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Central Govt-run NBFCs: To merge or not to merge, that is the question

Illustration: Ajay Mohanty
What unites the various government of India-run non-banking financial companies, including Power Finance Corporation (PFC), REC and Indian Railway Finance Corporation and NHAI? Rating agencies have put all of them in the Triple-A bracket, primarilybecause they are backed fully by the sovereign. Thus, they borrow at almost the same rate. REC’s cost of funds in FY18 was 7.6 per cent, that of PFC and NHAI was 7.8 per cent and that of IRFC was 6.9 per cent (with fully-collateralised funding). 

Why do they still stand separately? They were established by notes penned by different joint secretaries of various ministries, on different dates of the republic. And, they have separate chairmen!

Which is why even the wording of the assessment by Crisil and other agencies about them reads exactly the same: “The existing ratings on the debt instruments of (PFC\REC\IRFC\NHAI) continue to reflect the company's strategic importance to, and majority ownership by, the Government of India”. 

The case for a single mega entity 

So, it is a fair question to ask whether they would better serve the interests of the sovereign if they dissolved themselves into a mega state borrowing arm with a visibility abroad too? If you have second thoughts on their core expertise, the finance ministry has begun to nudge IRFC to diversify its lending to 

other entities. All rating agencies are fairly sure that t risk to the portfolios of PFC and REC also comes from their over dependence on one sector. So they too should diversify their lending. NHAI does not yet feel that pressure. 

In December 2018, the cabinet gave an in-principle approval for a stake sale in REC to bring it under PFC. REC will make a strategic sale of 52.63 per cent of its total paid-up equity shareholding to PFC. But this is only meant to raise money for the government to make its disinvestment numbers look good. Post the stake sale, REC would still continue to operate as a public sector financial institution and retain its status as an infrastructure finance company. Not only that, the entity would continue to accrue all the benefits it was eligible for prior to stake sale, including raising tax-free bonds under the Section 54EC route of Income Tax Act. This is rather silly. 

Instead it would be eminently useful in economic interests to bring all of them under one roof at the same time. Sure, it would fatten the disinvestment receipts for one year and make the next year’s look flat. But it is better than the current piecemeal approaches. It would finally provide India with the sovereign fund-raising arm that has been tried through other hoary routes like sequestering a part of the foreign exchange reserves, made on several occasions. 

The risk in not merging

There are substantial risks in not doing so. REC and PFC raise money for the same sector, power. Their exposure to the sector is 81 per cent and 82 per cent. Their NPAs stem from exactly the same cause—exposure to private sector power producers, because of which their NPAs are comparable at 8.12 per cent and 9.7 per cent. 

What about IRFC? It has no NPA simply because all its loans are fully collateralised with the rolling stock of the Indian Railways. If one thought that was complex, what about NHAI! Its comfort emerges from the fuel cess the government charges. Without those the management practices or the expertise they have created might not impress the rating firms. IRFC, with its skeletal staff, does as good a job on yields as 

the much bigger ones like PFC and REC do. The papers issued are also virtually indistinguishable in tenor and terms. All the rating agencies are clear that if there is “any decline in strategic importance” of these companies to the government of India, the outlook “may be revised to negative”. 

To get a sense of what happens when these companies lose their strategic importance to the government, one just needs to examine IFCI. Despite government’s majority shareholding (56.42 per cent) IFCI has slipped to triple-B plus with a negative outlook (Icra). Devendra Pant, chief economist at India Ratings said, "whenever these companies go abroad to borrow the markets respond on the basis of the government ownership, strategic position in government policy and linkage they enjoy." 

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