How Trustworthy Is The Unit Trust Of India?

All unitholders are jumping with joy after UTI announced a dividend of 20 per cent on US-64, the flagship scheme, not only of UTI but also of the mutual fund industry. Last year, UTI had come under a heavy spate of criticism since it was, for the first time in its corporate history, alleged to have slashed the dividend from as much as 26 per cent to 20 per cent. All financial analysts, almost without an exception, appeared to be hell bent on condemning UTI and find as many pegs as possible to hang their criticism on. They conveniently ignored the 1 : 10 bonus. They also definitely overlooked the preferential and rights issues doled out in the recent past (See Table-1).

Throughout the current year, many doubting Thomases incessantly predicted that UTI will be forced to reduce the dividend from the current level of 20 per cent because it is not doing well, is facing some kind of a liquidity crunch, its income has nose-dived and its ability to play in the market has hit the bottom. The fear psychosis instilled by such analysts resulted in US-64 sales dipping to Rs 1,600 crore, followed by repurchases increasing to Rs 2,300 crore.

On the other hand, the overall sales of all the schemes put together increased by 11 per cent to Rs 9,100 crore. Across the board, repurchases decreased by as much as 63 per cent. The total investible funds with UTI have increased to Rs 58,000 crore from Rs 56,620 crore.

Way back in 1978, I had started my career in journalism by writing a piece entitled, `Unit Trust not Trustworthy when I found that UTI deviated from the statutory requirement of distributing 90 per cent of the income earned. Mr G S Patel, the then chairman, requested me to come to his table and explained that UTI was creating a dividend equaliser reserve to ensure that in future, UTI never faces the problem of reducing the dividend, if and when the market conditions deteriorate.

This is the practice normally followed by all companies and accepted by the shareholders without any qualms. I fail to understand the hue and cry raised when UTI started to use this reserve for the very purpose it was created.

His wisdom was vindicated when UTI, for the first time in its history, faced this problem last year. It had to dip into its reserves to the extent of Rs 1,200 crore because of adverse market conditions. Even then, it increased the dividend to 34 per cent by way of 20 per cent cash and a bonus of 1:10! This year, it has used only Rs 200 crore out of this fund.

Last year, almost all financial papers carried big and bold headlines screaming at UTI for having reduced the dividend. I kept wondering whether there was an ulterior motive behind this hue and cry, or whether these analysts really failed to understand the actual effect of dividend paid as bonus. I was so appreciative of the idea of a bonus that I almost wished UTI had declared the entire amount as bonus!

Bonus paid by MFs, particularly for open-ended schemes, is a different species from the bonus paid by companies, even when the companies would be allowed buy-back. In the near future, the difference would be narrowed down, but still the gulf would be discernible. A unit holder has the option of redeeming the bonus units with UTI itself. At the other end of the pendulum, he can buy additional units from UTI out of the cash dividend.

Those who need the money badly are always welcome to encash their bonus units (it is better to submit old units for repurchase to save tax on capital gains in view of the cost of acquisition of bonus being required to be taken as nil) and would get the then repurchase price of Rs 1.35.

This, taken along with the dividend actually paid of Rs 2.00, would work out to Rs 3.35. In other words, UTI actually paid 33.5 per cent for those who needed immediate cash and 34 per cent for those who preferred not to encash the bonus entitlement.

Let us examine it from another angle. Suppose UTI had actually paid Rs 3.40 and the unit holder had decided to retain Rs 2.60 and buy further units out of the remaining amount. It should be evident that the bonus is ipso facto dividend.

Last year, UTI was expected to pay 26 per cent, but all unit holders got 8 per cent extra. This year, UTI paid 20 per cent only. Would I be terribly wrong in claiming that UTI maintained the dividend at 26 per cent for 95-96 and 6 per cent in advance for 96-97 and a further 2 per cent for 97-98? I fervently hope UTI would raise the dividend to at least 24 per cent and maintain its record of not having reduced the dividend at any time.

I was surprised to find UTI itself announcing, ``This implies a dividend of 22 per cent on the pre-bonus capital of US-64. Yes, all the old unit holders, especially those who have purchased units before 1992, have benefitted immensely. All this is commendable and creditable.

Using the reserves

For the second consecutive year, UTI has dipped into its reserves to pay the dividend. I appreciate this gesture. Though there is no intrinsic or implicit promise to pay an assured rate of return, UTI is morally and socially bound to give as much as, if not more than, the dividend of the previous year. If UTI had an Asset Management Company (AMC), it would be drawing the funds from the assets of the AMC.

The other MFs who are forced to make good the deficit in their income vis-a-vis their pre-launch promises from the assets of their AMCs are put on the mat. Now, possibly in the wake of the CRB scam, SEBI has banned the launch of all new schemes unless specific permission is given by SEBI and in actual practice, it appears to have put on hold all approvals and withdrawn those which were on the anvil.

The cost in terms of time, energy and effort invested by the MFs in the preparatory work has now gone down the drain. Who suffers? No one cares to know. Very unfortunate indeed, especially when the liquidity of investible funds is at its peak. The very investors, whose interests SEBI is supposed to protect, will shift over to risk-ridden avenues like greenfield projects, chit funds, timeshare resorts, etc., which come under no regulatory bodies. Are we heading towards another scam? I wonder...

Equivalent rate

If UTI maintains status quo, is it worthwhile purchasing the US-64 units now, at the special sale price of Rs 14.00? This price will be hiked at the beginning of each subsequent month. These hikes are essentially income equalisers to enable UTI to pay the same dividend to all unit holders without reference to date of purchase.

The dividend is 20 per cent on the face value of Rs 10. i.e., Rs. 2.00 per unit. You can no longer buy units at their face value. The extra special offer price is Rs 14.00 and at that level, a unit holder effectively gets a return of 14.29 per cent. Personally, I am not attracted though the unit holders must have heaved a sigh of relief because they had unwarrantedly lost their confidence in UTI. Even if the market rate is falling, the only reason for the existence of UTI is to give better returns than the market, to its unit holders. UTI had reached a level of around 16 per cent from 91-92 onwards (See Table-2). Well, as I observed earlier, I sincerely hope that UTI will pay at least 24 per cent next year.

Next time, we shall examine all the other connected features, especially the effect of having a repurchase price lower than the sale price.

Even if the market rate is falling, the only reason for the existence of UTI is to give better returns than the market to its unit holders