Belying Hopes

Public sector units (PSUs) account for 12.5 per cent market capitalisation of BT 500 universe and a significant chunk of the economy. When the economy was struggling to cope with Covid-19 and the resultant lockdown, many had expected that the government would unleash their full potential to support the economy. The idea was to push capex through large PSUs and lending through large public sector banks (PSBs). But that doesn't seem to have been the story.

As per the Reserve Bank of India (RBI) data, gross bank credit fell 1 per cent between March 27 and September 25. Investments in new and completed projects during first six months of FY21 fell 37 per cent from Rs 8 lakh crore to Rs 5 lakh crore, says CMIE. According to National Statistical Office, gross capital formation was down almost 50 per cent in first quarter of 2020. While these numbers reflect performance of both private and public sectors, it is clear that the public sector's performance was not up to the mark.

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"PSBs should have been the biggest funders of growth and CPSEs the biggest capex spenders, but that does not seem to have happened, as they do not have the money," says head of equity and research of a brokerage firm. Most PSUs, in fact, got de-rated further because of negative earnings in FY21. "Worse, earnings visibility is very poor for the next two-four quarters. There is complete lack of re-rating trigger for them," he says.

BT500 data may not paint such bleak picture but shows the cracks. A good number of large PSUs have seen a 15-40 per cent shrinking of average market cap between October 1, 2019, and September 30, 2020. These include crown jewels like ONGC, Coal India, IOCL and GAIL. The damage has been across the board - oil and gas exploration/marketing, metals and finance.

Take ONGC, a maharatna company, whose market cap fell 36 per cent from Rs 1.9 lakh crore to Rs 1.2 lakh crore. Or Coal India Ltd, another maharatna, whose market value fell 32 per cent from Rs 1.4 lakh crore to Rs 99,000 crore. Continuing with the maharatnas, Gas Authority of India Ltd's (GAIL's) market cap eroded 34 per cent to Rs 48,000 crore. In banking and finance, State Bank of India's averahe market cap declined 20 per cent from Rs 2.7 lakh crore during October 1, 2018, to September 30, 2019, as compared to Rs 2.16 lakh crore over October 1, 2019, to September 30, 2020. The value of General Insurance Corporation fell 25 per cent. The others losers are LIC Housing Finance (-31 per cent), Bank of India (-22 per cent) and Bank of Baroda (-17 per cent). In the power sector, NTPC's market cap fell more than 19 per cent, Power Grid Corporation's by 7.5 per cent and NHPC's by 10 per cent. In many cases, the decline looks less sharp as BT500 takes average market cap over one year, which nullifies the extreme highs and lows of point-to-point comparisons. For instance, in case of ONGC, a point-to-point comparison shows 47 per cent fall in market cap (average is 36 per cent). In case of State Bank of India, point-to-point comparison shows a 31.5 per cent fall (average is 20 per cent). The Sensex fell 1.5 per cent during the period.

Weak Numbers; De-rating

During this period, some PSU heavyweights saw a downward revision in revenue and profit estimates. Some stocks were also de-rated. In the first quarter of the financial year, gross revenue of PSUs fell 21.6 per cent to Rs 5.31 lakh crore from Rs 6.78 lakh crore a year ago. Net profit shrank 31.5 per cent to Rs 22,433 crore. Profit margins contracted 60 basis points to 4.22 per cent.

ONGC's consolidated 1st quarter revenue fell 43 per cent while profit was down 85 per cent. Ratings agency Moody's has estimated that ONGC's FY21 revenues and earnings before interest, tax, depreciation and amortisation (EBITDA) will decline Rs 1,500-1,600 crore on account of lower gas prices. "The decline is equal to around 0.4 per cent of the company's expected consolidated revenue and around 3.5 per cent of consolidated EBITDA for fiscal year ending March 31, 2021," says a report by Moody's Research. No wonder that despite lower valuations (15-18x forward price-earnings ratio), not many analysts are excited by ONGC. ICICI Direct Research has maintained a 'hold' rating on the stock. "Although oil prices have recovered, they are still at a lower level, which will affect ONGC's profitability. Due to lower production growth on a sustainable basis, despite cheaper valuations, we maintain a 'hold' rating with a target of Rs 80 a share," reads its September 2 report.

Gail India also reported weak first quarter numbers as revenues fell 34 per cent. EBITDA declined 72 per cent to Rs 622.6 crore and net profit 80 per cent to Rs 255.5 crore on the back of lower sales. In its August 14 report, ICICI Direct changed the rating on the stock from 'hold' to 'reduce'.

Bharat Heavy Electricals Ltd's consolidated first quarter revenues more than halved to Rs 1,991 crore even as it posted a loss of Rs 1,704 crore compared to a profit of Rs 560 crore in the same quarter of previous year.

Banks, though, have shown some resilience due to improved asset quality. State Bank of India's net interest income (NII) rose 16 per cent while Bank of Baroda's NII rose 5 per cent in the first quarter. But improvement in asset quality could be transitory. Experts say asset quality risks are rising due to economic contraction and RBI's one-time asset restructuring scheme has only delayed the inevitable rise in defaults. Under the scheme, loan accounts of companies in 29 identified sectors will be allowed to be rescheduled by two years provided they were not impaired prior to March 1, 2020. During this period, banks won't be required to recognise defaults in these accounts as NPAs. According to a Fitch Rating report, the one-time restructuring will extend the uncertainty over asset quality. "The policy could open a window for banks to build capital buffers while putting off full recognition of the pandemic's impact on loan portfolios but is reminiscent of a strategy adopted over 2010-2016 that delayed and exacerbated problems for banks," it says.

Critical for Government Finances

Government-owned companies and banks are not just key to economic revival of the country, they are also critical for government finances. The government has budgeted for around Rs 66,000 crore dividend from Central Public Sector Enterprises, and close to Rs 90,000 crore from RBI and PSU banks, in the current financial year.

In the first six months of the financial year, out of the Rs 1.55 lakh crore target for dividends from CPSEs, banks and RBI, the government had raised around Rs 60,000 crore. This was largely due to RBI's Rs 57,000 crore dividend announced in August this year.

The government has also budgeted for Rs 90,000 crore from disinvestment. It has time and again said that this time disinvestment will be for real, that is, public sector companies will be sold to private players, unlike earlier, when one PSU bought another in what was a disinvestment only in the name. In a recent webinar on capital markets organised by the Confederation of Indian Industry, Tarun Bajaj, Secretary, Department of Economic Affairs, Ministry of Finance, said: "We are going to come out with a policy where we will say that we are going to keep at the most four PSUs in the strategic sector and sell the rest. While some efforts are being made, this is the first time government is going to hive off PSUs to the private sector." He also said that the government was proactively looking for buyers for companies such as Concor, BPCL and Air India.

However, the sales are unlikely to fructify in the current financial year, if at all the government is successful in finding buyers. A research analyst from a brokerage puts it succinctly: "I am personally not gung-ho about the divestment story. Who's going to buy BPCL at $15 billion valuation when people are talking about fossil fuels going out of favour in the next eight years? When the world's most profitable airlines - Delta Airlines - is talking about cutting 30 per cent workforce, do you expect an MNC to give you a premium on Air India?"

@dipak_journo