Friday, June 28, 2013

What is exceptional corporate performance and what matters for that?

A new book - 'The Three Rules: How Exceptional Companies Think' - has come up with 3 simple rules for corporations to follow in order to have a sustainable superior performance. These rules are ‘Better before Cheaper, Revenue before Cost, and deployment of all means to follow the first 2 rules’.

As the US economy improves leaving the recession behind, a rule such as ‘revenue before cost’ is likely to only help. The test for the book will, however, arrive a few years down the line when the business cycles may bring upon the next recession.

The book is meant for corporations and the rules sound simple. In fact these are so simple that the authors actually had to qualify the simplicity of the rules.

“Better before cheaper and revenue before cost are not “dumbed down” simplifications of our findings, nor mnemonics connected to more elaborate formulations. These rules are the principles we inferred from our research, and so their simplicity does not come at the expense of completeness.” (p.216)

However, while the rules are simple, reading the book is an academic exercise in itself that requires a notepad, a pen, and a lot of time. That investment nonetheless should be worthwhile because this book is not just another one in the ‘business performance’ genre. What fundamentally separates this book is –

a.       Choice of ROA as a parameter for performance as against parameters like stock performance
b.      Scientific selection of top companies as against author nominations
c.       Thorough understanding of each industry and company and triangulation of facts to separate facts from beliefs. This process was based on not just news reports and annual reports but hard facts and numbers from sources not so easily available.

For a book that has 1/3rd devoted to notes and methodology there is little scope to doubt the robustness of its results. Also, the thickness of the appendices is not just a tacit stonewall deployed by many to avoid a volley of questions it is actually a transparent and open invitation to serious readers to detect and point out the gaps.

Given the confidence in the 3 rules proposed, one begins to think more closely of real life business scenarios and this is where I have a few questions for the authors.

1.      3 simple rules that are difficult to follow? – While we can buy in to the hypothesis and the evidence that ‘Revenue should come before cost’ taking a call with regard to this rule may be difficult. So, for example, should a company lay off its employees and cut costs under changed circumstances or should it reason that re-skilling the employees while focusing on new sources of revenue is a better approach? I guess what the book is trying to suggest in these cases is to focus more of the managerial attention on value generation and less on cost cutting. Is that right?

2.       Rules for companies or for products/services? ‘Better before cheaper’ appears to be a rule applicable more to the product development than to the growth of a company. So, if a company caters to customers from different income groups all its products are not likely to come out true on the ‘better before cheaper’ front.
Putting it differently, in some markets a cheaper product may be the only definition of ‘better.’ In such markets a company that epitomises ‘better before cheaper’ may need to adapt.

3.       Limits to applicability?
a.      With the exception of the Retail industry, we don’t see the example of any service company, especially of the kind reliant on bidding for contracts? How would a service company bidding for contracts from US government, given the current focus on Low Price Technically Acceptable (LPTA) policy, win the contracts if it doesn’t focus on cost? We could reason that the company should move out of such an industry but is that the only answer? Given that services sector is no less than 50% of total global GDP it becomes important to address this sector.


b.     Do the three rules contradict the process of disruptive innovation where the new entrants making a foothold provide relatively low cost and low quality alternatives to gain a foothold?

Tuesday, June 25, 2013

Is there an Indian ‘BNDES’ bank and should there be one?

The Brazil Development Bank (BNDES) plays an important role in the country’s infrastructure development process especially when the country’s budgeting process leaves little room for discretionary spending.

The word ‘development’[i], however, has a very broad bearing in the case of BNDES since it lends not just for infrastructure development but also to private companies that it perceives to have a strong business model. In fact 60% of the bank’s loan portfolio comprises large companies.[ii]

China similarly has the China Development Bank (CDB) which in fact is much bigger in scale[iii] and size than the BNDES[iv] (see figure below). That left me wondering if there is a comparable bank in India with similar objectives and one that could help the country realise its $1 trillion infrastructure target by 2017.


A close examination, however, suggests that there is no such bank of comparable stature dedicated exclusively to development needs. Sectoral development banks like NABARD try to do the job; however, such banks are present in China and Brazil too in addition to the gigantic development centric banks.

Country
Main Development Bank/s[v]
Brazil
Banco Nacional de Desenvolvimento Economico e Social - BNDES
Russia
State Corporation Bank for Development and Foreign Economic Affairs – Vnesheconombank
India
Trade - EXIM Bank
Industrial - IFCI, SIDBI, IDBI
Agriculture – NABARD
Housing – NHB
Infrastructure – IDFC, IL&FS, IIFCL
China
China Development Bank Corporation
South Africa
Development Bank of Southern Africa

The State Bank of India and other nationalised Indian banks do contribute to development lending; however, the scale of such lending cannot compete with CDB or BNDES with the total assets of SBI almost equal to the BNDES.[vi]

That brings us to the question that do we need such a mammoth development bank? From an infrastructure perspective, a report by PwC in 2007[vii] shows that commercial banks (mainly public sector) and the other development banks together finance more than 90% of the total infrastructure financing.

Figure 1- India Infrastructure Finance (PwC/World Bank, 2007)

However, going forward, the capacity of the commercial banks to fund long term infrastructure debt has saturated and there is a need for alternative finance. Infrastructure bonds with tax incentives are now being floated in to the market but their contribution to total debt requirement is limited.




[i]“Brazil: A bank too big to be beautiful,” FT, September 2012, http://www.ft.com/intl/cms/s/0/983f1bca-0234-11e2-b41f-00144feabdc0.html#axzz2X7C1DtQS
[ii] “Nest egg or serpent’s egg,” The Economist, August 2010, http://www.economist.com/node/16748990
[iii] “(Almost) all you need to know about China Development Bank,” FT, May 2013, http://blogs.ft.com/beyond-brics/2013/05/29/qa-almost-all-you-need-to-know-about-china-development-bank/#axzz2XDln6iEB
[iv] “Brazil’s BNDES and Caixa hit by downgrades,” FT, March 2013, http://www.ft.com/intl/cms/s/0/0a07be4c-924f-11e2-851f-00144feabdc0.html#axzz2X7C1DtQS
[v] EXIM Bank of India, March 2012, http://www.eximbankindia.com/press300312.asp
[vi] “My conflicted heart – the struggle for the soul of India’s largest bank,” The Economist, April 2012, http://www.economist.com/node/21553039
[vii] “Infrastructure Financing in India,” PwC, 2007, http://toolkit.pppinindia.com/pdf/infrastructure-financing-india.pdf

Thursday, April 11, 2013

Discovering Dholera !


I had been hearing of this particularly Gujarati name Dholera for the past some time but it caught my attention specifically after the Budget speech by the Indian Finance Minister P Chidambaram in March 2013.

Given the adventurer I am I set out for the place within two weeks to see what it is about and whether the place can be an investment destination for me?

The Ahmedabad Rajdhani that now stops at Gurgaon, dropped me at Ahmedabad station in the morning where I got my first information feeds about Dholera. The auto and taxi guys that are generally the gatekeepers of information about a city and its surroundings were broadly clueless about Dholera. Few that knew about it, knew of it only as a village on way to Bhavnagar.

So, in a way I become the pioneer in exploring Dholera (of course apart from the policy guys and the biggie investors). And in fact when I reached there I couldn’t recognise I was in Dholera for I couldn’t see anything apart from a roadside eatery, few signboards, few huts, and a lot of land of the type where water comes in at high tides.

There were no gigantic machines, or glamorous buildings as seen in brochures and You Tube videos. And the natives in fact looked at me as if I had lost my way. In fact if you have to understand what Dholera is you will have to look at a cluster of villages/towns around it such as – Pipli, Vatanam, Bagodra, Bholad, Dhanduka etc.

Dholera SIR (Special Investment Region) which is supposed to be the new industrial hub in that region is so far just a plan on a piece of paper and so are the other components that are supposed to make the SIR a mammoth hub of economic activity.


The road to Dholera port (see picture above) didn’t even take me half way to the port and there are no signs of the approaching Delhi-Mumbai-Industrial-Corridor (DMIC) or the Dedicated Freight Corridor (DFC) yet. The long distance metro line that is also so regularly flaunted by government as well as the upcoming residential builders is still a dream. As regards the airport, I can say I have seen the grass and the trees that would possibly be uprooted to make way for the project.

But hey, isn’t that how all the big projects or upcoming new cities are supposed to be in the initial stages.

The only difference possibly is that unlike a Noida or a Gurgaon that had visible settlement in the near distance in the form of Delhi, there is no such habitation here. It is also not a Bhiwadi – neither in terms of distance from a big city nor does it have any existing industrial or economic activity apart from agriculture that could eventually drive people in. The commute from Ahmedabad to Dholera, however, will take 1.5-2 hours which is almost similar to the commute from central Delhi to Bhiwadi.

Based on my ground assessment then, here are the few pros and cons for a retail investor.

Pros:
·         The project has commitment from the Gujarat government and Narendra Modi. As mentioned above, it is also on centre’s radar. That Narendra Modi has another 4 years in power is a plus.
·          Japan is a big investor on the DMIC project around which Dholera is coming up
·          It will be one of its kind of project in India and perhaps the world where a city of this size (903 Square kilometres) will be brought up from nothing. For benchmarks, It will be twice the size of Ahmedabad and thrice the size of Lucknow.
·         As per the plan it will be an integrated, modern city that would have been planned from scratch, something akin to Chandigarh but more futuristic
·         Cheap land available –2000 to 3000 per square yard (residential)
·         Inspired by some of the best new city projects globally – Songdo (Korea), Punggol (Singapore), Iskandar (Malaysia), Tianjin City (China)
·         Concept developed and submitted by renowned urban consultant Halcrow (UK), AECOM to programme manage the development
·         Being a SIR, contigous land acquisition not a must (unlike in a SEZ) and this fast tracks the process. Low population density and non-fertile land reduces scope for resistance.

Cons:
·        No builder of national scale, or a builder that we frequently hear of in north India, is providing any projects over there. The only exception probably would be Mahindra Life Spaces but there is no information as to when this project would be launched. Existing builders claim that they have the NOC, NA (approval for Non-Agriculture use) approvals but I am still to figure out how credible these are.
·        Distance from Ahmedabad – the distance angle makes one think whether they should look at Dholera which is on extreme or should one consider a mid-way place between Ahmedabad and Dholera such as Bagodra.
·        Mainly a manufacturing hub unlike the service story of Gurgaon or the Mahindra SEZ near Jaipur. How suitable is such place from a residential perspective may need to be thought of although it is not something too uncommon in India
·        The presence of a number of high-tide areas
·        Absence of drinking water – as per plans water will come initially from the Narmada Canal and later from the upcoming Kalpasar dam

If you have any comments, I would be happy to take them as there is a lot more to be learned about this upcoming city.

There are 13 SIRs planned in Gujarat. The status of these in January 2013 was as follows:

...................................................................................................................
Updates:
July 4, 2913 - DSIRDA looking for new buyers of land forfeited from HCC, Nano Works, and Universal Success Enterprise (USE). The price will also be higher. (Business Standard)
May 29, 2013 - Interarch to invest 150cr in Dholera (Hindu BusinessLine)
May 26, 2013 - Mahindra awaits land from govt for World City at Dholera (Business Standard)
May 8, 2013 - Central Government approves assistance of 17,500 crore for 7 cities including Dholera (BS)
March 12, 2013 - AECOM wins contract to "programme manage" the development of Dholera

On-going or Up-coming projects in the region
1. Four laning of Bagodara – Bhavnagar Road under VGF Scheme of GOI (SH- 1 & SH- 36) Km. 61/400 and Bhavnagar at Km. 189/100
2. Widening & Strengthening of Sarkhej–Dholka-Vataman-Pipli-Dholera-Bhavnagar Road – Km 16/8 to 133/2 (Short Route) - SMS Infrastructure Ltd. Nagpur
3. Widening & Strengthening of Sarkhej–Dholka-Vataman-Pipli-Dholera-Bhavnagar Road – Km 133/2 to 168/2 (Short Route) - Ketan Construction Ltd. Ahmedabad
4. Township Planning 3 & 4 (out of 6) is with Sai Consulting Engineers Pvt Ltd
5. Tender for Consulting for EIA/EMP for power station floated in April 2013


Wednesday, April 10, 2013

LIBOR cheated! - casts shadow over the sanctity of numbers published by big houses



Well the speculations seem to be over and it is now almost true that London Inter Bank Offer Rate (LIBOR) got cheated and with it the entire world that relies so much on this indicator. Top officials (CEO, COO, and a Chairman) at Barclays resigned this week as an admission of guilt while the Bank agreed to pay a penalty of $453 million[i] to US and UK regulators.

At a time when the distrust is high with regard to everything related to finance and banking reforms are underway in most developed nations this development is likely to further increase the resentment of the layman and the non-finance industry about the ailments in the banking industry.
Here we give you a lowdown on the importance of LIBOR, how it gets determined, and how it got manipulated.

Why LIBOR is important:
It wouldn’t be incorrect to say that each one of us could have been individually impacted by what the LIBOR could be on any given day. LIBOR indicates the rates in terms of ten currencies[ii]  and fifteen maturities at which banks can borrow unsecured money in the market so as to further lend to businesses, government, or households. So the mortgage rates or the education loan rates you are charged do get determined by what the LIBOR is. In macro terms LIBOR serves as “.....the benchmark for $360 trillion of global securities.”[iii]

How LIBOR is determined:
British Bank Association (BBA) publishes the LIBOR each day. The LIBOR, however, is not based on some sophisticated, scientific calculations but on the rates submissions by a panel of leading banks for each of the ten currencies for which the currency is published.
The panel of banks that submits its borrowing rates for GBP for example includes - Abbey National plc, Bank of Tokyo-Mitsubishi UFJ Ltd, Barclays Bank plc, BNP Paribas, Citibank NA, Credit Agricole CIB, Deutsche Bank AG, HSBC, JP Morgan Chase, Lloyds Banking Group, Mizuho Corporate Bank, Rabobank, Royal Bank of Canada, The Royal Bank of Scotland Group, Société Générale, and UBS AG.

What went wrong?
A number of banks allegedly colluded to rig the LIBOR. Barclays has already been found guilty while a number of others are being investigated.
The accused banks deliberately reported lower borrowing costs during the financial crisis to avoid suggesting to the markets that they were struggling and facing tight credit markets. This practice was also found to be commonly used for the benefits of the banks’ traders.

Sunday, November 4, 2012

Good and bad inequality

In India it’s not uncommon to have heated debates on whether India is ‘shining’ or it’s creating another India which many of us are ‘afraid to see.’ Being an economist I have been a part of such debates more frequently. Fortunately or unfortunately, but because of my understanding of economic systems as part of my education, I have been on the side that is less emotional but more realistic. My stance is also generally in contrast to what one would associate with the ostensibly-socialist attitude of a JNU pass out.

As has been the case a less emotional side doesn’t appeal much to the larger audience. People like to be swayed  by the imagery of people dying, children working, etc. and in the process they tend to suggest or follow or practice or patronise such policies that actually act in ways contrary to what their objective is.

One of the best cases of such emotion driven misconceived ideology is ban on child labour. People would hate a person like me who suggests that you shouldn’t ban child labour. They would rarely take the pains to understand that I am suggesting so not because I am a sadist who hates children or an opportunist who has hired several of them at home, but because banning child labour actually reduces the well being of those very children. (For details on this argument see Kaushik Basu’s paper – The Economics of Child Labor)

On similar lines one of the common complains of many in the middle and upper income classes is that the gap between the rich and the poor is growing.
This is a fact and I wouldn't dispute it. What I, however, try to dispute is the presumption that this growing gap or inequality is making people worse off. My observation of the economic development of India over the past two decades suggests that more and more people are reaping the benefits of a growing India.

In my attempt to reconcile these two varying opinions I felt it might be a good idea to instead classify inequality as ‘good inequality’ and ‘bad inequality.’ This is akin to the concept of inflation being classified in to ‘good inflation’ and ‘bad inflation’ so as to put to rest the blanket notion that all inflation is bad inflation.

‘Good inequality’ then according to me, is the inequality which is the by-product of a nation’s economic growth. Such inequality is representative of the presence of opportunity for people seeking growth, for trade and entrepreneurship to flourish, for  growth in employment opportunities, for technological progress and so on and so forth. Today’s India has the potential to give birth to more and more millionaires and billionaires. And these individuals weren’t all born with silver spoons. At a smaller level or a bigger level, it wouldn’t be incorrect to say that most Indians today have a dream to fulfil – for some it’s about buying a new house, for others it’s about educating children or taking their parents for a world trip.

In terms of concrete examples, recently sweets were distributed in my office and the occasion was construction of our CEO’s driver’s house. Rising aspirations are also manifest in housemaids hired for household chores sending their kids (or at least their sons) to private schools even if these are expensive.

At a much personal level I am happy to see the progression in my family. My grandfather started with selling clothes in streets on a bicycle while I started with a job with Deloitte, thanks to the economic growth in Andhra Pradesh, India (AP) brought about by former Chief Minister Chandrababu Naidu. Inequality has certainly grown in AP but is this inequality bad? In fact the growth brought about by Naidu seems to have played an important role in bringing down naxalism in the state.

The growth in India has also led to increased demand for labour and as a consequence this segment of the population feels much empowered today. The labour today can choose between different employers and can bargain for what s/he thinks are the right wages. The salesmen at my father’s shop have staged 3 walkouts to demand wage hikes over the past two years. Earlier the frequency of such an event was hardly once in a few years.

Good inequality I feel, is also where the increasing numbers of rich leads to increasing philanthropy (see Bain’s “India Philanthropy Report 2012”) and where the rural consumption starts to evolve beyond agrarian products.

I have also felt that the issues of inequality, for the sake of discussion, troubles the middle and upper classes more than the people in the lower rung who are keen on tapping all possible opportunity to grow. I felt so particularly while listening to a programme by the Manav Rachna radio (FM - 107.8) while driving to my office. The radio jockey was interviewing migrants to Gurgaon and trying to understand how they fare. These people were mainly fruit vendors or labourers that had been working in Gurgaon for about 5 years. I was taken by surprise to know that most of them were utterly grateful to Gurgaon for being a land of opportunities. A city that changed their fortunes and a city that has given them an opportunity to lead a better life back home. The grievances, when prodded, were few and far between and included distaste for the rustic language of Gurgaon.

Well, one might think that I am broadly an optimist who sees more of good in every situation. This could be somewhat true but I am quite cynical about a number of things in the Indian story. One amongst those is all instances of ‘bad inequality.’

‘Bad inequality’ according to me is something that doesn’t allow a less well off person to benefit from these opportunities. It is symbolic of such growth that happens at the cost of the poor. These are more of governance issues that snatch away level playing field from the less privileged.

So while a new highway or a new expressway is good for growth of India it shouldn’t ignore the interest of the poor. A person without a bike or car should also be able to navigate the roads with equal ease. A pedestrian shouldn’t be disadvantaged because s/he lacks the means.

Similarly, while the Indian mobile revolution is good and is quite an example for many countries malpractices by some telecom companies hurt the poor more. A daily wager is badly hit if the prepaid recharge is wrongfully deducted for unsolicited ringtones. A doctor fleecing thousand of rupees from an illiterate farmer by scaring him of a non-existing disease is also unfair. These are instances of issues where strict enforcement of rules and delivery of justice by the government would immensely help.

Another instance could be hoarding of tickets in Indian Railways. The option to book tickets four months in advance puts a poor fellow at disadvantage because he can’t block his money for so long.

Reduction of loan disbursement to poor retail borrowers on account of lending to institutional borrowers, something that was highlighted by the Finance Minister P. Chidambaram recently, can be one more instance of such ‘bad inequality.’

It is important to understand this delineation between good and bad inequality. Trying to call economic growth bad names is gross simplification of facts and an unintended attack on one of the most promising paths to making more and more Indians better off. Today's reality of 'poor governance along with growth' is certainly better than yesteryear's 'poor governance without economic growth'.


........................................................................................................................................
For those interested in a more detailed study, please refer to 'Growth and Poverty - The great debate', CUTS International, which is a follow up to Jagdish Bhagwati's lecture in the Indian Parliament in 2010

Thursday, July 5, 2012

China is a big, safe, secure, open, secular, and vibrant country – if one looks at the tourist inflow!


A religious group in the northern state of J&K in India has recently suggested banning tourists wearing mini-skirts in the state. Well, the tourist department knows that this wouldn’t go down well with the tourists and the tourism industry which is making attempts to attract eyeballs in a militancy infested state may suffer.

This J&K instance though is one amongst zillions of reasons that hold tourists away from India. Others include lack of hygiene, lack of cooperation from the public and the bureaucracy, very little security, and lack of infrastructure.

Tourism, however, is a very important indicator of the level of comfort that the globe enjoys with a particular country and this level of comfort is a pre-requisite for ushering in business at a larger scale. Our inability at being able to pull sufficient crowds to the country also explains why there is less FDI in India, and why to some extent we are growing at somewhat lesser rates of growth than we could possibly attain.

China on the other hand has mastered the art of being palatable to the globe and it then matters relatively less that the country is not a democracy and the media is not that free. The inflow in China especially took off after its WTO accession. Tourist arrivals in China are now matching the levels in the USA and this is no mean feat (see figure below).



Whether for business or for leisure each tourist asks a basic question ‘what’s in there for me?’ and China we all know has lots to offer to the world. To businessmen it is the world’s ‘workshop,’ to students it has some good universities to offer (at least by Indian standards) and to the core tourist it has its heritage and infrastructure to offer. I am myself so keen to visit China to experience the Shanghai Maglev, to see the hutongs in Beijing, the Great Wall, the terracotta warriors and so on and so forth. An Indian (who has visited or somewhat studied China) is generally in awe at how so much has been accomplished in China.

India has shown some effort in boosting tourism especially with national campaigns like ‘Incredible India!’ and state campaigns from Kerala, Madhya Pradesh, and Gujarat among the prominent ones. However, we have a long way to go and campaigns alone wouldn’t help. The day we would reach China’s levels of tourism, I am sure we would have arrived economy-wise as well.

Friday, June 22, 2012

Ignore ratings, but not the confidence levels!


Everybody is busy bashing rating agencies and I am no exception. Only yesterday I was telling my colleagues why a time will come when these agencies would go out of business. Recently it was emphasised in the G20 meet also that reliance on rating agencies should be reduced. (see The Hindu article)

The best rebuttal of these agencies came from the markets which reflected the irrelevance of these ratings in the yield rates. The US bond yields went down after a downgrade and so was the case in UK recently. (see Bloomberg article)

Indian ministers would certainly be happy with this antagonism towards the rating trio – they are an apt scapegoat to blame and to divert the nation from what is ailing the Indian economy. However, would the Indian economy be doing any better if the agencies didn’t exist? I am not sure.

Each economic unit (household, companies, labour, etc.) is a de facto rating agency in an economy. If a household is gloomy because of high inflation it would impact growth by lowering demand. If a company is skeptical of growth in the days to come it will pass on the scepticism to its suppliers, its employees and so on. So if the economic units are feeling low about the economy, only positive policy actions or positive external shocks can help the economy and ratings aren’t that relevant.

So ignore the rating downgrades if you wish but do not ignore issues like increasing fiscal deficit on the back of irresponsible policies, poor governance, policy paralysis, and infrastructure constraints to name a few that hurt the confidence of the consumer as well as the investor in the Indian economy. You can ridicule 3 rating agencies but ridiculing each economic unit’s sentiment should be done at one’s own peril.