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The Rediff Business Interview/Shaun Browne

'To be brutally honest, I don't see enough signs of India fulfilling its potential'

The Hongkong and Shanghai Banking Corporation is one of the largest foreign banks in India, involved in various activities, including investment and retail. HSBC Capital Markets Chief Executive Officer Shaun Browne, who has been in India for seven years now, has seen the reforms process from the time it was at its peak.

He took some time off his busy schedule to share his views on the current state of the Indian economy and the last Budget. Excerpts from the exclusive interview with Amberish K Diwanji:

Foreign direct investment in India has fallen since 1998. What do attribute this to?

We must put the fall in FDI in the context of the past five and six years, from the time it was negligible. From there it has actually grown very, very rapidly. In the fiscal year ending March 1998, it was about $3 billion, in the year ending March 1997 it was $2 billion, and a year earlier it was just $1 billion. So that is the rate of growth. What you are now seeing is a levelling off of investment. It has dropped only by a fraction of 10 per cent or so and the final figures for fiscal 1999 are still to appear.

There are many reasons for the drop in investment, some of which are perceptions rather than reality but which nevertheless influence FDI flows. One concerns the rupee depreciation. The rupee took quite a bash last year. Foreign investors coming into India invest in dollars but earn returns in rupees, and if the rupee depreciates 10 per cent per annum, it means a loss to them of that 10 per cent.

Secondly, interest rates in India are very, very high and that has definitely been putting off foreign investment. Now it is all very well to say that one should raise loans abroad in dollars or sterling, convert them into rupees and then invest them in India. But if you do that, you get caught by my first point, which is the rupee depreciation. So high interest rates are certainly a barrier.

Thirdly, there is nothing much to invest in and that is why FDI to India has been less than, say, to China. Historically, Indian promoters would, by and large, avoid selling off their businesses. That was considered heresy, akin to selling off the family silver. Instead, they would look to cascade the wealth down the family. However, this has been changing over the last two or three years or so with families willing to sell off non-core business. This means that now many business units are on sale. But this is still a relatively recent phenomenon.

Fourthly, there are still some sectors where foreign investment is not allowed to the extent that foreigners would like to invest. For example, in the financial services sector, banks are allowed only a 20 per cent subsidy in India while investment banks are allowed only 75 per cent subsidy in India. Then, in telecom they are allowed only up to 49 per cent and in insurance, the talk is about limiting foreign investment up to only 26 per cent.

I am not saying the government is wrong in proposing these limits, but one of the consequences of the cap is that it consequently limits the amount of foreign investment in India. Many foreigners may not be interested in investing if they are so limited.

Fifthly, I think India still suffers from a poor image in terms of bureaucracy, the administration and the approval process. This has clearly put off some investors. I think India still suffers from an image of being corrupt and some FDI players do not want to risk coming into India and having to pay extra through the back door.

Sixthly, there is also the factor the employment laws. India still has very draconian labour laws. Foreign investors come in and suddenly they find that they have more staff working for them in a small business than they have in the rest of the world put together! We have many such situations. For example, one of my clients is bidding to buy a stake in a company here. The cost of the company is relatively modest for this international company, but it will have too many people on the staff. This is big put-off.

In fact, for many companies seeking to come to India, the first question is how many staffers are there. Foreign investors are concerned because they cannot dispose of the staff, cannot pay them off and the companies do not want to be saddled with such excess staff.

There are these and may be a few more reasons hampering the flow of investment. To my mind, this is why has not been as successful as the rest of Asia in attracting FDIs.

If India could not attract FDIs when many Asian countries were going through a crisis, then the situation will only worsen once the Asian countries start recovering, something that is expected this year...

Well, I think you are right. I really don't have an answer. If Asia appears, in some of the areas that I mentioned, to be more attractive, than India then it will attract more FDIs.

Let's turn to the Budget. What did you like the most about it?

The best thing about the Budget is about its expectation. Everyone in the market was expecting a poor Budget, especially since Yashwant Sinha's first Budget in June 1998 didn't have a particularly good image. Then there was the political situation and the pressures on the finance minister, all of which lowered market expectations. Thus, the best thing about the Budget is that it was not an awful Budget as some people expected.

There are some other good things about the Budget. For instance, it does make some active movement towards encouraging mergers and demergers, at least for industrial companies. That is, I think, a very positive movement because restructuring is the need of the hour in India. Many companies are right now in a weak position here. These companies have realised that if they are to prosper, they really have to concentrate on their core competencies and get out of non-core activities.

What the promoters have to realise that they must not merely dispose of bad business. The promoters have to realise that even if a particular unit is successful, if it is not a core business then it must be sold off for a good price and that money can then used to shore up the core business. By doing so, the management can also spend more time on their core businesses.

I also think the market applauded Sinha's surcharge on corporate and income tax, and the cess on diesel. They might not like it, but frankly, there have been so many adverse comments about this government in recent months that to take such a politically bold decision is worthy of praise. It is not a populist move and might help balance the books.

Another good aspect is on housing, though I think that Sinha had made a similar announcement in his last budget and nothing came of it. But let us be more optimistic this time.

A welcome move also is that Sinha has doubled the disinvestment target from Rs 50 billion to Rs 100 billion. My personal view is that Rs 100 billion is a fraction of what he could achieve. But it should be seen in the context of political will to push forward determination to push forward disinvestment.

And the markets have reacted well to the Budget, so it is a positive one.

What didn't you like about the Budget?

What I was not terribly keen on was that there was a lot of talk of good things but too little detail. To take a flip side of the restructuring plan, there was mention of making mergers and demergers tax-free, but no details on how that was to be achieved.

Again, there was little talk of which PSU the government is going to sell to reach his stated target. He does not have to give exact figures, but it would have been nice if he had mentioned that the government plans to divest its shares in so many companies.

I would also like to see the government comment on the promises he has made, especially in the last Budget. Thus we have the Budget talk, but then we don't know what happened to all the earlier promises and statements. It would be nice if the finance minister stood up in Parliament to say these are the promises he had made and what came of them. But then, no finance ministers would like to be held accountable. Do you think this Budget will help improve FDIs?

If the government delivers on its promise in what has been said, yes. Because you will see growth in housing, which will boost cement and steel. You will see movement on disinvestment. And the removal on tax on dividends will help the markets revive. The last is not a bad thing at all because it just raises everyone's mood. Investors tend to invest when the mood is good, and people's moods tend to be good when the markets are buoyant! But talk and action are two different things and we have to see the latter.

The finance minister spoke of the second phase of reforms. What do you think this will be?

The next stage could be about insurance, For instance, by allowing a capital base of Rs 2 billion, and foreigners a stake of 26 per cent only, you are allowing foreign investment of only Rs 520 million. This also means that Indian companies have to invest Rs 1.48 billion. Now how many Indian companies are willing to do so? Not too many. And not many foreign parties will be willing to put in Rs 520 million for just a 26 per cent stake. Hence, insurance is a key factor in the next stage.

The second key aspect is really pushing forward disinvestment. The government should disinvest throughout the year rather than wait till the end of the fiscal year and then sort of hurry up. It should also avoid going in for cross-holdings and, instead, sell off the companies to private parties. If the government wants to get a greater price for public sector units, then it could initially sell off just 25, 30 or 40 per cent but it should hand over management control. And once the private management turns the PSU into a profitable business, the government should sell off the remaining shares at a much higher price.

Just look at some statistics. Five of the top 10 companies by market capitalisation were PSUs, 25 of the top 100 by market cap were PSUs. That accounts for over 50 per cent of the market capitalisation. In addition, there are whole list of government companies that are not even listed, such as NTPC etc. There are companies that are not even corporatised, let alone listed! If you add all this together, it is not impossible to assume that 70 per cent of all business activities by value are in the PSU domain.

Disinvestment will revolutionise the country, besides sending positive vibes to the international market. Let me give you an example of the UK. In 1979, the cost of subsidising the public sector in the UK cost around $500 per man, woman and child in that country. Today, most of these units have been privatised and, in taxes alone, not even counting the profits, these units generate $500 per man, woman and child in the country.

Thus the government gets a double benefit -- its benefits by selling off the loss-making units, and then earns from them by way of taxes. Let me add that, in the UK, the managements were not changed after the public sector units were privatised. The same management, not under political control, could turn around their companies.

Last question. How do you continue to view India?

I think India continues to have the most enormous potential. But the difficulty lies in its ability to realise that potential. And to be brutally honest, at the moment I do not see enough signs of India fulfilling its potential.

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