Investing in companies with good governance practices is catching up in India: Kotak MF chief

The mutual fund industry has been registering a steady growth despite upheaval in the debt segment. With an asset under management (AUM) of ₹1.75 lakh crore, Kotak Mutual Fund had done well to deliver good returns, though it got into controversy by signing a standstill agreement on the Zee Group default on its debt issue.

In an interaction with BusinessLine , Nilesh Shah, Managing Director, Kotak Asset Management Company, said that this decision was taken “in the interest of investors” without giving details about the issue as it is under SEBI investigation. Shah also spoke about the overall investment sentiments, improving corporate governance and the need to focus on economic growth. Excerpt:

What is your view on the Budget proposal directing promoters to bring down their stake to 65 per cent from 75 per cent?

Promoters lowering their holding is a welcome step. India has a problem of low public flow, with promoters holding a large chunk of their own equity. The government decision will enhance public float. However, we have to see whether the market can absorb such huge equity dilution. If not it would lead to erosion of value.

Dilution of promoters holding should not be done in one go. Assuming on an average capital raised in the past five years is about ₹1 lakh crore, the dilution of promoters holding from 75 per cent to 65 per cent will create a potential supply of about ₹4 lakh crore. If the stake sale of ₹4 lakh crore happens in one month, we can imagine what will happen to the prices. On the other hand, if it is done over 10 years, the impact on the prices will be far less.

It is also a very important step to make India an attractive destination for ETF investment. ETFs is becoming more dominant channels of capital inflow into any country.

Your view on current NBFC crisis?

If you analyse NBFCs’ business model, about 85-90 per cent of them has no problem. NBFCs which have exposure to real estate segment are facing the heat. Our equity investments in NBFCs have been in good governed companies, where performance can go up and down. We have seen Mahindra & Mahindra Finance performance going down when the rural economy slows down. They are geared to face it and have survived many downturns. Our NBFC investments are restricted to companies with good lending practices.

What is your view on fast emerging ESG schemes?

Investing in companies with concern on environment and society besides good governance practices is very popular abroad and the trend is fast catching up in India.

Kotak Mutual Fund is a signatory of the United Nations Principle of Responsible Investing. We are the first and probably only mutual fund from India to sign it. This not only helps us raise money from offshore investors, but also improve our investment process. We engage with companies to ensure that they follow ESG standards. Globally, a bulk of investments have moved towards ESG and eventually, it will happen in India.

How you will ensure companies you invest in always follows ESG?

It is done with active interaction with the management as we neither have judicial support. I will give an example without disclosing the name of this company. Long back a company came out with Employee Stock Option, but almost 90-95 per cent of it was given only to Managing Director while the rest of the employees did not get anything substantial. Now, after a gap of few years, they again launched an ESOP programme with a very vague circular. Given the past experience, we went to the company and ensured a cap of five per cent limit in ESOP allotment per person is imposed.

Since the issue was at par and allotment was not at market-driven price, we told them to limit the overall allotment of shares with a lock-in of three years. So by actively entering into dialogue with this company’s CFO, we ensured that it is not a Managing Director ESOP programme and created a happy employee base.

Now, these things will not come out in the public domain as it will annoy the management and they will become rigid. We are working with our investing companies to ensure that governance is part of their process. For instance, the auditor’s independence is now becoming a question mark everywhere. We have suggested that if a company is appointed as an auditor, then it should not get any non-audit assignment from the same company or its group companies as it will compromise its position.

It happens that their audit fees are low, while consultancy fees are high. Then it automatically independence may get compromised. If an auditor of a company is given a non-audit work due to his specialisation, then they need to disclose it separately along with the fees paid. If the fees paid is disproportionate then investors can know that the auditor is compromised.

How many Indian companies meet ESG compliance?

It has become mandatory for all larger companies. They have a separate section on sustainability in their annual report. Offshore investors, especially from Europe are asking difficult questions to companies on ESG compliance.

Many institutional investors and fund houses are also participating in the voting process. Companies are also aware that investors today are looking at governance very closely and the premium is given to best-governed companies.

SEBI has also red flag on promoters pledge share. Your views.

We have to distinguish between promoters pledging shares to raise money for himself and pledging his shares as a guarantee to help the company raise money. The second part is completely bona fide as he his giving his share as a pledge for the company to raise debt. We need checks and balance where promoter pledge shares for his own personal use, though it is an efficient way of raising money. The promoter is well within his rights to raise money leveraging his asset but it needs proper monitoring to ensure that the risk on promoter does not go out of hand.

Do you think disinvestment target of ₹1.25 lakh crore can be achieved?

Yes, it can be achieved but one should know how to package and price it. For instance, India is the fastest-growing aviation market, but Air India and Jet Airways are down. It throws up a huge opportunity for a newcomer. But they should know how to sell this dream to foreigners or domestic entrepreneurs.

When India had nothing, Tatas created Air India. Today when India is in a much better position. Won’t they like to create it again? The government should give them comfort that they must go ahead and create a word-class airline like Air India again. The government should extend support. Today, it appears they do not have that confidence.

Has the Modi govt delivered on privatisation?

His government in Gujarat has fared well. Ahmedabad Municipal Corporation came out with a bond issue. Some of the large state-owned PSUs listed on the stock market. Amul in some sense was ‘privatisation’ because farmers were bought into a cooperative sector and they became shareholders.

Somewhere, we need to overcome this mental block that PSUs are not good. They have incredible assets and incredible employees. The same PSUs when they come to the private sector it becomes a well-performing entity. In fact, all private sector banks have their origin somewhere as PSU, maybe their Managing Director was a PSU employee. It is all about building the environment to take risk and recognising a genuine mistake in the course of business activity.

The average salary of public sector bank employees at the entry-level is higher than the average salary of private-sector bankers. But, salary at Chairman level is not comparable. PSUs cannot retain talent at the top, but they get really good talent at the lower level.

In the first 12 cases referred for insolvency board, which one qualifies to be a genuine mistake? Was lending to Essar Steel a genuine mistake?

It is at the portfolio level and not case-specific. One can still lend to Essar Steel, but should understand the risk taken by the company in their path to growth.

It all depends on risk-management practice. It is not like every time a stock hits 52-week low, we have to sell. We have bought them also if we see the value. It is not only Public Sector Banks have NPAs, even private sector banks have (them), but then they have taken corrective measures to ensure that those NPAs do not go out of hand. Entrepreneurs need growth capital and please accept genuine failures.

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