Mumbai: Huge personal loans taken by promoters of publicly traded companies against their equity holdings have raised concern among some large investors, who are seeking a regulatory probe and appealing for a mandatory disclosure of such discreet transactions.
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At least 12 senior executives from large foreign and local brokerages, non-banking finance companies (NBFCs) and investment banks say the amount of such loans outstanding is $4-5 billion (Rs19,520-24,400 crore).
The shares pledged as collateral, typically three to four times the loan amount, could be upwards of $15 billion, according to these executives, none of whom wanted to be identified because of the sensitivity of the issue.
Interestingly, many such transactions were done offshore, with the Indian promoter pledging shares with foreign lenders, mostly large European banks. The money raised was brought in through the so-called hawala route, an informal remittance system that operates outside traditional banking channels, and also through the accounts of non-resident Indians (NRIs), said these executives.
The offshore loans were largely facilitated by some of the so-called elite wealth management units with global expertise. The promoters of a south India-based developer pledged shares with two Swiss banks and used NRI accounts to bring in the money, said two executives who didn’t want to be named.
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The onshore players in this business include GE Money Financial Services India Ltd, Citi Financial India Ltd, Standard Chartered Investments and Loans India Ltd, Indiabulls Financial Services Ltd, Cholamandalam DBS Finance Ltd and the NBFC arms of some of the brokerages and banks such as Edelweiss Capital Ltd, India Infoline Ltd, ICICI Bank Ltd, Kotak Mahindra Bank Ltd, DSP Merrill Lynch Ltd, Religare Enterprises Ltd, JM Financial Ltd and Motilal Oswal Securities Ltd.
These firms, along with a few other NBFCs, have given the bulk of the loans to promoters, who largely used the proceeds to increase their own shareholding and buy personal and corporate assets.
IL&FS Trust Co. Ltd, a subsidiary of Infrastructure Leasing and Financial Services Ltd, and IDBI Trusteeship Services Ltd, a unit of IDBI Bank Ltd, also hold some pledged shares as depositories on behalf of lenders.
Institutional investors, mainly foreign hedge funds, could take a bearish view on stocks of companies where promoters have raised huge debt pledging their equity. This could weaken the prices of such stocks and also hurt overall sentiment towards Indian equity markets.
In the past few weeks, Mint has collected the details of about 35 companies whose promoters have pledged shares with lenders. These, however, cannot be named, because there is no material evidence to prove these transactions. “An increasingly obvious risk (in India) is that entrepreneur-dominated companies are vulnerable because of heavy personal borrowing by these entrepreneurs against their own share prices,” said Christopher Wood of CLSA Asia-Pacific Markets, an influential hedge fund strategist in Asia, in his 15 January Greed and Fear report.
Bharti Shipyard Ltd recently loaned Rs200 crore to Vijay Sheth, the managing director of Great Offshore Ltd, against a pledge of shares after he came under pressure from lenders from whom he had borrowed earlier to buy his stake in the firm. Bombay Rayon Fashions Ltd had to sell some of its assets to repay Barclays Bank Plc. Realtors such as Unitech Ltd, Omaxe Ltd and Akruti City Ltd were among other companies whose promoters paid up part of their loans as lenders threatened to liquidate the shares pledged as collateral.
“All other disclosure requirements that apply to insider purchase and sell activities should be extended to pledging and loaning of shares,” analysts Nilesh Jasani and Arya Sen of Credit Suisse Securities (India) Pvt. Ltd wrote in their 12 January India Strategy report.
Investors and analysts are now demanding that any ownership change in even unlisted subsidiary companies must be announced on the day of the transaction rather than annually as is the practice now. “Ideally, companies should immediately disclose any financial market transaction over a certain amount,” the Credit Suisse report said.
While the Securities and Exchange Board of India, or Sebi, could make it mandatory for promoters to disclose transactions where shares are pledged or loaned, the regulator may not be able to unearth material relating to offshore transactions, which are non-disclosure bound.
Indian company owners had borrowed heavily during the boom years, pledging their personal equity as collateral. The Sensex, India’s most tracked equity index, recorded a sevenfold increase between 2003 and the start of 2008. The sharp 40% slump in the index between mid-January and mid-March 2008 triggered margin calls, with lenders asking clients to top up collateral.
The first casualty was reported in April, when Religare Enterprises Ltd sold shares pledged by K. Raghavendra Rao, the promoter of Orchid Chemicals and Pharmaceuticals Ltd. The Sensex plummeted between mid-September and end-October, in line with stock markets across the world, hit by the US financial turmoil. It lost about 40% during this period, plunging to its year’s low.
After the mid-September collapse of Wall Street investment bank Lehman Brothers Holdings Inc., the global financial system plunged into an unprecedented liquidity crisis as banks froze lending and launched an aggressive effort to recover loans.
In December, DSP Merrill Lynch sold all the shares pledged with it by B. Ramalinga Raju, the founder of Satyam Computer Services Ltd, who on 7 January confessed to cooking the books of the company to the tune of Rs7,136 crore and was arrested. IL&FS Trust and Cholamandalam DBS liquidated realtor Unitech’s shares.
Typically, local NBFCs charge around 20% or more interest on loans against pledged shares, and the interest rate and the repayment schedules are structured in accordance with the creditworthiness of the borrower and the firm.
“The business relationship with the client and his company in investment banking and lending activities are also considered while structuring the loan,” said the head of a large Indian NBFC. Many loans are structured as monthly instalments, while some are quarterly and half-yearly, said this NBFC executive.
During the last quarter of calendar 2008, some firms struggling to refinance debt had pledged promoter equity to raise loans, reversing the bull-market trend in which such loans are deployed to raise shareholding. According to two senior executives at large foreign investment banking units in India, there could be many M&A (mergers and acquisitions) situations emerging in 2009 involving companies whose promoters have pledged shares.