How to raise Rs 2.5 lakh cr without selling PSUs

Bonus debentures pertain to capitalising the reserves and issuing debt as opposed to equity to the stakeholders, Approximately Rs 1,75,000 crore or $25 billion can be generated by the government in this fiscal without touching fiscal deficit and without trying to sell undervalued PSU equity, says N Jayakumar, MD, Prime Securities.

You have been making a point to various stakeholders about how the PSU space can be rebooted. What is this idea of bonus debentures which you have been sharing with the stakeholders?
There are pockets of opportunities which can be looked at from the perspective of the government being able to raise a fair amount of funds. So focusing on PSU bonus debentures as a concept. Now what is bonus debenture? Usually, the reserves of a company are capitalised, which means you reduce reserves and issue equity share — that is the concept of a bonus issue of equity shares. What we in Prime Securities are talking about is capitalising the reserves and issuing debt as opposed to equity to the stakeholders.

The concept is that you are issuing the underlying company’s debt. If you take a basket of stocks like Container Corporation, ONGC, NTPC, many of them are underleveraged companies. We have identified 13 such companies. All of them are AAA corporates and all of them have a headroom for reducing reserves and increasing debt without the rating getting affected. That is a very important point. We do not want the corporate rating to get affected. If you add up what we have recommended across these 13 companies, we come to around Rs 2.5 lakh crore or $32.5 billion and issuances worth that can happen.

For income tax purposes, bonus debentures are treated as dividends. A board action followed by NCLT approval and each of these companies can issue debt without affecting corporate rating and issue approximately two-and-a-half crores based on the set that we have taken of debt instruments maturing over eight-nine-ten years and carrying a coupon of 5.5%-6-6.5%. This basket effectively becomes income in the hands of the recipients.

In the PSUs, the average government holding is about 60%. So approximately one-and-a-half lakh crores or $20 million dollars can become income which straight away reduces fiscal deficit or put differently, gives actual cash because those debentures can be sold off very easily. For the balance 40%, lakhs of shareholders are recipients of Rs 2-2.5 lakh crore of debt instruments. There are two avenues of income from a government perspective. One is the direct receipt of Rs 1-1.5 lakh crore and the other is the tax of 25% approximately. The balance Rs lakh crore which is held by retail individuals, mutual funds, FIIs, insurance companies, etc.

So approximately Rs 1,75,000 crore or $25 billion can be generated by the government in this fiscal without touching fiscal deficit and without trying to sell undervalued PSU equity for which in any case there are limited takers for as evidenced by high dividend yields. A fair amount of leverage is added to an anti-leverage balance sheet, the ROE improves and the interest that they pay these PSU corporations are tax deductible. The interest payments are tax deductible over the life of the bond.

All PSUs have a different ROCE, different equity profile and a different equity base. So, how will this apply universally?
It does not apply universally. You have to identify. This is a concept. Many of the PSUs have become instruments that throw out some cash as a result of a near monopoly position that they occupy but that cash is really not being redeployed. More importantly, the balance sheets are underleveraged. Here is a methodology whereby the government effectively gets these corporations to add some debt which means responsibility and accountability is added on these balance sheets.

The individual boards have to take this call based on the visibility of the income streams over the next eight, ten years, use a fraction of that to basically load the debt on without affecting corporate rating. Effectively they are borrowing from the future earnings paying off to the government. The government has been talking about a central government deficit. Many people have argued that state government deficits should be added.

This is a useful way to juice out efficiencies from PSU by doing nothing. There is no regulation change, no tax change. Imagine lakhs of individuals holding these equities suddenly get payouts between 30 and 80% of the market cap in the form of debentures and where do they go to sell these debentures? Banks have eight lakh crores, overseas institutions are hungry for AAA assets, debt assets.

“The bonus debentures is a concept used by private equity guys the world over. It is called the dividend recapitalisation scheme.”

— N Jayakumar

The government and the RBI have been wanting to develop a corporate debt market since 1985. Till today nothing has really happened. There is a development of the equity market because there are participants and there is AAA, AA papers available in the equity market. Similarly, for the corporate debt market, suddenly Rs 2.5 lakh crore worth debentures available to individuals who may want to trade, This then becomes a deeply liquid and an extremely efficient alternative to parking money in fixed deposits and for banks to park money in these corporate debt as opposed to RBI. This will reassign the liquidity in the system and if we dig deep, we can do a Rs 5 lakh crore worth of bond issuance. Even the private sector may follow this.

The bonus debentures is a concept used by private equity guys the world over use. It is called the dividend recapitalisation scheme. All they say is we are coming into this investment for six, eight years but if there is a cash build up that happened in two, three years, they tell the company you will leverage yourself up if you have leveraging ability, use the cash etc and give us interim payouts. That is one way to accelerate the returns. This is an international concept and I personally believe the government would find itself on the front pages of Wall Street Journal and New York Times for just looking at a corporate finance solution to a problem that seems absolutely unable.

Imagine the government telling the Reserve Bank of India we do not need your monetisation beyond Rs 50000 crore, the rest we will raise through this route. This is a smart way of generating income and I am not even saying what should happen to this money once they raise it. But literally the entire Rs 1.5-2 lakh crore can be monetised within three months. Do a Bharat Bond ETF. Imagine holding 6% AAA government paper. It is a very low hanging fruit but because it is a corporate finance solution, people have not realised it. Just to put things in perspective, NTPC has done a bonus debenture issue in 2014 of Rs 10,000 crore, it was never followed up. I think it was a test case.

The other people who have done bonus debentures include Dr Reddy’s, Britannia which has done three issuances; Hindustan Lever which has done one or two issuances and NTPC. The AAA underleveraged corporates have done it. Why can’t we just extend this argument? Since it is under the government. they can get it fast tracked to give 30-day clearances for PSUs. And if that were to happen, between now and March 31, we could be talking about the government being able to spend Rs 2 lakh crore without depending on anyone, including the RBI.

For equity investors, what is in store from PSU banks?
There are two sides to this. PSU banks will keep requiring capital. The only way is maybe to convert this to maybe one SBI and three, four other large banks which is what the merger seems to be doing. Every other PSB needs to be privatised and sold and very simply put, if the government is indeed keen that there should be no more than three or four players in any one space, the others need to be sold out.

As far as other PSUs are concerned, what I am suggesting is the only sales of equity they need to do because this PSU basket is so undervalued that you should start increasing payouts through ideas like the PSU debentures and do strategic sales.

In fact, if something out of the box were to come through in the government thinking on the PSU space, that the basket could get rerated 40-60%. There is no reason why private sector counterparts of these PSUs should be quoting dividend yields of 1.5-2% and these quoting at 8-10%. It makes no sense at all.

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