Wednesday, November 27, 2013

Ten measures to mitigate valuation risks in real estate

Valuation Risks Need Recognition and Mitigation
Not a day passes without the realty sector hitting the headlines; and not always for right reasons. A realtor kills his mother in a car and also makes believe that he was dead and gone only to surface after two years – a case reported by the media extensively during the third week of November 2013 in Andhra Pradesh. Campa Cola Compound had to face demolition after the property owners were served notice of demolition for violation of FSI five years back just during the second week of November 2013. Hiranandini Construction Company received a Court verdict of Rs.76crores leading to liquidation while its prime properties in Chennai and Panvel are close to completion. Raheja Constructions received a huge penalty and punishment handed down by the Supreme Court in October 2013 for not handing over the promised flats to the investors. The Adarsh Housing Society of Mumbai is still under CBI investigation. Many more violations are awaiting court verdicts in different parts of the country. There is governance risk, reputation risk and market risk. One may ask: where is the valuation risk in all these deals? It is hiding deep in the skin of the sector. The reader may recall that the raison de ‘etre of recession was the subprime lending led by credit rating exuberance and inflated valuations. The resultant global recession is still staring at us.

Monday, November 11, 2013

Tuesday, November 5, 2013

Seeking Opportunities in Adversity

Seeking Opportunity in Adversity

Adversities could be opportunities for cleansing the system. The ghastly bus accident on the Bangalore-Hyderabad Highway has exposed the vulnerabilities in implementing the Motor Vehicles Act and Rules.

Have mobile phones of the passengers’ added fuel to fire when the diesel tank caught fire?
Each accident may have its own tale to tell but the latest has many tales of distress. Earlier also buses fell into the gorge or had hit the pavements and got into fire accidents. But never it was so instantaneous flame that left no passenger spared except the lucky five. On earlier occasions, several were able to jump out to safety and had burn injuries or fractures and a few died while undergoing treatment due to the intensity of burns on the body. Not this time.

Wednesday, October 16, 2013

VITALINFO: BRAKES ON BANKING BY POST OFFICES

VITALINFO: BRAKES ON BANKING BY POST OFFICES
While the spread may be attractive argument for financial inclusion agenda its ability to be part of mainstream is rightly suspect in the backdrop of poor financials and inefficient financial management.  It has proven abilities in postal delivery although its savings portfolio touted by its minister Kapil Sibalas a platform for entry through bank license route. It would have caused systemic risk as well.

Tuesday, October 15, 2013

Will Rule Based CSR be Effective?

Will Rule Based CSR be Effective?

In 1975, in the wake of emergency, Mrs Indira Gandhi, the then Prime Minister thought of a slogan to win the masses – ‘Garibi Hatao’ (eradicate the poverty) and it worked her win the elections back from the barracks. At that time she shifted the budgetary responsibilities to the banks and newly set up State owned corporate entities – a Minorities welfare corporation, a corporation for SCs, another for STs and the other for Women and so on. All that these corporate entities were asked to do was to distribute margin money or grant assistance for the related individuals with a matching loan from a nationalized bank. The trick worked and she continued her rule for more than a decade later. Now, stung by huge scandals and scams, Union Government hastened the enactment of long pending comprehensive Companies Act 2013 shifting the responsibility of the government to provide education and health within the reach of the unreached in the name and style of CSR.
Most corporate undertakings express the view that their main business is to focus on its core activity and enhance value to the shareholder. But is that all? For whom is the company creating products or services? For the vast diverse consumers, whose interests guide the future of the company and in turn contribute to the value to the shareholder. Then does not the society matter? Yes; it does and history has proved many a time so. The companies that cared for the welfare of the society developed niche markets and eventually became icons of permanence in markets. Community is a larger stakeholder than all. Recognising this, even in the 1970s commercial banks like the State Bank of India, introduced innovative banking window to reward communities that guided the welfare of the citizens. Over the years this window has been strengthened in the name of Community Services Banking under which the bank helps blood donation camps through its employees and others; distributes medicines to the poor and the needy under the guidance of its own medical officers; it helps the resident welfare associations in their endeavor to help their members with state-of-art technology in some cases; furniture and fixtures; water coolers; summer camps etc. Canara Bank too has a long such history. The other public sector banks here and there have showcased some but not comparable to the SBI in the reach of CSR. It is not what percentage of the profit that goes to this end but how much of felt need of the community under its fold is met. Here the record is creditable.
The list is long and a careful evaluation follows. Same is the case with organizations like Tata group of companies, TVS Motors; Gujarat Ambuja Cements; Wipro, Infosys to site a few. Several leading pharmaceutical and chemical companies put up road shows of social responsibility though ironically we find several of the essential medicines are beyond the affordability of the poor and even the middle class for the most common ailments. Public sector companies like the IOC, Coal India Company, Steel India etc which are spending around 3-4% of their annual profit would reduce their commitment to the mandated 2%. This is what mandates can sometimes deliver the unintended results.
Rig Veda Samhita tells it all: “Wealth has to be won by deeds of glory”; “One who helps others, win wealth.”(p.198, ‘A Saint in the Board Room’ by R. Durgadoss and B. Yerram Raju)
“When the capital development of a country becomes the by-product of the activities of a Casino, the job is likely to be ill-done” avers John Maynard Keynes, the classical economist. Today no country is an exception to the ill-gotten wealth driving the ills of the growth of economies. But can laws and rules bring the overt acts of greed under control? Or will such acts be clothed in the garb of CSR commitments under Law?
Good Governance requires more than rule fixes.
Prof Colin Mayer of Said Business School at Oxford University feels that the model of corporation that developed as the 20th century unfolded is fundamentally flawed and is responsible for both the recent world financial crisis and the breakdown in trust in business that now exists. Taking an historical perspective, Mayer notes that corporations were originally established to serve public purposes and evolved into family-run entities with long-term holdings before coming under the control of individual shareholders. Later, companies became dominated by pension and life assurance corporations, but increasingly share registers feature a large number of short-term traders.
The current model, he says, aligns the interests of shareholders with management and those companies that on the surface have the best corporate governance structures, are often the worst offenders when it comes to the wider good.
Mayer says the corporations have to work with a remit wider than that of maximising returns for their shareholders and pay for senior management and have to consider the interests of a wide group of stakeholders including employees, customers, suppliers and society in general.
Profit, he argues, is a product, not a purpose, of the corporation that is derivative from its fundamental activities.
"We need corporations whose values we all value, for which we are proud to work, from which we are confident to purchase and in which we can expect a fair return on our investments," he says in an interview to Irish Times recently.
"We need companies whose shareholders appreciate that there are responsibilities as well as rewards for being owners and who are committed to promoting the interests of the corporation, not just their own.” The contextual discussion also takes me to the series of debates that the FT has been conducting lately on ‘Better Boards’, where several chairmen called for clarity over the status of corporate governance rules. “Governance should be rooted in laws, not codes: ‘comply or explain’ is too ‘fluffy’ and not practical when you are dealing with an international investor base.
The non-binding ‘comply or explain’ requirements of the Corporate Governance Code were deemed too vague and permissive of idiosyncratic behaviour by boards. This affects international investors who are unfamiliar with this model and are not able to deliver the style of stewardship that ‘comply or explain’ requires. It also means investors with a large number of small equity holdings do not have the capacity to fulfill their stewardship duties.”
Is this the raison de ‘etre for the Companies Act 2013 to prescribe the CSR as part of Law? One wonders.
This takes me to the provisions of the new Companies Act 2013 covering CSR.
The Law states that all the companies with a net worth of Rs 500crore ($80 million) or more, or turnover of Rs 1,000crore ($160 million) or more, or a net profit of Rs 5crore ($0.8 million) or more during the past three financial years must spend at least 2 percent of their average net profits from the three preceding years on CSR, or corporate social responsibility initiatives. According to Union Minister of State for Corporate Affairs Sachin Pilot, this stipulation makes India, the first country in the world to legally mandate corporate spending on social welfare. Many Companies feel that their dharma (the Hindu word for duty) is to provide value to the share holder to which a mention has already been made earlier in this article. Openly no company would go on record that this provision is either onerous on them or do not agree with, for the fear of being branded as anti-development.
Among the activities for CSR under Schedule VII are reducing child mortality and improving maternal health and contribution by companies to the Prime Minister’s National Relief Fund or any other fund set up by the central or state government for socio-economic development. Out of a total of 800,000 companies in the country, around 15000 of them would qualify for CSR activities and an amount of Rs.15-20000crores per annum is the likely spend on these activities.
Education is another area of the directed-spend. There were some who argued that art and culture as also religious activities should be in the basket. There were rightful protests against the religious activities in the garb of CSR. In effect, it means that temples, mosques or churches or gurudwaras cannot be built out of the mandated CSR.
In fact, whenever any expenditure is mandated it has a knack of compliance burden more than serving the noble objective behind it. But does the government have to go this way only to achieve the CSR when there are certain companies that have already distinguished themselves in charitable activities? After all, all the contributions to the Prime Minister’s or Chief Ministers’ National Relief Fund programmes enjoy hundred percent tax rebates. On the other hand, would it have not achieved much more by making the lobbying bodies like the CII, FICCI etc responsible to ensure such goal? It could have. But the Act and Rules are now in place and therefore very little can be on the argument side. The purposes need not be mandated under the rules. In fact the budgetary responsibilities should not be passed on to the companies under the garb of CSR. It should be the responsibility of each Board to resolve on which items it should spend and not necessarily out of the basket it suggested. Remember, the targeted spending on this count is as much as half of the disinvestment programme of the Government during the current year. Employee participation in CSR would depend upon the HR policies each company adopts and the comfort it gives. Some companies have established separate trusts to take care of the CSR to which the Board transfers every year specified sums for such purposes. The Government would do well to allow all options for the companies to implement CSR as a noble and voluntary effort.
Published in the Business Advisor dated 10th October 2013.




Saturday, September 28, 2013

Revisiting India's Growth - A Flip Flop Story

India’s growth A flip flop story:
B. Yerram Raju
India was the cynosure of the rest of the world when it clocked an average annual growth of 8.5% during 2005-10. When it fell precipitously to less than 5% expectation this fiscal it equally became a point of discussion. The bubble of growth got pricked with scams, scandals and charges of corruption among the rulers and ruling gentry. Supreme Court said over 30% of the Members of Parliament are tainted and cannot afford to be in the ruling galleries based on the Right to Information Act petition. While all the progressive legislations aimed at further reforms to the economy are waiting in the corridors of the Parliament, the RTI Act was amended to provide reprieve to the affected Members and also allowing even those in Jails to contest the elections. Why in any case India should interest the world in the first place? It has 350mn Middle Class and around 300mn the poor and not-so-poor providing a huge domestic market for any FII seeking entry. The present Government has been very accommodative to the FDIs, FIIs to come into the retail markets and bending backwards for the hitherto barred defense sector. In order to balance the social and economic forces, the Food Security Act has been brought into position that involved a huge subsidy flow that could easily up set its fiscal deficit calculations.
IMF and World Bank also downsized their growth expectation to 3.5 from 3.7 percent during the current fiscal. Emerging economies in general have been steadily slowing with India and China in the lead. Not long ago the IMF said that global growth would be driven by the emerging economies growth and there is a sudden volte face. It is this contextual reference that would make the flip flop of India’s growth story interesting for the rest of the world to take note of.
Inflation continues to be a major worry with the country’s topmost economic advisor Dr Rangarajan warning of the likely stagflation. Domestic savings are not growing at sustainable rate any longer and this is a serious cause for worry. Banks’ short term deposits are on the increase but the medium and long term deposits are on decline whereas the demand for long term credit is increasing with housing, real estate, infrastructure denting the AML of Banks. Decline in savings rate is loss of fundamentals of the economy. There is keenness to do all that is necessary to let it grow to no less than 28-30 percent and this can be done in two ways: incentivize savings through fiscal policy and protect the deposit rates against rising prices. Raghuram Rajan, the new Governor, Reserve Bank in his first Monetary Policy statement on the 20th September 2013 confirmed that controlling inflation and improving the savings and pushing financial inclusion agenda are critical to the economy by raising the rate by 25 basis points contrary to the expectation of pushing the interest rates down. Markets were in fact shocked.
The Flop Side:
Post-liberalization trended towards a sustainable growth in the services sector while the country has to look for investors from developed countries for growth in infrastructure not supported by right policies.
Even to stay where they are in growth trajectory, India needs multiple times of investments in school buildings (most public school buildings in villages and towns are in dilapidated state: some with collapsing roofs; some with no basic amenities like safe drinking water and wash rooms for children; no play grounds; no teaching aids etc.); primary health clinics; safe drinking water; drainage and sewerage systems; sanitation; highways – both central and state; repairs to rail tracks and replacement of train compartments at galloping speed to catch up with the new trains and emerging demands on rail traffic; goods transport coaches; airport maintenance etc., most of which are with the governments, State and Centre. The resources have to be found either through public borrowing or increase in taxes. If it has to borrow, it will be of long term nature as all such assets have no prospect of returning either the principal or interest. Its capacity to indulge in fiscal deficit is peaking. The virtuous moves of right to employment, right to education and food security have their loopholes in the systems that were created to result in their effectiveness.
The country’s natural resources are declining in productivity: rivers are silting more at the nose-end where they join the sea; minerals like coal to generate the thermal energy are inferior although the stocks are assured till 2050 but these are environmentally hostile; the country has very little natural gas, fossil fuels and has to depend on such of these depleting resources of the West and Middle East; soils are also depleting in energy with regeneration requiring huge organic resources; nuclear and solar energy are proving to be highly expensive.
Agriculture production though has potential still left in the virgin soils of Bihar and eastern UP on the Ganges plains, frequent flooding of rivers and mismanagement of rivers does not leave enough hope for sustainable growth here. Forest wealth is also degenerating. Animal and bird population to maintain ecological balance in the biosphere suffers from disease and malnutrition due to wanton neglect in most cases and in others due to the ravages of nature like floods, cyclones, tsunamis and earthquakes. Claims just keep growing while resources keep depleting – and real prices of energy and commodities have begun looking to north with little prospect of looking south. It would appear as though we are peaking limits of growth if we would like to measure growth only by the GDP figures.
Gross Domestic Product is something we need to look at: Is this the right measure? GDP defined as the market value of all goods and services produced in one year by the labour and property in a geographic space – the country. It is therefore more space related than ownership related. If the number went up economists consider that all was well whereas the decline meant that something was going wrong somewhere. GDP does not distinguish between waste, luxury and satisfaction at fundamental levels and there is no accounting for the costs and benefits. It builds inequalities and the glaring examples: the more the rich accumulate riches the GDP increases and takes for granted that this would lead to the poor reducing in numbers; the companies may invest and grow but the employment may go down with every unit of increase in production and the market index rises with no guarantee that employees would have their share equal to their contribution. There is no guarantee that there would be happiness around with growth measured by GDP increases. It was a tiny neighbor Bhutan that first thought of Gross National Happiness has to be measured and now the UN Human Development Index is taking this into account but the nations like ours still find it difficult to move to such measure.
Let me hasten to mention here that we are not alone in this journey of stagnation. There are concerns about the sustainability of economic recovery both in the US and Europe, still worse. In the recent G-20 meet Indian leaders made successful noise that US should not hasten to withdraw the stimulus measures and resort to the threatened Quantitative Easing. This means that the capability of developed nations to come to the aid of India or other developing nations in the midst of their own problems would be on the wane. Indian economy basically is domestic market driven rather than export-driven. Its neighbor China though recovered from the shocking decline is not to see the earlier double-digit growth.
India’s slowdown in such context is not seen as a big worry while new-normal advocates see the alarm bells dinging in the ears. Inflation in terms of CPI is still a worry. Oil prices uncertainty also can throw the expectations bizarre.
The Flip Side:
Technology and innovation have shown the way, no doubt but have also been pointing to certain destructive dimensions. Coming to the Services sector, there has been a fall in growth rate on global cues. It is unlikely that this sector would deliver growth rates of the nature seen in the last decade and half. It would appear that we have to contend with lower growth rates in the next few years unless dramatic essentially Indian innovations surface. The innovations are taking place more in the mobile technology areas and they are all in countries other than India. Trade gap has lessened by 23% during last month. All the hope of rebound is contingent on oil prices not upsetting our import basket.
The big guess of agricultural sector pushing growth to the expected level would seem a bit hasty considering the time lag between production and its reach to the markets. Second, its estimate of manufacturing sector does not look realistic. The capital goods imports that have surged by75% the last eight years could be generating yields in the next six months. Its survey of 2841 companies reveals that the rupee depreciation had impacted only 6% of them. Therefore, it is just logical that CAD did not have adverse impact on the manufacturing sector as feared. However, what happened actually is the neglect of SME sector by the financial sector on one side and inadequate linkage from the large corporate sector on the other. If the capacity utilization of the capital goods sector improves with core sectors like coal, energy, oil and infrastructure showing a mark-up, it is possible that the growth of manufacturing sector could surge.
The key exports that have great potential are in readymade garments and pharmaceuticals. Wherever one goes in the world, we would find the Chinese and Bangladesh readymade garments with local brand linkages. Actually, this sector has been our forte historically. It is the curse of the sector that it did not have a stable encouraging policy for investments and appropriate incentives. This is an area that does not brook delay. Pharmaceuticals are already on the march and hopefully they would establish as global leaders in export markets.
The cabinet sub-committee has just cleared about $2bn of investments in infrastructure just on the eve of this report. The FDIs started looking up and the FIIs also started flowing in during the last ten days. The capital markets looked consistently buoyant during the last five days. If this trend continues, it is very likely, that the forex markets also stabilize. To expect FDIs and FIIs within the next six months to surge would be over-expectation considering the political scenario dancing on uncertainty with General Elections slated in February 2014, just about six months hence.
If demographic dividend that the country is likely to have till at least 2025 should give the advantage, it should invest more in education and health sectors and this would in turn help people think of rationalizing and practicing austerity led growth. The country has to learn the lessons of growth, even if they are the hard way.
In the short term, however, expectations seem to have been changing for the better.
Different agencies have raised varying growth expectations of the Indian economy at the end of the current fiscal. World Bank placed it at 4.5%; CRISIL in its latest analysis reports that the growth rate could at best stabilize at 4.8% at the end of the current fiscal and the rupee may rally back to Rs.60 a dollar. Prime Minister’s Economic Advisory Council has put it at 5.3% while the Reserve Bank of India in its monetary policy of July 30 placed it at 5.5%. Most estimates are on the basis of a rebound of growth of agricultural sector to more than 4% stabilizing the food prices and the CPI, a bizarre guess indeed for there would be certain time lag between the growths in farm production to reach the consumer windows!
The newly appointed Governor Raghuram Rajan would also seem to have anointed the economy a bit in a fortnight of his assumption of charge with the announcement of a slew of intentions to liberalize the banking sector. But his maiden monetary policy told it all.
But there is some hope on the horizon for the manufacturing sector, I am prepared to buy. The capital goods imports that have surged by75% the last eight years could be generating yields in the next six months. Its survey of 2841 companies reveals that the rupee depreciation had impacted only 6% of them. Therefore, it is just logical that CAD did not have adverse impact on the manufacturing sector as feared. However, what happened actually is the neglect of SME sector by the financial sector on one side and inadequate linkage from the large corporate sector on the other. If the capacity utilization of the capital goods sector improves with core sectors like coal, energy, oil and infrastructure showing a mark-up, it is possible that the growth of manufacturing sector could surge.
The key exports that have great potential are in readymade garments and pharmaceuticals. Actually, this sector has been our forte historically. It is the curse of the sector that it did not have a stable encouraging policy for investments and appropriate incentives. This is an area that does not brook delay. Pharmaceuticals are already on the march and hopefully they would establish as global leaders in export markets. Hopefully there would be corrections.
The cabinet sub-committee has just cleared about $2bn of investments in infrastructure just on the eve of this report. The FDIs started looking up and the FIIs also started flowing in during the last ten days. The capital markets looked consistently buoyant during the last five days. If this trend continues, it is very likely, that the forex markets also stabilize. To expect FDIs and FIIs within the next six months to surge would be over-expectation considering the political scenario dancing on uncertainty with General Elections slated in February 2014, just about six months hence. Fiscal profligacy cannot be ruled out.
Reminded of J.S. Mill (1806-73): “It must always have been seen, more or less distinctly, by political economists that the increase in wealth is not boundless: that at the end of what they term the progressive state lays the stationary state.”
Investors taking interest in India should look at the following sectors keenly:
Energy sector; Real Estate Sector; Pharmaceuticals; Ready Made Garments sector; Automobiles and Precision Instruments Industry and Financial Sector. These stocks have been showing less volatility lately and the trend is likely to continue.
The SME Exchange offers equally good scope for their stocks to expand because of support from Government in SME Markets and global tie-ups. The stocks that should be of interest would be in Automobile sector and Manufacturers of precision instruments and Ready Made Garments.
This is also on blog: http://seekingalpha.com/Yerram Raju/instablog.



Saturday, September 14, 2013

Growth Expectations Rebound


Growth Expectations rebound:
 CRISIL in its analysis reports that the growth rate could at best stabilise at 4.8% at the end of the current fiscal and the rupee may rally back to Rs.60 a dollar. This estimate is on the basis of a rebound of growth of agricultural sector to more than 4% stabilising the food prices and the CPI.

This is a big guess considering the time lag between production and its reach to the markets. Second, its estimate of manufacturing sector does not look realistic. The capital goods imports that have surged by75% the last eight years could be generating yields in the next six months. Its survey of 2841 companies reveals that the rupee depreciation had impacted only 6% of them. Therefore, it is just logical that CAD did not have adverse impact on the manufacturing sector as feared. However, what happened actually is the neglect of SME sector by the financial sector on one side and inadequate linkage from the large corporate sector on the other. If the capacity utilisation of the capital goods sector improves with core sectors like coal, energy, oil and infrastructure showing a mark-up, it is possible that the growth of manufacturing sector could surge. The key exports that have great potential are in readymade garments and pharmaceuticals. Wherever one goes in the world, we would find the Chinese and Bangladesh readymade garments with local brand linkages. Actually, this sector has been our forte historically. It is the curse of the sector that it did not have a stable encouraging policy for investments and appropriate incentives. This is an area that does not brook delay. Pharmaceuticals are already on the march and hopefully they would establish as global leaders in export markets.
The cabinet sub-committee has just cleared Rs.1.20lakh crores of investments in infrastructure just on the eve of this report. The FDIs started looking up and the FIIs also started flowing in during the last ten days. The capital markets looked consistently buoyant during the last five days. If this trend continues, it is very likely, that the forex markets also stabilise.

Coming to the Services sector, there has been a fall in growth rate on global cues. It is unlikely that this sector would deliver growth rates of the nature seen in the last decade and half. It would appear that we have to contend with lower growth rates in the next few years unless dramatic essentially Indian innovations surface. The innovations are taking place more in the mobile technology areas and they are all in countries other than India.  Trade gap has lessened by 23% during last month. All the hope of rebound is contingent on oil prices not upsetting our import basket.
I foresee that the growth in view of the above at the end of the year can stabilise at around above 5percent this fiscal – could be at what the Monetary Policy of last quarter predicted at 5.5percent

 Published in Business Digest September 10, 2013