Silver linings

Companies’ efforts to shed fat and collaborate with competitors should be supplemented by relaxation in regulations

By Mohan Sule

The downsides of an economic slowdown are erosion in wealth of investors and squeeze in the margin of companies. Yet a downturn can have its upsides. The correction provides an opportunity to investors who had booked profit on signs of heating or those who were rather late in spotting winners for stock-picking. For companies, it is time to sit back and assess their expansion and diversification. How much of the quest for growth has proved counterproductive by unnecessary dilution of equity or burdening the balance sheet with debt? The lackluster market and high interest rates are triggers for spring cleaning by hiving off emerging businesses and subsidiaries without strategic synergy so as not to drag down the parent. Recently, Bharti Enterprise, the holding company of Bharti Airtel, sold off its entire 74% stake in the insurance joint venture with Axa of France to Reliance Industries. Earlier, Piramal Healthcare divested its formulations business to Abbott Laboratories of the US. The cash so obtained can be either used to reduce debt, for buybacks to improve valuation or ploughed back into the core business. Slump sales become fashionable. The most surprising exit was the decision of the promoters of Ranbaxy Laboratories to vacate in favour of Daiichi Sankyo of Japan mid 2008 as the bull-run was winding down. The process implies lack of sustaining power in face of changing regulatory environment.

It is during sluggish stock movements that the absence of a vibrant mergers and acquisitions market, mainly due to the controlling stake of Indian promoters, is sorely felt. Imagine the benefits to investors of a hostile raid on a company whose returns on assets are mediocre. Investors in telecom stocks would have been out of their misery if a foreign player were to mop up the shares of the 2G scam-tainted companies. In fact, a slowdown also provides a window to promoters to consolidate their holding through creeping acquisitions. In the short term, the move provides support for the stock but, in the long term, makes it illiquid and volatile. The government seems to have realised the importance of free float for efficient price discovery. A minimum 25% public holding is required to stay listed. Going further, the threshold level should be raised to 40% and eventually 51%. This would encourage more foreign portfolio investment and perk up the interest of retail investors. Hard times also see increasing collaborations between companies under pressure from competition. This is gaining traction in the tech sector across countries. Microsoft is working with Nokia to develop the operating system of the latter’s smart phones and tablets. Google has tied up with a host of competitors of Apple including Samsung for its Android operating system. Chip makers, too, are signing up with specific handset makers. In India, promoters of late are realising the benefit of such arrangements. Telecom companies are sharing tower infrastructure.

A year ago, the promoters of East India Hotels invited Mukesh Ambani to thwart ITC’s ambitions.Companies are also leaning to distribute functions that support their core business to others, a phenomenon whose prominent beneficiary has been the tech sector. Even assembly-line functions are now being outsourced for specialisation and efficiency, particularly in the automobile and pharmaceutical sectors. Companies also become innovative to cut costs. The FMCG sector has introduced the concept of trimming package size without sacrificing price to maintain market share while passing on the rising cost of inputs. Some go shopping for distressed assets. Tata Motors swooped on Jaguar-Land Rover early 2008 and is now reaping the dividend of the turnaround. Not only companies, even governments, regulators and central banks can contribute to revive the economy as seen post the Lehman Brothers’ collapse when central banks and governments acted in coordination to inject liquidity and introduce fiscal stimulus packages. Another way is to relax well meaning but stiff regulatory norms to keep the interest of issuers and investors alive in the market. The NDA government encouraged tech companies to list only 10% of equity and appointed a divestment minister to revive the primary market. Sebi recently increased the limit of retail participation in IPOs and FPOs from Rs 1 lakh to Rs 2 lakh. Now the UPA government should temporarily scale back the short-term capital gain tax to 10% from 15% to boost trading volumes. An aggressive divestment program by lining up profit-making PSUs, rather than those in the red, at a steep discount to the market price could be a neat counterbalance to the UPA government’s rural tilt, which has provided fuel for growth as well as for inflation.

Mohan Sule