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June 2, 1997


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A case for anti-dumping!

My last column probably lit a fuse somewhere. During my recent visit to Calcutta I was inundated with questions. Do I really believe that India can be colonised in a certain sense all over again? Don't I consider the buying out of India's corporate houses by cash-rich companies the world over as an exaggeration?

So I have decided to push the point further. I continue to stick my neck out and insist that companies in the country face the threat of being cannibalised by cash-rich companies the world over.

This possibility has transpired because the recent recession has left Indian corporate houses with little cash in their system. At the same time, the collapse of India's secondary markets has coincidentally made acquisitions of these companies cheap.

It is a godsend if you think about it carefully. There are hundreds of companies the world over who would want a foothold in one of the last two great unexplored markets of the world - India.

Any potential entrant might have to face a number of hurdles to acquire control: government regulation, the resistance from the company in question and eventually the price. It just so happens that all these factors at present are in the favour of the incoming companies.

Telco is a good example. On an equity of nearly Rs 2.56 billion, the company posted a bottom line of Rs 7.62 billion. The earnings per share: Rs 29. Retrospective p/e: 14. Interestingly, some months ago, the company placed GDRs at Rs 540 a share - when the retrospective earning was Rs 530 or an EPS of Rs 21. Effective p/e: 24.

Now what has happened is this: The foreigners bought Telco expensive but despite considerably better earnings, the stock is available for a p/e of 13. I am going one step further. There used to be a time when Telco's turnover used was what its net profit is today. In those days Telco sold for a p/e of 40. Today, with liberalisation hinting at faster growth, Telco sells for a third of its erstwhile p/e.

Who is responsible for this? You may say the foreign institutional investor. I will say the Indian financial institutions which are selling Telco each time the stock moves up.

Let me draw another example. A couple of years ago, ITC Limited created one of the biggest nationalistic issues in India's corporate history when it made it publicly clear that it opposed BAT's proposal to increase its stake in the company.

A number of sentiments and issues were raised to keep BAT at bay: 'Keep the foreigners out' and 'This is the disguised return of the East India Company' and 'Professional Indian management must not be cowed down by foreign interests'. The result: the shareholders were charged, the atmosphere was electric and the BAT nominees on the board were publicly snubbed at the AGM.

Most Indian newspapers claimed this as some kind of a nationalistic victory. It is two years down the road, the star of that AGM has been to jail, ITC Limited has had to face problems far more taxing than producing and selling cigarettes and quite a few of its senior executives have put in their papers.

Meanwhile, BAT officially refused a stake hike in ITC Limited and has reportedly been buying ITC stock on the secondary markets of the country.

Which explains why ITC Limited is being purchased by interested parties at a p/e (on retrospective earnings) in excess of 30 despite all the theories floated about its management being corrupt and misdirected.

My point is this: If this can happen in ITC Limited it can happen in a number of other Indian companies as well.

Let me blow the whistle on another Indian instance -- Daewoo Motors. In the good old days this was known as DCM Toyota. The Toyota collaborative did it little good. A few years down the road and the management felt it was time to break away from light commercial vehicles and start manufacturing passenger cars. That is when Daewoo entered as collaborators.

Initially, the holding was close to equal within the company. The car was launched. The consumer response was positive. The management decided to fund the project to the extent of around Rs 7 billion. This was done through an equity issue. The issue was priced stiffly. The Indian promoters could scarcely afford making an investment that would have run into a few hundred millions if it had to keep its stake.

Daewoo bailed the company out and raised it to far beyond the majority stake. For all practical purposes, the company is today a Daewoo company -- the DCM name has been dropped - and could well be eligible to delist itself from the stock exchanges. And this is only the beginning.

If one raises the question of domestic protection, I might be branded as a devotee of the Bombay Club. But permit me to present the argument differently. When the customs tariff on steel drops, the domestic industry protests. 'We need to be protected' they argue. But when the price-earning ratio on the stock market - which is in one sense a protective tariff against takeovers when the multiple is high - drops from 10 to 8 to 6 to 4 and then to 2, no nationalist turns around and says 'What the hell?!'

Which brings me to an interesting question: Don't you think it might be in the slightly more profound interests of India's industry if the equity markets strengthened and the broad p/e multiple improved?

Listen to a few reasons why this correction would not just be welcome but be absolutely necessary.

The corporate wealth of this nation is not represented in its market capitalisation. A simple proof. Companies selling for a p/e of 3, represent an equity creation cost of 33 per cent. This is more than twice the prime lending rate of banks in India and more than four times the Libor rate. It means that Indian companies can expand via debt, even prohibitive debt - but not equity.

Some excellent industrial proxies are also selling for a price that some foreign executives get as their annual pay packets.

If the rupee weakens, the cheap will become cheaper for global players to buy.

If the market revives, such vulnerable Indian entities might make it more expensive for global entities to cannibalise them.

The Indian stock markets need to turn bullish if for no other reason than the fact that we must, as a nation, become more expensive and hence put intending predators away. This might sound as some kind of an excuse to turn bullish but the truth is that India is a market waiting to explode.

These are my reasons:

The market capitalisation is a fraction of the active assets of most of these companies.

The dividend yield for most companies is better than the return that global fund managers get on the fixed-income securities in developed countries.

There is a slowdown in corporate growth in 1996-97 but the market's pricing reflects a mood that has taken for granted that corporate profits are going to be lower - which is not as bad as it would get.

Which means that the low p/e ratios of today could get even lower for next year's results.

Which stocks would I back in the given scenario? AAA management quoting for a GGG market capitalisation. Companies that have a global positioning or at least a market leadership position within the country will tend to attract buyers. Stocks which are relatively under-researched when compared with the A list. Stocks which are 'visible' -- that is, stocks with credible and accepted stories. Not stocks where the story has to be explained and proved. Stocks where capital infusion will have a multiplier effect on earnings. Besides, companies willing to restructure their debt might turn out to be attractive plays without any change in their equity structures.

Look for companies with a high tax liability which could benefit after the government's budget.

Stocks where the return on investment in the next couple of years makes them a better proxy than the 'A' list.

If you want a big tip from me, look for low priced counters, preferably below Rs 50 where the yield is close to 10 per cent. If I had to four-bag my money over the coming months, that is where I would like to be. As soon as the informed crowd prices out the potential of the bellwether stocks, attention will turn to their beauties. Once this segment of the stock market kickstarts to life, the appreciation that can accrue through them might make the bellwether counters appear like a game for sissies.

I use the word 'might'. Because one can be right about almost everything but one can be hopelessly wrong about hitherto researched management.

This brings me to a large new area. But I guess I have run out of words for this column.

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