Spic trouble 'n (Green)span views

S. Vaidya Nathan

CREDIT-rating agencies usually act late because they tend to ignore the warning signals.

This has been the case in India as well as abroad and is equally true of the ratings for companies and countries. For instance, the downgrade of Southern Petrochemicals Corporation Ltd's (SPIC) debt instruments to default grade by the rating agency, CARE.

The company had earlier defaulted on its payment obligations on foreign loans. Now, interest payments on some non-convertible debentures (NCDs) and principal payments on a particular NCD series have been missed. All this, indeed, points to precarious cash flows. More than the problems of operating in a difficult industry, the SPIC case highlights the pitfalls of massive intra-group investments.

For instance, SPIC's loans and advances and investments in subsidiaries, group companies and joint ventures total close to Rs 875 crore. And a sizeable portion of this is in companies where the operations are yet to start/stabilise. SPIC had a gearing of 3:72 as of March 2000. Even if one ignores the specific aspects highlighted by the relentless marking down in the valuation of the stock over the last five years (see graph), two aspects stand out from the macro perspective.

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One is the imperative for companies to present consolidated accounts. Not that SPIC's excessive loans and investments were not evident by themselves. But a consolidated picture would, especially in the case of many family-owned businesses, give investors and lenders a much better picture of the reality. Not so long ago, two of the top names in the world Indian institutions cited SPIC as a bluechip. But trouble was brewing and the market had taken note of it. SEBI must, thus, insist that companies provide a consolidated statement at the group level, covering all loans and investments made by any listed company in the group to other listed/unlisted entities. This should also be accompanied by an explanation for a financing action and provide indications on the likely pay-offs.

The second aspect is that rating agencies too seem to be in the dark about the large intra-group transactions. Obviously, the warning signals were not heeded.

Clearly, the SPIC instance -- as also other cases such as of the Essar group -- highlights the risks facing lending institutions that have massive exposures to such companies once rated highly. No wonder the market is still sceptical about ICICI, IDBI and IFCI which have made large loans to such companies. With the economically-sensitive sectors in difficult times again, after one year of better showing, lenders and investors may be in for some nasty surprises. Perhaps, the best early-warnings system is the stock price, as the market has consistently priced-in the problems before they became public.

Electronic finance

The improvements in computers, telecommunications and the Internet are changing the financial markets and the world of finance in general. In this context, the views expressed by the US Federal Reserve Chairman, Mr Alan Greenspan, in a speech on `Electronic Finance' at the recent financial markets conference are interesting. Here are some of the interesting observations from the speech:

*``It has never proved wise for policy-makers to try to direct the evolution of markets, and it strikes me as especially problematic at this juncture. Policy-makers should not, and cannot, forestall the process. They should and can facilitate it.''

*``The structure of our equity markets is extraordinarily dynamic; hardly a week goes by without the announcement of a new trading venue or the trumpeting of an enhancement to an existing system.''

*``None of us can anticipate which of these venues will have the combination of services that best meets the needs of investors. That can only be revealed as competition establishes winners and losers.''

*``Change often engenders controversy because entities currently earning above-market rates of return owing to dominance over a segment of a market will seek, not unexpectedly, to protect those returns.''

*``As policy-makers seek to make competition itself more effective, one area in which endeavours could well prove fruitful is enhancement of the transparency in markets.''

*``The Securities Industry Association's efforts to compress the settlement cycle for US corporate securities from T+3 to T+1 deserve support and encouragement.''

*``The shorter settlement cycle would significantly reduce counterparty credit risks by reducing the number and value of trades awaiting settlement and by reducing the potential for losses from those unsettled trades should a participant default.''

*``Declining costs of information will reduce some of the uncertainty that gives rise to financial risks.''

*``Some institutions inevitably will suffer erosion of their franchise values as competitors, new and old, prove more adept at tapping the potential gains from the new technology.''

*``Supervisors and regulators themselves are not at risk of creative destruction, the effectiveness of their approaches may well be impaired, if not marginalised. In responding to these challenges, the authorities would do well to heed the advice offered to the medical profession and, first, do no harm. Equity markets will inevitably shift capital from the losers to the winners. In most cases, the losers will fade away without placing any burdens on their creditors. But some undoubtedly will fail. This is a tendency that should not be resisted.''