Renowned columnist Swaminathan SA Aiyar recently argued that Hindenburg Research's report may be the best thing that ever happened to Adani. "It will slow his speed of diversification and expansion, and force his financiers to be diligent and cautious in the future. This could impose highly desirable financial discipline on Adani to his own benefit", wrote Aiyar. In the month and a half since the report, Adani has cancelled Adani Enterprises’ FPO and backtracked on some of the planned projects and acquisitions. He has also paid back a big chunk of the loans against pledged shares of group companies.
Stakes in some of the companies were sold to Florida-based fund GQG Partners and the group has held roadshows abroad to quell investor anxiety. In other words, the Hindenburg report may turn out to be that one tight slap that might save Adani – provided the allegations of fraud are false.
But is the impact of the Hindenburg report confined to just Adani and his lenders and investors? It could reach well beyond the Adani group and may lead to structural and systemic changes strengthening the Indian economy and our financial system.
Sword of Hindenburg
From now on, any corporate with its shares listed on stock exchanges and every corporate accessing capital markets through public offer will have the sword of Hindenburg hanging over their heads. If the third richest in the world and the richest in Asia can be targeted and humbled, can anyone be immune? If the one perceived as the blue-eyed boy of the current Prime Minister can be at the receiving end, is anyone else safe? This sword of Hindenburg will deter conmen and prompt those who access the markets to be ethical and transparent. Thus the fear of a fraud-exposing short seller will force an improvement in corporate governance from now on.
But what if the allegations of a short seller turn out to be false and a genuine promoter and other shareholders suffer as a result? This should be something that the finance ministry, markets regulator Sebi and corporates should ponder over.
A tale of two institutional investors
The SBI Employees Pension Fund was one of the anchor investors for the cancelled FPO. Anchor investors are supposed to be those with great expertise in assessing business prospects and the valuation of companies. And investment by anchor investors is supposed to be the signal for other ‘lay’ investors to ride the pillion. But the lowest subscription for the FPO was from retail investors followed by mutual funds. Most mutual funds avoided Adani Enterprises when it was available months before for a fraction of the FPO price and much lower valuations. And some of those mutual funds were growth funds with a mandate for aggressive investments. So should a pension fund, which should be conservative, invest in such an aggressive manner at record prices and valuations? Retail investors are viewed as impulsive while institutional investors are thought to be deliberative and contemplative. Was SBI Pension Fund deliberative or impulsive here?
Then there’s LIC, who was sitting on 100%-plus profits on its Adani investments before the report. LIC did not sell those shares to book profit and on top of that was an anchor investor for the FPO. Last week, LIC top management met with the Adani group and the LIC chairperson said they are more confident about the business prospects of the Adani group post the meeting. If the business prospects are good, it implies the company will be profitable. And as long as a company remains profitable, its debts will be paid back.
But LIC is an equity investor and not a lender. Even when a company is profitable and its lenders are repaid, there is no guarantee that equity investors will make a profit. Equity investors get back their money and earn a profit when it sells the shares to others who value them higher. So if LIC has already overpaid for the stock, it may incur losses if others value those shares lesser. What the LIC chairperson specifically didn’t say is whether Adani group's business prospects are good enough to fetch a higher valuation for its investments in the group.
And this probing and scrutiny will be a lesson for all institutional investors; and another positive for Indian financial markets
India’s dependence on foreign investments
India spends more foreign exchange than it earns and the shortage has to be met through foreign investments. And a sizeable chunk of foreign investments is through the stock markets. The credibility of audited accounts and good corporate governance are a must to attract foreign investments. Sebi is doing a good job but there’s always scope for improvement. And the Finance Ministry will be forced to ensure that foreign investors’ somewhat negative sentiment towards Adani doesn’t spill over to the broader markets.
Banking, insurance and pension fund regulators
Bank loans and insurance/pension fund investments to Adani is attracting greater scrutiny post the report. A higher degree of scrutiny on large corporate loans will make banks more accountable and RBI too will look into the regulatory architecture to find and fix weak spots, if any. Insurance and pension regulators, IRDAI and PFRDA respectively will be forced to ensure that investments of insurers and pension funds match the risk profile of their ultimate beneficiaries, policyholders and pensioners.
But sectoral regulators should also ensure that too much scrutiny doesn’t make bankers, insurers and pension funds completely risk averse, fearful of accountability
Preempting a short seller research report, auditors, regulators, lenders and investors will demand more information; corporates will turn more transparent; corporate governance will improve; checks and balances will be strengthened; conmen will be deterred. Will the Hindenburg report be the vaccine that produces all these antibodies? That’s the hope.