Entry load ban prompts many buyers to look at near-zero or pay-to-buy models.
Weighed down by a ban on charging investors entry load, mutual funds, specially those with low assets, have seen valuations nosedive.
Industry experts said valuations were down almost 50 per cent, from 5 to 6 per cent of assets under management (AUM) to 3 per cent after the October 2008 crisis because buyers were looking at asset quality rather than size.
| MUTUAL STRESS POINTS |
| * Valuations hit because asset size does not ensure income |
| * Cost of acquiring customers/assets hit by an upfront fee and higher trail commission |
| * Many AMC balance sheets are already strained |
| * Overdependence on debt where income is much lower |
In fact, unlike earlier years, asset size no longer warrants great valuations. “I don’t see why anyone should pay on sheer asset size anymore because it does not ensure income,” the chief of a leading fund house said.
In the heydays, asset management companies attracted high valuations. For example, Infrastructure Development Finance Corporation (IDFC) bought Standard Chartered Mutual Fund for around Rs 830 crore, or a whopping 5.7 per cent of its assets in April 2008.
But buyers can now expect to snap up funds at near-zero, or even be paid to buy a fund house. For example, last November, Lotus Mutual Fund had to pay Religare Rs 50-100 crore to take over its liabilities.
Things have worsened since then because of the entry loan ban by the Securities and Exchange Board of India (Sebi) on August 1. Experts said going forward, more such deals could take place, if not at pay-to-buy, but at 100 to 150 basis points of the AUM.
Already, there are talks that DBS Chola and Bharti Axa could be looking for buyers. And industry experts said there could be more players looking to exit. “Six to seven fund houses are looking for buyers, but valuation is the main issue,” said the chief investment officer (CIO) of a leading fund house.
After the entry load ban, Asset Management Companies (AMCs) face a catch-22 situation. To ensure fresh inflows and compete with big guns such as Reliance Mutual Fund and HDFC Mutual Fund, they need to pay distributors upfront fees plus a higher trail commission.
At the same time, the extra cost to ensure inflows will mean their already-strained balance sheets will continue to bleed. Sanjoy Banerjee, executive director, ICRA Online, said, “The industry's profitability was already extremely poor, according to the 2007-08 numbers. Things could get worse now.”
And although AMCs have only 25 per cent of their money in equities, it was their main source of income.
Earlier, the cost of garnering new clients was borne by the investor, in the form of the 2.25 per cent entry load on equity funds. As a result, fund houses were able to retain the 90 basis point to 1 per cent annual fund management fees in an equity scheme.
This income will be under severe pressure because the upfront payment of 50 to 75 basis points to distributors will have to be paid out of this.
Also, fund houses paying higher trail commission than the 0.50 to 0.75 per cent may have to bear the burden from management fees or the AMC’s capital.
In liquid and short-term debt schemes, in which most of the money lies, the average fund management fees range from 10 basis points to 50 basis points, depending on the type of fund.
And medium- and long-term debt schemes earn 75 basis points to 1 per cent.
Importantly, the upfront fees will have to be paid regularly by AMCs because of the high churn. “The average investor stays for only two or three years in equity and even less in debt.
The industry will have to continue incurring these high costs to acquire clients. Many AMCs may not be able to continue taking this hit,” said an industry expert.
Further, a large part of the assets is with a few top funds. At present, there are 36 AMCs. Out of the total Rs 7.48 lakh crore of AUM in August, 15 funds control Rs 6.72 lakh crore.
That means 21 AMCs have only Rs 75,000 crore, of which Rs 53,000 crore is in debt or debt-oriented schemes.
Industry experts blamed some fund houses for this mess. “Many fund houses went into the business with a ‘build-to-sell’ intention instead of a ‘build-to-operate’ motive. So assets were built using the wholesale route in debt funds where large-scale inflows and outflows take place making AMCs very unstable,” said a CIO.
Consolidation, thus, is on the cards. Banerjee felt that since small doesn’t make sense anymore, the industry could ultimately have 20 or 25 good players with staying power.
In fact, experts believed that the players waiting in the wings would have to do some serious rethinking because the timeline for becoming profitable would become much longer than the five or seven years which was the earlier target.
As Banerjee put it, “Sebi’s measures will means AMCs would have to work towards profitability. This, as a natural progression, would mean a healthier industry.
