Thursday, January 31, 2008

The Case for an Indian SWF

Background
Sovereign wealth fund (SWF) is a fund owned by a state composed of financial assets such as stocks, bonds, property or other financial instruments.

Sovereign wealth funds are, broadly defined, entities that can manage the national savings for the purposes of investment.

The accumulated funds may have their origin in, or may represent foreign currency deposits, gold, SDRs and IMF reserve position held by central banks and monetary authorities, along with other national assets such as pension investments, oil funds, or other industrial and financial holdings.

These are assets of the sovereign nations which are typically (but not necessarily) held in domestic and different reserve currencies such as the dollar, euro and yen. The names attributed to the management entities may include central banks, official investment companies, state pension funds, sovereign oil funds and so on.

SWFs are typically created when governments have budgetary surpluses and have little or no international debt. This excess liquidity is not always possible or desirable to hold as money or to channel it into consumption immediately. This is especially the case when a nation depends on raw material exports like oil, copper or diamonds. To reduce the volatility of government revenues, counter the boom-bust cycles' adverse effect on government spending and the national economy or build up savings for future generations, SWFs may be created. One example of such a fund is The Government Pension Fund of Norway.

Other reasons for creating SWFs may be economical, or strategic, such as war chests for uncertain times. For example, the Kuwait Investment Authority during the Gulf war managed excess reserves above the level needed for currency reserves (although many central banks do that now). The Government of Singapore Investment Corporation is partially the expression of a desire to create an international financial center. The Korean Investment Corporation has since been similarly managed.

Case for establishing an Indian SWF
As opposed to forming an SWF from foreign currency reserves or budgetary surpluses, it is instead suggested that the Government of India’s shareholding in various Public Sector Undertakings (PSUs) or government companies should form the corpus of the Indian SWF.

There are three broad categories of PSUs which are owned by a plethora of Government ministries or departments, namely Manufacturing or Extraction based companies, Trading or Services companies, and lastly, Financial services companies (including SBI, public sector banks, LIC, etc.). Many of these are wholly owned or have been partially listed. All of the Government’s holdings can be transferred to the Indian SWF, and which would then constitute the single directly owned government company.

Additionally, enterprises that are hitherto not corporatised, could be corporatised, and then transferred to the Indian SWF. This has been undertaken in the past for creation of Bharat Sanchar Nigam Ltd – BSNL, created out of the Dept of Telecom, and could be considered for Indian Railways, Indian Postal Services, etc. Similarly, in the financial services sector, statutory corporations could be corporatised, and the special statutes repealed – these would include the LIC Act, GIC Act and the two Bank Nationalization Acts, SBI Act & SBI (Subsidiary Banks) Act DICGC Act, etc. As again, this has been undertaken in the past for IDBI and IFCI, whereby the statutes by which IDBI and IFCI were created were repealed, and the two institutions incorporated as companies under Companies Act, 1956.

Objectives in forming an Indian SWF can be: de-linking PSUs / government companies from direct government oversight, support & budgetary allocations, and requiring market orientation & discipline in terms of raising capital or debt resources, corporate governance, creating value for government/taxpayers, unlocking value by part divestment and re-channeling proceeds to national priorities (including national employment guarantee scheme, healthcare & education).

Such an enterprise could also partner Indian or multinational companies in establishing Greenfield projects that create employment, enhance competition & creates consumer demand.

Utilizing & harnessing strategic legal options
Under the Companies Act, 1956, there are two modes through which a company is treated as a subsidiary of another –
(a) By ownership of more than 50% of the equity OR
(b) By ability to appoint majority of the members of the Board of Directors.

If the Indian SWF is constituted as a company, and owns the PSUs/government companies, it can undertake value creation/unlock value at two-levels: it can require changes to the Articles of Association of such PSUs/government companies that give the Indian SWF the right to appoint the majority of the members of the Board of Directors of these PSUs/government companies.

With such an ability, public offering (or follow-on offering, where the PSU/government company is already listed) or private placement to strategic/financial investors of upto 70% of the equity of the PSU/government company can be undertaken without diluting the control over such companies.

At the second level, the Indian SWF can divest upto 49% of its equity in a public offering or by private placement to strategic/financial investors.

Illustrative list of PSUs/government companies in each of the above three categories:
· Manufacturing or Extraction based or Energy companies: Indian Oil, Hindustan Petroleum, Bharat Petroleum, ONGC, Steel Authority of India Ltd, National Thermal Power Corp, Gas Authority of India Ltd, Bharat Heavy Electricals Ltd, Bharat Earth Movers Ltd, Hindustan Aeronautics Ltd, HMT,
· Trading or Services companies: National Aviation Co of India (Air India, Indian Airlines, Air India Express), Bharat Sanchar Nigam Ltd, Mahanagar Telephone Nigam Ltd, Delhi Metro Rail Corporation, Konkan Railway Corporation,
· Financial services companies: State Bank of India group, Punjab National Bank, Bank of Baroda, Canara Bank, Bank of India, Indian Overseas Bank

The Indian SWF would hence come very close to resembling Temasek – itself a creation of the Government of Singapore & which began with originally with a portfolio only comprising of Singapore government owned companies, and today has an internationally diversified portfolio, valued in excess of USD 100 billion.

The Indian SWF can be subject to oversight by Prime Ministers’ Office / Cabinet Committee on Economic Affairs, and it (or the PSUs/government companies owned by it) would not have any other oversight by any other Government ministry or department. It (or the PSUs/government companies) could of course remain subject to regulatory oversight, e.g, RBI or SEBI as applicable.

Relevant News Articles
Sovereign fund may boost India's wealth
31 Jan, 2008, 0002 hrs IST,Deepshikha Sikarwar, TNN
http://economictimes.indiatimes.com/Economy/SWF_may_boost_Indias_wealth/articleshow/2744474.cms

NEW DELHI: While Sovereign Wealth Funds (SWF) owned by big Asian economies invest in assets the world over, Indian policymakers too are looking at whether the country needs to float such a fund. The finance ministry is planning to set up a committee to examine the pros and cons of an Indian sovereign wealth fund.
An SWF essentially helps governments get better returns on the excess foreign exchange reserves they accumulate. Singapore, for instance, earns over 20% annually by deploying its SWFs in diversified assets abroad. India earns less than 5% by investing its forex reserves in US treasury bills. In times of excess capital flows, the return becomes negative as it pays higher than 5% interest rate in sterilising excess dollar flows.
Within the government, at present, there are strong views for and against the country setting up an SWF. The thinking in support of the view has gained momentum after the country’s next-door neighbour China floated a $200-billion SWF, China Investment Corp, in September.
Those arguing against the fund say China is building its corpus from current account surpluses while India remains a current account deficit country. Although setting up an SWF may not be possible immediately, the government wants to begin the groundwork for such a move in future, sources told ET. The committee would also look at what kind of structure would be best for the country if it floats an SWF. It may be pointed that finance minister P Chidambaram recently ruled out any proposal to set up an SWF.
However, the idea of SWF could gain momentum once foreign exchange reserves increase well beyond $300 billion. The country’s foreign exchange reserves stood at $266.55 billion at the end of December.
Those who support the move feel the country could earn better returns if it floats such a fund. However, even as the country debates whether it should have an SWF or not, some SWFs have forayed into the country to reap benefits of its booming economy. Singapore government’s Temasek and Abu Dhabi Investment Agency have been present in the country for some time though the Chinese SWF is yet to make a formal entry into India.
India’s public sector companies emerged as big gainers of the booming stock market during 2007. LiveMint,com December 26, 2007
Save for a few hiccups, such as the resignation of Prahlad K. Basu as chairman of Board for Reconstruction of Public Sector Enterprises (BRPSE), the public sector units, or PSUs, saw a slew of partial sales and listings on bourses.

Even with less than four dozen in number as listed entities, the PSUs account for some 20% share of the overall market capitalization of the more than 4,000 entities at the bourses. In actual terms, led by Oil and Natural Gas Corp. Ltd and NTPC Ltd, total market capitalisation of the listed PSUs was Rs14.5 trillion toward the end of the year. ONGC was the largest contributor with a market cap, nearly 17% of the total PSU market cap. NTPC’s share in the PSU market cap is about 13%.
MMTC Ltd soared and traded as high as Rs56,931 before coming back down to Rs28,143, still well above its 52-week low and, along with NMDC, entered the Rs2 trillion market cap club. The government holds more than 98% stake in the companies.
But this came along with a turf battle among the top listed PSUs—NTPC and Bharat Heavy Electricals Ltd (Bhel), backed by their ministries. NTPC wanted to recreate another Bhel, either on its own or with a partner, to ensure that it gets all the machines and equipment for its upcoming power projects. But Bhel opposed it strongly, saying it had the capability to meet the national demand and there should be no duplication at the cost of national resources. The outcome of this turf war would be known in the future.
Meanwhile, the government gave more powers to the state-owned entities, creating more of the so-called Navratna and Mini-ratna entities, and increasing their decision making powers.
Bharat Electronics Ltd, Hindustan Aeronautics Ltd and Power Finance Corp. were conferred the Navratna status, giving them more financial and administrative powers. With the conferment of the coveted status on these three firms, the Navratna club now has 12 public sector enterprises. The status enabled the three PSUs to forge joint ventures in India and abroad, which can be up to 15% of their net worth or Rs 1,000 crore, whichever is lower, without taking prior permission of the administrative ministry. Besides, the board also has powers to decide on merger and acquisitions.
Heavy Industries minister Santosh Mohan Deb said four PSUs—National Aluminium Co., NMDC, Power Grid Corp. of India Ltd and Rural Electrification Corp. —would be given Navratna status when they appoint independent directors.
The financial autonomy package announced on the basis of the recommendations of the empowered committee, headed by Nitish Sengupta, left very little to desire for the PSUs to acquire competitive age within the country but also hone up skills for global exposure and acquisition.
Steel Authority of India Ltd and Coal India Ltd are globe trotting for mining prospects, while oil giants—ONGC and Indian Oil Corp. Ltd, Bharat Petroleum Corp. Ltd and Hindustan Petroleum Corp. Ltd made new alliances with global players like steel tycoon Lakshmi Mittal or acquire oil equity in Russia or far off Africa.

Beating India Inc in market game, PSUs also fought for turf
NEW DELHI: It is sheer destiny that the public sector emerged as the single largest gainer of the booming stock market during 2007 but the government as the owner also empowered these temples of yesteryears to go global and regain the pristine glory even in a liberalised economy.

Save for a few hiccups, like resignation of Prahlad K Basu as chairman of Board for Reconstruction of Public Sector Enterprises or search for independent directors, the PSUs seem to have overcome their worst with the UPA regime unleashing a programme of part-sale of entities for listing on bourses. Even with less than four dozen in number as listed entities, the PSUs account for over 20 per cent share of the overall market capitalisation of the more than 4,000 entities at the bourses. In actual terms, led by ONGC and NTPC, total market capitalisation of the listed PSUs was over Rs 14,55,000 crore, possibly prompting government to go for more listings.
ONGC was the largest contributor with a market cap of Rs 2,45,082 crore as on November 23. The oil major represented 16.84 per cent of the total PSU market cap. NTPC's share in the PSU market cap is 13.41 per cent at Rs 195,087 crore.
It may be difficult to believe, but an unheard of company in the stock markets - MMTC Ltd - emerged as the most valuable company at the BSE, toppling ONGC, and being quoted at Rs 40,500 along with NMDC Ltd with a share price of about Rs 16,000. The two companies, in which government holds more than 98 per cent stake, entered the coveted Rs two trillion market cap club, becoming most coveted PSUs after ONGC. Shares of NMDC surged three per cent in November to close at Rs 15,834, taking its market cap to Rs 2,09,261 crore, while MMTC gained five per cent to end at Rs 40,460 with a valuation of Rs 2,02,301 crore. But this came along with a turf battle among the top listed PSUs -- NTPC and BHEL, backed by their ministries. NTPC wanted to recreate another BHEL, either on its own or with a partner, to ensure that it gets all the machines and equipment for its upcoming power projects. But the market leader in equipment opposed it tooth and nail, saying it had all the capability to meet the national demand and there should be no duplication at the cost of national resources. The outcome of this turf war would be known in future, but the redeeming feature of the year for the public sector is that the government kept on adding muscle to the state-owned entities. Not only did it create more Navratna and Mini-ratna entities but also increased their decision making powers.
Bharat Electronics Ltd, Hindustan Aeronautics Ltd and Power Finance Corporation were conferred the Navratna status, giving them more financial and administrative powers. With the conferment of the coveted status on these three companies, the Navratna club now has 12 public sector enterprises

1 comment:

Umakanth V said...

Thanks Pramod for that interesting idea. Setting up an entity that holds the Government's shares in PSUs will enable the holding entity to operate on commercial terms with better returns to the Government. Apart from Temasek in Singapore, there is also the example of China. The Chinese state-owned enterprises (SOEs) have been undergoing restructuring, corporatisation and disinvestments similar to the Indian PSUs over the last few years. Interestingly, China has established the State-owned Assets Supervision and Administration Commission (SASAC), an entity that now holds all the shares of the Central Government in SOEs. It operates as a single-holding company on behalf of the Government for all SOEs. Although the SASAC seems still tightly subject to government-control (more than perhaps what one would desire for a similar Indian entity), it may be worth examining the Chinese model as and when a holding company structure is considered in India.