Tag: Saving Capitalism from the Capitalists

21 July, 2015

Lessons in competition from a taxi driver in Goa

If I were to ask you, what is common between Bangalore and Goa, what would you say? Actually, I could even ask you what is common between Delhi and Goa? Or for that matter Chennai and Goa? And to some extent Mumbai and Goa?

If you are the kind who goes to Goa regularly, you would know that the taxi drivers in Goa are a pain to deal with. They remind you of the auto-rickshaw drivers of Bangalore, and Delhi, and Chennai, and to some extent Mumbai, who are an equal pain to deal with and always want to be paid more. These guys would rather sit and idle away their time than take people from one place to another, which is what they are supposed to do.

Sometimes I wonder why are these guys in the business of transportation in the first place, given that they don’t want to go anywhere?

But jokes apart, why is this the case? Why do the autorickshaw drivers more or less all over the country, and the taxi drivers of Goa, behave in the way they do? The reason they behave in a similar way is because they know that they have no competition. If some competition were to come along, their obnoxious behaviour is likely to improve. While nothing works better than some completion, things are not as straightforward as that.

On a recent visit to Goa, I found the taxi driver (who also owned the cab) driving me around to be slightly worried about his future as an owner of two taxis. As the conversation went along I found that he was worried about taxi operators like Ola, Uber etc., entering the state.

They would offer a significantly lower price than what the taxi operators currently charge and in the process end up driving them out of business. “We are thinking of doing a chakka jaam against this,” the driver told me. “Otherwise thousands of taxi owners will be out of work.”

There is a lot that this statement tells us about how incumbents in a particular line of business behave when they are about to face new competition which is likely to make things more difficult for them. Along the lines of the taxi-driver who drove me around Goa, the drivers of kaali-peeli taxis and the autorickhaws of Mumbai are also a worried lot. Recently there was a strike to protest against the new kids on the block (read Uber/Ola etc.).

Further, conversations I have had with many kaali-peeli taxi drivers in Mumbai tell me that their daily earnings are down. A couple of them told me that their earnings are down by around 25%.

As Raghuram Rajan, the current governor of the Reserve Bank of India wrote in Saving Capitalism from the Capitalists (co-authored with Luigi Zingales): “Throughout its history, the free market system has been held back, not so much by its own economic deficiencies as Marxists would have it, but because of its reliance on political goodwill for its infrastructure. The threat primarily comes from…incumbents, those who already have an established position in the marketplace. The identity of the most dangerous incumbents depends on the country and the time period, but the part has been played at various times by the landed aristocracy, the owners and managers of large corporations, their financiers, and organised labour.”

In the case of Goa these incumbents are the existing taxi owners and drivers, who are organised. They have had an easy ride up until now. So is the case with autorickshaw drivers in cities all across in India. With almost no competition, they have been fleecing consumers for years now.

The trouble is that in all this no one thinks about the end consumer. In case of Goa, the end consumers are the huge number of tourists who visit the state every year. Data from the Goa Tourism department shows that in 2014 a total number of 4.05 million tourists came to Goa. Of this around 5.13 lakh tourists came from abroad. The remaining 3.54 million tourists were Indians.

Hence, if some competition were to be introduced in the taxi-cab space in Goa, it would benefit tourists who come to the state tremendously. They would be able to get cabs to go around at reasonable rates and wouldn’t feel fleeced every time they decide to use a cab. Their holiday would be a much more pleasurable experience than it currently is. This is true about other Indian cities where people are dependent on auto-rickshaws for transport.

The trouble here is that unlike the few thousand odd taxi owners, the 4.05 million tourists do not have an organised voice. And given that there is no way they can put across their point of view. Further, most of them visit the state just as tourists and do not live there. Hence, even if they had a voice, there would be no commitment to the cause.

This brings me to Bangalore, Delhi and Chennai (actually Delhi has improved a bit in the last few years). The cities needs to stop being held to ransom by autorickshaw drivers. The citizens deserve better.

Given this, it is time to move to the likes of Ola and Uber, lock, stock and barrel. At least, till their prices are competitive enough. These companies if they have to survive will eventually end up raising rates, and we will end up having another headache on our hands. Nevertheless, until then the autorickshaw drivers and owners need to be put in their place.

Also, the government needs to think about the consumers, who do not have voice, as well. As Rajan and Zingales put it: “The most effective way to reduce the power of incumbents to affect legislation is to keep domestic markets open to international competition…Openness creates competitions from outsiders-outsiders that incumbents cannot control through political means.”

The column appeared on The Daily Reckoning on July 21, 2015

22 May, 2015

The Western growth model is broken and it ain’t getting fixed any time soon

There is nothing more deceptive than an obvious fact.
–Arthur Conan Doyle, “The Boscombe Valley Mystery”

It’s around 1.30 pm on Thursday afternoon and I have just finished reading a wonderful speech titled ‘Going bust for growth‘, made by the Reserve Bank of India governor Raghuram Rajan, to the Economic Club of New York on May 19, 2015. The speech which runs into 14 pages like all Rajan speeches is a very good read and gets to the heart of the issue and explains things very well.
No wonder the prime minister Narendra Modi is so impressed with Rajan. As Modi said about Rajan in April earlier this year: “I happen to meet Raghuram (Rajan) once every two months and he comes prepared with three or four slides. He makes me understand them so perfectly that I don’t need to question anything, I understand what he says.”
In his latest speech Rajan talks about the steps taken by developed countries in the aftermath of the financial crisis that broke out in September 2008, why they are not working and how they are creating problems for what the developed world likes to call emerging markets.
Consumer demand collapsed in the aftermath of the financial crisis. One of the things that governments of the developed world did was to borrow and increase spending. This money was supposed to be spent towards creating physical infrastructure.
Returns on investing in infrastructure are supposed to be high given that currently both interest rates as well as constructions costs are low. Nevertheless, it is not easy to spend on building infrastructure in a developed country. As Rajan points out: “However, high-return infrastructure investment is harder to identify and implement in developed countries where most obvious investments have already been made – political influence is as likely to create bridges to nowhere or unviable high speed train networks as needed infrastructure.”
Nevertheless, money can be spent on improving existing infrastructure. The trouble here is that decision making in this case needs to be a lot more decentralized in comparison to spending on mega projects. Given this, it “may be harder to initiate and finance from the centre”. Hence, spending money on infrastructure may not always be the best way going around in order to create economic growth in developed countries.
Also, money being spent always does not go to projects which are likely to generate the most returns. It may go to projects backed by politicians who have the most influence. It’s worth remembering here that even in well-functioning democracies some groups wield more influence than others. As Raghuram Rajan and Luigi Zingales write in Saving Capitalism from the Capitalists: “Policy making is often captured by powerful special interests that thrive because of the peculiarities of democratic governance… Governments may work in the interest of a privileged few rather than the larger public and dig the wrong channels.”
Other than increased spending, central banks of developed countries also printed and pumped money into the financial system. They did this by printing money to buy government and private bonds. By buying these bonds, the idea was to pump a lot of money into the financial system, keep interest rates low, with the hope of people borrowing and spending more at low interest rates.
But low interest rates make things difficult for investors. They need to invest in riskier assets and go searching for yield (return). Since the start of the financial crisis, there has been a huge flow of money from the developed markets into emerging markets, in search of a higher return.
As Rajan put it in his speech: “Indeed, the post-global crisis capital flows into emerging markets have been huge, despite the best efforts of emerging markets to push them back by accumulating reserves (net capital flows to emerging economies reached US$ 550 bn in 2013 compared to US$120 bn in 2006).”
So the money flowing into the emerging markets has increased many times over since the start of the financial crisis. And these flows create problems in emerging markets. When the money is coming in it leads to the appreciation of the local currency against the dollar (unless the central bank intervenes), creating problems for exporters. And when this money leaves in a hurry it leaves financial markets in a mess (Stock markets fall, yields on government bonds go up as foreign investors leave in a hurry) and the value of the local currency depreciates against the dollar., creating problems for importers. This makes things much more difficult for central banks in emerging markets.
Further, despite many years of increased government spending, money printing and low interest rates, economic growth is yet to recover in developed countries. What this tells us is that policies followed in the aftermath of the financial crisis haven’t really worked. And the reason for this the slow growth of consumer demand.
A major reason for the same is that Western economies have lost the ability to make things. As Rajan and Zingales point out: “For decades before the financial crisis in 2008, advanced economies were losing their ability to grow by making useful things. But they needed to somehow replace the jobs that had been lost to technology and foreign competition… So in an effort to pump up growth, governments spent more than they could afford and promoted easy credit to get households to do the same. The growth that these countries engineered, with its dependence on borrowing, proved unsustainable.”
With a manufacturing in developed countries being outsourced to emerging markets, a section of the population isn’t exactly employable any more. As Rajan said in his speech: “Because of changes in technology and the expansion of global competition, routine repetitive jobs, whether done by the skilled or the unskilled, have diminished greatly in industrial countries. Many of these jobs, ranging from assembly line worker to legal aides or insurance clerks, have either been automated or outsourced.”
And this is where the problem is. Good jobs now require skills. “The middle class recognizes that they need quality higher education and training to not slip into competing with the poor for low-skilled non-routine jobs such as security guard or gardener. But the poor quality early education they have received, as well as the prohibitive cost of quality higher education, puts many better livelihoods out of reach,” said Rajan.
This is a problem that cannot go away either by spending more money on physical infrastructure or by maintaining low interest rates by printing money. It needs to be tackled over the long-term. But how politicians understand that term?

The column originally appeared on The Daily Reckoning on May 22, 2015

8 October, 2014

Flipkart vs offline retailers: Kishore Biyani ko gussa kyon aata hai

Vivek Kaul

Raghuram Rajan and Luigi Zingales in the introduction to their fantastic book Saving Capitalism from the Capitalists write “Those in power—the incumbents—prefer to stay in power. They feel threatened by the free markets.”
So who are these incumbents? “The identity of the most dangerous incumbents depends on the country and the time period, but the part has been played at various times by the landed aristocracy, the owners and managers of large corporations, their financiers, and organised labour,” Rajan and Zingales write.
Something along these lines is currently playing out in the Indian retail sector. The incumbents (or what we can now call the offline players) are feeling threatened by the e-commerce companies, the new kids on the blocks. E-commerce companies like Flipkart, Snapdeal and Amazon have changed the rules of the game.
The e-commerce companies are gradually taking business away from incumbent offline players by offering huge discounts on products that they sell. One reason for the same is the fact that the ecommerce companies have managed to get around the inefficiencies built into the Indian retail system.
Professor Rajiv Lal of Harvard Business School explained this in an interview with Forbes India. As he put it “Basically the margins that are build up because some of our retail chain are inefficient. Think about the amount of inventory that is being held in the Indian apparel business. It is humongous. Stores are full of inventory and most of them don’t even know how much inventory they are holding. All that stuff is being reflected in the prices that we pay.”
The e-commerce companies don’t have to maintain huge inventories. If they manage to build up an efficient supply chain network, they can keep ordering goods as they go along. Hence, they do not to have maintain a large inventory like the offline players. This helps keeps costs down.
Also, like offline players they do not need to maintain a huge physical infrastructure like showrooms, godowns etc., to sell their goods. They can also buy goods directly from companies producing them and get a better deal in the process. These goods can be then directly sold to prospective consumers without having to go through an elaborate distribution channel.
Take the example of books being sold online. One reason why 30% discount on books being sold online is normal because the bookstore’s margin has been taken out of the equation totally.
Given these reasons, the costs of ecommerce companies are significantly lower than offline players, leading to them being able to offer products at a discount to the maximum retail price.
In fact, people have even started ordering goods like clothes and shoes, online. :Until a few years back nobody thought such products could be sold online. One reason for this is the attractive price. As Lal puts it “even situations that we think that it doesn’t make sense for people to buy things on the internet because of the inefficiencies in the Indian retail system, the price is so appealing that people are willing to compromise on other things.”
There are other reasons as well. Online companies allow buyers to return the product under a certain time period. This has given confidence to people to order products like clothes and shoes.
All this has pushed offline players into a corner. As a retailer told The Hindu Business Line “The consuming class in India is in the age group of 18-30. Incidentally, they are also the ones who are driving up sales in the online space. This may erode our customer base.” Given this, it is but logical that these retailers now questioning the basic business model of ecommerce companies.
As Kishore Biyani told Firstbiz yesterday “Laws in this country do not allow sales below cost price. This is anti-competitive. We (at Big Bazaar and other retail brands) never sell below cost price.” He did not clarify whether his company would be approaching the Competition Commission of India.
Praveen Khandelwal of Confederation of All India Traders (CAIT) said that the association has already approached the Ministry of Commerce. “We do not understand how online retailers gave 60-70% discounts. The prices at which they sold merchandise are lower than our purchase prices. This is a clear case of predatory pricing,” he went onto add.
It needs to be clarified here that not all products sold by online retailers are sold at 60-70% discount. This is the case only for special sales that they organise. Take the case of Flipkart’s recent The Big Billion Day sale. Products were given away at throw away prices when the sale opened at 8 am. But the website ran out of these products very soon. Amazon had also recently been selling books at a discount of 60%, though they did it in a very low profile way. But not all products are sold at such huge discounts all the time.
The offline retailers are reacting in a way that existing businesses react whenever their business model is threatened by a new business model or innovation. The first salvo has been fired and they have questioned the basic business model of the e-commerce companies.
I wouldn’t be surprised if this argument is repeated over and over again in the days to come. Henry Hazlitt explains this technique in Economics in One Lesson “The public hears the argument so often repeated…that it is soon taken in.”
In fact, the small and medium telecom retailers are trying to get telecom brands to stop supplying mobile phones to e-commerce companies. Aam Aadmi Party’s Adarsh Shastri is leading this effort.
As a recent news report in The Economic Times pointed out “It was at one such meeting mediated by Shastri last month that Samsung executives announced to the trade that it will go all out to limit or stop distribution to online sellers who are discounting products. More such meetings are lined up with other brands.”
The report quotes Shastri as saying “Nokia has been cooperating on this. Some brands are more disruptive than the others, like Samsung and even Apple, to an extent. But Nokia, Motorola and HTC have been reasonably open to the idea of price parity between online and retail channels.”
Shastri also said that “”wherever the common retailer is being bullied by a large brand or by the large muscle of online retail, we (AAP) will step in. If it is required tomorrow to take up issues of small retailers, the party will absolutely do it.”
The idea here is to ensure that small and medium telecom retailers continue to stay relevant and are not wiped out by e-commerce companies. While this sounds fair, the trouble with this idea is that it just takes into account one side i.e. the offline retailers. But what about the end consumer?
The question is why is nobody talking about the consumer? First and foremost the consumer is getting a better deal. Doesn’t that amount to something? Further, he has more choice now when it comes to spending his money. If a consumer buys a product that costs Rs 1000 offline at Rs 800 online, he is left with Rs 200. That money he can spend somewhere else. This will also benefit some business at the end of the day.
The trouble of course is that no one knows where the consumer will end up spending the Rs 200 that he saves by buying online. Hence, a coherent argument in favour of the consumer cannot be made. This explains why people like Shastri end up representing only one side of the argument.
Getting back to Biyani, he obviously understands the power of ecommerce and hence is hedging himself both ways. While in public he has been questioning the discounting practises of e-commerce companies, he may also be in the process of tying up with Amazon. As a recent report in the Business Standard points out “Biyani is in talks with Amazon to sell his private labels and sharing back-end facilities.”
To conclude, it is worth remembering that when an existing way of doing things is under threat, the incumbents are bound to react aggressively. This is what is happening right now with the retail sector in India. Nevertheless as Lal of Harvard put it “Why haven’t people asked the question, that should we have introduced auto-rickshaws and taxis because the rickshawallahs would have lost jobs?”
The article originally appeared on www.FirstBiz.com on Oct 8,2014

(Vivek Kaul is the author of the Easy Money trilogy. He tweets @kaul_vivek)

27 September, 2014

Lessons from Coalgate and Naveen Jindal: It is important to save capitalism from capitalists

Vivek Kaul

In an interview to NDTV, Naveen Jindal , chairman of Jindal Steel and Power, and Congress politician said that his company would not be able to pay the fine imposed by the Supreme Court. “We will not be able to pay it..because we have not made a provision for it,” Jindal said.
Jindal also told the television channel that the Supreme Court decision “was a ‘setback’ for companies which have mined coal for the past 20 years to generate power and make steel, and now been told that what they are doing is illegal, while they have been creating wealth for the country.”
In a decision on September 24, 2014, the Supreme Court had cancelled 204 out of the 218 coal blocks allocated by the government since 1993. The coal blocks were allocated for free for captive mining. Companies which were given these blocks could use the coal to produce power, iron and steel, aluminium, cement etc. The Court has also fined companies at the rate of Rs 295 per tonne for all the coal that they have produced till date and will continue producing till March 31, 2015, when they need to hand over their mines to the government.
Jindal was the biggest beneficiary of the captive coal block allotments, having been given nine blocks in all. Given this, things he has said in the NDTV interview need to be looked at closely.
The first thing Jindal talks about are “companies which have mined coal for twenty years.”
No company has been mining coal for twenty years. Provisional coal statistics released by the Coal Controller Organisation, which is a part of the coal ministry, shows that coal was first mined by the captive coal blocks only in 1997-98. Also, during this year a minuscule amount of 0.71 million tonnes of coal was produced by these mines. The production crossed 10 million tonnes of coal only in 2004-2005, when these blocks produced 10.11 million tonnes. Hence, serious production from these coal mines has happened only for 10 years and not 20 years as Jindal points out. This was primarily because between 1993 and 2002 only 15 blocks had been allocated to private companies.
This maybe nitpicking, nonetheless it is an important factual point to make given the sensitivity of the issue. In Jindal Steel and Power’s case the Gare Palma IV coal block has been operational from February 1999. This coal mine produced 6 million tonnes of coal in 2013-2014 and is expected to produce a similar amount in 2014-2015.
Further, just because something has been happening for many years, doesn’t mean it is right, even though it may have been government policy. The coal blocks were allocated based on the recommendations of an inter ministerial screening committee. The committee was set up in July 1992 and the coal secretary was its chairman.
As Vinod Rai writes in Not Just an Accountant—The Diary of the Nation’s Conscience Keeper “This committee was to scrutinize applications for captive mining and allocate coal blocks for development, subject to statutes governing coal mining, following which the coal minister would approve the allotment…The screening committee is expected to asses applications based on parameters such as the techno-economic feasibility of the end-use project, status of preparedness to set up the end-use project, past track record in executing projects, financial and technical capabilities of applicant companies and the recommendations of the concerned state governments and ministries.”
The committee was supposed to look at each application based on these criteria and then make a decision of who to allot the coal block to. But that doesn’t seem to have happened. As the Supreme Court judgement dated August 25, 2014, clearly points out “The entire exercise of allocation through Screening Committee route thus appears to suffer from the vice of arbitrariness and not following any objective criteria in determining as to who is to be selected or who is not to be selected.”
The judgement further points out that “there is no evaluation of merit and no inter se comparison of the applicants. No chart of evaluation was prepared. The determination of the Screening Committee is apparently subjective as the minutes of the Screening Committee meetings do not show that selection was made after proper assessment. The project preparedness, track record etc., of the applicant company were not objectively kept in view.”
Further, the guidelines that the Screening Committee was supposed to follow did not contain “any objective criterion for determining the merits of the applicants.” “As a matter of fact, no consistent or uniform norms were applied by the Screening Committee to ensure that there was no unfair distribution of coal in the hands of the applicants.” The Supreme Court came to this conclusion after studying the minutes of the Screening Committee meetings.
Interestingly, the Comptroller and Auditor General(CAG) had come to a similar conclusion when it had audited the procedure for allotment of coal locks in mid 2011. As Rai points out “The process that the committee actually followed was not really clear from the records. All that the records showed was that the committee met, deliberated and merely recorded the name of the block allotted to a company, and the state where the end-use plant existed. It is left to the reader to decide if transparency was a victim and, if so, how audit erred in pointing out this lacuna.”
The problem was that even if the Screening Committee wanted to follow objective criteria, at times it was simply not possible. Former coal secretary P C Parakh (who took over as coal secretary in the second week of March 2004) explains this in Crusader or Conspirator—Coalgate and Other Truths “By the time I took charge of the ministry, the number of applicants for each block had increased considerably although still in single digits. I found a number of applicants fulfilling the criteria specified for allocation of each block on offer. This made objective selection extremely difficult.”
In fact in the years to come the situation became much worse as more and more companies applied for coal blocks. As Parakh writes “According to CAG’s report, 108 applications were received for Rampia and Dip Side of Rampia Block [names of two coal blocks]. I found it difficult to make an objective selection when the number of applicants was in single digits. How could the Screening Committee take objective decisions when the number of applicants per block had run into three digits?”
Parakh to his credit realized pretty early that the Screening Committee method of allotment wasn’t working. In fact, in his book Parakh goes on to list several reasons on why giving away coal blocks free for captive mining by companies just did not make sense. By giving away coal blocks for free, companies which had no experience in coal mining were getting into a totally unrelated field. The government had no way of monitoring whether the captive mine was being used for captive use. Or was the company, which had got the coal block, selling the coal it was producing in the open market and thus “promoting corruption and black money”. Further, the system of allocation of coal blocks for free was discriminatory. It offered a huge premium to companies which managed to get a free coal block, in comparison to ones that did not.
Hence, Parakh proposed to Manmohan Singh(who had taken over as coal minister) in August 2004 that coal blocks should be allotted through the competitive bidding route. Before he did this Parakh had even called an open discussion of all the stakeholders in June 2004.
The stakeholders included the business lobbies FICCI, CII and Assocham, other ministries whose companies had applied for coal blocks and private companies.
Parakh points out that most invitees were not in favour of competitive bidding of coal blocks. As he puts it “not many participants were enthusiastic about open bidding. Their main argument was that the cost of coal to be mined would go up if coal blocks were auctioned.”
Parakh suggests that assuming that business men bidding for coal blocks (if such a process were to be introduced) would drive up the price of coal to astronomical levels is suggesting that they are stupid. As he writes “Participants at open auctions are hard-headed businessmen with an acute sense of profitability. They do not make irrationally high bids. The price at which coal from CIL[Coal India Ltd] was available would automatically put a cap on the bid amount.”
The industry ultimately resisted open bidding simply because until then they had been getting coal blocks for free. And if something is available for free why pay for it. “To an extent, it was a reflection of corporate India’s aversion to transparency,” writes Parakh.
Nevertheless on August 20, 2004, Manmohan Singh approved allocation of coal blocks through the competitive bidding route. Immediately after this a number of letters written by MPs opposing competitive bidding started coming in. As Parakh writes “This included one from Mr Naveen Jindal who had considerable interest in coal mining.”
This is when Dasari Narayana Rao, the famous Telgu film director, who was the minister of state for coal. entered the scene. As Rai points out in his book “Rao, observed that any change in the procedure for the allocation of coal blocks would invite further delay in allocation.”
As Rao wrote while submitting the file to Manmohan Singh: “It is difficult to agree with the view that Screening Committee cannot ensure transparent decision-making. This alone was not adequate ground for switching over to a new mechanism, particularly when the interests of core infrastructure areas are involved.”
On March 25, 2005, Manmohan Singh “recorded the approval of the cabinet note seeking sanction of the competitive bidding system,” Rai points out. But Rao still did not give up and kept talking about the “cost implications” of the competitive bidding system of allocation of coal blocks. He finally succeeded and on July 25, 2005, it was decided that the coal ministry would continue to allot coal to blocks through the Screening Committee route.
In May 2014 the enforcement directorate slapped money laundering charges against Rao and Jindal. As the PTI reported “The agency, according to sources, has framed the charges after it found multi-layered transactions between the firms owned by Jindal to Rao’s firms based in Hyderabad and “illegal money” was routed for alleged favours given for the allocation of coal firms to Jindal.”
Interestingly Jindal told NDTV that “one of the Jindal companies had lent money to an unrelated company, which in turn invested in a company in which the Mr Rao had a controlling stake.”
Given this, the situation is not as simplistic as Jindal tried to project in his NDTV interview. Also, between the Supreme Court and the CAG it has been clearly established that the Screening Committee route to allot coal blocks was not transparent at all and companies which got coal blocks benefited from this lack of transparency. Given this, it led to the Supreme Court cancelling 204 out of the 218 blocks that had been allocated, including coal mines which were already under operation.
Jindal in his interview also told NDTV that his company won’t be able to pay the fine imposed by the Supreme Court because they hadn’t made a provision for it. The Supreme Court has fined the companies already operating coal blocks Rs 295 per tonne for all the coal that they have produced till now and all the coal they will continue to produce till March 31, 2015, when they need to hand over the mines back to the government. This in a way took care of what Parakh termed as discriminatory. As he writes “The [Screening Committee] system of allocation of captive [coal] blocks offers huge advantage to industries that get coal blocks over those who are not able to get coal blocks.”
Edelweiss Securities estimates that Jindal Steel and Power will have to pay a fine of close to Rs 3000 crore. While the company may not have made a provision to pay the fine, it needs to be pointed out that as on March 31, 2014, the company had a balance sheet size of Rs 74,072.1 crore. Its reserves and surplus amounted to Rs 22,519 crore. It had cash and bank balances of Rs 1,015.28 crore. Further, in the last two financial years it has made a total profit of Rs 4820.5 crore.
Also, let’s calculate the financial benefit arising out of the Gare Palma IV coal block which as pointed out earlier has been operational from February 1999. This coal mine produced 6 million tonnes of coal in 2013-2014 and is expected to produce a similar amount in 2014-2015.
A research report brought out by Kotak Institutional Equities suggests that it costs Rs 600-800 per tonne to produce captive coal. In comparison, it costs Rs 3,500 per tonne to import coal. Hence, imported coal is four to five times more expensive than captive coal.
So the cost of producing 12 million tonnes of coal over a two year period at the upper end cost of Rs 800 per tonne would have been Rs 960 crore. Along with a fine of Rs 295 per tonne this amounts to Rs 1314 crore. Consider the other possibility of importing coal at Rs 3500 per tonne. This would have cost the company Rs 4200 crore. The difference between these two numbers comes to Rs 2886 crore. This calculation just takes the last two years into account. Nevertheless the mine has been functioning for close to 15 years now.
The total fine that the company needs to pay amounts to around Rs 3000 crore. Hence, even after it pays the fine the company would have managed to save a lot of money over the years because it got the coal block for free through a process which wasn’t transparent at all.
In fact, Jindal isn’t the only one protesting. The pink papers over the last few days have been full of quotes criticizing the Supreme Court’s decision to cancel the coal block allocations. But when a process has not been transparent for 20 years, it needs to be cancelled. And when this happens, there are bound to be repercussions, which the incumbents won’t like.
As the American author Upton Sinclair once wrote “It is difficult to get a man to understand something, when his salary depends upon his not understanding it!” The corporates and their lobbies who are coming out against the Supreme Court’s decision are a good example of this.
It needs to be pointed out here that only 40 out of 218 coal blocks are currently operational. Companies, given that they had got blocks for free, seemed to be in no hurry to start production. That wouldn’t have been the case, had they paid for it in the first place.
To conclude, it is worth quoting what Raghuram Rajan and Luigi Zingales write in Saving Capitalism from the Capitalists “Since a person may be powerful because of his past accomplishments or inheritance rather than his current abilities, the powerful have a reason to fear markets…Those in power – the incumbents – prefer to stay in power.” Jindal clearly would have liked that.
The article originally appeared on www.FirstBiz.com on Sep 28, 2014

(Vivek Kaul is the author of the Easy Money trilogy. He tweets @kaul_vivek)

15 February, 2013

KFA and Sahara: How they have damaged capitalism

Vivek Kaul
Capitalism is a bad word these days.
And who made it a bad word? The communists? The trade unionists? Those fired from their jobs? Those who fear they might be fired from their jobs? The politicians? Or simply put you and I?
Well, actually none of the above.
Capitalism has been given a bad name by those who practise it i.e. the capitalists. And the capitalists in this have been helped by the politicians and the other insiders.
In India this role has been played to the hilt by Vijay Mallya of Kingfisher and Subrata Roy of Sahara.
As Raghuram Rajan and Luigi Zingales write in Saving Capitalism from the Capitalists “Throughout its history, the free market system has been held back, not so much by its own economic deficiencies as Marxists would have it, but because of its reliance on political goodwill for its infrastructure. The threat primarily comes from…incumbents, those who already have an established position in the marketplace…The identity of the most dangerous incumbents depends on the country and the time period, but the part has been played at various times by the landed aristocracy, the owners and managers of large corporations, their financiers, and organised labour.”
Lets look at this statement first in the context of Kingfisher and then Sahara. The Kingfisher crisis has been on for sometime now and the firm has not been allowed to fail. In fact last year there was a lot of talk of even the government of India stepping in to rescue the airline. But thankfully, the government which continues to blow up the taxpayer’s hard earned money on Air India, chose not to do so with Kingfisher.
Before that as per an announcement made in April 2011, the banks which had loaned a lot of money to Kingfisher agreed to convert Rs 1400 crore of it into equity at a premium of more than 60%.
Of course with the benefit of hindsight one can clearly say that what were they thinking? At the time of conversion of debt into equity Kingfisher shares were priced at Rs 39.9 and the debt was converted into equity at a price of Rs 64.48. As I write this the share price of the former airline is at Rs 9.56 on the Bombay Stock Exchange (BSE). Interestingly, there are sellers willing to sell the share at this price but there are no buyers in the market. So this price doesn’t really have any meaning. A stock market like any other market needs sellers and buyers to function.
If there are no buyers there is no market. As of December 31, 2012, the State Bank of India, IDBI Bank, ICICI Bank and Bank of India owned 8.78% of the shares of the company. This was down from the 18.78% that these banks along with Punjab National Bank and UCO Bank held as on March 31, 2011, after the banks had converted their debt into equity. So these banks have managed to whittle down their holding in the airline but even with that they may have been left holding onto a stake which is worth next to nothing now. Since the latest numbers as on March 31, 2013 are not available it can’t be said with clarity what stake banks have still left in the airline.
Also, this is only the part that was converted into equity. Over and above this there is Rs 7,723 crore of debt that Kingfisher Airlines still owes the banks. The banks have a collateral worth Rs 5,237 core against the outstanding loans of Kingfisher. Experts remain sceptical on how much collateral, which includes Mallya’s bungalow at Candolim in Goa among other things, the banks will be able to sell to recover their loans.
The basic question that remains is that why would banks convert debt into equity at a premium of more than 60%, for an airline that even then had never made money? The answer probably lies in the fact that most of the banks that had given loans to Kingfisher, with the possible exception of ICICI Bank, were public sector banks. It can be safely said that political pressure was at play. The fact that Mallya is a member of the Rajya Sabha must have helped.
Hence those who Rajan and Zingales call the incumbents i.e. the promoter, his financiers and the politicians kept Kingfisher going, when it clearly was in no position to continue. And we have now ended up with a situation which is clearly messier.
No one in their right mind will now buy the airline given that it would be cheaper and easier to start a fresh airline than clear up the mess inside Kingfisher and re-launch it.
The moral of the story is that while capitalism creates, it is very important to let it destroy as well, otherwise there are costs for the society to bear.
In the aftermath of Kingfisher going bust the Ministry of Civil Aviation does not seem to be in the mood to issue fresh licenses, such is the fear of another airline going bust. Also, when Spice Jet recently cut ticket prices, the Ministry went out of its way to ensure that other players did not match that price. The logic being that if tickets are sold at a lower price there would be more losses, more airlines getting in trouble (read Air India) and so on.
In the process the prospective consumer i.e. you and me, lose out on cheaper tickets and perhaps better service, which would be the case with more airlines in the fray.
And more than anything the employees of the airline who had gone back to work on the assurances of the top management, continue to remain largely unpaid.
If the process of trying to rescue the airline had not been prolonged for so long, things would have been better for everyone concerned, except perhaps the promoter.
Now lets come to Sahara. Sahara is an even more blatant example of why you need to save capitalism from the capitalists. Here is a firm, which has been directed by no less than the Supreme Court of India to hand over more than Rs 24,000 crore to the Securities Exchange Board of India (SEBI) to repay its investors and is not doing so. In fact as an earlier column pointed out Sahara is probably even going against the decision of the Supreme Court. This cannot happen without political support.
In fact till date, politicians who jump at every opportunity to be seen as messiahs of the masses, haven’t spoken a word against Sahara. This is probably also linked to the fact that most politicians run cricket in India by controlling the state boards and the district cricket associations and Sahara remains the biggest sponsor of what was once called the gentleman’s game. As the old saying goes, you don’t bite the hand that feeds you.
Meanwhile the unsuspecting poor of the country continue to handover their hard earned money to Sahara. It is safe to say that Sahara has inspired a whole host of other firms to raise money from the unsuspecting public in India, knowing fully well that even if they do not follow the law of the land, things would just be fine. It also explains to a large extent why pyramid and Ponzi schemes continue to flourish in India. Nobody ever gets punished.
Rajan and Zingales point out that “Those in power – the incumbents – prefer to stay in power.” And in order to do that they tend to go any extent possible. In the process things get messier.
Hence, it is important for firms which are no longer viable to be allowed to fail, and if they are not in the mood to do it themselves, then they the law of the land should ensure that they do fail. As a certain Frank Borman once said “I’ve long said that capitalism without bankruptcy is like Christianity without hell.”
The article originally appeared on www.firstpost.com on February 16, 2013
(Vivek Kaul is a writer. He can be reached at [email protected])