Mumbai: Fifteen months after sweeping regulatory measures, the 7.5 trillion mutual fund industry says it’s staring at a demotivated distribution network, a shrinking portfolio, fleeing funds and bleeding balance sheets.

On the other hand, the capital market regulator said in a note earlier this month that mutual funds have done well to adapt to the new environment.

Contrary view: K.N. Vaidyanathan, Sebi.

The mutual fund industry rejects this, saying the assessment by the Securities and Exchange Board of India (Sebi) was based on the fiscal ended March. Further, incremental changes by Sebi are pushing the mutual fund industry deeper into crisis, according to fund managers and distributors.

Sebi had in August 2009 banned the practice of asset-management companies (AMCs) charging upfront commissions paid to distributors. It has followed this with a series of measures, both formal and informal. A Mint analysis of FY11 earnings declared by some asset managers that are subsidiaries of listed firms shows a sharp decline in profit, with some profitable houses booking losses.

The industry has recorded net outflows of at least 10,463 crore from equity schemes between August 2009 and July 2010. This year, during August and September alone, assets from equity schemes eroded by 10,348 crore, according to the Association of Mutual Funds of India (Amfi), an industry lobby group. Sebi argues that “the absence of entry load has no bearing on outflows".

Gains made last year because of rising stocks should not be construed as industry having adjusted to the regulatory moves, fund managers said. Soaring company profits in the last fiscal sparked a surge in the benchmark Bombay Stock Exchange Sensex to 17,000 levels from 8,000. That surge has continued with the Sensex close to its record high of 20,873 as overseas funds pump in money.

The resultant higher assets under management (AUMs) last fiscal meant higher fees, translating into large profits for AMCs. Also, lower interest rates at the time meant better liquidity.

“Last year’s profitability was extraordinary. It has nothing to do with entry loads," said the chief executive officer (CEO) of a private bank-owned asset manager. “Last year, the average AUM was significantly higher, meaning higher management fees. And in a falling interest rate scenario, liquidity is strong. This year, profits will be significantly lower." The official requested anonymity because of the sensitivity of the issue.

Of five firms that Mint analysed, four saw a decline in profit, despite a conducive domestic equity market. The industry posted a net profit of 936 crore during the last fiscal year, up from 244 crore in FY09, Sebi said.

K. N. Vaidyanathan, executive director of Sebi, said the changes have resulted in efficiency in cost management, which augurs well for the long term, in a 5 October note submitted to the regulator.

Sebi’s optimism is misplaced, according to the industry. ICICI Prudential Asset Management Co. Ltd’s profit fell 67% in the quarter ended 30 September to 15 crore from 45 crore in the year earlier. The drop was because “of a general decline in assets under management for mutual funds," Chanda Kochhar, CMD, ICICI Bank Ltd, said on Saturday.

Kotak Mahindra Asset Management Co. Ltd, another private bank-owned AMC, made a loss of 2.43 crore in the September quarter, compared with a year-ago profit of 19 crore.

Market leader Reliance Capital Asset Management may be also facing challenges. In an August investor presentation, promoter Reliance Capital said profit before tax grew 23% in the first quarter compared with 59% in the fiscal ended March. Average AUMs fell from 1.08 trillion as of June 2009 to 1.01 trillion at the end of June.

IDFC Asset Management Co. Ltd, a subsidiary of IDFC Ltd, saw management fees fall 10% to 65 crore in the June quarter from the year earlier.

Reliance Capital Ltd and IDFC Ltd are yet to declare September quarter numbers.

Birla Sunlife Asset Management Co. Ltd bucked the trend, posting a 50% rise in net profit to 14 crore.

Mint could not ascertain numbers for firms that are privately owned and do not declare mid-year numbers. Analysts said the down-arrow theme was consistent across the industry.

“Investors tend to book profits after a prolonged bear phase. They need handholding from distributors and advisors to stay invested. But distributors have been relatively restrained and this has resulted in heavy loss of investor accounts," said a senior official at JM Financial Asset Management Pvt. Ltd.

According to figures provided by the Amfi, the number of investor accounts in equity schemes fell by 1.68 million between April and September. Leading in this are UTI Asset Management Co. Ltd (292,000 accounts lost), Reliance (281,000) and SBI Funds Management Pvt. Ltd (167,000).

Recent changes have hit profitability, said a marketing head of a private asset manager, who didn’t want to be named. After Sebi banned the entry load, AMCs started levying a penalty (or exit load) on investors if they redeemed investments before a specified period, usually one year. They used the money so earned to incentivise distributors upfront on new sales. Sebi has told AMCs not to charge upfront brokerages to the scheme account or to the exit load account.

They want AMCs to provide for upfront brokerage from their own fees or balance sheet. “Third, is the mark-to-market rule, which came into effect since July," he said. “Many companies are sitting on huge losses on this account alone."

Rajiv Bajaj, CEO, Bajaj Capital Ltd, a national distributor, said fund houses are protesting against Sebi’s diktat on exit loads. “This will put further pressure on upfront commissions, which have hit rock bottom," he said.

“AMCs are representing that it’s an internal matter how they pay upfront commissions within the existing balance sheet as long as they are not charging entry loads."

According to Bajaj, these moves will destabilise distributors who are slowly adjusting to live without loads.

“Distributors have slowly started adjusting to the no-entry load regime. We can do without further changes," he said.