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Thursday, July 19, 2018

Hauling over the coals

The Children’s Investment Fund,a junior partner of Coal India,has warned it of legal action for its own folly of not reading the offer document carefully

Written by Sanjay Bakshi | Published: March 30, 2012 3:10:26 am

The Children’s Investment Fund,a junior partner of Coal India,has warned it of legal action for its own folly of not reading the offer document carefully

The Children’s Investment Fund of UK is Coal India’s second largest shareholder and owns 1 per cent of the company’s equity. The largest shareholder is the president of India,who owns 90 per cent of this $41 billion market cap behemoth.

The 1 per cent-owner is now battling the 90 per cent-owner. This battle has been covered by the media over the last few days. And how is this battle taking place? By the firing of “letter missiles” by The Children’s Investment Fund to Coal India’s board of directors and the secretary,Ministry of Coal and their subsequent release to the media.

Primarily,this fund accuses Coal India’s board of directors of “breach of fiduciary duty” for: (1) not resisting the government’s “request” to roll back coal price hikes (it claims Coal India sells coal at 70 per cent below prevailing international coal prices); (2) refusing to defy the orders of India’s prime minister directing the company to urgently enter into fuel supply agreements with electricity generators in order to mitigate the power crisis faced by the nation; (3) refusal to resist the Draft Mining Bill in India’s Parliament,which the fund claims is highly detrimental to the interests of Coal India. The Children’s Investment Fund ends its letter by threatening Coal India’s individual board members with legal action.

Does it have a case? I don’t think so.

Without going into the merits of the arguments made by the fund,I want to point out something it apparently missed. The Children’s Investment Fund bought into Coal India by making an application for allotment of shares under the company’s offer for sale made by the president of India in October 2010. It seems to me the fund forgot to read the small print in the offer’s 510-page prospectus.

Buried inside it is a section called “Risk Factors”. Of the 70 risk factors listed,there are at least two which demolish The Children’s Investment Fund’s case.

Risk Factor 17: “We sell our coal at prices lower than the prices otherwise in the Indian and international coal markets. Although [the pricing of coal in India was completely deregulated with effect from January 1,2000,we have followed a strategy of focusing on improving cost efficiencies to avoid price increases,and generally consult with the GoI in determining the price of our coal.”

Risk Factor 55: “The interests of the GoI as our controlling shareholder may conflict with your interests as a shareholder. Under the MoU signed with the Ministry of Coal and our Articles of Association,the President of India may issue directives with respect to the conduct of our business or our affairs for as long as we remain a government-owned company. In particular,the GoI has historically played a key role,and is expected to continue to play a key role,in regulating,reforming and restructuring the Indian coal mining industry. The GoI also exercises substantial control over the growth of the power industry in India which is dependent on the coal we produce and could require us to take actions designed to serve the public interest and not necessarily to maximise our profits.”

If Children’s Investment Fund was to carry out its threat of legal action,wouldn’t the learned judge throw out its complaint upon reading the above risk factors? Caveat Emptor.

And then,there is another issue which I am highlighting here because The Children’s Investment Fund has kept quiet about it,which is not surprising. This issue revolves around two questions.

First,just how profitable is Coal India?

Coal India is a stunningly profitable company. Over the last seven years,it’s coal mining business has delivered pre-tax operating cash flows aggregating to approximately Rs 91,000 crore ($18 billion) or an average of Rs 13,000 crore ($2.5 billion) a year while employing average operating assets of just Rs 21,000 crore ($4 billion). That translates into a stunning pretax return on capital employed of 62 per cent a year on average,which makes Coal India not just the largest,but also the most profitable coal mining company in the world. Other global coal mining companies do not even come close when it comes to profitability.

Second,what causes Coal India to be so stunningly profitable? After all,this is the same company which is “run to serve the public interest and not necessarily to maximise its profits” according to its majority owner. This very company also has a board whose members are in “breach of their fiduciary responsibility” according to a minority owner? How can such a company become the world’s largest and the most profitable one in its industry,one with zero debt,and one in possession of more than $10 billion of cash?

You see,the Lord (the president of India) that Taketh is also the Lord that Giveth. Coal India is stunningly profitable because the “Lord” grants it coal exploration rights,mining rights,acquisition of land and surface rights and many other rights at throwaway prices. If Coal India was required to pay market prices for these rights,it could well be into losses. It cuts both ways. A minority shareholder mustn’t complain about the majority’s interference with free market forces,without willing to sacrifice the profits enjoyed by the very same interference. You can’t have your cake and eat it too.

The author is a professor at Management Development Institute,Gurgaon

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