Imran and Vijay

Have a look at the above gold auction cum invitation notice posted in the Business Standard today by ICICI Bank. One Mohd Imran of Najibabad (Uttar Pradesh) had pledged gold ornaments and availed a loan against it. Failing to repay the loan, the bank has taken the step of auctioning the collateral. Nothing wrong on part of the bank. But look at the triviality of things. The gross weight of the pledged gold ornaments is 15.5 gms which going by the last closing price of gold (Rs 29,600 per 10 gm)is Rs 45,880. Let's keep aside the arguments about the net weight of gold in the gold ornaments or the price of gold when Imran would have availed the loan. Intuitively, either of the above or both combined would surely lower the value of the collateral. But let's stick to the figure of 45,880. Going by the gold loan scheme, the loan provided is around 75-80% of the market value of the collateral. Thus, the loan which Imran would have taken couldn’t have been more than Rs 35,000.

I am sure ICICI Bank would be spending much more than 35,000 in the costs related to the auction process; which includes advertising in the newspapers. Thus the Net Present Value of this auction process is negative and hence any sensible banker would simply write off the loan. But any such write off by the bank would lead to an avalanche of moral hazard and there would be scores of Imrans and Ankurs who would willingly default on the loans knowing well that the bank wouldn’t even bother them in the event of non-repayment.

Compare Imran with one Vijay Mallaya. This man has defaulted on 7500 crs of loan (21 lakh times the loan availed by Imran) taken from the banks to give wings to his idiosyncrasy called Kingfisher Airlines. Nothing much came out of the airline except that the Kingfisher bird would have lost its reputation in the bird kingdom on being associated with the airline. By now, the bird would have even applied for a name change through an affidavit filed in the birds’ court.

The banks and the financial institutions find them completely helpless in extracting even one single rupee out of the collateral. Though the banks have started talking about the sale of the planes and the Kingfisher villa; I am ready to bet that the bankers wouldn’t be able to even attend the pool parties at Kingfisher villa ; forget about auctioning the villa. Why is it that time and again, financial institutions are helpless and hopeless in recovering their dues from the large borrowers ? The single biggest factor to my mind is nexus between politicians and large businessmen. Both of them like Siamese twins are joined at the hip. Businessman help the politicians during the elections to buy out votes and post the elections to buy out legislators and members of Parliament. Once in power, politicians control the banks and the bankers. And the two ends meet when the businessman is able to lay his hands on the money in the bank and refuses to pay up. And then this vicious cycle goes on.

This problem can be solved if we have iron handed legislature (very unlikely) and iron handed judiciary (very likely) which forces the defaulters to pay up.

There is one example which is noteworthy. QVT Financial is an international hedge fund which invested in the FCCBs of some Indian companies. Companies which ran out of money and luck; couldn’t convert these FCCBs and opted for restructuring of these FCCBs. Wockhardt being the early mover in the recent debt restructuring mela proposed to settle the FCCBs at a 75% discount to their redemption value. Finding it unpalatable, QVT approached the Bombay High Court for a winding up petition against Wockhardt. Wockhardt tried a bit to sob but the learned judges wouldn’t take any of it and ordered the winding up of the company in the event FCCBs remain unpaid. A tight rap on the knuckles can bring a lot of rouge elements in line. Since then Wockhardt has coughed up money and the FCCBs have been settled. QVT has now turned the heat on Zenith Computers and KSL Limited (promoted by Tayal group. Ex promoter of Bank of Rajasthan). Taking a cue from the Wockhardt case, a lot of companies like Hotel Leela, Subex Limited, 3i Infotech etc have redeemed the FCCBs or settled with the FCCB holders at mutually agreeable terms.

QVT example shows that no new laws are required to tackle this menace. What we want is a bunch of tough lenders and a tougher judiciary.

Post Script : I am not sure if Business Standard reaches Najibabad, a small town 170 kms from Delhi. If that is true, Imran wouldn't be able to read the ICICI Bank notice.