• PAGE ONE
• INDEX
• HOME

Malegam Committee report on UTI -- Strategic partner, no solution

S. Venkitaramanan

THE much-awaited report of the Malegam Committee on UTI has been placed before the public. The Committee has taken note of the special circumstances in which the UTI finds itself at present. The core of its suggested solution consists of restructuring U TI on the basis of a new enactment, which would break the link between the Government and UTI by the introduction of a strategic partner, not excluding a foreign player. This is mainly with a view to de-risking the Government from its implicit responsibi lities to meet the commitments, particularly based on the UTI's schemes on which return is assured.

The Committee notes that the recommendations of the Deepak Parekh Committee in regard to linking of US-64 to net asset value (NAV) remain substantially unimplemented. While it recognises the difficulties of the UTI in implementing these recommendations, it reiterates that the longer this reform is delayed, the greater will be the problems of the UTI.

The Malegam Committee's recommendations on restructuring UTI may meet a political roadblock, especially in case the strategic partner chosen for the UTI turns out to be a multinational fund manager. To give up the control of the largest mutual fund in In dia to a foreign entity -- which may become inevitable as part of the bid process -- will test both the political will and skills of the Prime Minister and the Finance Minister.

The Malegam Committee recognises that the strengths -- as also the weaknesses of the UTI schemes -- derive from the widespread perception of Government ownership of the UTI. While this has given rise to problems since Government ownership reduces the fle xibility of operation of the UTI, it has also inspired confidence. One obvious price to be paid for this advantage has been the inevitable bailout of UTI in trouble, especially with reference to the assured return scheme, where the UTI's promised returns are higher than the net asset value.

In the context of the proposed introduction of a new strategic partner, there arises the question of determination of a proper valuation of the UTI, which is proposed to be left to a valuer. The valuation is bound to be messy, given the mix of assured r eturn schemes and others. The Malegam Committee has also recommended the setting up of a reconstituted sponsor company, a trust company and an asset management company, as is the case in respect of other mutual funds on SEBI's approved pattern. The Commi ttee has also put in safeguards to ensure that the command over the large resources of UTI does not remain with a single party.

That the UTI is in trouble today is a reflection, not so much of its skills in fund management, as much as of the impact of its assured return schemes, which are as high as Rs 28,000 crore. The proposed returns from these schemes are assured at higher v alues than what the UTI can realise from the market. It must be noted that the general performance of other mutual funds, including those run by established players from abroad has not been much better than that of UTI in recent years. All these returns have been low mainly because of the decline in market conditions. Whether the remedy of privatisation will solve the basic problems faced by the UTI arising from the decline in the markets and its impact on its assured return schemes is not specifically addressed by the Committee.

In this context, it is worth drawing the reader's attention to a corporate legal battle, taking place in London between $5.8 billion Pension Fund of Unilever and its investment manager, Merrill Lynch. Unilever's pension fund had earlier agreed with the M ercury Asset Management -- as it then was before acquisition by Merrill Lynch -- that it would beat an agreed benchmark return by 1 per cent. Mercury Asset Management had also agreed that the fund manager would not fall more than 3% below the benchmark i n any one year. Sadly, the performance of the fund manager was significantly below the agreed index. The fund manager was sacked. The matter has ended in Court with Unilever claiming a compensation of more than 100 million pounds. This dispute proves tha t it is difficult even for the best investment manager to manage investments in a declining market in a manner which can assure a return. There is a lesson here for the would-be reformers of the UTI. Even the best international fund managers have failed to achieve assured returns. The substitution of current stakeholders in the UTI by a strategic partner drawn from even the well-established fund managers abroad cannot bring about a miraculous transformation in the UTI.

This is not to say that all is well with the UTI as it stands. It needs restructuring, including better compliance with the standard structure of mutual funds. It also requires a change in the pattern of governance. The suggested introduction of a strate gic partner -- and reducing the majority of the Government -- is advocated mostly with the intention of restoring to the UTI the flexibility, which it lacks today, due to the built-in handicaps of a public sector unit owned by Government. It is possible, however, to achieve the objective without introducing the drastic remedy of privatisation. One possible way out will be to create a special purpose vehicle to hold the UTI **a la the suggestion of Vijay Kelkar in another context. The special purpose veh icle can be one in which the current and new stakeholders, including Government, can participate with the Government per se having a minority. This will enable the new UTI to have the flexibility of its private sector peers without resorting to privatisa tion.

What is important is the more difficult issue of ensuring in practice that the UTI is free from political and bureaucratic interference, which is suspected to be behind its recent failures. The one amendment, which is needed for this in the UTI Act is to prohibit any directive, explicit or implicit, by its stakeholders unless it is transparently disclosed. The introduction of a new strategic partner, risks the disappearance of some of the advantages that UTI has today. These advantages may well be lost by introduction of a new strategic partner, especially from among the multinational giants with their different managerial culture. The Committee's suggested remedy may, therefore, prove too strong a medicine. Experience of similar mergers elsewhere indi cates that integration of different organisational cultures may prove to be insuperable. The Government of India will have to consider this aspect carefully.

There are a number of other and welcome suggestions, which the Malegam Committee has made with a view to improving the UTI's viability. One of them relates to amendment of the Income-Tax Act, providing for removal of dividend tax, which is today chargeab le on the UTI's income in respect of schemes with assured returns. This is a sensible proposal. The second is to make UTI direct its investments more into Government securities and other debt instruments of high quality.

Today, the UTI has nearly Rs 24,704 crore in equities. It will then have to convert a substantial part of these to Government securities, which will have a serious implication on the equity markets. In any event, it does not seem to be desirable to conve rt the UTI into a scheme oriented mostly to gilts or debt. One cannot forget that the UTI was established to give an avenue for the small man to participate in the equity market.

Turning to the assured return scheme, the Committee seems to be of the view that the accumulated liabilities in the sense of the gap between assured and prospective returns have to be set right before the introduction of the strategic partner. This burde n has to be borne by the Government. Perhaps, the Committee feels that the Government and the sponsors have to pay for their sins of omission and commission. Whether a bailed-out UTI is to be handed over to a private sector partner is a billion-dollar qu estion! Whether or not Government will find the suggested solution politically acceptable, it is not by itself a device which will end UTI s troubles, which arise from assured return schemes. The solution for these does not require a new strategic partn er either from abroad or India.