If you’ve ever spent significant time abroad, or tried supporting family overseas, you know that the process of sending money internationally can be stressful. It costs time and money — often too much of both. There’s hope that global crypto currencies will make this process easier, but until those become more accepted, you’ll have to find other ways to save.
I remember returning to New Delhi after a semester at Yale University in Connecticut some years back and trying to move what I had in U.S. dollars to my bank account in India. The process of remitting these savings was so clunky – involving applications in banks in both countries — that I just used my U.S. debit card until the account ran dry. I’m sure I paid a bunch of fees and got short-changed on currency conversion costs, but I found it easier to spend this money rather than spending time trying to find a cheaper way.
The number of policyholders is 30 crore. Assets under management are Rs 27.6 lakh crore (to see this in context, understand that the annual budget of India for FY 22 is Rs 34.8 lakh crore). An annual premium pipeline of Rs 3.4 lakh crore. A household name that for decades has meant life insurance in India. When such a behemoth goes to market, there are bound to be concerns, worries and plenty of politics. The drama has just begun.
The Life Insurance Corporation of India (LIC) disinvestment should finally happen in 2021-22. I say this with confidence because the background work is now done and the Department of Investment and Public Asset Management (DIPAM) has put in the amendments to the 1956 LIC Act (you can see them in the Finance Bill 2021) that will clear the decks for a stake sale by the government, who is today a 100% owner. The 318-page Finance Bill 2021 has 75 pages devoted to rewriting the 22-page 1956 LIC Act.
There are six big take-aways from the amendments to the LIC Act. And then there are some concerns. The take-aways first.
One, the basic constitution of the entity will be changed by changing Section 4 of the 1956 Act. The new rules make the corporation aligned to Companies Act 2013. There will be 15 board members, with one place kept for a woman. Additionally, insurance agents, intermediaries or anybody working for another insurance firm anywhere in the world cannot be a director on the board. An upto 10% owner can have one board seat, between 10 and 25% shares can have two seats and more than 25% can have three seats. The rest belong to the government and there are rules in place as to how these will get filled.
Two, Section 5 has been amended so that the capital of LIC will now reflect its size and has been hiked from the current Rs 5 crore to Rs 25,000 crore, split into 2,500 crore shares of Rs 10 each. There are provisions for partly paid up, preference shares, for bonus and rights issues and for private placement. Embedded into the new Act will be the provision that LIC will always have the government as the majority shareholder and will not disinvest more than 49% shares. But there is a glide path for this. The initial sale can only be upto 25% of the shares. It is only after five years of this can the government sell more of its shares. This means that for five years after the first disinvestment, the government will continue to hold 75% stake. After five years, it can disinvest such that it still has a 51% share. This is important because Section 37 has been left unchanged. This section says that the sum assured by all policies issued by LIC, including any bonuses are guaranteed in cash by the Central Government. So, policyholders need not worry on this count.
If shares are sold at a premium to the face value (and they will of course get a hefty premium), it will be kept in a share premium account. This money will be used for future bonus shares to shareholders, for the payment of costs of the IPO and for the discount to policyholders on the shares they buy and for future buy backs on own shares and other shares. So potentially the premium money can be used to buy shares in other firms.
Three, existing policyholders of LIC to get shares at a 10% discount for upto 10% of the issue size. For example, if the government disinvests 10% of its 2,500 crore shares, then the shares available for policyholders will be 25 crore out of the 250 crore shares that make 10% of the shares to be disinvestment. Policyholders will not get an allotment of a value more than Rs 2 lakh. This can go upto Rs 5 lakh in case the reserved part of the shares are undersubscribed. What I understand is that a person with multiple policies (many people have 20-30 policies) will not be able to get allotment per policy, but one demat account will facilitate shares to be sold on any one policy of the policyholder. Expect the demat account openings to skyrocket.
Four, the two-line Section 24 on “Funds of the Corporation” is replaced with a 6-page detailed list of how LIC will have to segregate its funds. LIC will now have to segregate its pool of funds into a participating fund and a non-participating fund. I have written earlier on how to understand par and non par products and their pools here. Currently the money goes into one pot, though there is some form of segregation, but it is not water-tight. LIC has one year (there is a carve out for a three-year glide path to create this) after the disinvestment to split the common pool into two. Receipts and payments will be made from the respective pools. Today there is a cross subsidization possible between two very different products. But an escape door has been given in Section 24B(9) that says: that the government can exempt LIC from complying with the provisions of this section in “public interest”. Basically, if the unions agitate too much, they will go back on the clean-up. Or if they find something really unexpected when the pools of funds are opened up, there is an exit door that can be used to get out of this. This is a key part of the disinvestment process since investors coming in will not want to buy into an opaque pool. The government must not go back on pool segregation.
Five, the three-para Section 26 is being replaced with much tighter rules on what will be audited. For example, auditors will now have specific oversight on the lending book of LIC. Auditors will now be able to have oversight on whether loans made have been properly secured, whether the terms are in favour of LIC (this is to take care of conflicted lending, if any), if securities have been sold for less than they were bought, if loans and advances have been shown as deposits, if personal expenses have been charged to the revenue account.
Six, Section 28 has been replaced. Section 28 says that a minimum of 95% of the surplus is to be shared with policyholders. This will change to 90% after the amendment. Till the LIC fund is split into par and non par, the sharing is 90% of the entire fund. 10% of the surplus will be kept in a special fund or moved to reserves – this will be a board decision.
Once the par and non par pools are split (there is a window of three years to do this), then, a minimum of 90% of the surplus is given to (or reserved for) par policyholders. A maximum of 10% goes to shareholders in a reserve fund or any other way that the board decides. 100% of the surplus of the non-par fund will be given to the shareholders – in a reserve fund or a separate account – to be decided by the board. Policyholders in a non par product by definition do not share in the profits, but get a guaranteed return, therefore there is no sharing of the surplus. Currently there is little visibility on which policyholder is paying for whose surplus.
This surplus can be used for declaring and/or paying dividend, issue of bonus shares. The amendment also prevents the payout of dividend from any unrealized profits, notional gains (remember UTI?), revaluation of assets.
It seems that just getting a base level of hygiene amendments was very tough. From my experience of serving in Swarup Committee (2009) and Bose Committee (2015) and dealing with LIC in particular and insurance industry in general, breaking through the clouds of insurance obfuscation is a very difficult task. Just getting the company to break the funds into par and non par pools was a tough battle, it seems, before this could go into the Finance Bill. And my worry is that this battle is not over yet. Not only has the government given a three-year window to LIC to do this, but there is an exit door that allows the government to step back from this reform. There is a problem in pooling money the way it is done now. There is historic money pooled together (an old policyholder who gets 8% guaranteed return is paid out of the same pool that pays a new policyholder who gets a 4% return), but the money of two very different products (par and non par) are mixed up.
The next concern is of the unions and the Left lobby inciting trouble over the IPO. We have seen what farmer-friendly laws can be whipped into by anti-reform lobbies. Although the government is doing this very carefully and slowly (keeping the sovereign guarantee in place, keeping the profit share in par policies at 90% and giving a glide path for splitting pools of money), there is a internal unwillingness for change. I fear that the 100% surplus handover in non par policies will be used by lobby groups to say how the government is ripping off poor policyholders. Of course, they will miss the point that these are non-participating policies. They do not get a share of the profits by their very nature.
What will help the government is the 10% of the issue at a 10% discount kept for policyholders. It remains to be seen how the LIC IPO narrative is built and how many steps back the government will have to take to bring this giant to market.
I will be tracking the LIC IPO closely. So watch this space.
Monika writes on household finance, policy and regulation.
A new-found confidence over the well-handled Covid-19 crisis found its way into Budget 2021. This is reflected in three aspects of the budget. One, the finance minister ignored suggestions to tax the rich with a higher surcharge or a Covid-19 cess. Two, the government has gone for growth with a large push on capital spending. Three, the FM has cleaned up the balance sheet of the government and removed the anomaly of using off-balance sheet items to show lower borrowings.