Paul Pogba, BHEL and Stock Markets

One of the most promising midfielders in contemporary world football Paul Pogba was recently signed by English power house Manchester United from Juventus for a world record fee of GBP 94m. Considering Pogba’s age, ( still 22 years – and he has been playing top level football for last four years) and achievements in Italy’s Serie A it would not have been difficult to ignore his underwhelming performance for France in the recently held UEFA European Cup. Not surprisingly two other top clubs – Real Madrid and Barcelona too were said to be in pursuit. Except for some raised eye brows not many pointers have come up regarding the transfer price of this fine young player.

However even amid the jubilations in Manchester there are some facts that should raise a red flag – outgo on Pogba is almost 25% of ManU’s annual revenues, Pogba is an amazing player but he is still a work- in- progress even if he is to become the next Zidane or Scholes, despite his high work rate he can’t lead the midfield that one would expect from a player who costs 93 m GBP. Most importantly he is not in the league of Messi or Ronaldo (or even, Neymar). Given his style and position preference he will also never be a Xavi, Pirlo or Iniesta. Since he won’t score too many goals – not being a forward- he won’t even get the occasionally exalted status provided to Bale.

Thus, the biggest problem in this transaction is that ManU system – that has been of late starved of the laurels that it was so used to in the Ferguson era – will have little patience with such an expensive player if their trophy drought continues for another year. Already, the ManU hierarchy will be cognizant of the dichotomy between their fans’ – big exponents of open and attacking football- expectations, and the dour style of their new manager Jose Mourinho. Eight ten-twelve weeks of sub- par performance in the English Premier League – and knives will be out at ManU.

It’s not just Paul Pogba

What would have gone on in the minds of ManU decision makers when they agreed to pay such a hefty fee? Indeed similar situations often occur in stock markets too. How does one justify the 4x appreciation in BHEL stock in 2006 and 2007 (followed by a decline of almost 70% in the ensuing four years)?

These are (although to be fair, Pogba’s case is yet to be settled depending on his performance in the coming years) cases of economic misbehavior – deviation from a rational approach.

Decision making with a rational approach

A stock that keeps going up like crazy, or a very high bid in an auction scenario are often explained by behavioral scientists along the following lines. These also happen to be the emotional pitfalls that we need to be aware of, and avert, to prevent bad decisions.

  • Overconfidence in our ability – Generally we tend to overestimate our ability to discriminate between potential of two players or stocks. Here it is important to challenge our inclination with a barrage of counter arguments.
  • Tendency to make extreme forecasts – Decision makers very often are prone to this fallacy especially once they have made up their mind. Isn’t it common to come across statements like “this guy will be the next Messi” or ” this stock is a five bagger”? Just looking at history can provide a nice base level – how many players of Messi’s caliber have emerged in recent times, or how many five baggers have come up in last ten years?
  • False consensus – If we like some stock we start thinking that the stock is being chased by others too. This prompts us to quickly make the purchase to prevent others from bypassing us in the queue. This is especially pertinent for private equity transactions. Here the key is to evade the urge to act early. Also, taking into account all the existing information and analyzing them properly can aid an independent stance that may not need the consensus’ seal of approval.
  • Winner’s curse – When many bidders compete for the same object (or player, or stock) the winner of the auction is often the person who most overvalues the object. In many cases the object will be quite good but not as good as the person winning it thinks. Taking a deep breath and softening one’s ego is perhaps the only way to avoid wining in an aggressive auction.

Coming back to Pogba – one really hopes that he succeeds at one of the most demanding clubs in the world. With solid technical abilities, imposing physical presence and tremendous work ethics he is one of the next big hopes of global football especially for the post -Messi and Ronaldo era although the high hopes of Manchester United may not be easy to meet.

Divestment: Don’t quibble over quarters and eighths

In last ten years India’s governments in their urge to time the stake sale in PSU companies missed opportunities and ended up with abysmal receipts from divestment. Stock market returns on BSE PSU index over last 10 years( till June’16) have been a paltry 4% per annum versus 11% p.a. for the Sensex suggesting that attempts to maximize stake sale proceeds haven’t yielded desired effect over long term. Had the government sold off its stakes in these public sector companies in 2006 and invested the proceeds passively in the BSE Sensex it would have been better off by a massive Rs 750,000 crore in 2016. Of course, it is not just the implementation process but the focus and intent too that have been lacking. However if divestment is pursued with vigor in next two years it can still throw up the much required capital that the government will need for banks’ recapitalization and for improvement in education, health and infrastructure facilities.

Government’s business to run businesses?

It is remarkable that even twenty five years after liberalization India’s government is so circumspect in getting out of the business of running businesses ranging from mining, power and shipping, to airline and telecom. In fact this is one area where the current government has not even attempted to break from the past and hence this largely seems like a continuum from earlier regimes.

Question of positioning

To a large extent, poor record on divestment is rooted in both – formulation as well as implementation. Firstly, governments in the past have failed to build political consensus- perhaps due to lack of focus- on need and potential benefits of divestment. Secondly, divestment has largely been seen just as a way to bridge the country’s fiscal deficit whereas common sense and basic economic principles suggest it should be positioned as rebalancing of government resources which can be used for better applications, or as a way to improve long term sustainability of some of these PSU companies and thus as a way to save jobs. In fact as various sectors were thrown open for private sector participation as a part of liberalization programs over last twenty five years, the governments should have followed a calibrated approach to completely exit those sectors except some sectors that require government participation. PSUs like Heavy Engineering Corporation, Hindustan Steelworks Construction Limited, Hindustan Machine Tools, Indian Tourism Development Corporation etc never stood a chance once private sector had been allowed in their respective sectors. Eventually these companies devoured tax payers’ money and caused acute problems for their employees and their families.

Then, there is one steam of thought that considers PSUs as family jewels and hence is inimical to selling them even partially. The truth is that many of these so called jewels run the risk of dramatic erosion in their value in near future. In fact this euphemism itself looks too far from reality. Except in sectors where private sector is not allowed or has been allowed only recently, most PSUs lag behind their private sector peers on parameters of efficiencies, execution, financials, scale and long term prospects. Sadly, by not selling them in a timely fashion we are effectively waiting for these jewels’ worth to deplete further.

Close the door before the horses bolt

On the political front this process of consensus building should not be as difficult as it has been made out to be so far. Essentially, in the name of social good the extremely poor classes have been deprived of government resources that are deployed less productively in public sector undertakings. At the same time, middle class– which, employees of these companies typically belong to – who ostensibly are the ones gaining from continued government support to PSUs, can be the biggest losers in the end owing to risks of job losses if these companies are not reinforced to compete in the market place. For this, non-government ownership is often what the doctor ordered for. It is no secret that operational inefficiencies, slow decision making, and interference from government give PSUs a massive disadvantage.  Many PSUs have turned defunct and many more are on the path to oblivion. On the other hand there are some examples where impressive improvement in performance has been seen after privatization without much job losses.

There is no reason to expect a trend reversal in next ten years especially given that competition in all sectors has aggravated. This is the primary reason why it makes financial sense for the government to monetize its equity in PSUs on a mission mode.

The government can start the process on a clean slate by drawing up i) a proper policy delineating the need, motives and potential benefits from divestment in various sectors, ii) a roadmap for divestment – list of companies in which stakes will be reduced to 51%, 26% and nil – over 1 year, 2 years, and 3 years, and iii) a clear plan regarding the proposed usage of receipts from this divestment.

The stakes are big – literally: 4% of GDP can be raised

Regarding the utilization of divestment proceeds, while education and health are two important focus areas which need enhanced budgetary support, in current circumstances the proceeds may also be used to recapitalize the PSU banks. Even though it can be argued that this will practically keep government involved in some form of business, it is not illogical for the government to have at least some presence in banking via some PSU banks so that it can perform its duties of a welfare state in banking sector. Also, it would be naive to deny that PSU banks need to be revived urgently for pick up in broader economy.

The stakes are big for India- literally. Total market value of government’s stake in the fifty seven companies in PSU index is about Rs 950,000 crore. If the government brings down its stakes to 26% in these companies ( except for SBI, and the three large oil marketing companies where one assumes that the government holding is kept at 51%) it can raise about Rs 475,000 crore, equivalent to about 4% of India’s GDP in F2015. This sum can be sufficient to run 2x the current budget on primary education and healthcare- for next five year, after recapitalizing the PSU banking system.