Adani, Hindenburg Research and the story with short-sellers

Australians would probably associate the Adani name more readily with coal mining than anything else. But these days, it's more closely linked to allegations of fraud and stock price manipulation, which even extend to operations within Australia. Adani is one of India’s biggest corporations, with the company fortunes previously positioning founder Gautam Adani as one of the world's top 10 richest men.

The turnaround has been rapid. In the space of a month, Adani’s flagship company, Adani Enterprises, has seen its share price drop by 55% and the Securities and Exchange Board of India (SEBI) has announced an investigation into Adani Group. How the mighty have fallen. But what actually happened?

In this wire, I’ll take a closer look.

What is Adani Group?

Adani is a conglomerate of seven publicly listed companies extending across energy and utilities, transport and logistics along with businesses in development across areas including finance and even food. The listed companies include:

• Adani Enterprises Ltd – the flagship company
• Adani Ports & SEZ Ltd
• Adani Green Energy Ltd
• Adani Transmission Ltd
• Adani Total Gas Ltd
• Adani Power Ltd
• Adani Wilmar

At the end of December 2022, the total market capitalisation of Adani Group was around 18.13 lahk crore (that equates to around US$218.79 billion). At February 21 2023, it was 8.3 lahk crore (this equates to around US$100.16 billion). It’s a significant fall by any measure, but all the more concerning given the falls have occurred since January 24 2023.

The research report that started it all

So what caused the falls? A report from Hindenburg Research was released on 24 January 2023, which alleged “Indian conglomerate Adani Group has engaged in a brazen stock manipulation and accounting fraud scheme over the course of decades.”

You can read the full report here.

It pointed to a range of accounting irregularities, offshore ‘shell’ entities to park shares and misconduct by senior employees and members of the Adani family. It also noted that aside from its own research, the fundamentals behind Adani’s seven publicly listed companies had substantial debt and were in poor positions. 

Hindenburg’s research suggested those companies had an 85% downside on a fundamental basis and were substantially overvalued.

While Adani Group was swift to respond and deny all allegations, the damage was done. Share prices have taken a dramatic tumble and SEBI announced an investigation last week. At this stage, it is not clear how much credence to offer to all the allegations, but at a minimum, investors took a closer look at company fundamentals and were concerned. It is perhaps telling that Adani Group itself has worked in the past month to reduce its debt levels across its listed companies.

Behind the kingslayer

Hindenburg Research is far from your normal David v Goliath whistle-blower. It’s worth understanding its position and what the company stands to achieve from releasing the research.

Hindenburg Research is a US-based short-seller that specifically generates money from short-selling companies it identifies as having a substantial mismatch between price and fundamentals, and which are therefore likely to have significant problems in the future. Or as the company puts it:

“We look for similar man-made disasters floating around in the market and aim to shed light on them before they lure in more unsuspecting victims.”

Hindenburg had placed a number of shorts on Adani Group companies and generated money from losses in the share value after releasing their report.

In its response to Hindenburg’s allegations, Adani accused the short-seller of unethical behaviour to suit its own financial interests. There are still investigations underway for Adani Group, including a SEBI investigation, to explore Hindenburg’s report and allegations. If Hindenburg’s allegations prove correct, its additional desire to generate a return from its research is really an aside to a more concerning situation.

What is short-selling?

Short-selling is, in essence, investing with the belief that a company will fall in value. Rather than buying a stock (going long) with the view it will gain in value, you are seeking "sell" on the expectation it will drop in value.

To do so, you "borrow" the stock and sell it to someone else with the view of then buying it back cheaper when it comes time to "return" the stock and gaining from the difference in prices. This is usually done using brokers and institutions.

The role of short-sellers in the market

A common criticism of short-sellers is around profiteering on a company’s failure, though it's not always failure that short-sellers are betting on. In some cases, it’s simply betting on a normalisation of share values without any negative view of a company, rather a belief that the fundamentals don’t match the value.

There are a few things to consider when it comes to short-sellers and their place in a regulated market.

1. The work of short-sellers can expose fraud, which is arguably a good thing for markets and investors.
2. Short-selling can limit the rise of share prices and help maintain order in market values.
3. Short-selling can support liquidity in markets through investors ready to buy or sell.

Australian investors should be aware that Australian law requires short-sellers to adhere to corporate law. Short-selling is permitted provided that short-sellers do not disseminate fraudulent information. ASIC does have a number of enforcement measures for short-sellers.

What next?

Adani Group continues to struggle and investigations drag on. 

If there is one positive to take from the situation, perhaps it is that Adani Group has done considerable work to improve its balance sheet and reduce its debt in the wake of the Hindenburg report. A Nikkei analysis in early February found the debt across Adani’s companies equated to at least 1% of the Indian economy.

There were some concerns that Adani’s falls would affect the broader Indian economy, but this hasn’t come to light yet. The Indian government does make heavy use of Adani Group, so this could create challenges for the political environment should the SEBI investigation uncover fraudulent behaviour.

Shareholders are likely to continue watching investigations into Adani Group with concern. One such shareholder of public interest to Australians is the Future Fund, which has exposure to two of the companies in the Adani Group. A number of superannuation funds also include exposure such as Hesta and Commonwealth Bank’s (ASX: CBA) employee CBA Group Super.

Adani Group is far from the first company to experience this situation, but is certainly one of the biggest. 

Should Hindenburg's allegations prove false, it's fair to assume there may be changes to come in the short-selling space. And that's before you consider any legal action between Hindenburg and Adani. 

If the allegations are correct, the ramifications are huge for Adani, let alone shareholders globally and those who use Adani's infrastructure and services. Stay tuned for more.

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