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Globalisation:Globalissues,localproblems

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Globalisation:Globalissues,local
problems
R Balakrishnan

27 February 2014

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A year ago, we were all sitting pretty, projecting increasing corporate profits
assuming that the dollar would be at around Rs45. We assumed that our economy
would continue to be an attractive destination for foreign capital and that inflation
would perhaps get tamed. The huge import bill did not appear a serious factor. But
suddenly, the exchange rate has jumped from Rs45 to Rs54 (an increase of 20%)
and I am not sure whether we should start looking at Rs60 over the next few years.
Suddenly, Indian companies with global exposure look vulnerable. Tata Steel had
gobbled the much larger Corus. Now, we need special skills to forecast Tata Steels
prospects because its operations, thanks to the acquisition, look complex. Borrowing
in global currencies throws up another dimension. When we looked at IT companies,
we were critical of companies with single-country exposure. Now, the entire globe
seems to be contracting. A few companies are also staring at maturing foreign
currency convertible bonds (FCCBs), which have no hope of getting converted into
equity at the current low prices. This will push up their borrowing cost. Add to this,
the efforts of the Reserve Bank of India (RBI) and the Institute of Chartered
Accountants of India (ICAI) to help Indian companies by diluting accounting
standards, and it becomes impossible to decipher the accounts of many companies
and banks. RBI seems to be doing its bit by putting limits on foreign exchange
dealings, laying the blame for the falling rupee on speculators.
In the era leading to the 1990s, as an analyst, one of the important factors for me in
selecting companies was their vulnerability to imports and their ability to pass on
imported inflation either through a weakening rupee or sheer domestic inflation. At
the same time, we had to worry about import duties, import substitution, the ability

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Globalisation:Globalissues,localproblems

the same time, we had to worry about import duties, import substitution, the ability
of the promoter to manage customs duty and tariffs, etc.

Gradually, we knocked the balance-of-payments issue out of our heads as the

economy opened up, inflation started to moderate and tariffs started to come down.
We also believed that, over time, the Indian rupee would perhaps stabilise, if not
appreciate. A growing economy with increasing prosperity made us assume that the
rupee would strengthen, but a look at the trade deficit tempered the optimism.
Now, we are faced with moderating growth, stubborn inflation and a global crisis
that threatens to bring our foreign exchange problems to the forefront. Sure, we
have $300 billion of reserves; but we also have a huge debt. What have been our
saviours are the remittances of Indians working overseas and portfolio flows that
(at various points in time) seemed inexhaustible and irreversible.
The old worries have resurfaced once again. In picking companies, I am worried
about their global exposure. I am worried about the countrys foreign currency
obligations. Surely, if there is a global contraction, Indian companies that are global
are going to be hit. We also seem to think that a falling rupee is great for exporters.
In reality, competition and bargaining power (of customers) bring down any supernormal gains. I am once again wary of companies (like infrastructure companies)
that look to fund managers of FIIs (foreign institutional investors) to keep providing
cheap equity.

So, for now, my preference in stock-picks is going desi. I would stick to companies
that have low import intensity and cater primarily to domestic markets. Also, these
are not great times for commodity stocks. If global trade shrinks, commodity prices
will decline and inventory profits will vanish. I would look at companies with no- to
low-leverage, fairly high return on net worth (RoNW) getting almost all their
revenues from within the country. If a company does not meet these conditions, I
will look at them only if I can get them at bargain prices. Bargain would mean
dividend history, good businesses and available at maybe half of their book value. In
good times, they should be able to deliver at least a 25% return on shareholder
money. That is a must.
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