From debt to equity: Why are India's 'national champions' changing tack?

Among reasons for the shift could be higher cost of servicing debt, bond holders' risk awareness making roll-over option expensive at the time of repayment, and reputation issues, writes T N Ninan

Hindenburg Research’s short-selling attack on the Adani group has had the unintended but salutary effect of making wannabe “national champions” (large business groups with plans to invest heavily in line with government plans and incentives) more conscious than before of the dangers of fuelling their ambitions with excessive debt. Gautam Adani, Hindenburg’s target, has been busy these past few weeks re-building confidence in his group by hastily repaying debt. The Vedanta group’s Anil Agarwal, on his part, talks now of achieving zero-debt status by repaying over Rs 1 trillion in the “medium term”. Mukesh Ambani did that three years ago with a rush of equity deals that helped him pay off debt totalling Rs 1.6 trillion. But Mr Adani’s debt mountain is much bigger, having been assessed at Rs 3.39 trillion, though he himself quotes a substantially lower figure.

Getting rid of debt quickly is not easy. Mr Agarwal’s recent bid to merge two zinc producers in his control (in order to release idle capital) has been blocked by the government, which has a minority stake in one of the companies. Mr Adani has managed to repay all debt given against pledged shares, but debt holders have been asking for additional share pledges as group share prices have fallen. So it has helped that secondary market investment by an Australian group has boosted his share prices.

So equity has replaced debt as the new name in town. This may reflect the increased cost of servicing debt because central banks have jacked up interest rates. This, plus bond holders’ heightened awareness of risk, could make a roll-over option expensive when the time comes for repayment. Then there are the reputation issues. Repaying debt could forestall credit-rating downgrades. Players in the global market do not like to see the paper they hold getting marked down by 30 per cent and more — a development that provoked at least three international banks to declare that they would no longer accept Adani paper. But reputation issues go beyond that, as Mr Adani found when Total, the French energy giant, walked out of a proposed joint venture project.

Some of this may be just as well. Many will recall how an earlier generation of ambitious, debt-hungry businessmen launched outsize projects, only for those to get mired in unrepayable debt, and the businessmen to go belly up, as market realities changed. The broader economy paid the price as bank balance sheets took the hit on a scale that left the financial sector blighted for half a decade. This time the reins have been pulled in before that story could get repeated. One should probably be grateful to Hindenburg for a timely shot across the bow, even if all the allegations in its report may not be correct.

That leaves the question of how mega-ventures will be funded, for much of India’s ambitions in green energy, semiconductors, telecom, defence, and transport infrastructure depend on a handful of these national champions. Both Reliance and the Tata group have comfortable cash flows, but it should be obvious that Mr Adani will have to re-visit his multiple investment plans across a broad swathe of industries. Indeed, he has already ducked some investment opportunities post-Hindenburg, and may well be disinvesting rather than investing. One must wait to see whether Vedanta, which has tied up with Foxconn for a semiconductor project, is similarly forced to forgo some of its plans. The JSW group on its part has debt which, net of cash and near-term receivables, has been assessed at over Rs 1 trillion. This is reckoned to be manageable, but it leaves little headroom for still more debt.

This suggests that India needs a broader base of national champions. Many companies have improved their debt-equity ratios in recent years, but are they big enough to handle mega-projects? If not, the government may have to rely on the public sector to take up the bit. The difficulty here is that capital investment funded through the Budget is already high, and there is no wiggle room for investing still more public money without the fiscal maths going seriously wrong. In the end, some plans may simply have to be re-visited.