MICkey

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In its communiqué of 22 May 2020, the Bank of Mauritius (BoM) announced “setting up the Mauritius Investment Corporation Ltd (MIC) as a Special Purpose Vehicle (SPV) under its aegis.” In fact, the MIC is a subsidiary of the Central Bank, not an off balance sheet SPV. In its current form, the MIC is not the key to unlocking economic growth, but a Mickey Mouse operation to save big business groups that would otherwise go under. 

The mission of MIC is acclaimed by some on the presumption that it is similar to what the US Federal Reserve is doing in the Covid-19 context. This amounts to comparing apples with oranges. The MIC is engaging in corporate restructuring whereby it is supposed to purchase convertible preference shares or bonds that the BoM will hold directly on its balance sheet. Conversely, the Fed simply conducts quantitative easing, creating money to buy investment grade bonds on the secondary market and to lend to a SPV (set up by the US Treasury) managed independently by a global investment manager (appointed by the Fed), namely BlackRock, with clear investment guidelines. 

The US Treasury brings in equity to the SPV, and the latter issues debts which the Fed buys. The Fed is not an equity holder like the BoM is with MIC, but a bond holder of the SPV. The Fed, having no direct exposure to the bonds, plays a passive and remote role whereas the BoM has its two deputy governors sitting on the board of MIC. Yet, the BoM has no expert and no experience in distressed private equity investing. 

The SPV buys marketable securities and high-yield Exchange Traded Funds (ETF) that are very liquid, diversified, transparent and rated by credible rating agencies like Moody’s. If there are defaults, they will be dealt with at the ETF level. 

The MIC, for its part, is shrouded in opacity, is afflicted by conflicts of interest, is investing in distressed companies, if not nearly bankrupt, in ailing sectors (manufacturing and tourism), and will have a concentrated portfolio. MIC investments are illiquid, and if the risks are mispriced, the BoM will get stuck with them for years. And the BoM will deal with defaults directly and by itself. 

Distressed investing is very complex, which even the Fed stays away from. Without the assistance of an experienced fund manager of repute, the Investment Committee of the MIC cannot understand the risks of investments and know how to price them properly. Nor can the MIC rely on accountants, economists and lawyers to do the job. 

On the one hand, the potential returns are limited for the risks that the BoM is taking. On the other hand, by drawing two billion dollars from its international reserves to bail out companies, the BoM incurs an opportunity cost as it invests in rupee assets when the rupee is depreciating. 

Since exporters will continue to struggle for many years, and as tourist arrivals will not be back to the level of 2019 before a very long time, the MIC has to secure decent returns on investment. Over a 10-year investment period, returns could come only from year 4, hence the need for an annual return of over 10 per cent. In addition to the yearly dividend of convertible preference shares, the conversion to common equity factor is a major element of returns and therefore must be well priced. 

This seems an uphill battle. Before the coronavirus outbreak, enterprises in the sugar, manufacturing and hotel sectors did not have strong free cash flow metrics. Now even large firms are being kept alive by commercial banks. The country has already many zombie companies (they need bailouts to operate), and a lot more will follow. 

Just throwing money is not the solution to the crisis. Firms that are viable need to be reengineered, their business models to be reviewed, their strategies to be consolidated, their top management to be performance-driven, and their manpower to be reskilled. 

To achieve its objectives of returns, the MIC must negotiate with banks and buy back companies’ debts at steep discounts. But then, the MIC cannot demand banks to restructure the rest of the loans while at the same time the BoM requires them to keep high capital ratio… Preference shares and convertible bonds sit below senior loans, so the regulator will be below the regulatee and will not ask for a compensating haircut on the debt. 

Beyond the MIC, the BoM grant of Rs 60 billion to government, which is higher than the Central Bank’s equity, is funded by issuance of BoM Bills. The BoM is thus increasing its liabilities, which is completely different from the asset purchases of the Fed (these do not put its equity in danger). Growing liabilities and holding toxic assets with an equity base that depends on local currency depreciation is not what central banks do for their credibility. 

The Bank of Mauritius today has become a fiscal agent of the government with its balance sheet intertwined with that of the public and private sectors. The MIC, a national disaster in waiting, is taking the mickey out of us.

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