Wikipedia defines entrepreneurship as “the process of starting a business or other organization. The entrepreneur develops a business model, acquires the human and other required resources, and is fully responsible for its success or failure. Entrepreneurship operates within an entrepreneurship ecosystem” and Cronyism as “partiality to long-standing friends, especially by appointing them to positions of authority, regardless of their qualifications. Hence, cronyism is contrary in practice and principle to meritocracy”. I am sure the definition in the Oxford dictionary is not very different from this. What the definition conceals or does not amplify enough is that the entrepreneur not only starts with the controlling equity but also starts with the responsibility of paid up capital and any further liquidity that is needed to maintain the company’s operating cycle. In India, the lines between entrepreneurship and cronyism fades into irrelevance and if you pick out 500 cases of startups who made big in India, 498 would have been successful only because of cronyism.
I might be accused of broad stroking but I would insist that sadly enough I am not exaggerating. Don’t get me wrong, I am not for a moment saying that Indians are not enterprising; I am just saying that Indians are so adept in “jugaad” or in English “doing what it takes” that we forever look for loopholes within the law and abuse it – which would be fine until you understand that loop hole was left in there by our lawmakers at the behest of these so called entrepreneurs. I can vouch that if an international auditing firm did an audit today, most of the billionaires of India would be proved as cronies who made money by abusing proximity with people in power rather than based on genius of innovation. I often wonder if only Indian entrepreneurs would channel their energy, which they spend on generating loop holes, into investing in research and innovation, India would have already produced the next coolest startup company with a $2bn IPO. The sad part of the story is that Indian entrepreneurship is so bereft of ethics that we generate the ideas, the capital, the land, the operating capital based on cronyism. It’s a shame that the Government is not a majority stakeholder in equity of these companies because they sure do all the hard work to keep these billionaires and their companies up and working. It is said the promoter owes a fiduciary responsibility to the shareholders, in India; the Government executes this fiduciary responsibility.
Are we doing well then? Well, it would seem like we are, actually we are not. Generating value for the company by risk free profits is a risky proposition for even a quarter, yet, year after year most companies in India are generating “value” for its shareholders by risk free profits. Consequently, the change of CEO / or board of directors has a lukewarm response at the stock market and trading pattern but should a benefactor Government or minister go out of power and all hell breaks loose the share prices takes a major hit and shareholders lose value of their savings. Now, you would ask, the promoter or the majority stakeholder should also lose value and will be hit maximum, should she/ he/ they not worry about of this pattern of trading? And here lies the kicker. NO! The shareholding pattern would tell you that the entire paid up capital for the firm was from a debt issued to the promoter(s) by a bank who has accepted the proximity to the Government as valid collateral while issuing the debt. This is scary, what this means is the only stake of the promoter in the company is her/his/their ability to abuse their proximity with power centers in lieu of which they hold majority stake in the company. You will also find that the “asset of cronyism” is so heavily levered that the company spends most of its revenue in servicing its debts raised for the paid up capital. And yet, surprisingly, the company share is trading at premium without any growth prospects and proper revenue forecasting.
This is because the unseen stakeholder aka the Government is busy paddling below the surface generating value for the shareholders by executing the fiduciary responsibility on behalf of the promoter. I will not get into the topic of how such crony enterprises are a bad deal for small investors who purchase equity. That is a separate issue that needs specific attention. I will only highlight how these crony enterprises are bad for the economy. So coming back to the point of Government executing fiduciary responsibility, consequently, these companies get special use to natural resources and out of turn benefits from various arms of the Government, including revenue services who allow too many illegal tax deductions to help pad the net profit. The resources acquired by these companies are then gold plated and the end products are sold back to Government at a premium price. So, the Government not only provides raw materials, it also provides as a market to finished goods at price premium. The tax dollars of citizen are spent in helping few promoters make money without any sort of investment or plan and this relationship works perfectly till the Government is in power. Once a new Government comes in, these companies lose share value as the new Government launches a witch hunt against these cronies and stops all benefits extended to them (effectively hampering their revenue cycle) while launching their own set of new cronies who suddenly become the budding prospects of our “enterprising India”. Then, there are few cronies who are in good books of all political dispensations and will benefit no matter who is in power. One has to wonder if this kind of capitalism actually helps a nation or destroys a nation. I leave it to your judgment.
Should a promoter fall out of favor with the Government and start to lose share value due to impacts to revenue generation, they reach a point where their operations are hit due to liquidity crunch and since these companies are typically highly levered, they will not be able to generate operating capital. It would seem that promoters will care enough to raise money by investing their private money (given the fact they are majority stakeholders), but more often than not, promoters let the company bleed. There are job losses within the company and investment by people in the stock goes kaput. The original debts (paid up capital) are held to ransom by the promoters and either the banks are forced to restructure the debts or issue fresh debt to restart the operating cycle. Since the company was not based on sound plan to begin with, this new operating capital cannot sustain the company for very long and then begins the long process of litigations / bankruptcy / job losses etc. Meanwhile the promoters are living a comfortable life as the law protects their private assets from being liquated to sustain the company. So this is how, these cronies end up wreaking a havoc on the economy while being exposed to minimum risk should a company undergoes bankruptcy.
The Governor of Reserve bank, Dr Raghuram Rajan, in an address very recently raised many of the points covered in this post. He touched upon the way shareholding is structured and the absolute impunity with which most promoters operate risking the economy at large. Dr. Rajan remarked “India is a country with many sick companies but very few sick promoters”. It would seem the cronyism in India is like riding a tiger (borrowing phrase from Ramlinga Raju of Saytam fame), you cannot get off without being mauled or killed. One should hope for better things to come along but any major change is possible only after a great bust killing an entire generation of crony companies almost bring the economy of India to a grinding halt. Does anyone else have a plan?
So long….
