INDIA STRATEGY – 5 PATHWAYS TO EFFICIENCY

Shobana Krishnan Sahil Kapoor

Economist Chief Market Strategist
[email protected] [email protected]
+91 (22) 4272 2636 +91 (22) 4088 6044
1
India Strategy

India Strategy

Budget 2017 5 Pathways to efficiency Valuations Sectors in Focus

 The government has opted for  We believe Indian economy  Indian stocks appear  Auto
a prudent budget with realistic is now becoming more cheaper in face of the bond
 Milk & Diary
expectations efficient through 5 broad rally of the last two years
themes with earnings yield closer to
 Focused spending is observed
bond yields. Current FY17/18
in areas like rural economy,
− Fast & steady rate of Nifty EPS consensus stands at
infrastructure and social sector
growth 453/540 (Edelweiss
is financed from robust tax
− Market Reforms estimates: 476/574), implying
collections
− Expanding Digital 15-18% growth in 2 years.
 Lower government borrowing Footprint
 India’s premium over EM is
amidst a expected inflation − Revival in Rural Growth
witnessing a revival and
trajectory could provide RBI − Creation of Modern
points to gains. Nifty is likely
room to cut interest rates Infrastructure
to scale 9500-9700 by end of
2017.
Budget 2017 – Balance between Spur and Splurge

Prudent Fiscal Management leading To Robust Govt Finances Govt Spending ‘Where It Matters’
260 6.0 100%
100%
Indirect Tax windfall supported recovery in
240 government finances, FY18 to see

FY18 (BE) v/s FY17 (RE), yoy %

5.5 80%
improvement on back of Direct Taxes
220
5.0 60% 53.3%
200
4.5 40%
180 22.2%

%
4.0 20%
160 4.3% 4.5%
3.5 0%
140

-20% -9.1%
120 3.0

Defence

Irrigation
Food Subsidy
Petroleum Subsidy

Rural Housing
Development CapEx
Subsidies have remained flat; expected to remain so in FY18
100 2.5
FY12 FY13 FY14 FY15 FY16 FY17 (RE) FY18 (BE)

Subsidies Indirect Tax Fiscal Deficit (%of GDP) (RH)

*Subsidies and Indirect Tax has been normalized to 100, base FY12

 The fiscal path chosen by targeting fiscal deficit at 3.2% (as a % of GDP) seems prudent.
 A 24% increase in rural and allied sectors and a 25.4% increase in capital expenditure highlight the quality of spending.
 A quasi stimulus for consumption through cut in tax rates for individuals, MSME, reduction in holding period for LTCG on land
and property would provide rebound in consumption.

3
Fiscal Maths – Realistic and Achievable

FY17
Particulars (INR bn) FY18 (BE) FY17 (RE) FY17 (BE) FY18 (y-o-y)
(change from BE)

On account of IDS1 &2, widening of tax base

TOTAL REVENUES 16,002 14,801 14,442 8.1 2.5 and lower tax evasion, the direct tax growth
likely to be achieved.
Tax revenue (net) 12,270 10,888 10,541 12.7 3.3

Direct taxes 9,800 8,471 8,471 15.7 0.0

The windfall gain from low crude prices will
wade off, but indirect taxes will continue to
Indirect Taxes 9,269 8,519 7,797 8.8 9.3 grow at its natural rate.

Non-Tax Revenue 3,732 3,913 3,901 -4.6 0.3

With track record of less than 50%
achievement target, disinvestment target
Disinvestment 725 455 565 59.3 -19.5 seems unrealistic.

TOTAL EXPENDITURE 21,467 20,144 19,781 6.6 1.8

Expenditure targets are prudent
Revenue Exp 18,369 17,346 17,310 5.9 0.2

Interest payments 5,231 4,831 4,927 8.3 -1.9 Low input costs for fertilisers and rational MSP
prices will help in keeping subsidy bill low.
Subsidies 2,635 2,521 2,529 4.5 -0.3

Capital Exp 3,098 2,798 2,470 10.7 13.3 Increase in capex reinstates focus on quality
spending.

PSU Bank re-capitalization 100 250 250 -60.0 0.0

Fiscal deficit target likely to be met.
FISCAL DEFICIT 5,465 5,343 5,339 2.3 0.1
Nominal GDP growth of 11.8% in line with
NOMINAL GDP 1,68,468 1,50,754 1,50,650 11.8 0.1 expectations.
Source: Budget Documents 4
Direct Taxes To Support Govt Finance, Personal Tax Base To Widen

Income Tax Payers To Increase Significantly Too Few Paying Most of Taxes In India,

80
Effective Income Tax Assese*
70
No of Assese in Mln

60
50
40
30
20
10
0
FY11 FY12 FY13 FY14 FY15 FY16 (E) FY17 (E)
Source: Livemint.com, Edel Invest Research.

 The total tax from personal income is set to see a significant increase in FY18 as the number of people filling and paying
taxes increase.

 In the budget speech the finance minister highlighted that less than 8% of income tax asses have declared income above
INR 10 lakh p.a.

 Demonetization has created significant discouragement for tax evasion and we believe direct tax collection could
surprises positively over and above govt. budgeted increase of 15% for FY18

In FY18 personal income tax and corporate tax are expected to keep government finances in order as windfall from
indirect taxes tapers
5
Profitability Could Lead To Higher Corporate tax Collections
Reduction in Interest Rates To Buoy Corporate Profitability
Corporate Taxes Could Increase As Earnings Recover in FY18
9.0% 48000
Reduction in repo rate could 44853
22% Earnings growth in FY18 and a reduction of nearly 100 8.5% add nearly 8% to corporate 40000
bps in interest rates can lead to a healthy growth in profitability
8.0%
18% corporate tax collection 32000
7.5%
15%
7.0% 24000
13%
10% 11% 6.5%
16000
8% 8% 9% 6.0%
7% 8000
6% 5% 5.5%
4%
2% 5.0% 0
1%
0% FY10 FY11 FY12 FY13 FY14 FY15 FY16 FY17 (E)

FY10 FY11 FY12 FY13 FY14 FY15 FY16 FY17 (E) Repo Rate Corporate Loan Outstanding

% chg in Nifty EPS % chg in Corporate Tax Collections

Source: Budget documents, Edel Invest Research.

 Corporate profitability has seen tepid in the last two financial year. We expect this to change in FY18. consensus estimate
point to an increase in Nifty EPS of 10-15% in FY18

 Post demonetization a large part of interest rate reduction has been passed on by banks. In the last two years the RBI has
reduced interest rates by 175bps. A transmission to the tune of 100bps on a corporate loan book of ~INR 45,000 bn can
translate to a gain of nearly 8-10% in corporate profitability

 This means growth in corporate tax collections could easily meet govt. estimates of 9.1% in FY18

In FY18 corporate tax are expected to see an uptick as corporate earnings pick up after 2 years of slack
6
Quality Expenditure To Push Growth Upwards

Expenditure mix improves further in Budget Capital Expenditure Higher Than Targeted in FY17
(Share in total expenditure (%)

FY10
20.3 19.7 21.5 22.4 23.5 FY11
FY12
FY13
FY14

79.7 80.3 78.5 77.6 FY15

76.5
FY16
2.5
FY17 2.8
FY18

FY14 FY15 FY16 FY17 RE FY18 BE 0.0 0.5 1.0 1.5 2.0 2.5 3.0 3.5
INR Lakh Cr.
Effective Revenue Expenditure Productive Expenditure Targeted Achieved
Source: CRISIL, Budget Documents
Source: Bloomberg, Edel Invest Research.

 Allocation for capex has risen by 25.4% in FY18. Capex as a percent of GDP is now witnessing a steady increase.

 Productive expenditure is calculated by adding allocation to states for capex to total capex. Higher Productive
expenditure reinforces focus on quality.

 Historically, to keep fiscal deficit in check, actual capex has been lower than targeted. However, The trend reversed in FY17
for the first time since FY10.

Government’s focus on Capex, could crowd in private investments providing stimulus to growth.
7
Rural Focus To Accelerate Growth In Hinterland

Agricultural output has seen improvement in FY17 on account of Expenditure by Centre and Assets created under MNREGA has
good monsoons been rising
5.0 4.3 600
5
4.0 3.6 500
4 3.0
2.6 400
3.0 2.6
3 300
% chg yoy

2.0
200
2
1.0 100
1
0.0 0
0 FY13 FY14 FY15 FY16 FY17 (E) FY18 (F)
FY13 FY14 FY15 FY16 FY17 (AE) FY 18 (E)
-1 Total Assets Created (No. In Mln) MNREGA Expenditure (INR Bln)

Trend of growth in expenditure for Rural and Agriculture continue in Budget 2017
(INR Cr) 2015-2016 (A) 2016-2017 (BE) 2016-2017 (RE) 2017-18 (BE) FY17 excess over BE (%) FY17 (y-o-y) FY18 (y-o-y)
Rural Development 90235 102543 114947 128560 12.1 27.4 11.8
Agriculture and Allied Activities 23694 50437 53806 56992 6.7 127.1 5.9
Major Schemes
NREGA 37341 38500 47499 48000 23.4 27.2 1.1
PMAY (rural) 10116 15000 16000 23000 6.7 58.2 43.8
Krishi Sanchai Yojana 7781 5767 5189 7377 -10.0 -33.3 42.2
Gram Sadak Yojana 18290 19000 19000 19000 0.0 3.9 0.0
Fasal Bima Yojana (3 seperate crop insurance
2983 5500 13240 9000 140.7 343.8 -32.0
schemes before 2016-17)
Integrated Child Development Services
15433 14000 14561 15245 4.0 -5.7 4.7
(Anganwadi)

Government’s focus to accelerate growth in rural India will support overall growth as more than 50%of India’s
employment resides there. 8
Lower Net Govt Borrowing – Crowding In Private Sector

Govt To Borrowing To Reduce Significantly Sharp rise in small savings

7000 631
700 597 3.5%
6000 600 551
3.0%
5000 4,674 4,536 4,451 500 400 2.5%
4,362 386 374
3,984 4,041 346
(INR Billion

400 326 294 2.0%

(INR bn)
4000 3,254 3,472 3,482
300
1.5%
3000 200 105 103
100 1.0%
2000
0 0.5%
1000 -100 -10 0.0%
-200 -85 -95 -81 -0.5%
0

FY17RE
FY03

FY04

FY05

FY06

FY07

FY08

FY09

FY10

FY11

FY12

FY13

FY14

FY15

FY16
FY10 FY11 FY12 FY13 FY 14 FY 15 FY 16 FY 17 FY 17
[RE] [BE]

Net Market Borrowings Gross Market Borrowings Small Savings (Apr-Nov) Small Savings/GDP (RHS)

Source: NSSF, Edel Invest Research.

 The collection under small savings has been INR 635 billion FYTD, the highest in 15 years, with about INR 285 billion inflow in
November itself. This along with buybacks has led to a sharp decline in government net borrowing.

 A reduction of Rs. 75,000 crore in net government borrowing in FY18 could put downward pressure on interest rates through
lower SLR requirements. The monetization of fiscal deficit will reduce due to reduction in net borrowing. This would support
stable yields and currency.

 Banks now have more funds for resource mobilization and this could create a “crowding in” of private sector

Lower Net borrowing could suppress the bond yields and thereby lower interest rates .
9
India’S 5 Pathways To Efficient Growth

Fast & Steady Wins

The Race

Market Reforms
For Doing Business

Digital India – Healthy Banks

and Higher tax Compliance

An Efficient
Rural India

Modern Infrastructure –
A New Robust Model

10
 Fast & Steady
Wins The Race
Fast & Steady - A Rare ‘High Growth For Long Duration’ Phase

9.5% There are only 28 episodes ever when countries have grown at more than 6% for period of 8 years or longer

Japan China (Phase 2)

9.0%
9.0% 8.6%

8.5%
Singapore History teaches that abnormally rapid growth
7.9% is rarely persistent but if it occurs it leads to
Growth episode (so far)

8.0% Malaysia (Phase 1) ‘Tiger Economies’

7.7%
7.5% China (Phase 2)
7.6%
Malaysia (Phase 2)
7.0%
6.7% Taiwan
6.8%
6.5%
Thailand India Korea
6.5% 6.3% 6.3%
6.0%
India is entering this
5.5% rare club

5.0%
0 5 10 15 20 25 30 35

Duration of high growth period episodes (so far)

Source: Pritchett Summers 11

India Is Gaining Critical Mass

2004 2016
India = Russia = Brazil India ~ Russia + Brazil

2.5 100%
2.28
90%
86%
2.0 80%

70%
1.53
GDP in Trillion

1.5 60%
54%
1.13 50%

1.0 40%
0.7 0.7 30%
0.6
0.5 20%

10%

0.0 0%
2004 2016

2002 2004 2006 2008 2010 2012 2014 2016 2018

India Brazil Russian Federation India (% of Brazil + Russia)

GDP At Current Prices For All Countries In US$ Trn

Source: IMF
12
 Market Reforms
Gaining Efficiency through Landmark Reforms For Doing
Business

GST Can Increase Highly Productive Formal Organized Employment Marked Improvement In Global Competitiveness Among Major EMs

100% 86% 84% 7 Times Lower the rank , better the

higher 100 competitiveness
70% productivity 81
than informal 80 71
unorganized
40% 57
60
6% 7% 9% 7% 39 41
10% 0% 0% 34
40 28 28
-20% Informal Formal Informal Formal 20
2004-05 2009-10
0
Unorganised Organised India China Brazil Indonesia
2015 2017
Source: MOSPI, Edel Invest Research Source: World Economic Forum, Edel Invest Research.

Bankruptcy code- Enhancing liquidation and better utilization of assets 90% FDI Now Coming Through Automatic Route, Replacing Hot Money
NDA 2014-Present
Japan 0.6 50.0 43
40.0 33 35
31
USA 1.5 30.0 26 27 27
Long time taken to resolve

USD Bn
19
bankruptcy (years) 20.0
China 1.7 10.0

0.0
India 4.3 -10.0 FII-Portfolio Flows FDI - Direct Flows
FY10 FY11 FY12 FY13 FY14 FY15 FY16 FY17 YTD

India is growing at a fast pace largely driven by efficiency gains in doing business, tax collections, infrastructure
and rural economy
13
 Digital India –
Healthy Banks and
Digital India – Healthy Banks, More Taxes & Productive Employment Higher tax
Compliance

Transition to “less cash” economy has led to increased digital adoption - will benefit Fee Income
160% 151% 6
Txn Value at POS - 2016 Digital Transactions of Digitally Excluded
140% 5
120%
Txn value of Cards at POS have spiked 4
100%

(INR Cr)
80% 3
60% 44% 2
18%
40%
1
20% 11%
0% 0
3-month Avg Nov Apr/15 Oct/15 Apr/16 Oct/16

Debit Card Txn Value at POS RuPay Cards Txn Value at POS Approved Transactions Total Transaction

Rapid deposit accretion in banking system to lower Cost of Funds Rapid deposit accretion in banking system to lower Cost of Funds

4.5% 4.1%
4.0% 8.0 India 10-Year Bond Yield
Fortnight-on-fortnight
3.5% Aggregate Deposit Growth
3.0% 7.5
2.5%
2.0% 7.0
Liquidity spike will lead to higher trading profit
1.5%
1.0% 6.5
0.4%
0.5%
0.0% 6.0
Avg since 2011 Fornight ending 25-Nov-16 Jan-16 Feb-16 Mar-16 May-16 Jun-16 Aug-16 Sep-16 Nov-16

Apart from gains from extinguished liability, the real effect of ‘Demonetization’ has been a repair of banks b/s and an
increase in digital transactions
14
 Digital India –
Healthy Banks and
Tax Compliance Windfall & A Stimulus For Tax Payers Higher tax
Compliance

India Has A Poor Tax To GDP Ratio Tax Evasion And Non-Compliance Being Targeted

35.6 68%
Tax to GDP Ratio (%) 32.9
28.8 29.3 59% 57%
24.3 25.4 43%
22.2 23 41%
19.4 32%
16.6

No. of Persons employed in No. of Persons employed in No. of Companies

organised sector unorganised sector Registered in India
India

Russia
China

Vietnam

Turkey

UK

Brazil
US
Korea

Africa
South
Not filing tax Filing tax

Demonetization Could Result In Windfall Tax Collections Personal Income Tax Reduction, A 13K Crore Stimulus

140 Annual Taxable Income Existing Tax New Tax Gain

Deposits worth INR 4.9 lakh crores could result
120 Average
in tax collections of ~ INR 1 lakh crore
No of accounts (in Lakh)

deposit of INR 5 INR 2.5 Lakhs -

100 because avg deposit per account is more
Lakh
80 than INR 3.3 crores
INR 3.5 Lakhs 5,150 2,575 2,575
60
40 INR 5 Lakhs 20,600 12,875 7,725
20 Average
INR 10 Lakhs 1,28,750 1,15,875 12,875
0 deposit of INR
-20 3.3 Crores
INR 50 Lakhs 13,64,750 13,51,875 12,875
-40
4.7 4.9 5.1 5.3 5.5 5.7 INR 75 Lakhs 16,73,750 18,26,963 -1,53,213
Amount Deposited (INR lakh Crores)
INR 100 Lakhs 29,09,750 31,86,563 -2,76,813

Government is expecting significant gains from tax compliance, we believe tax gains could surprise positively
15
 Digital India –
Healthy Banks and
Financialization of Savings Means Lower Borrowing Costs Higher tax
Compliance

Number of Demat Accounts and Retail folio Schemes have been Share of Household savings invested in shares
steadily rising
13.6%
1000 10%
10.1%
800 8%
6.2%
4.8% 5.2% 4.4% 600 6%

(INR bn)
2.7%
400 4%

FY14 FY15 FY16 FY17 (YTD) 200 2%

0 0%

1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
2011
2012
2013
2014
2015
-7.9% -200 -2%

Inv. In shares by HH % of Gross Financial Savings by HH (RHS)

No. Of Retail Folios (y-o-y) No. Of NSDL Demat Accounts

 Lower Deposit rates are pushing more savings into insurance and shares. Post- demonetisation, there has been increase in
the small savings .

 Retail Investments in Mutual Fund has been increasing since FY16. With low interest rates environment, expectations of more
inflow of households saving in financial assets is expected.

Financialization of assets can lead to utilization of funds in more productive way.

16
 An Efficient Rural
An Efficient Rural Economy - Double Farmer Income In Six Years India

Cultivation and Wages account for 80% of avg farmer household Farmer household income has doubled every 7 years in nominal
income terms
322,890
Non-farm
Business,
8.0%

Cultivation,
Live Stock, 11.9%
47.9%
120,473
77,112
Wage / Salary,
32.2% 25,276

2002-03 2012-13 2016-17E 2022-23E

Rich Farmers Spend Less On Food, More On Discretionary Items

80
Proportion of Rural Spending on Food By Category
Doubling farmer income will require increasing efficiency in cultivation
70 and wages. Increasing MNREGA spend is one vector. Efficiency gains in
Lowest Income farming through agriculture, use of fertilizers and supply chain is the
other vector.
60

Higher rural income will lead to large increase in discretionary spend

50 hence stronger growth in India.
Highest Income
40
1993-94 2004-05 2009-10
Percentile of agricultural households by income

0-40 % 40-80 % 80-100 %

Farmer household income needs to increase by 2.6x in nominal terms to double in real terms, requiring an compounding at ~17%. If achieved it
can cause a big consumption surge across the economy. 17
 An Efficient Rural
Increasing Productivity Through Irrigation India

More Than Half Of Crop Area Is Monsoon Dependent Better Mix and New Projects To Add 35 Mn Ha To
Irrigated Land in 10 Yrs
70 50
Present Source of Irrigation Target Source of Irrigation (10 yr Fwd)
60 45
Others, Rain-
50 40 7% water
Har.,
40 35 7%
30 30 Canals,
Wells, Wells,
26%
22% 18%
20 25

10 20 Canals
, 50%
0 15 Tube
Tube wells,
1951 1961 1971 1981 1991 2001 2011
wells, 25%
Net Irrigated Area (Mn Ha) As % of net sown area (RHS) 45%

Irrigation and key focus areas

 Increasing productivity – Use of high yielding varieties
 Water and agri inputs – Increase area under irrigation / soil cards. Budget 2017 has double allocation to long term irrigation fund
 Better price realization -Integrate 550 rural mandis (agri markets) by Fy18
 Crop insurance scheme to protect farm income in bad years

Assuming a 56% increase in MSP and 42% increase in productivity (due to use of micro irrigation and another 15% increase due to
increased usage of agrochemicals) over a six year period will lead to 2.5x increase in farm income nearly doubling it in real terms
assuming 5% inflation
18
 An Efficient Rural
APMCs De-regularisation To Aid Supply Chain India

How A Rs. 100 Agricultural Produce Gets Distributed Along The Traditional Value Chain In India

Rs. 10
Rs. 5 Rs. 20 Rs. 40 Rs. 25
Hand Cart Vendor

Commission Commission Wholes Small Roadside

Farm Owner
Agent 1 Agent 2 aler Vendor

Farmer Consumers
Labour Consolidator
Pays Rs.
Medium / Large 100
Retailer
Trader /
Transporter
Supermarket /
Hyper market

1/4th of Value 3/4th of Value

 Need for Regulated Markets within 5 sq. km radius whereas average all India availability is 500 sq. km only.

 Agricultural marketing is a state subject and the central government had first circulated the model APMC Act in 2003 for the states to
adopt it. Yet, close to 50% of the states have not made necessary changes to their respective state agricultural marketing acts

 The new model APMC Act has proposed direct purchase from farmers by private players, direct sale by farmers to consumers, single
trader licence, single point levy of taxes and getting fruits and vegetables out of mandi laws
19
 Modern
Robust Infra Building Mechanism – Higher Probability To Succeed Infrastructure – A
New Robust Model

Focus on HAM to reduce capital requirement and share risk of Ease of bottlenecks increased execution
private players
18.0
100% 16.5

80% 13.7
1,187

(km per day)

11.7
60%

40%
958
20%

0% 207
FY06 FY10 FY14 FY16 Oct FY17
BOT EPC HAM FY12 FY14 FY16 Oct FY17

Govt. Substituting Poor Private Investments, Trend To Continue Reducing stuck projects showing positive direction
in FY18
14 13 35 14,000
Executed- 1544
12
11,596 Executed – 800 Km / year
12 10.8 10.8 11 30 12,000
Km / year
10 8.6 9 25 10,000
7.8 7.4 7.68
% of GDP

% of GDP
8 7.4 7.2 20
6.9 6.7 6.7
6.1 8,000 7,120
6 5.1 5.2 15 5,576

(Km)
4.3 6,000
3.5
4 10
2 1.6 4,000
2 1.3 5
2,000
0 0
1950s 1960s 1970s 1980s 1990s 2000s 2010s 2017 (E)
0
Public Corporate Household GFCF (RH) FY07-11 BOT awarded Project Stuck in FY16 Project Stuck in FY17

Extension of concession and funding of stuck project ; 100% exit allowed to developers; Spending increased
by 4.4x over FY12-17 20
 Modern
Reducing Costs Through Energy Efficiency Infrastructure – A
New Robust Model

New approach of energy saving during 2017-27

Institutional purchases Mandatory labelling of

Target to reduce
through EESL consumer appliances AT&C losses to 15%
and save INR 70,000
• 21 cr distributed LEDs saved INR cr by 2020
10500 cr worth of power per
year.
• Target of distributing 77cr LEDs 360 degree
by 2020 initiatives
towards
efficient
Demand side utilization of
management power Expand T&D network
Expanding higher KV network to efficiently
transmitting power

• Agri-Pump efficiency improvement 500,000

Cumulative ckm
• Launched UDAY scheme 400,000
• Streetlights replacement
• Spending INR1,14, 000 cr under 300,000
• Discoms’ Skills upgradation & IPDS and DDUGY 200,000
demand management
100,000
0
8th 9th 10th 11th 12th 13th
plan plan plan Plan Plan plan
(exp) (exp)
+- 500kV/800 kV 765kV 400kV 220kV

Savings in energy could significantly reduce power costs and increase availability
21
Indian Equities – Earnings Reviving, Valuations Rational
Equities Are Cheap Relative to Bonds

Equities are cheap relative to Bonds Price to Book is near its 4 year average
4.00
1.30 10 year Govt. Bond Yield vs Nifty's Earning Yield - Ratio Chart
Price to Book (Fwd. Est.)
3.80
1.20 4 year Moving Average
3.60
+1 SD
1.10
3.40
-1 SD
1.00 3.20
4 year Moving Average +1 SD Cheap Valuation
0.90 3.00

2.80
0.80
2.60
0.70
-1 SD Expensive Valuation 2.40
0.60 2.20

0.50 2.00

Dec/09

Dec/10

Dec/11

Dec/12

Dec/13

Dec/14

Dec/15

Dec/16
Jun/09

Jun/10

Jun/11

Jun/12

Jun/13

Jun/14

Jun/15

Jun/16
Mar/09

Mar/10

Mar/11

Mar/12

Mar/13

Mar/14

Mar/15

Mar/16
Sep/09

Sep/10

Sep/11

Sep/12

Sep/13

Sep/14

Sep/15

Sep/16
A comparison of Nifty’s earning yield v/s the 10 year Nifty’s P/B value is also nearing its 4 year average forward
government bond yield shows that equities are currently P/B ratio after the recent correction suggesting that there is
very cheaply priced as compared to debt instruments and still room for upside for the markets.
we should expect a shift in the allocation of funds from debt
to equity.

23
India’s Premium Over EMs Signals Gains

India’s premium is at lower range versus Emerging Markets Inverse Correlation with Bond Yields

130% Premium / Discount of Nifty's fwd. PB vs Emerging Market

4 year average
110% +1 SD
-1 SD
90%

70%

50%

30%

10%
Jul/11

Jul/14
Jan/10

Oct/10

Jan/13

Oct/13

Jan/16

Oct/16
Apr/12

Apr/15

Nifty’s forward P/B premium to the MSCI Emerging Market Nifty has historically seen an inverse correlation to bond
Index is currently near its 4 year average suggesting that yields. With the government reducing its net borrowing
India should most likely outperform it’s other emerging target to a 15 year low, we expect the yields to face further
market peers in the near future. pressure leading to higher returns in the equity markets

Current FY17/18 Nifty EPS consensus stands at 453/540

(Edelweiss estimates: 476/574), implying 15-18% growth. At
16 times FY18 consensus there appears to be room on the
upside. Nifty could move to 9500 by Sept’17
24
Broader Indian Market Is At A New High

90 115

The number of stocks hitting 52 week highs are rising steadily

80 and the total market cap of all NSE listed stocks (above 200 cr 113
MCAP) is also at a new all time high; suggesting strong
momentum in broader market. 111
70

109
60

107

INR lakh Crores

50
105
40
103

30
101

20
99

10 97

0 95

Feb/17
Dec/16
Dec/16

Dec/16

Dec/16

Dec/16

Dec/16

Dec/16

Dec/16

Jan/17

Jan/17

Jan/17

Jan/17

Jan/17

Jan/17

Jan/17
Number of stocks at 52 week high Number of stocks at 52 week low Total Market Cap of NSE listed stocks (above 200crs MCAP)

25
Sectors in Focus
Domestic Auto Anc Players To Enhance Global Presence

Domestic players have transformed from Tier 2 supplier Scaling up to Tier 1, helped domestic player to gain access in
to global component solution provider in last one global markets in last 6-7 years
decade 12 28% 30%

10 25%

8 20%

USD bn
14%
India based 6 12% 15%
Domestic Tier 1 global supplier
supplier and and diversified 4 10%
exporter player
Domestic Tier 2 2 5%
supplier 1 4 11
0 0%
FY06 FY10 FY16
Exports % of industry turnover (RHS)
Source: ACMA
Industry production has grown more than 3x in last one decade
Current acquisition spree of domestic suppliers in global market,
helping them to move to next level
39
120 120
112
100 100
30
80 80
69
USD bn

INR bn

Nos
60 60

40 40

12 20 14 20
5 44 106
0 0
CY05 CY10 CY16

Cummulative acquisition deal value (INR bn)

FY06 FY10 FY16 Cummulative acquisition deal (nos)
Source: ACMA Source: Bloomberg 27
Strong Balance Sheet Helped Domestic Players To Tap Global Business

Strong performance in domestic market and exports fuelled Inefficient cost structure and tough market scenario stressed
growth in profitability… profitability of international auto comp manufacturers
12000 14%
13% 7.0% 1.4
12% 12% 1.2 1.2
10000
6.0% 1.2
8% 10%
8000 5.0% 1.0
0.8
8%
INR (bn)

6000 4.0% 0.8

times
6% 3.0% 0.6
4000
4% 2.0% 0.4
2000 2% 1.0% 0.2
3101 9585 5.2% 5.7% 4.7%
1084 0.0% 0.0
0 0%
FY05 FY10 FY16 CY05 CY10 CY16
Revenues ((INR cr) EBITDA margins (RHS) Operating Margin Debt equity (RHS)

…also helped to keep balance sheet strong and target lucrative …which led attractive valuation for small and medium sized
international business for acquisition international auto component companies
25% 1.2
1.0
0.9 1.0
20% 15.3
0.8

Trailing PE ( in times)
0.8
15%
11.9

times
0.6
10% 9.7
0.4

5%
0.2
22% 10% 16%
0% 0.0
FY05 FY10 FY16
ROCE Debt Equity (RHS) CY05 CY10 CY16

Source: Capitalline Note: Financials of small and medium size international auto component companies
Source Bloomberg 28
International Business To Drive Growth Going Forward – Targets AMP 2016-2026

Growth In Automotive Industry (By Segment, Projections till 2026)

CAGR 17–18%

CAGR 14–15% 200,000

178,700
462,500

436,700 7,57,500
295,000

18,89,500
16,16,000
6,60,000
223,300
200,000
183,800
183,000
148,500
39,900
69,000
4,64,000

62,500 1,31,500
83,200 549,000
445,000
84,300
125,100

FY15 FY26 Base Case FY26 Optimistic Case

Systems/Components In-house/domestic Component imports
OEM Value Addition OEM Exports
Component Exports Component After Market
Source: Automotive Mission Plan (AMP) 2016-2026

AMP 2026 targets Indian automotive industry will be among top 3 in the world in engineering, manufacture and exports of vehicle and
auto components. Favourable policies and infrastructure would be developed by government to achieve this target. .

Significant upside for companies that derives significant revenues from international operations.

29
Dairy Industry – A High Quality Growth Play

Structure of Indian Dairy Industry Growth Rate of Milk products (Projections Till 2020)

32 31

26 25
Dairy Industry-
22 21 21
INR 4.5 lakh crore
15 15

Growth Return (%)

15 15 15 14 14

Flavo
Milk
Chee

Butter

Liquid

Butter

SMP

Pane
Yogh

Laasi
ure…

Curd

Ghee
Crea
UHT

Whey

milk

milk
urt

er
se
Traditional Non Traditional
products (96%) products (4%)

• Indian dairy industry is highly fragmented

• The key segments of Milk and Products depict varied
market dynamics
• Milk, which is a low margin business, provides higher
Liquid Cheese
Milk
Ghee Curd Butter Panee UHT Milk profitability through better asset turns
15.2% 5.3% 4.1% r 7.2% Flavored Milk • However, growth is likely to accelerate in the non
64%
Yoghurt traditional products segment
Skimmed Milk
powder • Branding is likely to be a key driver of the industry going
forward

30
Dairy Industry has grown 2x in last 5 years…

Industry Size 2010 Industry Size 2015 Expected to Industry Size 2020
Times
(Rs bn) (Rs bn) grow by (Rs bn)
Liquid Milk 1501 2x 3022 2x 6,068

Curd 124 2x 250 2x 493

Ghee 345 2x 708 2x 1,367

Paneer 164 2x 337 2x 654

UHT Milk 10 3x 33 3x 104

Cheese 5 3x 15 4x 59

Flavoured Milk 5 3x 16 3x 48

Butter Milk 6 3x 17 3x 43

Skimmed Milk Powder 28 2x 57 2x 113

Cream 7 2x 15 2x 30

Flavoured & frozen Yoghurt 1 3x 3 4x 12

Lassi 5 3x 15 3x 39

Whey 3 3x 10

2,201 2x 4,491 2x 9,040

31
31
Asset Turns The Key Profitability Driver

70
Lower Working Capital + Higher Asset Turns = Higher ROCE

60
Curd
50
Liquid pouch milk
40
ROCE (%)

30 UHT milk

20 Cheese
Ghee
10 Butter
0
0 3 6 9 12 15 18 21
-10
EBITDA margin (%)

Size of the bubble indicates Market size of the category

Milk Has A Very Short Working Capital Cycle High Asset Turns in Milk Ensures Higher ROCE

Working Capital Cycle Asset turns

95 95 13.2

65
(Days)

3.4
2.5 2.0 2.6
15 1.6
9 10

Liquid Ghee Curd Cheese Butter UHT milk Liquid pouch Ghee Curd Cheese Butter UHT milk
pouch milk milk
32
Stock Ideas
Bharat Forge India Ltd

 Bharat Forge (BFL) is the world largest forging companies with presence Revival in USA class 8 truck orders after 20 months of straight fall –
across automotive, power, oil & gas (O&G), construction & mining, rail, 50000
A big positive for BFL
marine and aerospace industries
 During the past 12-15 months, BFL’s business has taken a beating triggered 40000
by slowdown in its key user industries—US Class 8 truck market, O&G and
30000
construction & equipment

Units
 But, post the gloomy milieu, things are gradually turning around—US Class 8 20000
truck market has shown signs of recovery, the number of rigs has also
improved since August 2016 indicating to brightening prospects of the 10000
company’s O&G business, etc
0
 Moreover, we anticipate exponential growth in BFL’s PV business riding on

May-10

May-11

May-12

May-13

May-14

May-15

May-16
Jan-10

Jan-11

Jan-12

Jan-13

Jan-14

Jan-15

Jan-16
Sep-09

Sep-10

Sep-11

Sep-12

Sep-13

Sep-14

Sep-15

Sep-16
expanding & innovative product portfolio and new client acquisition
 Lower capex requirement complemented by surging demand is bound to
boost fixed asset turnover ratio and RoCE over the next 2 years Class 8 Trucks New Orders
 Valuation:- We recommend ‘BUY’ on the stock as we believe the current
price factors in the constraints the company has faced in FY16 and stock is
trading at P/E of 26.2x FY18E

Improving scenario in international markets provides significant Growth in export business, both topline and margins accretive for
respite to ailing exports business BFL
100% 35%
100% 35%
54% 58% 55% 49% 54% 55%
53% 52% 54% 56% 61% 61% 60% 57% 59% 60% 52% 43% 48%
80% 30% 32% 80% 32%
29% 31% 30% 30% 32%
29% 29% 30% 30%
28% 28% 29% 29%
60% 29% 60% 29%
26% 27%
26%
40% 25% 26%
40% 26%
25%
20% 23%
47% 48% 46% 44% 39% 39% 40% 43% 41% 40% 48% 57% 52% 20% 23%
0% 20% 46% 42% 45% 51% 46% 45%
0% 20%
Q2FY14

Q3FY14

Q4FY14

Q1FY15

Q2FY15

Q3FY15

Q4FY15

Q1FY16

Q2FY16

Q3FY16

Q4FY16

Q1FY17

Q2FY17

FY17E

FY18E

FY19E
FY14

FY15

FY16
Domestic business share Exports business share
Standalone EBITDA Margin (RHS)
34
Sudarshan Chemical Industries Ltd

Investment Thesis Financial Overview

2500 17.0%
Leading pigment producer in India: Sudarshan is one of the leading 2155
15.4% 16.0%
pigment producers in India with a domestic market share of 35%
2000 1828 15.8% 15.0%
Mix shifting towards higher margin HPP and effect pigments: The company 1549 14.0%
in its profitability quest, is enhancing the proportion of higher margin / 1500
1409
13.0%
realisation sub-segments like HPP and effect pigments 1218
1119 13.9% 12.0%
Huge capex plan to drive growth: Planning to invest INR ~1100 cr in new 1000 800 873 11.7% 12.0% 11.0%
capacities over the next five years at its Roha site. The investment is likely to 10.0%
generate asset turns of 1.7-1.8x which is likely to drive revenue growth CAGR 10.7% 10.7%
500 9.0%
of ~17% over FY16-20E 9.1% 8.0%
Valuation:- The stocks is trading at a P/E 15X FY18E 0 7.0%
2012 2013 2014 2015 2016 2017E 2018E 2019E
Revenues EBITDA Margin (%)

Valuation
450
400
350
300
250
200
150
100
50
0

Mar-08

Jul-11

Mar-13

Jul-16
Jan-09

Sep-10

Dec-11

Oct-12

Jan-14

Sep-15

Dec-16
Jun-09

Jun-14
Nov-09

Feb-11

May-12

Nov-14

Feb-16
Apr-10

Apr-15
Aug-08

Aug-13
5x 10x 15x 20x 25x Price

35
Crompton Greaves Consumer Electricals Ltd

Investment Thesis CGCEL sales mix: Well diversified product portfolio

100% 5 5 6 6 6 6
Innovative products, deepening distribution reach, operational efficiencies 8 7 7
90%
and strengthening of critical capabilities have anchored CGCEL’s faster- 25 23 20 20 20 20 19 18
80% 22
than-industry growth pace over the years
70%
Focus on premiumisation and growth, CGCEL has been very limited 60% 31 30 30 28 28 28
27 30 29
investment in brand building in past and now with new management focus 50%
on brand building and distribution reach to boost sales growth 40%
Rising premiumisation, vibrant product portfolio, deep distribution reach 30%
20% 43 41 42 44 45 45 46 46 46
and capacity additions over FY16-19E position CGCEL to deliver 28%
earnings CAGR, which will spur healthy cash flows and strong return ratios. 10%
(CAGR over FY16-19E assumption – Sales: 13%, EBITDA- 20% and PAT- 28%) 0%
FY11 FY12 FY13 FY14 FY15 FY16E FY17E FY18E FY19E
Valuation:- At CMP of INR 190, trading at 33x FY18E EPS of INR 6 and 27x
FY19E EPS of INR 7. Recommend BUY Fans Lighting Pumps Appliances

Revenue expected to growth at 13% CAGR over FY16-19E Margin expansion with improvement in product mix
6,000 25%
700 16%
23%
5,000 600 15%
21%
19% 500
4,000 14%
17%
400
3,000 15% 13%
13% 300
2,000 12%
11% 200
9%
1,000 11%
100
7%
- 5% - 10%
FY11 FY12 FY13 FY14 FY15 FY16 FY17E FY18E FY19E FY11 FY12 FY13 FY14 FY15 FY16 FY17E FY18E FY19E

Sales (Rs cr) growth (%) EBITDA (Rs cr) EBITDA margin (%)

36
Federal Bank Ltd

Investment Thesis Peer Analysis

Federal Bank Limited (FBL) continues its focus on Adjusted

strengthening its retail liability and assets INR Crore
Book
EPS (Rs) CMP P/ABV (x) P/E (x) NIM CASA GNPA NNPA ROA C/I (x)
Value
On deposits front, focus is on retail term deposits and (INR)
CASA. We expect18% advances and 16% deposits
growth over FY16-18E and 46% PAT and 15% NII City Union Bank Ltd. 47.2 7.4 132.00 2.79 17.76 4.1% 20.6% 2.6% 2% 1.6% 40%

growth over the same period

Karur Vysya Bank Ltd. 72.6 46.6 81.00 1.12 1.74 3.5% 24.3% 1.8% 1% 1.0% 56%
FBL managed to increase the share of high yield
The Federal Bank Ltd. 43.0 2.8 70.00 1.63 25.30 3.3% 32.8% 2.9% 2% 0.2% 54%
advances and also mobilize the low cost deposits.
Consequently we expect margin and spread
expansion The Lakshmi Vilas Bank Ltd. 78.6 10.0 139.00 1.77 13.84 2.8% 16.1% 2.1% 1.3% 0.8% 53%

On advances front, focuses is more on high yield and The South Indian Bank Ltd. 21.3 2.5 20.90 0.98 8.47 2.7% 23.2% 4.0% 2.9% 0.6% 52%
secured loan . Advance growth to accelerate on
back of robust wholesale growth. In wholesale
portfolio, the opportunity to grow NBFC loan book is
immense and we believe FBL is well capitalise to INR Crs FY14 FY15 FY16 FY17E FY18E
grow the book Net revenue (INR Cr) 2,922 3,259 3,291 4,068 4,680

Y-o-Y Growth 10.7% 11.5% 0.9% 23.6% 15.0%

We believe the profitability to improve because of
steady decline in credit and operating cost. Credit Operating Profit 1,480 1,628 1,424 1,914 2,300
cost to decline as slippage controlled and operating
Y-o-Y Growth 1.7% 9.9% -12.5% 34.4% 20.1%
cost to improve as NII to be strengthening because
expected margin improvement Net Profit (INR Cr) 839 1,006 476 761 1,154

Y-o-Y Growth 0.09% 19.8% -52.7% 60.0% 51.5%

Valuation:- Given the growth rate and lower NPA, we
believe there is huge upside potential. the stock is Adj. EPS (Rs) 2.5 2.9 2.8 4.4 6.7
available at 1.5x FY18 P/B P/E (x) 34.3 28.6 30.4 19.0 12.5

Adj. Book Value 19.4 21.5 41.5 44.9 53.1

P/ABV (x) 4.3 3.9 2.0 1.8 1.6

37
Kirloskar Brothers Ltd

Investment Thesis Geography wise revenues

Small pumps to grow at 13-14%: This segment with INR725cr of business will Africa South East Asia
2% 1%
maintain growth momentum owing to strong branding and large USA
distribution network 12%

Legacy orders’ losses coming down: EBIT margins for projects business
turned positive in Q2 & Q3FY17 as legacy losses came down
International business expected to turnaround in 2 years: Segment weighed UK
down by loss of oil related business is seeing uptick from other industries. 20%
With cost cutting measures & strong growth expectations in USA, India
international business is expected to turnaround into profitability by FY19 65%

Debt free in 3 years: KBL is expected to repay entire debt of INR 250cr with
the recovery of retention money of INR 400cr in the next 3 years
Valuation: At the CMP of INR 238, the stock is trading at P/S of 0.7x and P/BV
of 2.0x on FY16 basis.

Valuation
Year to March (Consolidated) FY12 FY13 FY14 FY15 FY16 1400.00
Revenues (INR Cr) 2,554 2,612 2,690 2,728 2,594 1200.00
Rev growth (%) (4.3) 2.3 3.0 1.4 (4.9) 1000.00
EBITDA (INR Cr) 135 200 199 190 65 800.00
PAT (INR Cr) 63.9 59.5 59.9 44.4 -32.6
600.00
EPS (INR) 6.4 8.3 8.2 5.6 -4.1
400.00
EPS growth (%) (48.2) 30.0 (0.6) (32.2) NA
200.00
P/E (x) 37.3 28.7 28.9 42.6 NA
0.00
P/B (x) 2.1 2.0 1.9 1.9 2.0

Dec-07

Dec-12
Jun-10

Jun-15
Feb-07

May-08

Feb-12

May-13
Jul-07

Mar-09

Jul-12

Mar-14
Sep-06

Oct-08

Jan-10

Sep-11

Oct-13

Jan-15

Sep-16
Nov-10

Nov-15
Apr-06

Apr-11

Apr-16
Aug-09

Aug-14
RoACE (%) 7.0 11.6 11.1 7.2 -0.9

RoAE (%) 5.8 7.3 6.8 4.5 -3.2 Close -Unit Curr 20.0 X 25.0 X 30.0 X 35.0 X 40.0 X

38
Quick Heal Technologies Ltd

Investment Thesis Has presence across the product value chain

EPS UTM MDM Retail FTE - India Sales Team

 Quick heal able to grab higher market share in a growing cyber

   
security market.
1162 306

    20-22 5-7

 Has pan India presence through more than 19000 distributors and     250-300 100-150

have products across the value chain     4,500-5,000 60-80

    300-400 100-150

 Acquired market leadership in consumer security market with

    150-200 50-60
extensive distribution presence and replicating the model in enterprise
and mobile market.     200-250 50-70

    3,000-3,500 2,500-3,000

 Valuation : - The stock is trading at P/E of 15x FY19E.     100-150 70-100

Revenue expected to growth at 17% CAGR over FY16-20E Margin to get operating leverage benefit

%share 250 39%

700
7% 37%
600 200
35%
500 19%
150

(INR Cr)
33%
(INR Cr)

400
74% 100 31%
300

200 29%
50
100 27%

0 0 25%
FY16 FY17E FY18E FY19E FY20E FY16 FY17E FY18E FY19E FY20E

Retail Enterprise Mobile EBITDA EBITDA Margin

39
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