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Mutual funds wrap: HDFC AMC buyout of Essel debt — Appeasing corporate investors and debt issuers?

Most investors in close-ended debt schemes are corporate treasuries and institutions; retail investors have a negligible presence in closed debt schemes.
Jun 22, 2019 / 06:11 PM IST
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Following the Essel group's default on its repayments to mutual fund debt schemes during January, 2019 and a series of schemes maturing during April and June 2019, players in the mutual fund industry have approached the matter in different ways.

Reliance Mutual Fund has sold collateral shares of group company Zee Enterprises worth Rs 410 crores and repaid investors in April, 2019.

HDFC AMC and Kotak AMC tread a different path of postponing repayment to  unitholders on the basis of a private agreement between these asset management companies (AMC) and the Essel group to delay payments till September 2019.

Most investors in close-ended debt schemes are corporate treasuries and institutions; retail has negligible presence in closed debt schemes.

Subsequently, SEBI issued show cause notices to HDFC AMC and Kotak AMC during May and June 2019 for a failure to repay mutual fund investors on the maturity of debt schemes stemming from the default of Essel group debt papers.

While the popular notion is that SEBI wants protect the interests of retail investors, apparently, there is more to it than meets the eye.

During the global credit crisis of 2008, Indian mutual funds were facing a similar problem of non-repayment of investor redemptions on maturity when debt papers of schemes were not saleable and did not command any market price, especially from September 2008 till December 2008.

SEBI had come out with a slew of corrective circulars, one of that on December 11, 2008 required mutual fund schemes to invest only in securities that mature in line or before the maturity of schemes.

This time around, mutual funds found a different way to play the high risk game by investing in leveraged and below grade debt papers of ILFS, Essel and DHFL, which again puts the timely redemption of money in jeopardy.

The present SEBI show cause notice would have primarily come from SEBI's concern over the failure in the timely redemption of payments to mutual fund investors despite the collateral share sale alternative which was not exercised by certain mutual funds, according to a former SEBI DGM who worked in its mutual fund department during the global crisis period .

In a knee jerk reaction to SEBI's show cause notice, HDFC AMC has taken the unusual decision of paying Rs 500 crores from its company profit and loss account to its 5 schemes maturing between January 2019 till September 2019 (Overall, HDFC AMC's FMPs maturing before September had nearly Rs 500 crore of exposures to the two Essel group firms.) and taking the defaulted Essel papers' liability to AMC Company.

HDFC AMC company issued and IPO in 2018 and was listed on NSE and BSE in August 2018, wherein the scrip closed at 58 percent appreciation over issue price of Rs 1,800 on listing day.

Since news of HDFC AMC Company buying out the defaulted papers of the Essel group trickled in a week ago, HDFC's scrip has slid from Rs 1,936 on June 14 to Rs 1,872 on June 21. The IPO document has a provision for the use of money secured during the IPO for mutual fund unit-holders.

Being, a listed company, HDFC AMC is answerable to its equity shareholders, the retail and institutional shareholders. As a company, mutual funds is one of its largest businesses.

As a listed company operating in the mutual funds business, HDFC has equal responsibility towards its mutual fund unit-holders and equity shareholders.

From a corporate governance point of view, using the HDFC Company accounts instead of the promoter accounts to buy Essel default papers, brought into question the AMC's practice of governance.

HDFC Mutual Fund has preferred to appease its corporate and institution investors of the 5 troubled FMPs over retail investor interest in HDFC AMC shares by draining the IPO money from company accounts, said the former SEBI Officer.

HDFC AMC buying out Essel's papers from its 5 FMP schemes has exhibited significant bad fund practices. There is an instance of Franklin Templeton AMC buying out downgraded Jindal Steel and Power debt paper from its scheme in February March, 2016.

This was done promptly when JSPL was downgraded in that period. Templeton took it out at the new downgraded haircut price of 25 percent to AMC, reflecting its then fair present value.

HDFC and Kotak AMC kept sitting on Essel group papers till it actually defaulted in January 2019 and did not opt for selling collateral shares to pay redemptions, trying to keep Essel corporate group happy.

The panic buyout by HDFC AMC leaves the question if the buyout is done at present fair pricing of Essel papers or at historical full price to appease corporate investors.

Himadri Buch
first published: Jun 22, 2019 06:11 pm

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