UK hedge fund challenges government on public sector controls
India’s coal problems are getting worse and are in the news for all the wrong reasons. The industry has been failing the country for years by not maximising the output of efficiently mined coal. As a result, power supplies have been crippled because of coal shortages, and the government has failed to act.
Now the government faces legal action for forcing Coal India (CIL), which it controls, to curb price rises and thus breach its fiduciary responsibilities as a public quoted company – CIL floated 10% of its shares on the stock market 18 months ago. The action, which was initiated today by a London hedge fund, effectively challenges the way that the government uses listed public sector companies for social economic purposes such as curbing inflation, and could upset its already weak programme of public sector share divestment.
Alongside that, the government is accused in a report being finalised by its Comptroller and Auditor General (CAG) of losing an astronomic Rs10.6 lakh crores ($210bn) by allocating blocks in the highly corrupt industry to private sector companies without competitive bidding.
These two sets of charges provide yet another example of how India – and in particular the current government – is failing to cope with the ramifications of running a fast-moving globalised but still semi-controlled economy in an increasingly corrupt environment.
The industry is dominated by CIL which produces 80% of supplies. Private sector players, mostly power companies, have entered the business in recent years. Many of them however are less interested in producing coal than in blocking activity at their mines till prices rise. Either way, India has not been getting the coal it needs, and some power generators’ coal stocks have been down to just a few days supplies.
The stock market issue arises from CIL’s highly successful $3.5bn flotation in 2010 of a 10% equity stake, which brought in its first outside shareholders including foreign financial institutions.
Since then, CIL has been seen internationally as a good stock, which contrasts sharply with its reputation in India as a slow and inefficient public sector organisation that fails to meet the country’s needs. Its chairman and top executives have enjoyed being feted abroad in the past 18 months, but the international view is now changing because neither the government nor CIL has faced up to the implications of a public sector company’s responsibilities to maximise profits for its shareholders.
Children’s Investment Fund Management of the UK, a hedge fund which has a 1%-2% equity stake and is CIL’s largest shareholder after the government, is accusing the management of failing in its fiduciary duty because it has accepted “unreasonable and unlawful directions” from the Government on pricing. CIL sells its coal at 40-70% below market prices and recently accepted a government directive to cancel a price increase.
The government appears to have brushed the criticisms aside, and Alok Perti (right), the government’s secretary for coal, is reported to have said that the fund could sell its shares if it isn’t happy.
That may be because risk factors mentioned by CIL in its 2010 share prospectus warned that the government’s interests as the controlling shareholder “may conflict with your interests as a shareholder”, and that the coal price it charged “does not fully reflect market prices of coal in India or in international coal markets”.
CIL has however suddenly become more cautious and has refused, since the fund started its attack, to agree to a request last month from the Prime Minister’s Office (PMO) to sign 20-year fuel supply agreements with power producers. These agreements would bind it to deliver at least 80% of the contracted coal, and make up any shortfall on the 80% with imports that would probably cost up to 50% more than Indian coal. Reports suggest that independent directors on the board recently opposed the move because they knew that the coal delivery target could not be achieved. The board is believed to be reconsidering the demand tomorrow (March 28).
Chris Hohn (right), chief investment officer of the Children’s hedge fund, which makes large donations to charity, is an internationally known activist shareholder. He has hit headlines for several years with demands for companies in various countries including Japan and Germany to change their practices. In a television interview yesterday, he accused CIL of “an illegal breach of their fiduciary duty”.
This raises important issues for the conduct of partially privatised public corporations, but the problem is not new. Pradip Shah, who runs Mumbai-based IndAsia Fund Advisors wrote four years ago that, “faced with opposition protests on price rise, the central governments have been bottling inflation by asking oil companies to subsidise petroleum products for the consumers”. This meant that public sector oil companies that had 20% to 45% of their equity floated on the stock market were then losing over $120m a day on government orders.
It has taken an international hedge fund to blow the whistle. Significantly, that has been possible because of India’s right to information legislation. Hohn bases his charges on documents exchanged between Perti and the CIL board – documents that in past years would have remained confidential.
What the government now needs to do is obvious. Firstly it should set up an overall energy regulator (not just a coal regulator which government is considering) to preside over supplies in all energy sectors including items such as the allocation of mining licences and pricing. It should also rationalise its subsidy arrangements so that public sector corporations can maximise their profits while the poor are catered for separately.
Sadly, the chances of this government making such policy leaps are slim, as has been seen in so many other areas over the past three years.