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The dark horse
A courtroom drama in India's telecom sector, why the new Production Linked Incentive scheme may actually work, and office romance now comes with a twist
This is edition 102 of Beyond The First Order, a premium daily newsletter that demystifies the hidden models, incentives and consequences of the most significant events across India and Southeast Asia
A courtroom drama in India's telecom sector, why India's new Production Linked Incentive scheme may actually work, and slow death of office romance
A 🔒 paid newsletter that demystifies the hidden models, incentives and consequences of the most significant events across India and Southeast Asia. Someone sent you this? Subscribe to BFO
Good morning.
In today’s BFO, Indian telcos play out a drama that starts with blind optimism, introduces a mysterious stranger, and ends in court. Next, we look at India’s new Production Linked Incentive scheme… and why it actually might be working. And finally, the debt crisis at coal power plants, and two tales of love lost. One of those is WeWork. The other, office romance.
The dark horse
Rohin
India’s telecom sector was once rife with competition and competitors. At its peak, it had over a dozen mobile operators. Experts said it wasn't possible for so many players to exist sustainably in a capital-intensive, long-term sector like telecom. India told them (and itself) that the nascency and size of its 1.3 billion consumer market would prove them wrong.
In short order, India’s telecom sector imploded due to over competition, dirt cheap tariffs, and sky-high spectrum and license fees.
One of the telcos that went belly up was Aircel, which, at its peak, was India’s sixth-largest operator with nearly 85 million subscribers.
By the time it went bankrupt, it owed over Rs 20,000 crore (US$2.7 billion) to its creditors.
But last year a hitherto little-known company emerged out of nowhere to buy Aircel for a mere Rs 150 crore (US$20 million) and then offered to pay creditors 10-15% of what they were owed.
That company was called UV Asset Reconstruction Company Ltd, or UVARCL.
In January, UVARCL stunned India’s telecom sector again when it bid Rs 16,000 crore (US$2.1 billion) to acquire Reliance Communications (Rcom), and a subsidiary. Rcom was India’s fourth-largest operator with over 110 million subscribers.
Between Aircel and Rcom, UVARCL had not just acquired companies with nearly Rs 100,000 crore (US$ 13.4 billion) in debts. But also companies that had no chance in hell to compete against Jio, Bharti Airtel, or Vodafone-Idea, the last three private operators left standing.
The creditors of these companies knew it too. Which is why they were willing to accept atrocious “haircuts”.
The Haircuts
The way bankruptcy works in India’s modernised process is that financial creditors (those who lent money) get precedence over operational creditors (those who are owed money for their services).
The new owner of a bankrupt company then negotiates a drastically lower repayment to former creditors, called a “haircut”.
When financial creditors who have priority for repayments, see haircuts of 85-90% on what they were owed, the chances of operational creditors getting anything are next to nothing.
Guess who’s an operational creditor to both Aircel and Rcom?
Indian taxpayers.
India’s Department of Telecom claims billions of dollars from both operators as revised license charges for their most valuable asset.
Their spectrum.
The Asset
Spectrum was bankrupt Aircel’s only remaining asset.
Aircel's most coveted asset is its 4G spectrum in the 900 Mhz, 1800 Mhz and 2100Mhz bands in the Andhra Pradesh, Delhi, Karnataka, Mumbai, Rajasthan and Tamil Nadu circles, which are valid until 2026. The operator had previously told the NCLT that the spectrum was worth Rs 1,100-2,000 crore. But that value has been fast diminishing as expiry approaches and the government planning to auction 4G airwaves by September-October, said people familiar with the matter.
Spectrum was also bankrupt Rcom’s most valuable asset.
As for its bid for Anil Ambani's telecom assets, UVARC feels that although RCom has lost most of its customers, a substantial amount can be recovered by selling spectrum in 14 of India’s 22 telecom circles.
Earlier this year, UVARCL chose to not rule out the option of running a new telecom company in India with Aircel in hand, and possibly RCom joining the ranks. But according to a source, UVARCL may choose to sell RCom’s spectrum assets at a later stage, with Jio possibly being one of the buyers.
In both of these cases, the arbitrage opportunity that lay between what UVARCL paid for the bankrupt companies and what it offered to pay their creditors was the value of the spectrum Aircel and Rcom held.
Without spectrum, there would be next to nothing.
Next to nothing was what the Indian government and taxpayers stood to get for their unpaid license fees on the same spectrum.
Next to nothing was what Reliance Jio, India’s youngest and largest telco, paid as backdated license fees for the spectrum it held. It paid Rs 195 crore (US$ 26 million) last year, a rounding error compared to what rivals Airtel and Vodafone-Idea were on the dock for (Rs 35,586 crore (US$4.8 billion) and Rs 53,038 crore (US$7.1 billion) respectively).
But Reliance Jio had also been using some of Rcom’s most valuable spectrum since 2016.
The Travesty
It would be a “travesty” if rivals are made to pay each other’s dues, said Reliance Jio on Monday in front of India’s Supreme Court.
The company’s plaintive cry was in response to the Supreme Court asking the government a simple question that sent everyone helter-skelter. If bankrupt telcos (e.g. Aircel and Rcom) are not paying the government its spectrum dues and if their new owners (e.g. UVARCL) aren’t either and if the telcos that have rented that spectrum (e.g. Jio), then who is? Who will pay the Indian taxpayer the Rs 31,000 crore (US$4.1 billion) that Rcom alone owed it?
The Supreme Court Friday sought the details of spectrum sharing pact between Reliance Communications (RCom) and Reliance Jio and said as to why the company using the spectrum of the other firm cannot be asked to pay the Adjusted Gross Revenue (AGR) related dues to the government.
Spectrum is a government property, not private, and anyone using it is liable to pay the dues, the apex court said.
How did the value of Rcom’s assets dip from Rs 35,000 crore before bankruptcy to just Rs 10,000 crore (US$1.3 billion) afterwards?
“How has the value depleted? Where have the assets disappeared?,” the court asked.
If telcos were bankrupt, creditors were getting haircuts, and taxpayers getting their heads shaved entirely, who could be making money?
Who decided on the haircuts, the court asked. UVARCL did, said the lawyer representing Rcom.
And who is backing UVARCL, the dark horse we began this story with, the court asked on Monday.
Senior advocate Harish Salve, appearing for Reliance Jio said that RCom insolvency was triggered by Ericsson. Salve informed the SC that UVARC, the top bidder for RCom, is not fronting for anyone. Reliance Jio has submitted that they are not interested in bidding for Reliance Communications. UVARC’s equity comes from public sector banks and public sector insurance companies.
There’s a strange symmetry in this entire tale. Rs 100,000 crore was the amount owed by Aircel and Rcom to their creditors. And Rs 100,000 crore has been the amount Reliance’s Jio Platforms has raised in an awe-inspiring sprint this year.
Could it be that India’s top court and its government wants some of that money to flow into its taxpayer’s coffers?
The PLI isn’t old wine in a new bottle
Nithin
Samsung to move part of its manufacturing to India. India to be Apple’s alternative export hub.
These were the headlines after the government introduced a new Production Linked Incentive (PLI) scheme to offer financial incentives to manufacturers in certain sectors such as mobile phones to manufacture and export from India.
But wait, haven’t we heard these stories of how India will be the new manufacturing destination for the world before?
Well, like how Make in India blended into Atma Nirbhar Bharat, the new clarion call for self-reliance, Remission of Duties or Taxes on Export Products (RoDTEP) along with PLI is the new version of the Merchandise Exports India Scheme (MEIS). And the good news is that initial signs show that it's working and that it’s an improvement of its earlier avatar.
The MEIS, which rewarded exports from India in the form of subsidies to manufacturers, was introduced in April 2015 to promote exports. It had lofty ambitions—an export target of US$900 billion by FY20.
But aside from the government’s liability under MEIS ballooning from Rs 20,000 crore (US$2.9 billion) to about Rs 45,000 crore (US$6 billion) in 2019-20, it didn’t do much to aid exports, as the chart shows. This, despite the Indian rupee actually falling in value by ~20% during this period. Theoretically, a depreciating currency helps a country’s exporters.
One of the problems with the MEIS, which was a merger of five schemes, was that it wasn’t tailored to the specific needs of a particular sector.
“Gradually, the scope of the scheme got widened. The country differentiation was removed and MEIS rates were liberally increased. Over a period of time, MEIS was given at rates varying from 2-20 per cent.”
Govt favours diverting MEIS funds to PLI schemes in select sectors, Business Standard
Basically, its resources were spread too thin. The scheme also ran into trouble at the World Trade Organisation (WTO).
With the introduction of the RoDTEP and PLI, the aim is to identify sectors in which India has competitive advantages and provide incentives to promote manufacture and export.
After all, electronic imports are the second-biggest line item after oil, with 8.5% of its GDP spent on electronics. More manufacturing in the country, along with exports, could change the growth equation quite significantly. Especially with companies looking to diversify their supply chain out of China.
The 4-6% incentives of the PLI is on incremental sales with the base year being the year ended March 2020. So only after crossing a certain threshold of sales will the incentives kick in.
So far, 22 firms, both Indian and local, have applied to produce under this scheme. This production is estimated to be worth Rs 11.5 lakh crore (US$154 billion) over five years, of which Rs 7 lakh crore (US$94 billion) will be exported.
The reason it seems to be on track is that enough singular research has gone into understanding what works and doesn’t work for the mobile phone sector. This includes a comparison of electricity costs, labour costs, working capital costs, and research and development subsidies versus Vietnam and China.
As the government proposes to expand the scope of the PLI scheme to more sectors, including air conditioners, television sets, chemicals, furniture, and toys, they would do well to follow a similar approach. Learn the lessons from the failed MEIS scheme and ensure that at least this policy doesn’t get diluted or given a rebranding in the future.
Accounting term of the year
Nithin
WeWork, the global coworking company, is no stranger to introducing new accounting terms.
In 2018, it was ‘community adjusted’ EBITDA which ‘subtracted not only interest, taxes, depreciation, and amortization, but also basic expenses like marketing, general and administrative, and development and design costs.’
And now as part of a memo by Chief Financial Officer Kimberly Ross, they’re announcing ‘free cash outflows’. This is a euphemism for cash burn, or how much of its capital the start-up is actually spending on regular operations.
The metric of ‘free cash outflow’ is markedly different from ‘free cash flow’ which WeWork had stated as a goal to achieve by 2022. Free cash flow is a financial number that’s very popular with investment analysts. It shows how much cash a company actually has after accounting for future capital expenditure on expansion. That’s a true measure of financial health, which WeWork might want to pay closer attention to.
Another accounting hack thanks to the pandemic was the introduction of EBITDAC, which is earnings before interest, taxes, depreciation, amortisation, and coronavirus. Yes, companies wanted to tell their shareholders that without the impact of coronavirus, their earnings would have been quite spritely.
Wonder what other precious jargons companies are going to use to throw off stakeholders.
The bug in India’s bad loans recovery plan
Seetharaman
In March 2017, the Indian government identified 34 stressed coal-fired power projects with a total installed capacity of over 40 GW. They were in trouble for a variety of reasons, ranging from coal supply issues to aggressive tariff bids. Loans to the tune of Rs 1.8 lakh crore (US$24 billion) were at stake.
Fourteen of those projects, with a total installed capacity of 16.5 GW, got a new lease of life, mostly through debt restructuring and new owners. But the pandemic had other plans for them.
A recent evaluation of stressed assets in power sector showed that most resolved projects are facing problems in debt servicing due to inadequate cash generation from operations.
“EBITDA (earnings before interest, tax, depreciation and amortization) of many of the resolved projects continues to be low and they may not be able to meet their debt obligations,” one of the lenders told ET on condition of anonymity. “Lack of long-term power purchase agreements, drop in electricity demand pre and post Covid, lack of coal supply arrangements are some of the factors responsible for the low earnings...”
Resolved power assets can't service debt as Covid-19 pandemic has reduced demand, The Economic Times
The fourteen projects have a debt of Rs 70,000 crore (US$9.4 billion). The ramifications of Covid will also complicate the ongoing resolution of twelve other projects that are on the hook for Rs 90,000 crore (US$12 billion) of loans.
And lenders’ woes extend beyond power projects to include insolvency proceedings under the Insolvency and Bankruptcy Code (IBC), according to credit rating agency ICRA.
"The financial creditors could realise about Rs 60,000 crore-Rs 70,000 crore in 2020-21 through successful resolution plans from the IBC as compared to about Rs 1 lakh crore realised in FY2020," the domestic rating said in the report.
Realisation for financial creditors from resolution of stressed units may be lower by 40 per cent..., The Economic Times
With India’s bad loans as a percentage of total advances in March 2021 expected to be the highest in more than two decades, lenders are operating on a wing and a prayer.
Swipe right on online dating
Prasannata
She caught him gazing at her in the meeting room. But so were 20 other people on the Zoom call. Welcome to the pandemic-era office “romance”.
Relationships burgeoning in conference rooms and over coffee machine gossip are already declining. In 2017, only 11% of heterosexual people met their partners in the workplace compared to 19% in 1995.
And now with virtual offices, this trend is set to decline even further.
“One reason for the decline is that companies have realised that work relationships give rise to all kinds of ethical questions. The idea of a boss marrying his secretary (or a doctor dating a nurse) is one of the oldest clichés around.
[...]
As the #MeToo movement has demonstrated, some men use their positions of power to harass women who work for them.”
Relationships between managers and subordinates can cloud the latter’s objectivity. Some workplaces have policies that discourage romantic relationships of all sorts. McDonald's CEO Steve Easterbrook was fired last year for having a consensual relationship with an employee.
In this new world, where you take smoke breaks by yourself and drink with office colleagues over a Zoom call, you could try online dating for some emotional bonding.
That’s a wrap for today.
Don't forget to write in with your thoughts and observations on how this pandemic is reshaping businesses, societies and economies. We will be back tomorrow.
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