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The Rediff Business Special/ Nikhil Faleiro

End of the Dream

The UTI saga: Genesis of a controversy

Blueprint for restoring lost glory

After months in a semi-coma, UTI staggers to its feet

So is it all over for Unit Trust of India, India's premier and oldest serving mutual fund. Eight months ago, when all hell broke loose after it was discovered that its flagship scheme, US-64, was in deep trouble and that US-64's NAV was Rs 9.45, reserves were a negative Rs 1,098 crore, there were apprehensions that the mutual fund would pull itself out of the morass. Despite chairman P Subramanyam's assurances that things would get better within three months, there were many sceptics who said things could only got worse. And they were not to be disappointed. In December 1998, the NAV of the trust slipped further to Rs 8.23 and the negative reserves were up to Rs 2597 crore.

With the mutual fund continuing to struggle along, the main question that continues to haunt the small investor and the corporate sector is, how will UTI manage to bail itself out? Says Manish Shah, vice-president, Gold Crest Securities, "Nobody knows that the tax payer will be footing the bill. And how that will happen is via a clever move that has been announced by the finance minister in the current Budget. The 1999 Budget expects income tax collections of Rs 26,910 crore. A few taps on a calculator show that the new 10 pc surcharge will net Rs 2446 crore, sufficient to plug the Rs 2597 crore hole in US-64 reserves. Somebody has made a serious mess and the tax-payer is paying for it.''

But that is not the only thing the government will be attempting to do in a desperate attempt to restore faith in the US-64. The government has cobbled together an ambitious package to hold UTI up. First, investors will no longer have to pay any tax on their earnings from US-64. Second, the new 10 pc tax on dividends does not cover mutual funds who have half their corpus invested in equity shares. Third, a large part of US-64's dud public sector shares will be transferred to a new special unit scheme called SUS 99.

But the question is, will the gamble work? "No," says Devina Mehra, a BSE broker, "UTI is facing an uphill task in its attempts to regain the small investor's confidence as well as get back its old glory. In fact, some of their proposals are strange and many of us have renamed SUS 99 as SOS 99.''

How will the new proposals try and save UTI? According to an idea mooted by Deepak Parikh, chairman of HDFC, the SUS 99 proposal was a desperate attempt to knock UTI back into shape. Though still shrouded in secrecy, this is one proposal UTI has accepted publicly and the government too has given its assent to the proposal.

But how will the new SUS 99 proposals work? According to analysts, the SUS 99 will buy PSU stocks worth as much as Rs 4810 crore from US-64. The Parekh panel is known to have estimated the market values of these scrips to be about Rs 2700 crore as of September 1998. The gap -- Rs 2100 crore -- which will be financed by the government. Naturally, US-64's portfolio will gain by the same amount instantly.

So what does it mean for US-64? Says Sanjay Aggarwal, CEO, Lloyds Securities, "In December 1998, US-64 unit capital was Rs 14,752 crore and a gain of Rs 2100 crore adds Rs 14 to the NAV, thus raising it to Rs 9.65. That would still mean another 35 paise away from par value and way below the repurchase price. So something more needs to be done to prop up UTI, say, revaluation gains on real estate holdings or some other measure. But there is no denying the fact that UTI has to do something drastic to save its skin.''

So what does UTI have to do to lure the investors back? According to some analysts a 30 pc rise in Sensex will boost US-64's NAV by 15 pc at the most. Because, after the PSU stocks are removed from the US-64 portfolio, about 54 pc of the funds will be in equity and this will happen if the US-64 portfolio fully reflects the Sensex. But that is hardly the case with US-64's portfolio because US-64's top 25 holdings as of June 1998 (the latest date for which data is available does not have a single pharmaceutical and software share). The portfolio has not changed much since then. Even if stock values appreciate by 5 pc, the NAV only manages to touch its book value of Rs 10 - still far below its buyback price.

Remember UTI is buying back units at Rs 14.80, so it is incurring a loss of over Rs 4 per unit. But if it sells these units at a still higher price, then things sort of work out if buyers outnumber sellers. But if that does not happen, UTI will be gasping for liquidity, and according to statistics supplied by UTI, sellers outnumbered buyers till December 1998. And this is indicated in a depletion in its capital by Rs 877 crore. And according to UTI claims, between July 1, 1998 and September 30, 1998 it collected Rs 3100 crore by selling units at a special price of Rs 14 -- which meant unit capital going up by Rs 2215 crore - over which the scheme must have seen a huge outflow of over Rs 4400 crore.

But now, armed with tax sops, can US-64 still lure the investors back into the fold? That is the sword of Damocles hanging over UTI. As Renuka Advani, SS Kantilal Ishwarlal Securities says, "It was the large dividend -- 26, 30 pc and even more -- that was the attracting feature of UTI. It was the lifeline for the small investor..'' And if estimations are correct, and if UTI adjusts for the tax free status, UTI can mark down the present dividend to about 18 pc.

However, Bobby Surendranath, analyst with ITC Threadneedle, disagrees: "If the selling pressure continues then you can expect the dividend to be lower by a couple of rupees.''

But there is a glimmer of hope for UTI, with banks offering lower interest rates in response to the cut in the bank rate, returns on short term debt will be down. So companies may find US-64 an attractive parking slot for short-term surpluses. However, analysts expect this bonanza to be only for the short term. Analysts also are of the opinion that tax sops may lead to short term gains because as per the Budget, the exemption for US-64 on dividend tax is only three years because the governments strategy is to align the NAV of US-64 with its sale/repurchase price and then make UTI buy and sell units only at NAV. This is one of the main recommendations of the Deepak Parikh committee report.

But if everything does work out -- if the market does gain momentum and the UTI fund managers do reshuffle the portfolio to align it with the Sensex -- what is needed to bring the NAV back to Rs 14? Says Aggarwal of Lloyds Securities, "With only 50 pc of its portfolio in stocks, the Sensex will have to rise from its current level of 3,800 to about 7000 points for the NAV to be aligned to its repurchase and sale price.''

But UTI does not want to just bank on the hope of the Sensex touching 7000 points. It has been trying to ask the trusts sponsoring institutions, including IDBI, SBI and LIC, to bring in Rs 500 crore each and buy US-64 units. The sponsoring institutions are still hesitant. But if they do agree, the UTI will see more cash that may come in handy to pay for the redemptions.

But herein lies the catch -- since the sale will be at the market price, there will be no more benefit to it.

And if that is the case, it will still be an uphill task for UTI. Utopia will remain a distant dream.

Part V : In quest of a fresh lease of life