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The public sector and governance risk

The public interest and the interest of shareholders have different sets of considerations and the objectives and results will therefore also be in conflict. Although one can only guess what the considerations might be for the government to propose to appropriate half of the income from the IRCTC’s convenience fees (a cumulative of Rs 300-400 crore at best), we suspects that the railroads may have sought out his pound of flesh to facilitate convenience at its end. And while from a business-to-business perspective it might have been fair negotiation, from the perspective of the public shareholders who invested in the company with 100% of the cost, it seemed nothing less than a betrayal of the share of the state.

And this has triggered immense volatility in the stock, which is also an important development that cannot be ignored.

The practical sideshow

What stinks about the whole IRCTC getaway is the way stocks have moved and burned the wealth of many innocent retail investors. The stock, which peaked at Rs 983 on October 28, plunged to a low of Rs 639.45 on October 29 after receiving the government’s cost-sharing order. It came back to Rs 845.70 at closing. That’s a 35% drop in value from top to bottom and a 32% recovery from there. It is not normal volatility. In addition, it is with over Rs 12,000 crore in turnover over the two sessions.

In such a brutal move, there will always be winners and losers. What has this gained is the big question. And this is an issue that the market regulator, SEBI, must investigate, not an issue to be swept under the rug. If there is even a suspicion of inside information, it should be treated severely.

The public good risk

India has seen several sectors open up to private competition and public sector monopolies have suffered every time this has happened. Doordarshan, BSNL and MTNL are prime examples of SOEs that have been hit hard by private assault.

It also raises the question of why train reservations should remain the exclusive domain of a public company. If you can book an Air India plane ticket on a MakeMyTrip, EaseMyTrip or ClearTrip, how about a train ticket? Any economic model based on an exclusive right, liable to be recalled, is therefore flawed. Remember, MTNL used to find a place in many wallets. Not today.

Public policies and profit motives are likely to have divergent approaches, and therefore the government’s stated goal of not wanting to be in the business of running businesses is appropriate. As the conflict between public good and shareholder rewards often leads to destruction of value, not creation.

A look at the numbers of 43 listed companies in the non-financial public sector reveals some interesting facts.

Erosion of public wealth

The debt of the 43 public sector companies has grown at a compound rate of 9.7% since the end of fiscal 2013, after which the current government took over, while their net worth grew at a slower pace. by 5.8%. The cash and bank balances of these entities also declined at a compound rate of 5.7%, although dividend payouts hovered around 100% and the gross block (fixed assets) continued to grow at around 7%. . All this even as sales grew only 1.6%, while operating profits rose 5.8%. The bottom line: The combined market capitalization of these companies has only increased by 0.02%, as of March 31, 2021. It’s not something to brag about when it comes to shareholder return. In fact, if you adjust for inflation, the returns are deeply negative.

Key financial data 8 year CAGR (up to FY21) 7 year CAGR (up to FY20)
Gross sales 1.64% 2.67%
PBIDT 5.57% 3.68%
net value 5.77% 4.50%
Total debt 9.69% 9.60%
Raw block 6.96% 5.86%
Cash and bank -5.66% -8.60%
Total assets 6.49% 5.67%
Operating cash flow 13.17% 5.75%
Market capitalization 0.02% -3.82%

The government’s policy of getting public sector companies to pay out “excess” cash through dividends and buybacks is likely to have contained growth in net worth and depleted cash balances while pushing them to squeeze out cash. ” take on more debt to meet investment needs.

The public sector and governance risk

Free cash flow was also on a downward spiral, for the most part, barring a strong recovery in FY21 fueled by strong profitability at oil marketing companies. And given the uninspiring sell path, the market has not been kind to investors despite healthy dividends – more geared towards increasing the chessboard.

The public sector and governance risk

What is also telling is the steadily deteriorating returns on capital employed and net worth of these companies collectively. What was previously a healthy number is now at risk of falling below profitability levels.

Key ratios FY21 FY20 FY13
ROCE (%) 13.7 15 20.3
RONW (%) 12.7 10.7 15.5

Incentives generate profits

At the heart of government decisions are many considerations other than profit. Thus, the public good can probably, more often than not, outweigh the need for profit. There is therefore a conflict between public governance and corporate governance. And what works for the company isn’t always the best thing for shareholders.

In this context, while the sale of “non-core” assets by public sector companies and the extraction of that value to fund social sector schemes would seem like a noble idea. This monetization of the “hidden” reserves of public sector companies may not always be in the best interests of long-term shareholders who seek to stay invested beyond the largesse of dividends.

In light of this, the government’s decision to undertake strategic divestments is a good thing, as it will allow the private sector with a clear business motivation to run businesses with only business considerations in mind. And while there may be opportunities for value creation gains in such strategic divestment entities, as a rule, I am more comfortable seeking to profit from gains in shares of private companies that do not arise. are committed to increasing shareholder wealth.



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