Regulatory Uncertainty Spooking Foreign Investor: Zia Mody, Corporate Lawyer

Zia, thank you so much for speaking to BW Businessworld. It’s rare to interview someone who can speak on such a wide range of issues, such as economy, laws and governance. You are in the business of providing legal services and run a successful law firm, AZB & Partners. Please give us your general perception of the economy and how your business has been affected by it by the recent developments.
I think the answer about the economy is quite obvious. The statistics show contracting growth. When the uptick will start is anybody’s guess. What has to be resolved is the catharsis of the NPAs in the books of the banks, and this could be done by fresh injection of confidence in the financial system. Some NBFCs are healthy and performing well and businesses are also getting access to funds from alternate sources.

There is a fair amount of pain, especially in the SME sector simply because of the ripple effect on the ecosystem as a result of stress on the big players. I think that no one is focusing on them and even the banks are not responding adequately to their call for help. As the alternate supply of capital also gets stressed, and there is nowhere to turn to, the government has become concious of the problem and appears to be focusing on helping the SMEs. It is, however, very important that it is not too little too late.

Don’t you think the response time has been too late?
Yes, the government could have moved quicker, but I that the government is now listening in terms of what it needs to do. It also keeps emphasizing in its statements that there is the need for speed. One hopes that these efforts will achieve the desired outcome.

When you speak to your corporate clients or others in the industry, how do they view the last decade, so far as the NPA crisis and stress on the financial system are concerned? There are a lot of bottlenecks that were identified quite late even from the regulatory side in spite of repeated complaints and red flags. What could have been done better?
Hindsight is always 20-20, and it might be convenient to find someone to blame for the distress, but not fair. I agree that the regulators could have followed up on the red flags raised in case of, say, a systemic NBFC, rather than just highlighting those red flags. It would appear that nobody was willing to bell the cat and address each of those flags. The system always appears to work adequately till the music stops. The problem was recognised after the then RBI Governor, Raghuram Rajan, started calling out banks on the issue of bad loans. His effort in getting all the banks in one room to discuss the issue, formally and informally, marked the beginning of the whole exercise. It led to a concerted inter-creditor effort to deal with the problem, which effort was not there before.

I do feel, in hindsight, that it could have worked better with the lenders having small exposures not stifling the resolution of the larger pie. Promoters of the defaulting companies banked on the disunity of the creditors to achieve delay. Ironically, in some cases, the delay actually resolved some of the problems because it gave time to the system to have the money flowing again. Today, if you ask some borrowers, the real problem is that it is not possible to ease the money back into the system.
Also, look at the real estate crisis. The sales are very slow and that has a knock-on effect on everything. The lenders are unable to give time to the sector to recover because there is no flexibility. I think some of our solutions have been knee-jerk considering the enormity of the situation.

You mean these have been “band-aid solutions”?
Yes, a bit of patchwork, although the RBI has done things with considerable thought. The RBI asking for transparency on bad loans did not happen overnight. There was no solution but to clean up the lenders’ balance sheets. Now, how as an economy do you not expect severe pain with that sort of NPA issue looming large? So, I think we have another 2-3 years of pain and there is no alternative.

The government is trying to give the real estate sector funds for the last mile funding but much more is needed. The government has also stated that it would start clearing the dues owed to the private sector. A lot of money is stuck which has not been released. As you say, the quicker the better.

Considering demonetisation and introduction of GST, do you think the government has the right intent but it somewhat miscalculated how things work on ground?
GST and demonetization which came in around the same time, were extremely stressful to several parts of the economy. I think the government actually felt spiritually and philosophically that they should be weeding out unaccounted money. The fact that a lot of it came back is being addressed separately by them. I don’t know the exact numbers but it would appear that almost the same amount of unaccounted money has been generated again.  So, the real issue the government needs to answer is are we better off after the exercise? The next is, has it changed sufficient people into the digital economy so that cash is not the preferred method of payment. But if you look at the way the givernment is encouraging all the unified payment systems and all the enablers of the digital money and the fact that we have payments being made through mobile phones,coupled with the success of the ‘jan dhan yojana’ and other positive steps, we appear to be moving slowly but surely towards the less cash-based economy. I believe that our problems are so large and have been there for so long that you can’t expect a quick fix from any government and I am a clear believer in small steps. The question is whether the small steps we are taking now, would, in, say, 10 years, be perceived as steps taken in the right direction. Now, who can say that cleaning up the NPA’s is not good. The question is if the process has been sufficiently benign or less disruptive than it could have been. So, in some cases the answer would be “yes” and in the some cases the answer would be “no”.

If you look at the IBC cases, by and large, they are seeing 40-45% recovery and the system on an average (Essar case aside), is taking about a year for the resolution. Frankly, what they tell us, that is world standard. In every part of the world including developed economies, it’s a one year story and you could may be get a bit more recovery but the average of 40- 42 per cent is entirely respectable. So we are starting on this journey which I think is going to lead to a lot more pain in sectors. Who knows how many players will survive the real estate sector. On the other hand if you look at the statistics, the largest FDI today is in real estate. So, even today real estate is an attractive sector. So the question is “what price”, the question is “at what time”, the question is“how much greenfield risk you want to take”. Different babies have different perils.

Or may be different treatment?
Yes and so you know if you look at real estate lawyers, they say commercial real estate is doing fine, but residential real estate is not doing ‘too good’. But again it’s a cyclical effect. So I think that the good news is the people we speak to - the foreign players, they are constantly saying “we want to invest dry powder in India”. But what bothers them is the regulatory uncertainty. Will you change the rules of the game? Will you change them on us? Will you give us no notice? So when you are not certain about what your business plan look like, for private equity what are the parameters they have committed to their investment committee, then that becomes indefensible.
 
You know the lack of certainty has been a problem which has bothered us not just today but for the longest time. Why do you think we suffer from that problem? Why do you think this is quite specific to, as far as India is concerned, our tax rules are complicated, we have the highest import duty amongst the developing economies. Why can we not make things simpler? 
Like saying life should life be simple or life should be fair. We have a very complicated federal structure to start with. We have States which demand their fair share of the resources, as they should. GST which the then FM put together was an enormous achievement simply because it appeared an impossible task to have an agreement on the sharing formula. The Centre had to guarantee certain amount of revenue to make it work. So, yes, of course, things could be made simpler. When you’re talking about GST - that was an attempt in simplification and I think in the mid term it will pay off. But I think the rules which get changed have to be thought through better. Now nobody can say that the government can never change anything. Of course, it is absolutely their prerogative. But the thought process which goes in, the effective consultation, with the effective stakeholders and then not necessarily sticking to the position that their initial view was right- the process of dialogue becomes very important. Now, I am on some committees of the government. As a law firm, too, we do a decent amount of advocacy. Let me tell you that in the last three years, what I have seen is that unlike before, we are listened to more than ever before. Nobody is saying that what we say will be accepted, but the fact that we are making certain points, I think they are being digested more and I think that is progress. So the first thing is the openness to listening and the next thing is - in a complicated economy, how do you really translate that into your ease for doing business. Now, if one claims that one can set up a company in one day, it is hogwash. It is a pain in the neck for a foreigner to set up a company in India. Small steps should be taken which can ease the pain. It’s not only about tackling corruption; it may be a solution which gets things done in a timely manner. But, I think it is also a capability issue in some of the government departments. On the positive side, so much of doing business in India has become transparent. You upload everything online and everything is now available for everyone to see. There is less opaqueness. And, so, decision-making is easier if one’s paperwork is in order. The flip side is how soon do you clear the paperwork? Because in this country, delay is death. Look at litigation. Today, it is clear that the biggest litigant is the government. There are a lot of cases where the government is a party only because so much money which has to be paid to the private sector is clogged. The finance minister has made a positive statement of intent on this matter and it would lead to less litigation and release of money into the system.
 
Talking about trade policies and you mentioned a lot of foreign investors are ready to invest dry powder but there are a lot of uncertainties. What, according to you, are those uncertainties apart from land and labour laws?
So, if you regulate hospitals - somebody buys a hospital and then you change the rule on pricing of drugs or medical devices, or you say that hospitals should not make profit. That spooks the investor. The foreign investor has not come to India to do charity Everything goes well as long as the business case works. When you look at clients investing into infrastructure, apart from just roads, look at waste management or airports or ports, there is always the worry on tariffs. Will they change? Will there be some dispute that will come up which will threaten the lease or concession agreement? Look at the whole renewables layout in Andhra Pradesh. People have invested in these renewable companies. But what happened? So, pricing of uncertainty is to our disadvantage.

How much do you agree with the statement of certain analyst or some sections of the government that the slowdown is cyclical not structural.
I think, it’s a bit of both. I think the cycle has to change. Very simplistically put, we have an aspirational set of too many millions and they will start spending at some stage. Structural, because if you don’t want the same problems to visit you again, then “structural” means cleanup, cleanup means pain and pain means setting back. Today why is our economy contracting apart from the macro issues etc. One of our private equity clients told us “my promoters have lost their mojo”. So, when the Prime minister and the FM and everyone else is talking about reviving animal spirits, I think that’s the very real ask that they will have to make to India Inc. and they will have to give India Inc. some good policies or good outcomes to bring their mojo back. Today, you find a reluctance to reinvest in India.
 
Do you think that could be done by boosting the demand side because enough has been done towards the supply side. Giving more cash in the hands of the people?
I think the government knows what it has to do for demand and supply. The RBI, too, is trying its best, but ultimately people have to feel confident that the future is bright. Everything is down- hotel stays to consumption of daily necessities etc. And Indians are cautious by nature right? Earlier, savings used to be such a large part of our GDP. So I think that nobody wants to take a big bet on a big item because of this lack of confidence.

Let me talk about the global scenario and US-China trade war which has become the talk of the town. Where do you see India placed in a global scenario in today’s situation considering the crisis in the middle east, whatever is happening between the two big economies and as many people say we have not been able to take the position which has been vacated by China so far. Where do you see India as an economy placed in the global context especially in uncertain times like these?
I would see the government looking at it as an opportunity. It should. I think that unlike China I don’t think we are as much of the global supply chain as China is and that again is something that we can use as an advantage to progress our model further. But I think that shifting manufacturing hubs is not overnight and to say “come to us” because US and China have trade tension is not easy. People have to pick up a lot of baggage from one country where they have invested and as the tensions ease off, we would realise that we lost the opportunity. I think we have to sell ourselves on our own and I firmly believe that there is more than enough for us to sell ourselves.
 
You think we are not selling ourselves enough to our potential?
I think so, I truly believe so. I think that we can dress ourselves up much better.
 
Elaborate on that a little please
We have everything- a western style democracy ticks the first box. We have a large young population, an economy that is spending, our population is growing not aging and we have a population that is in dire need of healthcare and education. All these opportunities are clearly monetisable with scale. What we offer the world is scale. Just look at the number of our mobile phone subscribers. Which country, which has a democracy, offers that? And then, look at the big-ticket FDI in defense, newer platforms which are coming up with the help of private equity, in real estate, look at the different segments- commercial, residential, slums, co-living, co-working, student housing.  Then we see our large foreign clients, who are large investors, who are willing to invest billions of dollars in the distressed assets space. They are coming here and seeing the opportunity; they are biting into some, they are waiting it out for some others. They will be part of the reason our NPAs get cleared out, provided our processes efficiently and quickly. Jet Airways is not a successful resolution, we could have done better. DHFL is moving in the right direction, with the lessons already learnt, I hope. It’s a strange world for the government as well, you know. Never have they had to deal with so many problems of such magnitude.

So if I understand correctly, all this displays to the world that we can resolve our problems effectively?
Yes. It shows that we have processes in place which efficiently resolve pain points to make it a win-win for all. Ultimately, the outcome has to be that the person who writes the cheque for this country, also gets to make money. That is a real concern for the foreign investor, today. If the Rupee depreciates as it did, the private investors who came in at, say, Rs 40/$, even if he made a good Rupee return, would have made nothing but very modest $ return.
 
How has been your business doing in the recent turmoil?
I think all the law firms firms are doing well. Pleasure or pain, we have our clients. We’ve benefited a lot from the insolvency and bankruptcy code in terms of mandates and bidders, representing resolution professionals; and so, that is a piece of work that is growing.

If I ask about the numbers what are the deals you have closed in the last fiscal year?
So in the M&A space some of the large deals we closed were L&T’s acquisition of MindTree, Reliance’s sale of pipeline to Brookefield. We also did some private equity deals for KKR and Max. There was also the purchase of Bhushn Steel by Tata Steel through IBC.

Domestic Mergers and Acquisitions have dropped in comparison to last year. Is slowdown the reason?
That and also the delay in getting the deal done. What would normally take 3 to 5 months is now taking 9 months. There is cautiousness where sometimes, investment committees tell private equities to go back, relook at the business scales, relook at the valuation they had proposed. In the middle of some deals suddenly a regulator pops up, which was not expected. Sometimes, calls which are taken are questioned by the regulator. And so the pipeline from to start to finish is getting much longer. That has an effect.

How do you rate the financial policies of the government out of 10?
I would say 6.5-7. I would say much more plus than minus because at least the policies are being put up there. There is not just one consultative paper after the other and you can sometimes blame the government for too much quick action but when the government doesn’t act you say the government is not listening, not doing anything. So, there is not perfect balance and at the end of the day politics means you have got to take care of all your constituents, especially your voters.

As far as advising the government on sustained reforms like corporate tax waivers, it didn’t translate into boosting demand on ground yet, and it was expected that the results would be faster, but most of the corporates have preserved the cash.
Not yet, so when the mojo comes back they will spend that cash and I think it will take about another two years for the mojo to be back.

As far as disinvestment is concerned, this government has totally flunked. There was a disinvestment proposal for Air India, you know how that went.
Be fair, it’s a difficult one to disinvest.
 
It becomes difficult if you don’t include Special Purpose Vehicles along with the airline
You have unions, you have a lot of issues and how much of a haircut is the government going to take on the debt outstanding. How debt free is it willing to give it to a suitor. It’s not an easy one, let’s see what happens with BPCL. The timetable has not been adhered to, I agree. So let’s see what the government plans to do.
 
Let’s talk about the data protection bill in its current form as compared to GDPR and California privacy Act. There is an issue of privacy. What’s your opinion? Data is the new oil and everybody from the Government to the corporate sector wants a piece of it.
It will still go through consultation. So if we look at what Srikrishna committee suggested and what has happened, it’s not the same. Even J Srikrishna has come out and said that. I don’t know where it will end up and I think it will go through some shades. But I can see the balancing act which the government wants. Sometimes, as you know if you look at the GDPR, it is very very extreme. The ripple effect on how it flows down, to even suppliers of services like us. So, we are asked by the Europeans that you will undertake not to do this, you will undertake to store this, or you will have to take consent about something else, which sitting in India looks completely bizarre. Now, if you are talking about privacy I don’t think anybody can question the right for privacy, the right to be forgotten, etc. no matter what the entire gamut is. But, I think that when you are using data to help ease business like the Aadhaar issue, like the KYC for which some banks say that if you have the central database and you can go up and down in 3 minutes. That also has to be kept in mind. Now, if you take out privacy and use it for profiling, obviously you don’t have to say that’s not a good thing, it is a bad thing. But when you talk about data localization, I personally think that is a bit over the top. I do not believe that we should have the situation where we have to keep our data only here and nowhere else. And I think other countries have insisted that if locally generated data is kept here, it is not a problem. But to replicate that data outside has not been seen as malignant. Why do you want data localization? Ultimately, it is for security; it is that the data of your citizens, or your national stays in your country. But if you have proper safeguards, then global conglomerates which have global databases like Amazon or Citibank or any bank which has serious global data bases to maintain, may provide a hassle-free business environment operation for global companies operating in the country.

Do you think the bill gets passed in its current form it will be challenged in Supreme court?
Whatever the form it gets passed in, it will be challenged.

Let me talk a little about Indian government opening Indian market to the foreign law firms? Where do you see that going and are Indian law firms for the lack of better word competent enough to compete with the foreign law firms?
So my own view is that at some stage the issue will be deliberated with the government and I think the government will trade off opening of Indian law firms with more H1 VISAS or whatever it needs to do. I think right now the government is being asked to open it up without any quid pro-quo. I think the government is probably feeling that it’s not appropriate and I don’t think with all the fires burning right now it is the biggest priority for the govt. But, like Singapore, like Hong Kong and other jurisdictions where foreign law firms are coming slowly but surely the foreign firms will be coming to India. Now what is the biggest challenge for most Indian law firms? I think we have the quality but I don’t think we have the depth. So, if we could hire another 30 lawyers today that were good, then we would roll out offers in one week. I think it is the comparative lack of quality talent. A lot of talent has gone abroad. Some of our talent has, according to my father, thankfully gone to the courts and those talented people have become excellent counsels. Therefore, the catchment of good talent has shrunk considerably. Our law schools, the good ones, don’t throw out more than 100 candidates per year, so maximum good lawyers will not be more than 700-800 lawyers. Some go for LLM, some go and work for foreign law firms, some go to the court. At last, what you have are the Indian law firms fighting for that small pie. So that is the real struggle, and therefore what would be the biggest impact on the Indians law firms is that they would cherry pick the best the talent. And as a result for some of the law firms, will be forced to have alliances, because they have lost talent, and therefore, clients. The ones who are left standing will have to up their value propositions significantly.
 
Do you think we need to cut our import bill by boring less crude oil and moving on more electronics vehicles and their adoption?
It’s obvious but it is not a tomorrow issue. Our EVs are going to take time to get into real effective mode so I don’t see an option unless our renewable really wraps up and even that is going have to take time.

What happens to the Best Friend Alliance with foreign law firms after the FDI. You ended yours with Clifford Chance, who is the current one?
We have no current one. We don’t have a best friend relationship. I think like most of the law firms, AZB is operating on the model of good friends which means we have, in each jurisdiction, maybe 4-5 law firms with whom we work consistently, and therefore, the collegiality and the mutual referral system is better oiled than spreading ourselves to 25 firms. I think most firms have adopted that model. The best friend model is if you work fairly exclusively with one and other and I think that given that India is not open to foreign law firms, that make no sense.