little difficult to believe. What this means that the value of the land went up by 3.8 times between the period Sky Light Hospitality bought the land and approached to sell it to DLF, all within a period of one year. Just to remind the readers this was also the period during which the global financial crisis was starting. Lehman Brothers went bust on September 14, 2008 and so those were tough days. The deep 2009 recession that DLF talks about in its October 9 statement was starting.
Also where did Vadra raise the initial Rs 15.38 crore to buy the land from?
DLF came into the picture only later when the company decided to buy the piece of land from Vadra’s Sky Light Hospitality. While I could not independently establish where this money came from, a story in the Business Standard does the necessary explaining. Sky Light Hospitality when it was incorporated had an issued capital of Rs 1 lakh. On this capital of Rs 1 lakh Corporation Bank gave it an overdraft of Rs 7.94 crore. This overdraft is clearly visible as a current liability in the balance sheet of the company as on March 31, 2008. As the Business Standard points out “He(as in Vadra) must also have had excellent relations with Corporation Bank, whose Friends Colony branch (located close to Mr Vadra’s companies’ offices in the capital) gave an overdraft of Rs 7.94 crore to Sky Light Hospitality. The newly incorporated company at the time had total resources of Rs 1 lakh, being its paid-up share capital.” This took care of the part of the funding of the Rs 15.38 crore land. So this brings Corporation Bank in the loop also. Does the bank give overdrafts amounting to Rs 7.94 crore to companies with issued capital of Rs 1 lakh regularly?
Did DLF takeover the Manesar land in FY 2008-09 from Vadra’s Sky Light Hospitality?
DLF in its October 6 statement said that the “plot was taken over by DLF in financial year 2008-09 itself.” If that was really the case why does the land appear on the balance sheet of Sky Light Hospitality dated March 31, 2011, as a fixed asset valued at Rs 15.38 crore? Also, DLF’s statement issued on October 6 says the advance was paid in instalments starting in 2008-2009 (the period between April 1, 2008 and March 31, 2009). This advance has remained on the books of Sky Light Hospitality till March 31, 2011. This means that DLF had given an advance to Vadra’s Sky Light for a period of greater than two years. So if both the land and the advance were on the balance sheet of Vadra’s Sky Light Hospitality at least till March 31, 2011, how did DLF take over the plot in financial year 2008-2009 itself?
IAC raises these questions. It asks whether it is normal business practice for DLF to give an advance as high as it had and on top of that let it remain with the seller of the land (i.e. Vadra) for more than two years without taking possession. Also is it normal business practice to let this advance remain interest free given that DLF borrows money at such a high rate? As on March 31, 2012, DLF had Rs 25,066 crore of debt outstanding. And it was paying an interest of 12.38% on this debt. So basically what DLF wants us to believe is an advance is actually an interest free loan to Vadra. An advance is typically short term and is settled in less than one year. On Sky Light Hospitality’s balance sheet this advance was listed as a current liability. A current liability is essentially a debt or an obligation of a company that needs to be paid up in one year. But this current liability was on the balance sheet for more than two years.
This was not the only advance that DLF gave Vadra
In fact there is another advance of Rs 10 crore from DLF which is visible on the balance sheets of Sky Light Hospitality as on March 31, 2010 and March 31, 2009. Again this implies that DLF gave Vadra’s company an advance for a period of greater than one year. DLF also said in its October 6 statement that “we wish to categorically state that the DLF has given NO unsecured loans to Mr. Vadra or any of his companies.” This doesn’t hold either. The balance sheet (dated March 31, 2010) of Real Earth Estates Private Ltd another company owned by Vadra shows a clear entry of Rs 5 crore as a loan from DLF. IAC points out that Real Earth Estates has specified this loan to be an unsecured loan in a filing with the Registrar of Companies. An unsecured loan is a loan in which the lender does not take any collateral against the loan and relies on the borrower’s promise to return the loan.
DLF also had advanced Rs 15 crore during the financial year 2008-09(during the period April 1, 2008 and March 31, 2009) to Sky Light Hospitality. As DLF’s October 6 statement says “Skylight Group of companies also offered us in FY 2008-09 an opportunity to purchase a large land parcel in Faridabad and accordingly, DLF agreed to advance Rs 15 crores in instalments simultaneous to the commencement of due diligence of the said land parcel. After concluding that the said land had certain legal infirmities, we decided against its purchase. Accordingly on DLF’s request, the Skylight group refunded the advance of Rs 15 crores in totality.” This entry can be seen in Sky Light’s balance sheet as on March 31, 2009. If one were to add up all this DLF essentially offered Rs 80 crore to Vadra’s companies at various points of time. It is safe to say that a large portion of this was interest free.
So what did Vadra do with this money?
Let’s start with Real Earth Estates. This company as we saw earlier had got an unsecured loan of Rs 5 crore from DLF. This was a part of the balance sheet of Real Earth Estates as on March 31, 2010. What is surprising is that how can a company with an issued capital of Rs 10 lakh be given an unsecured loan of Rs 5 crore? This Rs 5 crore was used to part fund fixed assets of around Rs 7.09 crore. This includes a plot in Greater Kailash II in New Delhi, and land in Bikaner, Gurgaon, Mewat and Hassanpur.
Now let’s take the case of Sky Light Hospitality which shows an advance received of Rs 50 crore from DLF as on March 31, 2010. In the balance sheet as on March 31, 2010, a series of tax deducted at source(TDS) for interest earned on fixed deposits can be seen. There are 19 such entries with a total TDS of Rs 4.95 lakh. TDS is cut at the rate of 10.3% when the interest earned on fixed deposits with a bank during the course of one year crosses Rs 10,000. This means that Vadra earned a total of Rs 48.06 lakh (Rs 4.95 lakh/10.3%) between the period April 1, 2009, to March 31, 2010.
This interest would have been earned on a part of the interest free Rs 50 crore advance from DLF which would have been invested in fixed deposits with banks. So the interest free money from DLF was invested into fixed deposits by Vadra’s Sky Light Hospitality and money was made in the process.
Sky Light Hospitality had a Rs 25 crore advance from DLF on its books as on March 31, 2009. A small portion of this was used to pick up a stake of 50% in a hotel joint venture with DLF. This company called Saket Courtyard Hospitaliy runs one hotel in Saket, New Delhi.
The balance sheets of Sky Light Hospitality also show the company giving advances to other Vadra companies. The balance sheet as on March 31, 2009, shows an advance of Rs 3.5 crore to Sky Light Realty Private Ltd. It also shows an advance of Rs 2.05 crore to Blue Breeze Trading Private Ltd. Both these companies are owned by Robert Vadra. Since they got an advance it was interest free.
This advance was used by Sky Light Realty to fund agricultural land in Palwal and land at Hayyatpur in Haryana. It also used around Rs 9 lakh to book flats with two builders. Sky Light Reality also managed to earn an interest of around Rs 31 lakh (TDS of Rs 3,18,656 divided by 10.3%) on fixed deposits by placing a part of these advance in bank fixed deposits.
As on March 31, 2010, Sky Light Hospitality had given a loan of Rs 6.61 crore to Sky Light Reality Private Ltd. This was used to fund seven flats in DLF’s Magnolias project and which are shown to be worth around Rs 5.23 crore. It was also used to buy a Rs 89 lakh apartment in DLF’s Aralias apartments.
How much did Vadra make in the end?
It is very difficult to estimate one number but some calculations can be made. As a Business Standard story points out “The Aralias and Magnolias flats together would fetch Rs 130 crore or thereabouts, and by DLF’s calculation Mr Vadra’s share in the hotel project would be in excess of Rs 50 crore. His total asset base from the two Sky Light companies — all made by rolling over transactions with DLF, and helped by real estate value appreciation — would be in the vicinity of Rs 200 crore, made in five years.”
That is not a bad going given that Vadra had very little of his own money at stake.
So it is very clear that Robert Vadra benefited from his relationship with DLF. Whether DLF benefited from their relationship with Vadra will be very difficult to establish. But that still raises the question why was DLF so meharban on Vadra? That is the billion dollar question they need to answer.
The article originally appeared in a slightly different form at www.firstpost.com. http://www.firstpost.com/business/theres-little-doubt-vadra-gained-from-dlfs-benevolence-485471.html
(Vivek Kaul is a writer. He can be reached at [email protected])
DLF
All you wanted to know about the DLF-Vadra deal and were afraid to ask
Vivek Kaul
Robert Vadra, son-in-law of Sonia Gandhi has been in news lately for his dealings with India’s biggest listed real estate company DLF. There are a lot of question that the deal has raised. Let’s try and understand some of the answers to those questions, here.
Who owns Sky Light Hospitality Private Ltd?
The company has issued 50,000 shares with a face value of Rs 10 each and so has an issued capital of Rs 5 lakh. Of this Robert Vadra owns 49,900 shares and his mother Maureen owns 100 shares. So the company is basically owned by Robert Vadra.
What are the total assets of the company?
As per the balance sheet dated March 31, 2011, the company has total assets amounting to Rs48.53 crore. This includes fixed assets of two parcels of land worth Rs 16.18 crore. The total investments of the company are worth Rs 24.37 crore. The cash and bank balances amount to Rs 4.77 crore and the loans and advances are at Rs 3.21 crore. All these assets add up to the total assets of Rs 48.53 crore.
How can a company with a capital of Rs 5 lakh have assets worth Rs 48.53 crore?
This is the crux of the issue at hand. Robert Vadra and his mother Maureen’s contribution to the business is a measly Rs 5 lakh. How did that Rs 5 lakh grow into assets of Rs 48.53crore? A simple explanation is that Sky Light would have borrowed money and used that borrowed money to buy land, make investments, have cash in the bank and to give out loans. This would mean that the company would have to borrow Rs 48.48 crore (Rs 48.53 crore – Rs 5 lakh of capital). But why would anyone in their right minds give a loan of Rs 48.48 crore to a company with a shareholder capital of Rs 5 lakh? This would imply a debt to equity ratio of 970. Also as the balance sheet of the company reveals it has not taken any loans.
So where did this money come from?
For this one needs to take a look at the current liabilities side of the balance sheet of the company. The current liabilities of the company are at Rs 58.05 crore. Of this amount the company received an advance of Rs 50 crore from DLF against a plot of land. As a recent statement issued by DLF says “M/s Skylight Hospitality Pvt Ltd approached us in FY 2008-09 to sell a piece of land measuring approximately 3.5 acres just off NH 8 in Village Sikohpur, Dist Gurgaon…DLF agreed to buy the said plot, given its licensing status and its attractiveness as a business proposition for a total consideration of Rs 58 crores. As per normal commercial practice, the possession of the said plot was taken over by DLF in FY 2008-09 itself and a total sum of Rs 50 crores given as advance in instalments against the purchase consideration.” So DLF gave Rs 50 crore as an advance to Sky Light against a piece of land owned by Sky Light. This land is showed to be worth Rs 15.38 crore in the balance sheet of Vadra’s Sky Light. Accounting values assets at historical cost. So that is the price Sky Light must have bought that piece of land. This raises the question as to where did Vadra raise this Rs 15.38 crore from? DLF comes into the picture only later when the company decides to buy a piece of land from Vadra’s Sky Light.
But what is the difference between a loan and an advance?
Take the case of a salary advance. When any individual takes a salary advance there is no contractual obligation between him the company and at the same time the company does not charge him an interest. The company gives an advance to the employee primarily because there is a relationship between them. Typically employees who have just joined find it difficult to get a salary advance. The same logic works when one company gives an advance to another company. So the first question to ask here is that was there a relationship between Vadra and DLF? Vadra had told the Economic Times in March last year “I have a good understanding with DLF. Our children are friends, we are friends.” Now just because two promoters are friends does that mean one company will give an advance to another? That is something both DLF and Vadra need to throw light on.
Isn’t this advance of Rs 50 crore a part of Skylight’s current liability?
Yes that is the case. A current liability is essentially a debt or an obligation of a company that needs to be paid up in one year. As DLF’s statement says the advance was paid in instalments starting in 2008-2009 (the period between April 1, 2008 and March 31, 2009). This advance has remained on the books of the company till March 31, 2011. This means that DLF had given an advance to Vadra’s Sky Light for a period of greater than two years. Can this be categorized as an advance? Can this be categorized as a current liability? From the way this looks DLF basically gave Vadra an interest free loan and tried to pass it off as an ‘advance’.
Where does Arvind Kejriwal fit into all this?
What Kejriwal is saying that Vadra’s Sky Light used a portion of this Rs 50 crore advance to buy property from DLF. Sky Light also has a 50% stake in Hilton Garden Inn Hotel, Saket, New Delhi, which it has set up with DLF. The main question that Kejriwal is asking “It is well known that DLF has been given 350 acres of land by Haryana govt for the development of Magnolia project in Gurgaon (where Vadra was allocated 7 apartments) and has been given various other properties and benefits by the Congress governments in Haryana and Delhi. Is that the quid pro quo for DLF giving Vadra the seed money for the purchase of these massive properties worth hundreds of crores?”
In simple English what this means is that because DLF gave Vadra what seems to be an interest free loan rather than advance, did the Congress government return these favours by allocating land to DLF in lieu of that? Was there a quid pro quo? While this allegation can be probed, it will be next to impossible to establish.
Where does all this leave DLF?
The gross debt of DLF stands at a whopping Rs 25,060 crore as on June 30, 2012. At the end of March 31, 2012, the gross debt had stood at Rs 25,066 crore. The annual report of DLF points out “the company’s borrowings from banks and others have a effective weighted average rate of 12.38% per annum.”
We can safely say that this rate of interest of 12.38% wouldn’t have changed dramatically between March, 2012 and June, 2012. So a company which has debt of more than Rs 25,000 crore and is borrowing at greater than an interest rate of 12% is basically giving an interest free loan to Vadra. The high debt level has been a huge concern for the analysts who track the company. As Sandipan Palan analyst with Motilal Oswal wrote in a recent report “DLF’s high debt has been a key concern for investors; however, we believe leverage of Rs 16,000-17,000 crore would be a sustainable level for the company.”
Also DLF says that its deal with Vadra is normal commercial practice. If that is the case it would be great if the company could give us a list of other entrepreneurs to whom the company has given an advance running into Rs 50 crore for a period of greater than two years. That should be put everybody who is crying foul in their place.
The article originally appeared in the Daily News and Analysis (DNA) dated October 10,2012 with a slightly different headline. http://www.dnaindia.com/india/report_all-you-wanted-to-know-about-dlf-vadra-deal_1750865
(Vivek Kaul is a writer. He can be reached at [email protected])
DLF borrows money at 12.38%; lends free to Vadra
Vivek Kaul
DLF is India’s largest listed real estate company. During the hey days of the company a few years back, such was the craze for the DLF stock that Kushal Pal Singh, its owner, was listed among the ten richest people in the world. Those days are now gone.
The company has recently been accused by Arvind Kejriwal and Prashant Bhushan of giving interest free loans amounting to Rs 65 crore to Robert Vadra. Vadra is the married to Priyanka Vadra, daughter of Sonia Gandhi.
Kejriwal and Bhushan have released documents which clearly show that companies set up by Vadra borrowed money from DLF and then used that money to buy properties from DLF among other things. (You can access the press release here). The market value of these properties has increased considerably since Vadra bought them.
According to a tweet on the Twitter handle of news channel NDTV, DLF has said that their dealings with Vadra have been completely transparent. Vadra on his part had explained his relationship with DLF to the Economic Times in March 2011. “I have a good understanding with DLF. Our children are friends, we are friends. They are seasoned businessmen. They are not daft. They are educated, sensible people and are reasonable and shrewd in their business. They don’t need me to enhance them. They’ve existed for years,” Vadra had said. (You can read the complete story here).
On the face of it this might look like a completely normal business transaction between two different businessmen. But the latest annual report and the analyst presentation made DLF throw up some interesting questions nevertheless.
As per an analyst presentation (dated August 6, 2012) made by DLF, the gross debt of the company stands at a whopping Rs 25,060 crore as on June 30, 2012. At the end of March 31, 2012, the gross debt had stood at Rs 25,066 crore. (You can access it here).
The annual report of DLF points out “the company’s borrowings from banks and others have a effective weighted average rate of 12.38% p.a. calculated using the interest rates effective as on March 31, 2012 for the respective borrowings.”
So what this means is that the company had debt outstanding of Rs 25,066 crore as on March 31, 2012, and was paying an interest of 12.38% on that debt. The debt outstanding as on June 30, 2012, had not changed much and was at Rs 25,060 crore. It is fair to assume that over a period of three months the interest rate on the debt outstanding wouldn’t have changed significantly.
What is also interesting is that during 2011-2012(i.e. the period between April 1, 2011 and March 31, 2012) the sales of the company stood at Rs 4582.67 crore. This means that the debt of the company is nearly 5.5 times its annual sales, which is extremely high.
The question that DLF needs to answer is that why is a company which has such huge debt outstanding and is paying an interest of 12.38% per year on it, giving out interest free loans? Also it seems to have been having trouble in bringing down its outstanding debt. The outstanding debt between March and June 2012, has gone down by only Rs 6 crore.
The company has been trying to bring down the debt by selling investments that it had made over the last few years. It recently sold a plot that it owned in Lower Parel in Central Mumbai to Lodha Developers for Rs 2,750 crore. The company has been trying to sell several of its other investments over the last few years.
The high debt level has been a huge concern for the analysts who track the company. As Sandipan Palan analyst with Motilal Oswal wrote in a recent report “DLF’s high debt has been a key concern for investors; however, we believe leverage(which means debt in simple English) of Rs 16,000-17,000 crore would be a sustainable level for the company.”
So here is a company which analysts believe should be cutting down on its debt by around Rs 9,000 crore, and it has been giving out interest free loans to an individual with zero or very little experience in running a real estate business. DLF needs to tell us in some detail the “business” reasoning behind this decision.
Another interesting point that comes out while going through the annual report of the company is that it has 65 non current investments. The annual report of DLF points out that “Investments are classified as non-current or current based on management’s intention at the time of purchase. Investments that are readily realisable and intended to be held for not more than a year are classified as current investments. All other investments are classified as non-current investments.”
Of the 65 non current investments only two are joint ventures. One of these joint ventures is with Skylight Hospitality Private Limited, a company owned by Vadra and his mother Maureen. Skylight owns a 50% stake in Saket Courtyard Hospitality Private Limited, which runs the Hilton Garden Inn Hotel in Saket, New Delhi. This is the only operational hotel of the company.
When it comes to making non-current investments joint ventures are not a favoured form of investing with DLF, given that only two out of its 65 non current investment are joint ventures.
The venture with Skylight is very small by DLF standards. In the annual report of the company the book value of the joint venture is put at just Rs 5.6 crore. Also why would a company as big as DLF is enter into a joint venture for a four star hotel with an individual who has absolutely no or very little prior experience in running a hotel? This is something that needs to be answered. A recent report in the Daily News and Analysis seems to suggest that the hotel run by this joint venture is on the block. (You can read the story here).
The entire Congress party has come to the rescue of Robert Vadra and tried to project the deals between Vadra and DLF as normal business transactions. One senior leader even went to the extent of saying “doesn’t Vadra have a right to occupation?” Yes, Vadra has the right to an occupation and so does DLF. But there are too many unanswered questions here that need to be answered.
The article was originally published on www.firstpost.com on October 6, 2012. http://www.firstpost.com/business/dlf-borrows-money-at-12-38-lends-free-to-vadra-481727.html#.UG_tdwlmmIs.twitter
(Vivek Kaul is a writer. He can be reached at [email protected])
How the new Peter Principle caused Kingfisher’s downfall
Vivek Kaul
A few years back I had booked a ticket on an early morning Kingfisher flight from Mumbai to Ranchi, or so I had thought. I came to realize I was on Kingfisher Red and not the full service Kingfisher only once I was inside the aircraft.
Sometime later I came to realize that several people I knew had had a similar experience. They had booked flights thinking they were on the Kingfisher full service, only to realize later that they were on Kingfisher Red.
The airline clarified that it was not their mistake but the mistake of the websites that did not make a distinction between Kingfisher Red and Kingfisher First.
But the question that cropped up in my mind was that why would Kingfisher, a premium-upmarket brand, want to dilute its positioning by associating itself with Kingfisher Red, which was essentially a low-cost airline.
Vijay Mallya, started Kingfisher Airlines in 2005. A few years later he tried to get into the low cost airline business, which was the flavour of the season back then, by taking over Deccan Aviation which ran Air Deccan, a low cost airline. He rebranded it as Kingfisher Red. By doing this he diluted the premier positioning that Kingfisher Airlines had acquired in the minds of the consumer.
To explain this a little differently, let us take the example of Hindustan Unilever Ltd (HUL). It sells the Lifebuoy which is targeted at the lower end of the market and goes with the line tandurusti ki raksha karta hai Lifebuoy. The company also sells Lux which is targeted at the upper end of the market and comes with the tagline filmi sitaron ka saundarya sabun.
Of course, the positioning of Lifebuoy and Lux is totally different. And HUL tries to make this very very clear in the minds of the consumer. First of all, both the products have different names. Second the pricing is very different. And third, the advertisements of both the products emphasize on the “different” positioning over and over again.
Now Mallya running a low cost airline under the premium brand name of Kingfisher would be like HUL selling Lux soap under the name of Lifebuoy premium.
And it’s not just about the brand name and the positioning in the mind of the consumer. The philosophy required to run a premium brand is totally different in comparison to the philosophy required to run a low cost brand. Hence, Mallya buying Air Deccan was mistake. And then changing its name to Kingfisher Red was an even bigger mistake.
So in the end this did not work and Mallya decided to close down Kingfisher Red. He explained it by saying that “We are doing away with Kingfisher Red, we do not want to compete in the low-cost segment. We cannot continue to fly and make losses, but we have to be judicious to give choice to our customers.”
Kingfisher might have just survived if it had not made the mistake of buying Kingfisher Red. World-over several airlines have tried running a full-service and a low cost airline at the same time and made a mess of it. A company cannot run a low cost airline and a full service career at the same time. The basic philosophy required in running these two kind of careers is completely different from one another.
But the bigger question is what was Vijay Mallya trying to do by running a liquor business, a real estate business and an airline at the same time? This was other than spending substantial time on his expensive hobbies of trying to run a cricket and an FI team, and cheaper ones like commenting regularly on Twitter.
There isn’t really any link among the businesses Mallya runs. Some people have tried to explain that the airline was just surrogate advertising for the beer of the same name. But then there are cheaper ways of advertising than running an airline and losing thousands of crores doing it.
Businesses over the years have become more complicated. And just because a company has been good at one particular business doesn’t mean it will be good at another totally unrelated business.
Mallya is not the only one realizing this basic fact. The period between 2002 and 2008 was an era of easy money. Businesses could borrow money very easily to expand as well as get into new business. And this is what finally got businessmen like Mallya into trouble.
The British economist John Kay calls this the new Peter’s Principle. The original Peter’s Principle essentially states that every person rises to his or her level of incompetence in a hierarchy. Simply put, as a person keeps getting promoted he is bound to appointed to a job, he is not good at. The same is the case with companies which keep buying and diversifying into different businesses, until they land up in a business they don’t really understand. And that drives them down.
Mallya was a victim of the new Peter’s Principle, his non related diversification into the airline business cost him dearly. The lack of focus has hurt Mallya’s core alcohol business as well and United Spirits is no longer India’s most profitable alcohol company. That tag now belongs to the Indian division of the French giant Pernod Ricard.
An era of easy money got Indian entrepreneurs including Mallya to get into all kinds of things which they did not understand and had no clue about. Kishore Biyani brought the retail revolution to India, having been inspired by Sam Walton who started Wal-Mart. His retail businesses were doing decently well till he decided to get into a wide variety of businesses from launching an insurance company to even selling mobile phone connections. When times were good he accumulated a lot of debt in trying to grow fast. Now he is in trouble in trying to service the debt and rumors are flying thick and fast that he is planning to sell Big Bazaar, his equivalent of Wal-Mart. This after he sold controlling stake in the cloths retailer, Pantaloons.
Let’s take the case of DLF, the biggest real estate company in the country. It tried getting into the insurance and mutual fund business. It had to sell its stake in the mutual fund business and if news reports are to be believed it is trying to lower its stake in the insurance venture. It also tried unsuccessfully to get into the luxury hotel business and failed. Hotel Leela tried to get into the up-market apartments space and failed.
Reliance Energy (the erstwhile BSES) was turned into Reliance Infra and now is into all kinds of things. It is building one section of the Mumbai Metro, the completion of which keeps getting postponed. It is also supposed to build the remaining portion of the sealink in Mumbai.
The days when businesses like Tata and Birla used to do everything under the sun are long over. In fact, those were the days of license quota raj with very little competition. Hence companies could get into a new space as long as they got a license for it.
An interesting example is that of the Ambassador. The car had the same engine as of the original Morris Oxford which was made in 1944. The same engine was a part of the Ambassador car sold in India till 1982. The technology did not change for nearly four decades.
Given this lack of change, the businessmen could focus on multiple businesses at the same time. That is not possible anymore with technology and consumer needs and wants changing at a very fast pace. Even focused companies like Nokia missed out on the smart phone revolution in India.
Look at the newer businesses some of the big-older companies have got into over the years. The retail business of Ambanis hasn’t gone anywhere. Same is true with that of the retail business of the Aditya Birla group. The telecom business of the Tatas has lost a lot of money over the years. Though, they finally seem to be getting it right.
Hence it’s becoming more and more essential for businesses to focus on what they know best. And when it comes to airlines its time Mallya read what Warren Buffett told his shareholders a few years back.
“Now let’s move to the gruesome. The worst sort of business is one that grows rapidly, requires significant capital to engender the growth, and then earns little or no money. Think airlines. Here a durable competitive advantage has proven elusive ever since the days of the Wright Brothers. Indeed, if a farsighted capitalist had been present at Kitty Hawk, he would have done his successors a huge favor by shooting Orville down. The airline industry’s demand for capital ever since that first flight has been insatiable. Investors have poured money into a bottomless pit, attracted by growth when they should have been repelled by it. And I, to my shame, participated in this foolishness when I had Berkshire buy U.S. Air preferred stock in 1989. As the ink was drying on our check, the company went into a tailspin, and before long our preferred dividend was no longer being paid. But we then got very lucky. In one of the recurrent, but always misguided, bursts of optimism for airlines, we were actually able to sell our shares in 1998 for a hefty gain. In the decade following our sale, the company went bankrupt.”
The bigger sucker saved Buffett. But Mallya may not have any such luck
(The article originally appeared on www.firstpost.com on July 5,2012. http://www.firstpost.com/business/how-the-new-peter-principle-caused-kingfishers-downfall-368549.html)
(Vivek Kaul is a writer and can be reached at [email protected])