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Corporate Feb 16, 2013

KFA and Sahara: How they have damaged capitalism

By 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 you and me?

Well, actually none of the above.

Capitalism has been given a bad name by those who practise it - i.e. the capitalists themselves. And the capitalists in this have been helped by the politicians and the other insiders. In short, by cronyism.

In India this role has been played to the hilt by Vijay Mallya of Kingfisher and Subrata Roy of Sahara, not to speak of many others who be operating in the shadows.

AFP

Capitalism has been given a bad name by those who practise it. AFP

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."

Let's look at this statement first in the context of Kingfisher and then Sahara. The Kingfisher crisis has been on for some time 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.

It is only this week that the lenders are even talking about pulling the plug on 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 1,400 crore of it into equity at a premium of more than 60 percent.

Of course, with the benefit of hindsight one can clearly ask 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 suspended airline was less than Rs 10 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 31 December 2012, the State Bank of India, IDBI Bank, ICICI Bank and Bank of India owned 8.78 percent of the shares of the company. This was down from the 18.78 percent that these banks along with Punjab National Bank and Uco Bank held as on 31 March 2011, after the banks had converted their debt into equity. So these banks have managed to whittle down their holdings 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 31 March 2013 will be available only after a while, 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. Apart of the collateral constitutes the Kingfisher brand, which is certainly much diminished in value.

The basic question that remains is why would banks convert debt into equity at a premium of more than 60 percent, 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. Note also, that in 2012, ICICI Bank as a private lender sold off all its remaining loans - it is thus not saddled with any excess bad loans. That can't be said of the public sector lenders, who are sitting on all the bad loans.

Kingfisher was kept going by those whom Raghuram Rajan and Zingales call the incumbents - i.e. the promoter, his financiers and the politicians. The airline has not been in a position to continue, and we have now ended in a situation which is even 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 licences - such is the fear of another airline going bust. Also, when SpiceJet 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 Kingfisher 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 let's come to Sahara. Sahara is an even more blatant example of why you need to save capitalism from the capitalists - even those who masquerade a "inclusive" bankers concerned about employment for the our millions. 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 gullible 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."

Vivek Kaul is a writer. He can be reached at vivek.kaul@gmail.com

by Vivek Kaul

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