MIC: A new model of corporate finance that raises more questions than answers

In the spirit of representative democracy, government cannot afford to spend public funds from the BOM without accepting a mimimum level of parliamentary scrutiny

By Aditya Narayan

In the local world of corporate finance, we already had commercial banks (providing short-term and long-term loans to business entities), the State Investment Corporation Ltd (providing equity finance to enterprises) and the Development Bank of Mauritius Ltd (providing project finance and working capital to entrepreneurs). Now we have the newly set up Mauritius Investment Corporation Ltd (MIC), which will invest in private and public corporations in an attempt to help them out of the financial quagmire they are in due to pandemic-induced lockdown. However, the creation of the MIC raises more questions than answers.

Is the MIC duplicating the roles of the SIC and the DBM? Will it be a more efficient investment vehicle than conventional tools of raising capital (equity and debt securities) for corporations? How does it fit into existing capital markets? Will it throw a financial lifeline to businesses in traditional sectors with an export-oriented business model or will it try to incentivize them towards embracing a new development model based on import substitution, clean-energy industry and renewable sources of energy? Will the MIC leverage its investment capacity to be the strategic planner guiding business towards a greener economy and achievable self-reliance?

All these are relevant questions considering that the Bank of Mauritius (BOM) has, as primary mandate, to maintain price stability and to promote the orderly and balanced economic development in Mauritius (as stated in its communique of May 22, 2020).

“If Government were to borrow directly on the local market by way of Teasury Bills or long-term bonds to mop up excess liquidity in the banking system and provide stimulus finance to economic operators, it would have increased the public debt. Having the BOM raise the Rs 60 Billion and then provide the money to Government is a kind of off-balance sheet debt financing. By the same token, having the BOM create a SPV to channel funds to companies from the central bank’s reserves obviates the need for government to account for the ouflow of bailout money from its Consolidated Fund…”

Context

The government has chosen unconventional methods to finance its deficit and bail out corporations short of revenue. First, it was announced that the BOM would provide Government with a “one-off” contribution of Rs 60 Billion under section 6(1)(oa) of the Bank of Mauritius Act, solely for the purpose of assisting in the fiscal measures to stabilise the economy. However, last Friday, the BOM back-tracked and announced that the Rs 60 Billion would be raised by the issuance of BOM Bills (most likely Treasury Bills and bonds) on the financial markets. Secondly, the BOM has set up the MIC as a Special Purpose Vehicle (SVP) under under Section 6(1)(y) of the Act with an initial capital of US $2 Billion (Rs 80 Billion).

These are two different measures with different purposes. The intended donation of Rs 60 billion was supposed to go into the government’s Consolidated Revenue Fund to finance public expenditure. Now the amount raised by the BOM through BOM Bills would be made available to Government but would be recorded as debt incurred by the BOM on its books. It is still not clear whether Government would be liable for the money received from the BOM.

As regards the capital of Rs 80 Billion of the MIC, it has been withdrawn from the BOM’s reserves and will be used to provide support to economic operators through a range of equity and quasi-equity instruments. The MIC will buy shares (equity) in companies that need finance where it feels that a direct stake in capital is warranted. For example, it may buy shares in Air Mauritius. It will also invest in quasi-equity (convertible bonds or debentures, preferred shares) in those companies that would be suspicious of a direct participation of the BOM in their affairs.

Governance

Technical jargon may confuse people, but the SPV is an euphemism for a separate legal entity that is set up by a related party (BOM) to absorb risk for the latter. The MIC will hold separate assets and invest in third-party entities. The BOM does not have to record the SPV in its books as long as certain accounting criteria regarding consolidation of related business entities are met. The SPV is just an arrangement that allows the BOM to shift unrelated activities and risk away from its financial statements. That’s typically a case of off-balance sheet financing where the BOM provides capital to the MIC for investment purposes without consolidating MIC’s financial results with its own in the books. A similar SPV (SBM Infrastructure Ltd) was created to channel finance from an Indian loan to Metro Express tramway project. SBM’s SPV does not show up on SBM Holding Ltd’s financial statements.

In terms of governance, the relationship between the BOM and the MIC is similar to that between a holding company (parent) and a wholly-owned subsidiary (child). BOM will exercise de jure control over MIC by virtue of providing it with its capital and appointing its board of directors. This non-arm’s length relationship is extended to the State, which will exercise indirect control over MIC through its de facto control of the BOM’s board of directors.

Transparency

Why did the government resort to unconventional methods is also a matter of transparency. If Government were to borrow directly on the local market by way of Teasury Bills or long-term bonds to mop up excess liquidity in the banking system and provide stimulus finance to economic operators, it would have increased the public debt. Having the BOM raise the Rs 60 Billion and then provide the money to Government is a kind of off-balance sheet debt financing. By the same token, having the BOM create a SPV to channel funds to companies from the central bank’s reserves obviates the need for government to account for the ouflow of bailout money from its Consolidated Fund.

However, we should not be deluded by the official narrative. Although funding of economic operators by the MIC with the use of equity and quasi-equity instruments is a transaction between the MIC and public/private companies, the MIC’s capital is public funds to the extent that it originates from the BOM. Public funds are not only funds raised by government through taxes and borrowings. Since the BOM belongs to the country as a Public Interest Entity, its funds are public, not private. The MIC’s provision of equity or quasi-equity funds to third parties will amount to a stimulus package. Calling a rose by any other name does not negate the fact that it is a rose.

The BOM’s announcement that Lord Desai, a British-Indian economist, will chair the board of the MIC is intended to give an aura of independence to the MIC. However, Lord Desai, although a competent economist, does not have first-hand knowledge of the local economy and would rely on advice from local experts. Besides, will he have the latitude to set the strategic direction of the MIC?

Accountability

It is said that “there is no taxation without representation,” meaning that government cannot raise taxes without parliamentary approval. Similarly, in the spirit of representative democracy, when a huge stimulus package (by any other name) is being provided to economic operators, there needs to be some parliamentary scrutiny. There should be no major “bailouts without representation” in the sense that government cannot afford to spend public funds from the BOM without accepting a mimimum level of parliamentary scrutiny.

In most countries, bailout packages are enshrined in bills that are passed in Parliament. If the MIC invests in lame duck enterprises, the risk of loss of investment will be real. The MIC might not have to refund its capital to the BOM as it is a separate business entity. Similarly, the BOM could just write off any provison of funds to the MIC by offsetting accounting entries. However, it is a use of public funds that should not go to waste.

Risk assessment

It is very important that the MIC sets up a proper risk assessment framework to assess the business risk, credit risk, default risk and operating risk associated with a particular business when deciding who to bail out, when and how. Just throwing money at existing enterprises to keep them afloat and preserve jobs would be a short-sighted vision. It is necessary to look at their business model and determine whether it is sustainable in the long-term. That’s where the MIC should be a kind of strategic planner who pushes economic operators towards a more inclusive and sustainable path of growth, taking into account the need for a greener economy that is geared towards import substitution, food self-sufficiency and energy security.

* Published in print edition on 2 June 2020