Thursday, June 28, 2007

Had we known earlier....

Politicians like tennis more because it’s a game that lets one get the second serve in. In most other games, there's no second chance. By seeming a lot like their business of law making, the sporty metaphor gives them something to lean on. First make a stupid law that defies all logic for some self-serving reason and unleash the damage on the masses. When the goals are met (or emphatically unmet, like a first serve gone wide), try and make amends.

Earlier this year, the Indian Government worried about rising inflation denting its image before the Uttar Pradesh (U.P) elections, banned exports of sugar in a year of bumper production (sugar has a higher weightage in the inflation index). Incidentally U.P also has a large area under sugar cultivation and is home to a number of sugar mills. The move flooded the commodity in the domestic markets and prices slumped. Revenues and stock prices of sugar companies that were star performers suddenly nose-dived and their market capitalization went down almost by 70-80%. Not surprisingly, the UPA candidates were trounced by Mayawati’s BSP at the U.P assembly polls.

Elections over, it was time for the Government to review the wreck and rollback. Here’s the latest “had-we-known-earlier” – for sugar industry. The sense of timing was immaculate - the industry as a whole and its investor community has had hemorrhage already.

Recently I met my friend Rahul, who tracks sugar industry for a living at a leading brokerage. The guy looked a lot younger than his usual plump, flabby self. Asked him what had worked – the Gym or the diet.

He gave a smile and said, “I really didn’t have to go that far. I get enough exercise just pushing my luck.” I believed him.

Wednesday, June 27, 2007

Home's where the mortgage is

When Farallon Capital Management, a U.S. hedge fund, and its joint-venture partner, Indiabulls, snapped up an 11-acre property in central Mumbai in March 2005 for $54.5 million an acre, the purchase was called an act of idiocy by local developers. A few months later, when the same joint venture offered $95.5 million an acre for a nearby property, its was the second-lowest bid.

At a time when Indian companies are looking for capital to grow, the recent Finance Ministry guidelines on External Commercial Borrowings (ECB) come as a dampener for most. The official argument for this sudden snap back is that too much money is driving up land prices. It prunes the all-in-cost ceilings over six-month LIBOR for ECB with 3-5 years of maturity by 50 basis points to 150 bps and over five-year maturity, the ceiling is 100 bps lower at 250 bps. It also bans the use of ECB for integrated townships in the fractured real estate sector and worse, it brings preference shares at par with ECB, and to be governed by ECB norms. The total country ECB limit ($22 billion at present) will also be applicable as per this analysis.

Indian companies often buy land banks at huge prices and mortgage it for funding construction cost. Now if the Govt. sets the ceiling on interest rates, the lenders will say “first you folks tell us what you can afford, then we'll have a good laugh and go on from there”….

Perhaps the Government realized its gaffe and the fact that the whole industry runs on layers of mortgage. It has now allowed a breather – albeit with too many strings and a cut off date. In India, we call it roll back....

Sunday, June 24, 2007

All's well until they take to water

ICICI Bank has become a phenomenal cash-gobbling machine a la Blackstone. Both the behemoths suck up to institutional and retail investors who repose a great deal of trust in them. The response to the recent FPO of ICICI bank (issue size $ 5 billion) and the IPO of Blackstone (issue size $ 4.75 billion) are testimony enough.

In the murky financial world, there's no advance warning system for trend reversals. In the rarefied field of aeronautics, the strong tailwind that gives the forward thrust while you're airborne could be your nemesis while landing. The relevance of that allegory to financial markets is quite ominous. Banks make hay while interest rates go up but beyond a point, high cost of borrowing slows down credit offtake. Serial spikes in interest rates as have become a habit with central banks now, do not portend all too well either. Rising bond yields, hint of a looming recession in some markets and a runaway inflation in the other is enough to stir up a market cyclone that turn the best of forecasts upside down. Few emerge unscathed from this onslaught. Expanding capital base may give the bank/fund more headroom to do more big ticket deals (that deploy leveraged capital), but its difficult to pull back when the trend reverses in short notice as it has often in the past. Add to that the truism of cost of equity being higher than that of debt, you're trapped since extinguishing equity once raised is not all that easy. Debt can be retired at will during lean periods when there's little credit demand.
But right now, all's well. Besides the eagerness to capture the prevailing high valuation, it's the higher float that matters to both these cash-guzzlers. Nothing is off-limits for them now.

Barring one. K.V.Kamath and Stephen Schwarzman together should never go on a sailboat. If one of them falls overboard, the other - if unsure of his mate's swimming skills - would be loath to hold up the life preserver and ask "hey, can you `float' it alone?". The one in water might mistake it for talking business at that ungodly hour....

Friday, June 22, 2007

The GAAP relief

CFOs of transnational corporations hate it. They have to present periodic financial reports in the format prescribed by the regulators of respective countries, as there's often a mismatch of income/expense recognition norms. Not just a repetitive exercise, precious man hours are lost by engaging people to assist the foreign consultants in making out original spreadsheets. Many have openly expressed their ire at this phenomenal wastage of time, money and effort (increases the bulk of the Annual Report/proxy statements, higher incidence of printing/mailing charges) all for something that an ordinary shareholder (who merely looks at stock price / dividend) would hardly care.

Some relief for the disheartened souls. The US SEC recently took a step towards allowing foreign public companies to choose international Financial Reporting Standards (IFRS) or US rules (GAAP) when filing data with the agency. [Big Four stand to lose a good deal, though.] Read the full report here.

The reason why I am a big fan of cashflow statement is that it is recognized by all. Cash is real, something that an investor can easily correlate to a transaction – capital or revenue, equity or debt. Cash flow statement enables better intra-business as well as inter-business comparison too. No ambiguity at all.
Income statement on the other hand, is an abstract estimate structured for complying with tax (and other) laws, where the taxman is `expected to believe’ the contention of the company. If (s)he doesn't buy your argument, fallout could be fresh demand for taxes. If you persist, you could be in for a protracted litigation cost of which may outweigh the disputed liability itself.

Can’t wish away income statements just yet – not until the tax laws are altered to recognize income in a simpler way that everyone can understand. Any takers ?

Tuesday, June 19, 2007

New chic in town

TATA group is into everything. Well, almost.

You name it, they have it - Automotives, IT, Steel, Hospitality, Retail, Tea, Coffee, Insurance, Investments and a lot other. I sometimes wonder how long can they miss out on the lucrative business of Investment Banking. The business is strong that even one time boutiques like Avendus and MAPE Group have grown big in a very short time. Take a look at the incessant flow of M&A deal traffic (TATA must have paid quite a bit themselves recently) and you can see it. An old war horse like the TATA group cannot stay away from commercial sweet spots for long.

I am not too sure whether I vibed with him, but Ratan Tata probably had an epiphany on similar lines. They are getting into it now. Here’s the story for you – TATA CAPITAL is hatching.

All you CEOs of I-Banks, your people now have one more place to go....A very good one at that. So just get liberal with employee bonuses and keep them happy. Not exactly the time to worry about margins !

Monday, June 18, 2007

When the tide turns

Shocking to see how the tide turns.

Reality seems to be playing out now. To directly compete with VC firms, cash-rich large cap Indian companies in diverse fields like healthcare, manufacturing and retail are also creating PE funds to tap the SME business investment opportunity. Ranbaxy now has Religare Securities, Dalmia (Cement) group has Landmark-Holdings, Pantaloon Retail (Future group) has Future Capital adding to the crowd of strategic investment majors like Intel Capital, Siemens VC , Applied Ventures etc.

Earlier startups could never meet the stringent norms and soon VC firms began deserting them to focus on expansion stage companies in the SME segment that matched their `no-risk’ instincts. Government of India reacted to this shift in attitude (that turned many a risk taking VC into speculators) and duly pulled the rug from under their feet by withdrawing (pass through) tax concessions granted to them.

In business, good times last till competition catches up. Particularly in Fund management, opportunities last only till the strategy is kept under wraps. Normally others sense it well before the buck rolls in.

More number of players is good. Will there be enough quality deals for all of them ? Perfect condition for a shakeout…Oops…they call it `consolidation’ perhaps !

Saturday, June 16, 2007

Consolidation in Indian skies - putting the cart before the horse ?

The frenetic activity in India’s fledgling airline industry [Jet-Sahara, Kingfisher-Air Deccan, Air India-Indian] intrigues me no end. I normally am tempted to go by the general opinion of investors across the world about this industry, which in summation is that - a profitable airline is a dysfunctional one.

There’s this favorite airline industry stat, offered up by a recent Bloomberg article:

Historical profits: $18 billion
Historical losses: $32 billion

Internationally, the performance of aviation industry has been characterised by boom and bust cycles with a period of robust growth in operations and profits giving way to losses and an inevitable search towards consolidation. This is in the very nature of the cost structure of airline operations where fixed costs such as aircraft lease rentals, depreciation and staff costs could be as high as 50 per cent of sales. Even a marginal decline in traffic volume or a nominal addition to capacity arising from the entry of new players can undermine the viability of incumbent operators. The current wave of consolidation sweeping the Indian skies may appear to be in accord with the global trend, but is actually different in one respect. The consolidation is happening even before the industry has achieved a state of stable and orderly growth (and hence the title). The sector was opened to private competition, just a few years back. The period since then has witnessed one of the most exceptional record of buoyancy in national prosperity. In the event, the new entrants can perhaps be pardoned for viewing the future with an optimism that in hindsight may not only be regarded as excessive but did not prepare them to withstand the pressures of the market place.

Get this perspective from none other than legendary investor Warren Buffett:

"If I'd been at Kitty Hawk in 1903 when Orville Wright took off, I would have been farsighted enough, and public-spirited enough -- I owed this to future capitalists -- to shoot him down."

Seems the airlines are in bad need of a visit from the business model doctor.

It seems Vijay Mallya and Naresh Goel have different ideas. Well, you can argue there are millions of Indians that haven’t had their maiden flight experience as yet, who would love to take to the skies if the fares are affordable. How easy a task is that - coming to think of soaring oil prices, high lease rentals, wage inflation, shortage of pilots and trained in-flight, maintenance and repair crew.

Well, who am I to say that? John M Keynes quote captures it best as he says -

“A large portion of our positive activities depend on spontaneous optimism rather than on mathematical expectation…If animal spirits are dimmed and the spontaneous optimism falters, leaving us to depend on nothing but mathematical expectation, enterprise will fade and die.”
Won't you join me in raising a toast to that ?

Thursday, June 14, 2007

Era of mega equity offerings ?

Just as one thought it is curtains for DLF IPO, another is raising its hood.

ICICI Bank’s domestic issue is part of a $5bn capital raising program. In addition to the local issue, ICICI Bank plans to raise another $2.5 b from the issue of American Depository Receipts.

In addition to the equity issues, ICICI Bank is also raising money by selling shares of the holding company for its insurance businesses. The timing of the stake sale in the holding company would be determined by clearances from RBI and IRDA.

This week, ICICI Bank received permission from the Foreign Investment Promotion Board to sell up to 24% equity in ICICI Holdings. However, the bank will be offering only 5% to international investors.

“China is possibly 10 years ahead of us. Even if the top four banks in India are put together, the size would be lesser than that of the fourth largest Chinese bank. The combined market capitalisation of all banks in India would be lesser than half of the M-cap of China’s second largest bank,” points KV Kamath, MD & CEO, ICICI Bank.
ICICI Bank, has a market cap of about $ 19.89 b that is the highest among financial services companies in India. ICICI Financial Services, the holding company for its insurance and asset management business, has been valued at $10.94 billion. Goldman Sachs, Swiss Re and Nomura, along with two other investors, have picked a 5.9% stake. Of this, Goldman Sachs has picked up 2.02% stake.

A few swallows (few days of downturns of stock indices) do not a summer maketh - and we thought the India story is played out. Can’t be more wrong.

Wednesday, June 13, 2007

The DLF dilemma

To invest or not to ?

DLF IPO never ceases to surprise by contrasts. The moment I finish reading a news that says overwhelming response by Institutional investors to its mega IPO, there’s another article which elaborates why the IPO should be dumped by investors.

The issue opened on Monday 11 June. On the second day, the issue was subscribed by 1.28 times. However, the retail investors have not given warm response to the country's biggest IPO, as the retail portion was subscribed merely 0.101 times.

Valued at the higher end of the price band, the company would be the eighth largest by market capitalisation, post-listing. With negative cash flows and current earnings abysmally low compared with future projections, the company is demanding its price relying solely on its vast land holdings, the value of which is not clear.

Tuesday, June 12, 2007

They've got balls, yeah !

I was a bit ahead of time then. I am referring to a few US based entrepreneurs interested in raising VC funding for their businesses who had approached me earlier. The businesses were robust, had global delivery models, could’ve been easily replicated in cost advantaged locations – yet Indian VCs weren’t interested. Remember, it happened at a time when most Indian VCs were crying hoarse about lack of investible ideas available locally.

Imagine my relief when I found ICICI Venture has bought out the venture investors from the Seattle, Washington, based Radiant Research for an undisclosed sum.

ICICI Venture has bought out the stake of the original venture capital backers of Radiant who had stayed invested in the company for about 10 years. “Our original venture capital investor group had been involved with Radiant since our inception in 1998. This change in ownership represents a natural transition from a start-up company to an established company with the financial resources to strategically advance all of our late phase service offerings,” said Pamela Spaniac, CEO of Radiant Research. “We are particularly excited about the potential for international expansion opportunities that ICICI Venture will provide.”

Now at least I know one Indian VC that has balls – to look beyond boders.

Monday, June 11, 2007

The Good, The Bad and The Ugly

I came across some interesting bits of news today. All related to DLF in some ways.

The GoodDLF IPO subscribed 41% on day one. The QIP portion is fully subscribed. The initial public offering of real estate major DLF, which is expected to mop up Rs.96.25 billion ($2.40 billion), received 41 per cent subscriptions within an hour of opening on Monday.

The Bad – Analysts say the issue is overpriced and figure that the concentration of DLF land bank in Gurgaon (near Delhi) does not bode very well for the prospects of the company. Sample these -

Brokerage house Enam said: "At the upper band of Rs 550 the stock trades at a significant premium to our base case valuation of Rs 404. We believe the stock is overvalued and initiate coverage with Sector Underperformer rating and a price target of Rs 404."

Raising concern about DLF's over-dependence on Gurgaon, Angel Broking said that this is a big concentration in one city, considering the fact that Gurgaon is a satellite town and it took DLF 30 years to develop the 3,000 acre DLF township.

The Ugly - After a brief respite, the city [Gurgaon] is again sweating under unscheduled power cuts. New Gurgaon, like DLF and Sushant Lok, seems to be the worst-hit. DLF phase II suffered a power cut on Tuesday night, while phase III has been experiencing unscheduled cuts for the past two weeks. Read the full report here.

DLF issue could have very well done without these bits. What do you think ?

Friday, June 08, 2007

FCCB rope trick

“FCCB offers thrive, especially when stock market and the economy are booming. Investments are made with an objective of generating certain amount of returns and reinvesting the money in other instruments. Once expected returns are earned, investors can exit without waiting for maturity of the bonds,” says Kiran Vaidya, head of investment banking, Religare Securities. Corporates are also benefited in that they can raise funds at a premium which is added to reserves and helps strengthen their net worth position, he said.

What Kiran - like most other I-Bankers - obviously misses out is its impact on the issuer (company) when Rupee is appreciating like it does now (1$= INR 40.50). The FCCB that stood as debt (borrowed when 1$ fetched INR 45) in the company’s books, becomes a high cost equity upon conversion (now when INR is dearer). Besides the impact of (unintended) cheap conversion, it dilutes earnings and has also to be serviced for life unless bought back. It's a triple whammy for the issuer !

Here’s what I think. Why not issue FCCB with the caveat - if the issuer’s domestic currency appreciates beyond a (hurdle rate) % during its pre-conversion term, the issuer shall have the option to repay the debt at an additional % point of interest over what has already been contracted…Law as it stands now, does not seem to have anything against this condition.

I think that would have saved the day for many issuers today. What do you think ?

Monday, June 04, 2007

Did you say valuation ?

Earlier during my career, I had known several companies where owner CEO `A’ meets another owner `B’ at some party and talk deal. It could either be a total buyout or acquiring one of its divisions or brand or some assets. No due diligence, no valuation exercise, not even verification of asset quality or title. In owner CEO situation, you can’t ask questions. Just do it.

But will TATA do something like it ? It seems when driven by despair, even they would.

The Tatas are paying Rs.140 per share for acquiring Mount Everest Mineral Water, which values the company at around Rs.4.60 billion($115 m). For a company with an annual turnover of Rs.250 million ($6.25m), it’s a very steep price. Mount Everest’s net profit in the quarter ending December 2006 was a mere Rs.3.3 million ($82.5 k). Earnings per share added up for the four quarters ending December 2006 amounted to only 53 paise ($ 0.013).

After Vodafone buyout of HutchEssar, yet another case of acquisitive ego defying valuation math…full story here.

Friday, June 01, 2007


Capt.G.R.Gopinath, Founder & CEO of Air Deccan, India’s low cost carrier (LCC) is a smart man.

Just as everyone was about to write it off as a sick airline headed for its grave, yesterday this wiry ex-soldier of Indian army quietly palmed off a 26% controlling stake to Vijay Mallya’s Kingfisher Airlines for Rs.5.50 billion ($137.5 m) – Rs.155 per share (IPO was at Rs.150/- a share). In the process getting a return of almost 6 times his original investment of about Rs.930 m ( $ 23.25 m). As per the deal terms, he will continue as Chairman of the Company. The company had a last quarter loss of Rs.2.21 billion ($55.25 m) and its EPS is a cool negative figure. Coming to think of it, the strategy is fairly simplistic and well executed - go float a capital intensive business, shake down the whole market by suicidal pricing, break the back of existing established players almost forcing them either to buy you out (to stop bleeding price cuts threatening their very existence !) or to go out of business and eventually sell it to one of them and make 6 x returns...ain't that smart...?

Now to a little abstraction. Remember the Captain did it in India, a hotbed of spirituality where your good karma never goes unblessed or unrewarded. True to his words, he made air travel affordable for many a cost-conscious, VFM minded people (not necessarily poor) and he can safely count on all of their blessings. In particular, of those who could make it only because Deccan made it affordable for them, at real low cost – “Simplifly” goes its slogan – without a worry and no frills.

Now with $137 million in his pocket, in all probabilities, this Captain would want to do more of good Karma. Unless he makes it clear, every industry has reason to worry !