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Last Updated : Jun 19, 2019 01:40 PM IST | Source:

Fundsgate | HDFC AMC’s bailout conundrum: MF investors gain, shareholders bear the brunt

If unitholders enjoy the gains, shouldn’t they bear the losses as well?

Representative image
Representative image

After months of gloomy news flow around defaults, delays in interest payments and fall in net asset values (NAV), there’s finally some good news for debt fund investors. HDFC Asset Management Company (AMC), in its filing to the stock exchanges on 17 June, said that it would buy the securities or non-convertible debentures (NCD) of two companies (Edisons Infrapower & Multiventures and Sprit Infrapower & Multiventures) belonging to the Essel group. The AMC has indicated that it has earmarked around Rs 500 crore to buy these securities from the fixed maturity plans (FMP) that have held these instruments. However, only those FMPs that have already matured or are going to mature before September 30, 2019 will be covered in this move.

The sanctity of September

Why September 2019? In January this year, shares of Zee Entertainment Enterprises (ZEEL) fell 26 per cent and those of Dish TV India declined nearly 33 per cent. Mutual fund houses such as HDFC AMC and many others had invested in the debt securities issued by some Essel group companies. This particular lending agreement was secured by equity shares of ZEEL and Dish TV. That is, if the value of shares falls below the agreed limit, lenders including mutual funds would have a right to sell the shares to get their dues back or force the borrower to pledge more shares as guarantee.


A few lenders went ahead and sold the shares, resulting in a serious decline in the stock prices of companies whose shares had been pledged. Panic ensued and the Essel group management lost no time in cobbling an agreement with other lenders, including mutual funds, not to sell its shares and bargained for time till September 2019 to arrange for funds.

That is why HDFC AMC has decided to give a reprieve to all those FMPs that either matured or are going to mature before the end of September 2019. By that date, fund houses and many other such lenders believe that Essel Group would be able to sell its core assets, generate enough cashflows and pay off their debt.

Bailout candidates

According to Morningstar data, there are 11 FMPs that fit the bill. Of these, one FMP, HDFC Fixed Maturity Plan 1168 Days February 2016 Series 35 Plan 1, got rolled over by another year. This scheme will now not be eligible for HDFC AMC’s rescue plan. Of the remaining 10, four FMPs have already matured. Investors in these schemes have already got all their redemption proceeds back, less Essel securities’ value in the portfolio. The word on the Street is that the AMC will release the amount to these investors by the first week of July. Another FMP is set to be redeemed on 25 June, while five other FMPs will mature by the end of September 2019.

While HDFC mutual fund investors heave a sigh of relief, HDFC AMC’s shareholders may not be a happy lot.

Unitholders cheer, shareholders sulk

On 18 June—a day after the AMC made the announcement—the company’s share price fell 6.7 per cent within minutes of the markets opening, to touch the day’s low.

But if it’s good news for the unit holders, why did the company’s share price fall?

That’s because the bailout benefits unit holders of the mutual fund more than the shareholders, at least for now. Under the arrangement, the AMC would take the bad securities on its books and pass on the amount to the mutual fund house, which in-turn will pay off its schemes’ investors. But what if the Essel group doesn’t pay back the amount in September when the lender agreement expires? If the securities deliver losses—and, therefore, the lenders including HDFC AMC do not realize the full amount—the AMC and its shareholders have to bear the loss. There are two aspects that cast a shadow over this arrangement.

First, a mutual fund is a pass-through vehicle. You invest in the equity and debt markets through a mutual fund. In other words, there is no guarantee of returns. Returns are linked to market gyrations. Now, if investors enjoy the gains, shouldn’t they bear the losses as well? In 2008, when equity and debt markets across the world, including India, fell sharply on the back of a global credit crisis, many mutual funds suffered losses. Investors rushed for redemptions, debt funds including FMPs sold their most liquid securities, mostly at throw-away prices, to generate money. In the absence of buyers, many AMCs bought them over to meet redemptions.

Mirae set the right precedent

One fund house that refused to take over investors’ losses was Mirae Asset Global Investments (India), under strict instructions from its South Korean owners. The AMC suffered. Distributors and investors were unhappy. The house paid the price.

But Mirae did the right thing. Every product comes with a certain risk profile. If the losses are taken over, then the MF scheme, or the FMP in this case, could be perceived as a safe option. Investors may come to expect in future that their fund houses would make good the loss during severe market corrections.

Secondly, it’s unfair that HDFC AMC’s shareholders should take this loss. Of course, it may well be that HDFC AMC may recover all its dues by September if the Essel Group manages to sell its assets and pay its dues. But we’ll know this only by September. Even if Essel pays its dues, the end doesn’t justify the means, because the AMC’s shareholders come from the retail category as well.

But here’s the devil in the fine print. Clause No.17 of the risk factors in the AMC’s red herring prospectus—the firm went for its initial public offering in August 2018—had warned its potential shareholders that it can prioritize its unit holders (of HDFC mutual fund) over its shareholders. The clause read, “…we may endeavor to safeguard the interests of our customers by acquiring certain non-performing / downgraded investments held by the schemes and by bearing the interest costs arising out of borrowings that may be availed of by our schemes to meet its redemption requirements. Acquisition of such investment by us or bearing such interest costs may not be in our best interest and or that of our Shareholders.”

On paper and in the eyes of the law, HDFC AMC has done nothing wrong. But sadly, with every such rescue, financial literacy takes two steps backwards.

Will not the next bunch of FMP investors expect a bail-out when the next crisis strikes?
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First Published on Jun 19, 2019 08:36 am
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