26 May 2013

India IT Services Disconnect between Asian & US investors' perception of the proposed immigration bill; can information asymmetry stay? ; JPMorgan

We are rather surprised that Indian IT stocks have been disconnected so far
from following Cognizant in not exhibiting nervousness in the wake of the
harsh stance taken on the matter of H1/L1 visas (in the proposed US
immigration bill). Cognizant stock has been feeling the brunt since this bill came
to light, falling by as much as 15% in the past 10 days. In so far as details pertain
to visas (H1/L1), the proposed measures, in their current form, seek to radically &
adversely alter the onsite:offshore delivery and cost ratios of Indian IT. If this bill
is substantially passed, we believe all Indian IT companies will likely be quite
badly hit (TCS, the best-managed company of the group, in our view, is perhaps
most impacted due to stiff wage realignment provisions of the bill). If minimum
payable wages defined by location/role are adjusted upwards, as the visa bill
requires, TCS would likely have to bridge the gap the most given its lower percapita
US wages than its peers. Three reasons for the rather muted reaction of
Indian IT stocks to this fairly adverse visa bill (as it stands), but information
asymmetry between the US & Indian/Asian investors may not last long:
 First, from our conversations with investors, we think US investors are far
more worried about this than Indian/Asian investors as they (US investors)
are closer to the action and can see the bipartisan approach to drafting this bill
and support for immigration reforms cutting across party lines.
 Second, we think Indian/Asian investors expect substantial watering down.
There have been such attempted interventions in the past that either have fallen
through or not had the desired impact (e.g., higher visa rejection rates in L1 have
not dented TCS’s ability to deliver despite its dependence on L1 visas). Also,
investors might feel that companies can do greater offshorization in existing
contracts/business to somewhat dilute the impact (TCS would likely manage the
transition better than most). But unfortunately, investors tend to miss the more
severe impact relating to revenue issues that come up due to restrictions on
outplacement (that bar visa-holders from working at client locations) if this bill
becomes law (they may think it’s still largely a cost/margin issue).
 In a sector where performance continues to be very polarized, the focus of
the street is very likely on near-term visibility of earnings rather than looking
to FY15 and beyond (it is beyond the next 12-18 months when the repercussions
of this bill’s provisions would start taking effect and also given the time needed
for debating by the various constituents/bodies). In our view, information
asymmetry between the US and Indian/Asian investors will not last long and
Indian stocks (notably TCS) should logically start feeling pressure.
IBM/Accenture seem insulated from the impact of the bill given these firms’ high
local/green card workforce content in the US.
 Summary: Implementing the provisions of the bill entail not just a cost
impact but revenue impact as well. JPM believes that the bill if passed in its
current form, it would be significantly negative for the offshore IT industry
(including Cognizant) and would likely compel a business model change for
Indian tech companies. The most impacted would likely be TCS (as it has
the highest % of non-locals/non-green card holders on its US rolls and also
perhaps has highest need for salary re-alignments among peers). Also,
bipartisan support in US Senate makes this bill different from previous
interventions. The Indian IT industry, with the support of the Government of
India, may be able to water down some of provisions. We would expect some
dilution, but the medium- to longer-term repercussions are still net negative.

India Consumer Tracking Institutional Ownership - Mar'13 Qtr; JPMorgan

In this report, we take stock of ownership trends in our India Consumer Staples
and Retail coverage. Over the past 12 months, we continue to see a trend where
FIIs have increased their ownership across our coverage universe (except GSK
Consumer and UNSP) while DIIs have reduced.
 FII ownership trends. Over the Mar’13 qtr, FIIs continued to increase
ownership across most consumer staples and retail stocks under our coverage
universe. A prominent increase has been in the case of Future Retail (+390bps
q/q), ITC (+91bps q/q), Jubilant Foodworks (+83bps q/q), Titan (+78bps q/q),
United Spirits (+76bps q/q), GCPL (+67bps q/q), Dabur (+64 bps q/q) and
Nestle India (+62bps q/q). However, they have reduced ownership in GSK
Consumer (-423bps q/q) post open offer by the parent. Over the past 12 months,
FIIs have enhanced their positions in all our staples and retail coverage universe
apart from UNSP (-80bps y/y) and GSK Consumer. Titan (+412bps y/y),
Jubilant Foodworks (+374 bps y/y), GCPL (+291bps y/y), HUL (+267bps y/y),
and ITC (+228bps y/y) have been the key favorites for FIIs.
 DII ownership trends. DIIs continued to reduce their ownership in consumer
stocks with prominent decline seen in GSK Consumer (-15ppt q/q) post open
offer by the parent, Future Retail (-170bps q/q), Dabur (-88bps q/q), Nestle India
(-60bps q/q), and HUL (-44 bps q/q). Insurance companies’ ownership was
maintained/reduced in all coverage stocks except marginal increase in Titan.
Over the past 12 months, DIIs ownership has reduced for stocks in our coverage
universe.
 FII:DII Ratio increases for most of consumer stocks. The FII/DII ratio has
steadily gone up for our entire coverage universe over past 12 months with most
increase seen for GSK Consumer and GCPL.
 Promoter Shareholding Changes: United Spirits (-200bps q/q) and Jubilant
Foodworks (-80bps q/q) were the key stocks witnessing a decline in promoter
holding. Promoter shareholding for GSK Consumer increased from 43.2% to
72.5% post open offer by the parent. Future Retail also saw 50bps q/q increase
in promoter shareholding.
 Retail ownership trends: Non-institutional ownership increased for United
Spirits (+140bps q/q) and Dabur (+20bps q/q). Rest of the stocks saw their retail
ownership reduced/maintained during the quarter

Jubilant Foodworks- Earnings growth at risk; Stay UW; JPMorgan

Despite significant underperformance witnessed by JUBI YTD (-15% returns),
we don't find the valuations (at 40x FY14E P/E) still pricing in downside risks to
earnings in backdrop of challenging macro. Uncertainty on discretionary demand
remains and we believe signs of more sustainable improvement here would be key
catalyst for stocks to reverse the underperformance. We pare our EPS estimates of
FY14/15E by 10-12% led by assumptions of moderate SSSG and lower margins.
Our earnings are 8-10% below consensus estimates. Promoter shareholding has
come down by 330bps since Jan’12 in the company.
 Lower SSS growth likely in FY14. Given the weakness in discretionary
spends (esp in urban areas), we expect SSSG to moderate from ~17% in FY13
to 12% in FY14 with more severe moderation in 1H. Recent bill value increase
by ~4-5% to pass on service tax incidence may further weigh on frequency/mix
of consumption. We note that Yum India (operates Pizza Hut and KFC)
recently reported -3% SSSG during Q113. More aggression by competition also
does not bode well for comps, in our view. Yum Brands’ Pizza Hut added 58
stores since Jan’12 (with higher focus on delivery format) and its network has
now expanded to ~60 cities (vs 118 for JUBI).
 Margin weakness remains a valid concern. Slowing SSSG, higher
promotions, lower initial profitability of new stores and losses related to Dunkin
format pose key downside risks to margin growth, in our view. We build in
30bps decline in EBITDA margins for FY14E.
 Aggressive store expansion – limited benefits likely given higher incidence
of cannibalisation and likely drag on profitability. While higher store
additions could be a positive surprise in FY14, it could also pose downside risk
to SSSG/margins, in our view. We believe JUBI will likely keep 110-120 stores
as a minimum threshold for new store addition over the next 2-3 years. However
such aggressive store addition (~50% of new stores being in top 10 cities) could
weigh on SSSG comps (in cities where the incidence of store split is higher
SSSG has suffered more) and margins (lower profitability of new stores in initial
years), in our view.
 Reducing earnings estimates and target price. We reduce FY14/15E EPS
estimates by 10/12% driven by lower SSSG assumptions and decline in margins
in FY14 (vs expansion built in earlier). We also roll forward our TP timeframe
to Mar’14 but reduce our target P/E multiple to 28x (vs 30x earlier) to account
for moderating earnings growth. As a result our new Mar’14 TP is Rs1025

India: uncomfortable and unspoken truths about CAD ; JPMorgan

India: uncomfortable and
unspoken truths about CAD
 The recent sharp decline in oil and gold prices is being
seen as a panacea to India’s macro challenges
 To be sure, the import savings from lower oil and gold
prices is potentially significant
 But half of the deterioration of India’s CAD is unrelated
to high commodity prices or weak exports
 Instead, it’s driven by policy and execution bottlenecks
that are likely to offset a significant chink in savings
from falling commodity prices over the next year
The sharp decline in gold and oil prices over the last two
weeks is seen, in some quarters, as a panacea to several of
India’s macroeconomic challenges. In particular, with oil and
gold being India’s two largest imports, there are hopes that if
the price decline is sustained, India’s current account
problems may be a thing of the past, with the CAD lapsing
back to the old normal of 2%-3% of GDP.
But markets and analysts are getting ahead of themselves. To
be sure, the recent fall in gold and oil prices can make a
significant dent in India’s import bill, and we quantify the
impact under various scenarios. But what markets have not
internalized is that 50% of the current account deterioration
over the last two years has nothing to do with global
commodity prices or weak exports. Rather, it is policy and
regulatory bottlenecks at home that have caused coal,
fertilizer, and scrap metal imports to surge, and iron ore
exports to collapse. Moreover, macroeconomic uncertainty
has precipitated a sharp repatriation of FDI profits that is also
weighing on the CAD.
These phenomena are likely to get worse before they get
better, and potentially offset more than half the gains that will
accrue from falling oil and gold prices. So while falling
commodity prices is clearly a good thing in the Indian
context, we think it’s much too early to claim victory just yet.
Gold and oil are all the rage for now
The sharp decline in oil and gold prices over the last two
weeks has set the proverbial cat among the pigeons. With oil
and gold being India’s two largest imports (accounting for
nearly 40% of the total import bill), India is rightly seen as
one of the biggest beneficiaries of the fall. Consequently, the
atmosphere is pregnant with hope that if the decline does not
reverse, India’s current account problems—deemed to be the
country’s biggest macro risk—may be a thing of the past. But
is this really the beginning of the end of India’s current
account deficit problems?
Can gold be a game changer?
The point of this Note is not to opine on whether the fall in
commodity prices will be sustained, but simply to ask, if
prices remain at current levels, will the beneficial impact on
gold imports be sufficiently significant to narrow the CAD?
We think the short answer is yes, but based on certain
behavioral assumptions.
First, however, a little history: India’s gold imports surged to
US$56 billion in 2011-12 as rising prices and volumes
combined to create a double whammy. The government
responded with multiple duty hikes but, to its dismay, gold
imports are still expected to print a hefty US$51 billion i

Wipro- Recovery taking far too long; JPMorgan

 Downgrade to Neutral. Moderate valuations may still see the stock give
10%+ returns over the next 9-12 months, but signals of a firmer recovery
to give sustained stock returns to justify OW remain elusive. Wipro
continues to struggle with its recovery and does not give any definitive signal(s)
that it is about to turn the corner in the next six months. The quarter came in
below the street’s expectations, rounding out FY13 with 5% revenue growth in
IT Services (or 7.4% growth in constant currency). However, what worried us a
bit more is the tepid revenue growth guidance for 1QFY14 (-0.6% to +1.6%
growth Q/Q), which means that recovery coming in time for a close-to-
Nasscom industry average growth in FY14 seems unlikely (say, within 100-200
bps of Nasscom’s growth range of 12-14%). We only partially agree with the
company’s explanation for its weak revenue 1QFY14 guidance (pointing to
a seasonally weaker June quarter for its India business). The fact is that
rather few verticals and service lines are performing well at the moment for
Wipro (energy & utilities, infra-management, analytics are among the few
bright spots) to be able to move the needle on a company of its size. Wipro
needs multiple growth engines to fire, which is not happening at the moment.
 That said, we believe that Wipro is still doing most of the right things in
setting its house in order – be it (a) working on improving customer
satisfaction and employee satisfaction scores, (b) hiring a good team of
experienced hunters that can capably open doors, (c) working with a reasonably
successful methodology/architecture to improve traction with top-10 clients
(though progress in rolling this out to the broader client base is still elusive), (d)
moderating attrition (in this respect, it fares better than peer Infosys), (e)
improving win rates in deals and (f) credible initiatives at improving
productivity and increased automation through standardizing processes and
developing tools. However, revenue growth results are taking more time to
show than our expectations. From being a hoped-for FY14 recovery story,
we think Wipro may be more a FY15 recovery story. We still think the
process is right and the results should follow the right process but we find it
difficult to put a time-line on the inflection point in Wipro’s performance.
 What do we need to see in the Wipro recovery story for timing it? Evidence
of broad-based growth cutting across verticals and service-lines; likewise,
improved client mining ability through the broader client base and not just at the
few at the top (say, top-10 clients). Our revised Mar-14 PT on the stock is INR
400 (earlier INR465, INR415 adjusted for the non-IT business de-merger).

Global Economics Falling oil prices : winners and losers ::HSBC


 Falling oil prices have less of an impact on the economy
than rising prices
 Our Oil Vulnerability Index shows that emerging markets are
the biggest gainers and the biggest losers from oil price
moves in either direction …
 …but the net impact on emerging market growth should be
positive
The Brent oil price has retreated sharply, falling by 12.5% since the end of March. This
might be explained by increasing supply coming into the market, Iraq and Libya raising
output together with increasing shale oil production in countries such as the US that has
offset the decline in Saudi production over 2012. But the rapid drop in oil prices this
month is more abrupt than can be fully explained just by supply improvements as it
coincides with drops in some commodities such as gold.
Clearly, markets have been rattled by the run of weak data coming not only from the US and
Eurozone, but also emerging markets, especially China, which after a weaker-than-expected
Q1 GDP print, seems to be still slowing into the second quarter of this year (the flash HSBC
manufacturing PMI for April eased to 50.5 from 51.6 in March). And while BoJ has turned
on the liquidity tap, the Fed seems to be having more of an internal debate on when and how
to exit from QE, with some members calling for a halt to additional asset purchases by the
end of this year. Long speculative positions, which had touched new highs in late 2012, are
being unwound as shown in chart 1 and 2 (For more details on calculations of speculative
positions, please see Oil and Money published on 22 February 2012).
In this piece, we look at the impact of this oil price drop on growth and inflation across
countries. Our Oil Vulnerability Index shows that some emerging market countries are
most vulnerable to this drop in prices while other developing countries benefit the most,
with the impact on the developed world being more moderate. We also try to quantify the
impact of oil price increases using the Oxford Economics forecasting model and find that
most of the impact of a sustained drop in oil prices is seen in 2014, with EM countries
such as China and India benefiting strongly. This should outweigh the drag from slower
growth in oil exporting EM countries, implying a net positive pickup in global growth

Maruti, JPMorgan report


Maruti reported 4QFY13 standalone PAT of Rs.11.5B (+79% y/y), significantly
above our and consensus estimates. The variance was driven by a sharper-thanexpected
expansion in EBITDA margins (+250 bps q/q), given the weakening JPY
(+130bp benefit) as well as improved product mix, given higher sales of diesel
vehicles. We believe that while MSIL (Neutral) should benefit from a weaker JPY,
the demand environment remains uncertain and competition is intensifying,
particularly in the entry-level sedan segment.
 SPIL merger: Maruti merged SPIL with the standalone entity – PAT at SPIL
was Rs.920m for FY13 (vs. Rs1,150m for FY12). PAT was lower y/y due to
increased depreciation charges at the entity.
 Conference call takeaways – demand outlook: Management highlighted that
the demand environment is sedate, with growth over FY14E expected at ~5%.
Management is targeting to sustain market share at current levels of ~40%.
While diesel vehicles currently comprise 58% of industry sales, the mix is
expected to stabilize at 50%, given the recent fall in crude oil. Margins: Over
4Q, hedges were at JPY/$ 90 levels, which led to a benefit of 130bp on
currency. The OEM further benefited by 100bp from improved selling prices –
due to a higher mix of diesel. Thus, discounts came off to Rs.10,500 per vehicle
in the quarter compared to Rs.12,500 levels earlier. (However, discounts on
petrol cars remain elevated.) Over FY14, management has taken forward cover
for 30% of its requirements at JPY/$ 95 levels. Localization plans: Maruti is on
track to increase localization levels – import content came off from 26% to 20%
in the current year (due to a combination of a weaker JPY as well as increased
domestic content). Capex: The OEM will incur an expenditure of Rs.30B in
FY14E (Rs.27B in FY13). The expansion program related to higher diesel
capacity as well as commissioning of Manesar C is on schedule.
 Price Target: We are raising our earnings estimates by ~11% over FY14/15E
to factor in the favorable 4Q results. We are raising our Mar’14 PT to Rs.1,750
as we value the stock at 14.5x forward PE multiple. Key downside risks: A rise
in competitive intensity. Key upside risk: a sooner-than-expected pick-up in
industry growth

India Cross-Asset Strategy The Commodity Sell-off: Implications on India :Morgan Stanley Research,


Commodity Prices Fall
Since mid-Feb, commodity prices have declined sharply. Global oil and gold prices are down nearly 15%, CRB metals index is down 8.5% and vegetable oil prices (crude palm oil) are down nearly 7%.
Economics: Sustained Fall in Commodities = Lower Rates
If this price fall sustains, it will create room for a bigger fall in interest rates and accelerate improvement in macro stability indicators. Oil, gold and coal are India’s three biggest imports.
Currency: Losses Could Reverse
The INR is currently two sigma cheap relative to the long-term average of its trade-weighted index. We think the INR could benefit disproportionately from higher equity prices and could reverse its trailing losses.

Credit: Upside Risks but Currently Fair Value
While credit is fairly valued currently, it bears upside from a narrowing external deficit. Banks, the biggest sector, benefit but credit quality improvement is slow and loss cushions remain a drag.
Equities: Absolute Upside
The absolute case for equities is strong. Short term positioning is weak, valuations are in the buy zone, earnings expectations are low and sentiment is still fragile. Indeed, global liquidity is firmly perched in India’s favor. If the fall in commodity prices is sustained the it creates the specter of a shift in local savings and a fall in short rates much to the benefit of equities.
Equities Relative to EM: Fair Value
India’s moderately above average relative valuations may keep its performance in line with EM. The key upside risk is a sustained drop in India’s inflation, which tends to drive relative P/E re-rating.

Wockhardt, cadila, Financial Technologies, Royal Orchid Hotels, Tinplate, Bombay Dyeing, CMC :: Business Line



Inflation-indexed bonds are here :: Business Line


Stock Strategy: Consider bear call spread on RCom :: Business Line


Andhra Bank (Rs 87.6): SELL :: Business Line


May 26: Nifty, Sensex Outlook :: Business Line


Forget IPL, worry about market-fixing :: Business Line


Sports regulators can take some cues from the securities market regulations. And vice versa.
Players, their faces masked, being led away for questioning. The police pulling an all-nighter to question suspects. Scores of indignant voices on social media demanding CBI investigations and arrests.
For any issue to provoke this level of moral outrage in India, it seems it must revolve around cricket. Can you remember a single financial sector scam, whether it was the Rajat Gupta insider trading case, the exposé of Sahara group’s illegal Rs 17,000 crore mop-up or the Saradha scam, attracting similar public ire?

WHO ARE THE VICTIMS?

Yet, if you look into the facts of the case, financial crimes have far more serious consequences than the IPL betting/fixing racket. In market manipulation or ponzi schemes, small savers have lost their limited nest-egg, which they never chose to risk, to schemes floated by unscrupulous promoters. These episodes have left some destitute, destroyed many livelihoods and weakened faith in the Indian financial system.
In contrast, who are the victims of the IPL scandal? Possibly cricket-viewers, who after rooting for one team or another, feel a little cheated now. The players who didn’t succumb to bribery, and instead delivered their best to this format, may also have reason for complaint. But neither can claim that betting or match-fixing has destroyed their lives or left them poorer. And beyond these two categories of ‘victims’, it is hard to find any legitimate ones.
Sponsors and event partners, who pour crores of advertising rupees into a sporting event do so only for general visibility. Advertising in IPL hardly comes with a guarantee that it will sell a certain number of bottles of soft drinks. As to the team sponsors, if at all they have any reason to complain, it is only about getting slightly less mileage for their brands than they hoped for.
Yes, if you are idealistic, you can say that such scandals taint the game of cricket. But then, to purists, IPL was not the gentleman’s game anyway. With its abbreviated format, dancing and revelry and bombastic rather than stylistic batting, IPL was always about entertainment first and sport later.

FINANCIAL PARALLELS

But the amount of public debate generated by IPL makes one wish that Indians could get equally worked up about financial scams as well. After all, the parallels between the IPL scandal and financial crimes such as insider trading and price rigging are hard to miss.
The IPL controversy is about affluent people, not content with merely watching a match, betting their shirt on the outcome, not unlike speculators taking derivative bets. The bookies are the ‘intermediaries’ to this booming ‘market’. There is nothing very reprehensible about all this, as many other forms of betting do exist today – horse racing, playing cards, lotteries, even day-trading and playing the derivatives.
Where the whole business gets murkier is when the punters, not content with guesswork to back their trades, begin to take active steps to change the outcomes. In IPL, this is done by bribing players to cede runs or throw a match. In the markets, one ‘persuades’ company insiders to leak material financial information, before it is made public.

REGULATING THE BETS

With these similarities, it should be possible to those looking to regulate sports, to take some immediate cues from securities market regulations.
For instance, there may be no need to completely ban betting. After all, what sports betting does is to pit one set of affluent people who like to play guessing games, against another equally rich set. As everyone puts up the money knowing fully well that these claims are not enforceable under law, why try and protect them?
Instead, it would be best to treat this just like any other form of speculation in the securities market. First, get all the bookies to register with a central regulator and record all their trades, thus killing off the grey market.
After such regulation, one can tweak the betting rules to prevent sharp practice. Why not embargo last-minute bets and limit bet sizes? If regulators are keen, they can even insist on PAN cards for placing bets. After that, if betting remains popular, the exchequer can line its coffers by imposing capital gains or ‘betting transaction’ tax.
To make sure there is an efficient ‘market’ in place, though, match-fixing needs to be completely banned. This can be best done by two regulations. One, expressly bar team owners, players and their relatives from participating in any form of betting, thus doing away with any conflict of interests, à la promoters trading on inside information.
Two, create Chinese Walls, between the viewers and bookies on one hand and players on the other, as trading firms do with their dealing rooms. Ensure outsiders don’t enjoy access to the players or ‘inside information’ on strategies during the match.
But then, securities market regulators have much to learn from the IPL scandal too. Despite being armed with elaborate laws that cover every aspect of securities fraud, they seem to be quite slow in acting on them, to prosecute the guilty.
It is now almost a year since the Supreme Court ruled on the Sahara case; the Saradha investigations are making slow progress and there are several insider trading cases that have dragged on for several years.
It would be good to see SEBI and other financial regulators making some midnight arrests, like the Mumbai police, of the perpetrators of financial fraud.