Next year’s elections loom large over the Budget and could give it a populist tilt
The Budget is a financial statement of the government, much like the P&L a/c of a company. Yet there is much ado about it and a lot of newsprint goes into the pre and post-Budget analyses. The reason is simple. The Budget sends out very critical signals for the people in terms of the tax proposals and expenditure outlays. Unlike monetary policy where the RBI can intervene during the year and alter rates, the same is not the case with tax proposals. It is hence an important tool for financial planning for individuals and companies alike.
As a rule, individuals and companies want to pay less tax. Further, when it comes to indirect taxes, the task is more onerous. While the auto industry wants duties to come down on steel, the steel industry wants the customs rate to move up to tackle competition. Therefore, a delicate balancing act is called for. To top it all there are committed expenditures like subsidies, interest, and defence, which cannot be compromised. Then there is the ubiquitous development expenditure, which has to be invoked to provide real benefits to the people. After doing all these balancing jobs the fiscal deficit, which is the final test of fiscal virtuosity, needs to be curtailed at 3 per cent of GDP.
This is an Election year Budget because next year there will be only a Vote on Account. Therefore, it has to be benign. There will hence be no increase in the income tax rates. In fact, the exemption limit could be raised to Rs1,25,000 or Rs1,50,000 to placate the masses. The corporate sector would like to have a lower rate with similar adjustments in the MAT (Minimum Alternate Tax) and FBT (Fringe benefit tax).
But the FM has a problem here. This year, he has managed to raise tax collections with ease due to a combination of high growth and better compliance. Overall growth in FY09 is still an unknown quantity and there are some signs that the economy may have slowed down in FY08. This being the case, overall buoyancy in tax collections could dip with the existing structure of taxes. At the same time, increasing rates can be ruled out as the FBT, MAT and STT (securities transactions tax) are unpopular.
The same holds for the indirect taxes where growth in collections has been based on a larger base of imports and industrial production. Higher price of oil, for instance, has increased customs collections. The Budget would address certain specific issues relating to the textiles sector (their existence has been affected by the rupee appreciation). Therefore, on the income side, the government has to base the proposals on higher growth to garner higher revenue.
Alternatively, the government could think of fixing its revenue conservatively by taking in a more moderate growth rate of 8 per cent and then planning its expenditure. But there are problems here which make expenditure planning more problematic this year.
There are essentially two parts to the expenditure story. The first is the development aspect. Special groups to be targeted would be the farmers, through credit waivers and cheap loans. Then there is rural infrastructure, social compulsions like water supply, education, food for work, and so on, which are mandatory expenditures this year. With these amounts being necessary to remain populist, the attention will be on the second part of the story: non-development expenditure.
There are four new problems which are hard to surmount. The first is the food subsidy, which cannot be compromised in an Election year though we could see a new PDS being introduced. Secondly, in the case of the petroleum subsidy, the burden could be too much as it may not be possible for the government to raise the prices of petro products in an Election year.
The third is interest payments, which has been taking a nasty hit on account of the MSS (Market stabilisation scheme) bonds that have been issued to control the inflow of dollars into the country. Unless these flows slow down, which is unlikely, these bonds have to be issued to stabilise the rupee.
The last is the recommendations of the 6th pay Commission which will be submitted later this year and would be adopted immediately, to reach out to the middle class.
The Budget will hence necessarily have to display a lot of character: it has to raise revenue without increasing rates; and at the same time manage development expenditure, subsidies, Pay Commission and interest payments. The strong premise is the bargain on higher growth.
Thursday, February 28, 2008
Monday, February 18, 2008
Of bonus issues after maiden floats: DNA 19th February 2008
Reliance Power’s latest move sets a precedent that would be hard to reverse
The Reliance Power episode is quite singular in capturing different facets of the capital market.
Think of it. Here is a company that only has a project report to set up 12 power plants for 28,000 MW after three years. Profits would then be possible after a further five years. Yet, the IPO draws an amazing response, with applications amounting to a fifth of the country’s gross domestic product.
What could possibly explain the rush?
Two things, by and large: First, a ‘great name’ as promoter - a name that has always delivered in the past - and second, human greed or avarice. People were willing to buy the share at Rs 450 on hopes that they would make double the amount on listing.
Naturally, they were disappointed when the price crashed (from Rs 430-450 as issue price to a low of Rs 332).
Now, to placate such investors, there is this call for a bonus issue by the promoters. Is the move justified?
The equity market is like a casino where people enter knowing fully well that they can win or lose. Of course, everyone hopes to win, or rather that they will win at some point.
When the stock prices rise without any fundamental change in the economic environment or the company they have invested in, they do not ask why? The companies, on their part, do everything to keep the sentiment up with bonus and rights issues, dividends, and at times also make not-so-good accounts look acceptable.
Therefore, logically speaking, when prices fall, for whatever reason, there is no reason to grumble. If investors stretched too far for the Reliance Power issue, then it is their bad luck, just as what happens to other scrips during various time phases. There can theoretically be no reason for placating the investors with a bonus issue.
Then why is this sop being extended?
Well, a promoter carries a risk when there is an IPO for a project that is yet to take off but has been launched with much fanfare. A fall in price could dent the perceived confidence of the promoter, though it may be due to several reasons as in this case, where global sentiment was depressed and other stocks also too took a beating.
But, even this does not justify the bonus issue since it has been barely a month since the issue opened and this is too short a period to judge the stock, especially since the project was to come up in three years and everyone knows how it is with infrastructure. Quite surely, the long-term investors will remain with the project.
There has thus to be another reason. Reputation risk becomes pertinent here since a promoter who cannot deliver immediately on expected returns could run a problem with future issues, and in this case, it could be the share issues of Reliance Communications and Reliance Infratel.
If the same group has to come out with new issues for existing or new projects, which probably are to reach out to the investors on the strength of the promoter’s name, then the risk of rejection or lower valuation is particularly high.
While such a move would naturally be in accordance with Sebi guidelines — there would be no issue of corporate governance here as it would be run through the regulator — the question to ask is whether the move is desirable.
This is because the bonus issue will set certain precedents which will affect the market for times to come. Every time there is a fall in the price post-listing, there will be a clamour for such an issue from investors, and the promoters will have to think hard. There is hence the fear of segmentation of the issuers, into those who care and those who don’t care for the investors.
And what about existing companies with shares that are listed but not doing well? Would they also be tempted to go in for bonus issues to placate investors? This is the trap companies may be headed towards when such precedents are set by the large and most reputed promoters.
Whether or not we like it or like to accept it, the share price and its movement over time affect the reputation of the promoter/ company in its normal operations. Better price-earnings ratios command a lot of respect when a company goes in for a global depository receipts issue and improve its ability to borrow in domestic and international markets, market capitalisation, etc. Now, companies would be pressurised into resorting to such moves, which will send confusing signals to the market.
The decision, hence, to provide bonus shares to investors on the grounds of compensating them for the trust reposed in the IPO merely because of a fall in the value by say Rs2,000 crore, needs to be debated more closely as it would set precedents that would be hard to reverse in future for the market as well as the promoters.
To quote from Shakespeare: “We still have judgment here, that we but teach bloody instructions, which, being taught, return to plague the inventor.”
The Reliance Power episode is quite singular in capturing different facets of the capital market.
Think of it. Here is a company that only has a project report to set up 12 power plants for 28,000 MW after three years. Profits would then be possible after a further five years. Yet, the IPO draws an amazing response, with applications amounting to a fifth of the country’s gross domestic product.
What could possibly explain the rush?
Two things, by and large: First, a ‘great name’ as promoter - a name that has always delivered in the past - and second, human greed or avarice. People were willing to buy the share at Rs 450 on hopes that they would make double the amount on listing.
Naturally, they were disappointed when the price crashed (from Rs 430-450 as issue price to a low of Rs 332).
Now, to placate such investors, there is this call for a bonus issue by the promoters. Is the move justified?
The equity market is like a casino where people enter knowing fully well that they can win or lose. Of course, everyone hopes to win, or rather that they will win at some point.
When the stock prices rise without any fundamental change in the economic environment or the company they have invested in, they do not ask why? The companies, on their part, do everything to keep the sentiment up with bonus and rights issues, dividends, and at times also make not-so-good accounts look acceptable.
Therefore, logically speaking, when prices fall, for whatever reason, there is no reason to grumble. If investors stretched too far for the Reliance Power issue, then it is their bad luck, just as what happens to other scrips during various time phases. There can theoretically be no reason for placating the investors with a bonus issue.
Then why is this sop being extended?
Well, a promoter carries a risk when there is an IPO for a project that is yet to take off but has been launched with much fanfare. A fall in price could dent the perceived confidence of the promoter, though it may be due to several reasons as in this case, where global sentiment was depressed and other stocks also too took a beating.
But, even this does not justify the bonus issue since it has been barely a month since the issue opened and this is too short a period to judge the stock, especially since the project was to come up in three years and everyone knows how it is with infrastructure. Quite surely, the long-term investors will remain with the project.
There has thus to be another reason. Reputation risk becomes pertinent here since a promoter who cannot deliver immediately on expected returns could run a problem with future issues, and in this case, it could be the share issues of Reliance Communications and Reliance Infratel.
If the same group has to come out with new issues for existing or new projects, which probably are to reach out to the investors on the strength of the promoter’s name, then the risk of rejection or lower valuation is particularly high.
While such a move would naturally be in accordance with Sebi guidelines — there would be no issue of corporate governance here as it would be run through the regulator — the question to ask is whether the move is desirable.
This is because the bonus issue will set certain precedents which will affect the market for times to come. Every time there is a fall in the price post-listing, there will be a clamour for such an issue from investors, and the promoters will have to think hard. There is hence the fear of segmentation of the issuers, into those who care and those who don’t care for the investors.
And what about existing companies with shares that are listed but not doing well? Would they also be tempted to go in for bonus issues to placate investors? This is the trap companies may be headed towards when such precedents are set by the large and most reputed promoters.
Whether or not we like it or like to accept it, the share price and its movement over time affect the reputation of the promoter/ company in its normal operations. Better price-earnings ratios command a lot of respect when a company goes in for a global depository receipts issue and improve its ability to borrow in domestic and international markets, market capitalisation, etc. Now, companies would be pressurised into resorting to such moves, which will send confusing signals to the market.
The decision, hence, to provide bonus shares to investors on the grounds of compensating them for the trust reposed in the IPO merely because of a fall in the value by say Rs2,000 crore, needs to be debated more closely as it would set precedents that would be hard to reverse in future for the market as well as the promoters.
To quote from Shakespeare: “We still have judgment here, that we but teach bloody instructions, which, being taught, return to plague the inventor.”
There's no industrial slowdown: Financial Express: 18th February 2008
The latest round of economic panic in the country has been sparked by the thought of a possible onset of an industrial slowdown. Industrial growth looks pale, with a gradual declining single digit number observed over the last couple of months, against double-digit growth rates last year. Naturally, there is clamour to lower interest rates to boost growth. How far is this feeling justified?
There are two issues here. The first is whether these numbers really tell the real story, because statistics are a curious set of numbers that can be tilted to suit the theme. The other is whether or not one needs to pull the panic trigger on this score.
There are basically six indicators to look at in order to analyse whether an industrial slowdown has commenced. Industrial growth is lower, at 9% during the first nine months of the year. It was 11.2% last year. But that double-digit growth rate came on a base of just 8% growth in the equivalent period of 2005. The base year effect is in operation.
The same holds for infrastructure industries, which have shown a growth of 5.7% during this period, compared with 8.9% last year. In 2005-06, growth was just 4.5%. This is a common error made in interpreting numbers, with low and high base years distorting the view.
Second, exports have been buoyant this year, with growth of 22% (manufactured products constitute over 70% of our exports today), which would not have been possible if industry had slowed down. In fact, this performance has also questioned the oft-repeated grievance that a stronger rupee has weighed export-intensive industries down. Here, it must be admitted that while the macro picture disputes this claim, at the micro level, sectors such as textiles have indeed been affected. Clearly, these industries need to become more competitive, as others already have. Non-oil imports, too, have risen by 33%, which is indicative of robust industrial activity. This can be corroborated with the high growth rate in the capital goods segment of 20.2%, which necessitates higher imports of raw materials and intermediates.
The third indicator of industrial progress is bank credit. Growth in bank credit has been lower on a year-to-year basis till January 25, at 22.6%, as against 29.8% last year. However, the base year effect again comes into the picture. In 2005-06, growth was as high as 31%. While data is not available on the distribution of credit, the impressionistic view is that there has been a slowdown in credit growth to the retail segment, especially mortgages, rather than the manufacturing sector. Further, it must be mentioned that industry accounts for not more than 40-45% of total credit, and the rest goes to sectors such as agriculture and services. Also, unchanged interest rates per se have a limited marginal impact on the corporate sector.
Incremental credit during the year has been around Rs 250,000 crore. A 100 basis points change in interest rates could affect total costs by just Rs 2,500 crore, of which only half would be accounted for by industry, which has sales of Rs 25,00,000 crore. The impact would not be more than 0.05% of turnover, which is insignificant.
The fourth indicator is capital market performance. Total capital issues this year (until December) have been higher than that last year by 14%. Business investment this year is likely to be buoyant. Besides, the performance of the secondary market, though admittedly not a perfect barometer of industrial sentiment, remains an uplifting story when viewed on a chart with longer time calibrations.
Further, corporate performance has been robust this year, as the quarterly results continue to indicate. During these three quarters, based on CMIE data, aggregate sales have grown by 19%, 15% and 18%, respectively, while net profits have grown by 15%, 35% and 22%, respectively. The corporate sector is in fine shape.
Lastly, revenue collections have been more than buoyant this year, as admitted by the Finance Minister himself. This could not have been so unless growth in corporate sales, imports and profits were up sharply, since the Budget had punted on such an outcome while making minimal upward revisions in tax rates. The premise was that with lower or unchanged tax rates, collections will rise on a fast growing business base. Corporate tax collections rose by 37% in the first nine months of the year, on top of growth of 55% last year.
Therefore, there do not appear to be any overt signs of an industrial slowdown, and the explanation for this supposition can be summarised under two sets of factors. The first is the high base year effect. The second relates to our self-imposed fallacious belief that growth must always be exponential.
While exponential growth sure sounds good, as it did for the East Asian economies in the 1980s and 1990s, it is hard to maintain in a globalised environment. As long as we do better than the world’s leading economies, it indicates success. Complete decoupling is not possible.
There are two issues here. The first is whether these numbers really tell the real story, because statistics are a curious set of numbers that can be tilted to suit the theme. The other is whether or not one needs to pull the panic trigger on this score.
There are basically six indicators to look at in order to analyse whether an industrial slowdown has commenced. Industrial growth is lower, at 9% during the first nine months of the year. It was 11.2% last year. But that double-digit growth rate came on a base of just 8% growth in the equivalent period of 2005. The base year effect is in operation.
The same holds for infrastructure industries, which have shown a growth of 5.7% during this period, compared with 8.9% last year. In 2005-06, growth was just 4.5%. This is a common error made in interpreting numbers, with low and high base years distorting the view.
Second, exports have been buoyant this year, with growth of 22% (manufactured products constitute over 70% of our exports today), which would not have been possible if industry had slowed down. In fact, this performance has also questioned the oft-repeated grievance that a stronger rupee has weighed export-intensive industries down. Here, it must be admitted that while the macro picture disputes this claim, at the micro level, sectors such as textiles have indeed been affected. Clearly, these industries need to become more competitive, as others already have. Non-oil imports, too, have risen by 33%, which is indicative of robust industrial activity. This can be corroborated with the high growth rate in the capital goods segment of 20.2%, which necessitates higher imports of raw materials and intermediates.
The third indicator of industrial progress is bank credit. Growth in bank credit has been lower on a year-to-year basis till January 25, at 22.6%, as against 29.8% last year. However, the base year effect again comes into the picture. In 2005-06, growth was as high as 31%. While data is not available on the distribution of credit, the impressionistic view is that there has been a slowdown in credit growth to the retail segment, especially mortgages, rather than the manufacturing sector. Further, it must be mentioned that industry accounts for not more than 40-45% of total credit, and the rest goes to sectors such as agriculture and services. Also, unchanged interest rates per se have a limited marginal impact on the corporate sector.
Incremental credit during the year has been around Rs 250,000 crore. A 100 basis points change in interest rates could affect total costs by just Rs 2,500 crore, of which only half would be accounted for by industry, which has sales of Rs 25,00,000 crore. The impact would not be more than 0.05% of turnover, which is insignificant.
The fourth indicator is capital market performance. Total capital issues this year (until December) have been higher than that last year by 14%. Business investment this year is likely to be buoyant. Besides, the performance of the secondary market, though admittedly not a perfect barometer of industrial sentiment, remains an uplifting story when viewed on a chart with longer time calibrations.
Further, corporate performance has been robust this year, as the quarterly results continue to indicate. During these three quarters, based on CMIE data, aggregate sales have grown by 19%, 15% and 18%, respectively, while net profits have grown by 15%, 35% and 22%, respectively. The corporate sector is in fine shape.
Lastly, revenue collections have been more than buoyant this year, as admitted by the Finance Minister himself. This could not have been so unless growth in corporate sales, imports and profits were up sharply, since the Budget had punted on such an outcome while making minimal upward revisions in tax rates. The premise was that with lower or unchanged tax rates, collections will rise on a fast growing business base. Corporate tax collections rose by 37% in the first nine months of the year, on top of growth of 55% last year.
Therefore, there do not appear to be any overt signs of an industrial slowdown, and the explanation for this supposition can be summarised under two sets of factors. The first is the high base year effect. The second relates to our self-imposed fallacious belief that growth must always be exponential.
While exponential growth sure sounds good, as it did for the East Asian economies in the 1980s and 1990s, it is hard to maintain in a globalised environment. As long as we do better than the world’s leading economies, it indicates success. Complete decoupling is not possible.
Thursday, February 7, 2008
Look Beyond Production and Yields: Business Standard 7th February 2008
The bull run in commodities means different things to different people. Investors are, for obvious reasons, joyous when prices move up, while consumers are disappointed at the marketplace which is followed by an expression of umbrage. Governments then try to fix the blame on someone — bad weather, low yield, insufficient investment, futures trading, private players and now exporters (for maize). But, have we missed something very important in the process which can provide a vital clue?
Globalisation has sort of flattened the world economy in many respects, starting from technology and then to world agreements culminating in the Euro — while still haggling and stuttering on the WTO. And now it has actually spread to commodities too and while such developments make sense in the industrial field, it has permeated the agricultural sector where prices in India are influenced significantly by movements in the rest of the world.
The contemporary corn/maize case is best illustrative of this phenomenon. India’s production has been good in 2007 and so was it last year. India is a small global player, but once there is shortage elsewhere in the world, the global price moves up, and with it the incentive to export. Domestic producers or procurers can buy in the local market and export the same overseas at a higher price. The farmer gains, so does the intermediate, while the user ends up complaining of higher prices and the search is on for the usual suspects. This has been witnessed in the case of pepper, chillies and cumin earlier. But there is a legitimate foreign hand here which needs to be understood.
Increases in crude oil and gold prices are now legendary as crude crossed $100, while gold scaled new heights during 2007 and so have domestic prices of the same. The bull run in gold in India and the constant mounting of losses of the oil companies bear testimony to the strong correlation in prices here, where, however, price discovery takes place on foreign soil. But the same was witnessed across agricultural commodities in particular, as prices rose quite remarkably across all segments. The table illustrates this point.
The table reveals some interesting observations. Firstly, nine of the top 11 commodities which have witnessed increase in price of over 10 per cent during 2007 are agro-based products. This has been caused by declines in production or stocks in some countries. However, there have been no crisis-like situations in any of these products, and a minor disruption has caused upheaval in prices.
Secondly, the price rise witnessed in agro-products was lower in India relative to the world in nine of the 10 commodities, with cotton being the only exception. Cotton prices were higher, more due to the export factor as production in domestic markets has been vibrant. This is indicative of a partial insulation of our markets, which are still regulated today. As a corollary, with progressive integration with world markets, we should be prepared for a higher intensity of this effect in future. Thirdly, the world prices of five of the seven metals increased by less than 10 per cent this year, with nickel and lead being the exceptions. The lower demand for them could be the slowing down of growth in some countries, with the China-factor playing its part. The global slowdown on account of the sub-prime crisis and the decrease in growth in liquidity has played its role too.
Lastly, in four of the metals, the price rise in India was higher than that in the world, reflecting greater elasticity in iron, steel, copper and aluminium, while it was almost on par in case of nickel.
The interesting takeaway here is that Indian commodity prices, particularly of agriculture products, are progressively getting integrated with the global scenarios and while the changes are less significant, there will tend to be convergence in future. Most of these products are becoming global with India being a large producer or consumer of virtually all commodities due to the sheer size of its population. In wheat, it was observed that a mere fall in global stocks, though not production, can cause an upward swing in prices. In case of non-agri metal products, prices have been more elastic given the demand-supply imbalances.
Given this movement towards globalisation of agri-prices, it would be essential for the government to do two things. The first is to closely monitor what is happening globally in terms of output, stocks and prices and be prepared for similar trends domestically. Secondly, a policy regarding foreign trade needs to be in place to meet these contingencies. Imports need to be allowed to ensure supplies; while the call on exports needs to be weighed carefully with market reality to ensure that the final prices are in alignment with the fundamentals.
More importantly, we need to look beyond just our own production and yields
Globalisation has sort of flattened the world economy in many respects, starting from technology and then to world agreements culminating in the Euro — while still haggling and stuttering on the WTO. And now it has actually spread to commodities too and while such developments make sense in the industrial field, it has permeated the agricultural sector where prices in India are influenced significantly by movements in the rest of the world.
The contemporary corn/maize case is best illustrative of this phenomenon. India’s production has been good in 2007 and so was it last year. India is a small global player, but once there is shortage elsewhere in the world, the global price moves up, and with it the incentive to export. Domestic producers or procurers can buy in the local market and export the same overseas at a higher price. The farmer gains, so does the intermediate, while the user ends up complaining of higher prices and the search is on for the usual suspects. This has been witnessed in the case of pepper, chillies and cumin earlier. But there is a legitimate foreign hand here which needs to be understood.
Increases in crude oil and gold prices are now legendary as crude crossed $100, while gold scaled new heights during 2007 and so have domestic prices of the same. The bull run in gold in India and the constant mounting of losses of the oil companies bear testimony to the strong correlation in prices here, where, however, price discovery takes place on foreign soil. But the same was witnessed across agricultural commodities in particular, as prices rose quite remarkably across all segments. The table illustrates this point.
The table reveals some interesting observations. Firstly, nine of the top 11 commodities which have witnessed increase in price of over 10 per cent during 2007 are agro-based products. This has been caused by declines in production or stocks in some countries. However, there have been no crisis-like situations in any of these products, and a minor disruption has caused upheaval in prices.
Secondly, the price rise witnessed in agro-products was lower in India relative to the world in nine of the 10 commodities, with cotton being the only exception. Cotton prices were higher, more due to the export factor as production in domestic markets has been vibrant. This is indicative of a partial insulation of our markets, which are still regulated today. As a corollary, with progressive integration with world markets, we should be prepared for a higher intensity of this effect in future. Thirdly, the world prices of five of the seven metals increased by less than 10 per cent this year, with nickel and lead being the exceptions. The lower demand for them could be the slowing down of growth in some countries, with the China-factor playing its part. The global slowdown on account of the sub-prime crisis and the decrease in growth in liquidity has played its role too.
Lastly, in four of the metals, the price rise in India was higher than that in the world, reflecting greater elasticity in iron, steel, copper and aluminium, while it was almost on par in case of nickel.
The interesting takeaway here is that Indian commodity prices, particularly of agriculture products, are progressively getting integrated with the global scenarios and while the changes are less significant, there will tend to be convergence in future. Most of these products are becoming global with India being a large producer or consumer of virtually all commodities due to the sheer size of its population. In wheat, it was observed that a mere fall in global stocks, though not production, can cause an upward swing in prices. In case of non-agri metal products, prices have been more elastic given the demand-supply imbalances.
Given this movement towards globalisation of agri-prices, it would be essential for the government to do two things. The first is to closely monitor what is happening globally in terms of output, stocks and prices and be prepared for similar trends domestically. Secondly, a policy regarding foreign trade needs to be in place to meet these contingencies. Imports need to be allowed to ensure supplies; while the call on exports needs to be weighed carefully with market reality to ensure that the final prices are in alignment with the fundamentals.
More importantly, we need to look beyond just our own production and yields
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