Mumbai: Tata Sons chairman-designate N. Chandrasekaran’s true test will be when he shuts down the loss-making businesses of the group and is able to get away with it, says Aswath Damodaran, professor of finance at the Stern School of Business, New York University. Mint caught up with Damodaran when he was in Mumbai to speak at a seminar organised by Duff & Phelps. Edited excerpts from an interview:
You have written in your blog that Tata Consultancy Services (TCS) accounts for 70% of the group valuation. Now that TCS CEO Chandrasekaran has been appointed as chairman, how do you view it?
I think at least partially, it is recognition that this is a group that is driven by what happens at TCS and that, to me, was always the biggest danger from Mistry; the entire fiasco is that that spilled over to TCS. There goes your crown jewel, right there!
From that perspective, I think it is a step in the right direction. The fact that he is not part of the family is another step in the right direction. You know what will be the final step?
I want him to do something that the group doesn’t like. Close down part of the traditional, historic part of Tata group that is not doing much for the Tata group anymore but has a long history; something that a family member would have never done but somebody from outside the family would have done saying, “This is a drain on our business."
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At the moment, the cosmetic effect looks good. It looks like an outsider, looks like somebody coming from that part of Tata group that is less burdened by history. But I think the final step is, can he take actions that are going to rock the board and be able to get away with it?
TCS is subsidizing big parts of the Tata empire right now and Chandra knows exactly… he is aware of it.
From the point of view of TCS shareholders, have they killed the golden goose?
Not yet. They have injured the goose but...it’s still a very profitable company. It’s been damaged by this fiasco. I think it’s fixable, it’s not beyond the point of redemption. There is some healing which needs to happen, both in terms of internal management because clearly there was something going on which was not healthy, and between the company and its investors. I think they (Tata Sons and Mistry) have damaged that relationship significantly by going through the process in the open as they have.
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What are the corporate governance lessons from the Tata-Mistry feud?
The biggest lesson is that as an investor, invest in simple companies rather than these complex holding companies. Because any time you invest in a complex holding company, this is one of the prices you pay—you have very little control over process because of the holding structure. The entire mix is such that I can be a big stock holder in a Tata company and not have any role in its running because of the holding structure. In many of these family group companies, the holding structure was designed to protect control. That is really the incentive which keeps the structure going. Simpler companies are better investments than complex holding companies. Simple holding structures are easier to value than more complex holding structures. That’s the big corporate governance lesson. Let’s keep it simple.
You have also written that the Tatas should separate public companies from private companies. What exactly did you mean?
As an investor, my biggest problems are these cross-holding structures. There are inter-company transactions that happen all the time, not necessarily for bad reasons but because you have transactions. If you have private and public companies and your range of holdings vary, here’s what I worry about: even if you are an honest family group, when you do inter-company transactions, how do I protect myself from you moving profits from your public entities into your private entities. Anybody who has done transfer pricing knows that the essence of the game often is moving profits legally from one entity to another and I am completely unprotected if your private and public entities are all part of the same group. I would much rather that there be that separation because at least I can see that transactions happen and price them in if the transactions work against me.
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Do you think listing Tata Sons would help?
I am not sure it will. It will give you another number to watch every day. Listing is just going to make the price of Tata Sons, but it is not going to make any issues go away.
You said TCS was subsidizing the other firms in the group. Isn’t another way of looking at it that Tata Sons is acting like a private equity investor?
I think the difference is that the private equity investor is never going to let his most profitable companies subsidize. He might use capital from the most profitable to invest in the smaller companies, because he wants to make them more valuable. That’s not the case at the Tata group. It’s not like Tata Steel and Tata Chemicals are growing companies. They are mature companies. And I hate to say this—they are businesses that are at the end-part of their life cycles; these are not businesses which are going to make huge returns. TCS is your most dynamic company, it’s the company with the most investment opportunities. If you are going to extract capital from there and put it in the airline business—I don’t know why anybody in the world will want to go into the airline business, it’s one of the worst businesses to think of—that doesn’t strike me as capital allocation with a purpose in mind.
What do you think of the $30 billion invested by Reliance Jio? How has it affected the telecom space?
I think that Reliance, at least in this dimension, is using what I call the Field of Dreams model. You must have seen the movie. The keyword is if you build it, they will come. Basically, they are saying, we will build volumes first and the profits will come. It might not be that bad a strategy. They are using the fact that there are a billion people, the numbers are driving this math. If you look at the pricing, if you try this in a smaller market, you will go bankrupt. It is built on the proposition that once the numbers are there, then you can find a way to make profits. I wouldn’t bet against them at this stage. They might be able to pull it off because the numbers are there on the ground.
But I think it is a high-risk strategy. We are not at a steady state in telecom yet, the technology is still shifting. What if they use all the money and build this expensive technology and then find that the technology becomes obsolete. That is the risk I worry about. It’s not a steady enough business to be able to go and build that kind of model at least from my perspective.