As one of India?s largest corporate houses, what?s your outlook about the economy right now?
There are so many irons in the fire, so many fronts on which we have to move. I don?t think there is any one event that will help us improve our macros. We have fiscal deficit, CAD, inflation, inclusion-related expenditure along with poll-related spending to deal with. And on top of that we also have the currency impact. Our monetary policy is now getting guided by what the US wants to do. My sense tells me that you can?t just work on one front. Just like companies, you will have to be flexible and look at multiple approaches and see what works best.
Is the political situation a big uncertainty for the industry? We keep hearing a lot of people saying that they would rather hold off on major investment decisions until the elections?
The private sector is certainly waiting for that because what policy framework emerges will depend on what combination comes to power. If the combination is, say, pro-poor, then you will get one type of policy framework and maybe the fiscal deficit will take a hit. If it?s going to be pro-capitalist, then policies will be different. So, I don?t think private sector will be in a hurry to commit capital today ahead of that event. Also, if you look at the economic cycle, a lot of capacity was created till 2010 and we are in a phase of under-utilisation of capacity, so why would someone go and put up new capacity? Consequently, I expect public-sector-led expenditure to pick up first.
Has that public-sector-led expenditure started to kick in?
ONGC, IOC, BPCL, GAIL, NTPC are all beginning to come to the bidding table. ONGC is inviting bids. IOC, BPCL are also coming. These are all brown-field projects and a lot of the spending has to do with capacity augmentation such as clean fuel or productivity enhancement kind of revamps. Many of these activities are subject to corrosion and have periodic maintenance needs. But, for the last few years, all the PSU oil companies were bearing the burden of subsidies so there was no allocation of cash flows for revamp, which was badly needed. Now that there is some relief on the subsidy front, they are trying to get the revamp done. So, you could either say that these PSUs are back to capex or you could say this was a necessity which was postponed.
But this has to have a cascading effect in terms of orders for the capital goods industry from the hydrocarbon segment.
Absolutely. From that limited perspective, we expect business from the hydrocarbon segment to be better in FY14 than in FY13 and FY12. Second, the fact that oil prices are not falling off?they have been steady around $100/bbl?is giving these companies confidence to plan the next round of expansion. So, some investment in expected there.
At the same time, the government seems to have the courage to move forward on gas pricing. Some investments, I hope, will happen out of this gas price refixing. For example, in the fertiliser sector, gas at $8/mmbtu may be expensive, but it may still be relatively cheaper than importing fertilisers, so investments may pick up from that sector. The gas pipeline infrastructure was stuck because there was no certainty that gas would be produced at those lower prices. Now that the pricing has some amount of political sanction, the infrastructure spend will start on the pipeline.
Your earnings are coming up. We know you can?t discuss numbers, but you gave a fairly cautious outlook at the start of the fiscal year. Does that view hold or is there any change?
Some things have improved a little since April. We never expected the fuel price subsidy cuts to stay. The cooking gas price increase has gone through. The diesel price hike has stuck. First, it was 50 paise per month, now they are talking of R1 per month. We never expected CERC to give in to Adani and Tata. Having given in to these companies, we thought, it would spark off litigations from the players that have lost these bids, but even that has not happened. Likewise, we are hopeful that this delay in roads will get compensated. Maybe not in tariff but in some other form. Even on the fuel supply agreements, the pass-through of costs is being allowed.
What about margins? Will pressure on them broadly continue?
Generally speaking, companies will be very stretched on margins. I don?t think profitability this year will be significantly different or higher than what it was in FY13. Cost of doing business in India has gone up and that?s why margins have come down. One way we were trying to deal with it is by running helter skelter for sourcing, getting external cheap sources, but the rupee has put paid to those strategies. So, we will now have to look internally. Margin pressures will be there.
Has the sharp depreciation in the rupee changed dynamics for your industry?both in terms of import substitution on components and in terms of the competition you face from imports?
I think some of the avoidable threats from imports will get substituted. Even we as an importer of items like steel are beginning to wonder should we import or not. We are looking to see if there is a domestic source that is available. Earlier the economics used to support imports but now we find that adjusted for currency, the economics have changed. So, domestic inputs are suddenly not looking so expensive. We used to import construction steel from China, Korea, etc. There is a base cost difference and there is an exchange element to it. Six months ago, it was cheaper to import when rupee was at $52-53, but the change in the currency equation has taken away part of the cost arbitrage. With rupee at 60 and buying forwards at 62-63 per dollar, it does not make sense at all to import. This could be a trigger for some of the domestic capacities to be better utilised.
RBI is very concerned about the unhedged forex exposures of corporates. How do you tackle your forex exposures and do you think volatility in the rupee will hurt corporate balance sheets?
I think corporates are, by and large, hedged. If I take our company as a representative, we find that the environment is very volatile. There is enough volatility coming out of the business conditions so why add financial volatility to it and make it more volatile. Nobody is paying for this volatility. So, we tend to secure our bases wherever we can. The normal propensity to take a chance on currency or commodity is far lower in volatile and uncertain times as today, so we bat for certainty wherever we can. I guess this will be the case for many logically thinking companies. Obviously, there will be contrarians and if they want to take a chance on currency, it will be their respective call.
What about people who have borrowed abroad? Are they unhedged because hedging takes away part of the benefit of cheaper overseas borrowings?
Yes, the issue is that hedging it by paying 6% premium, you may have a 10-11% frozen cost. Or you can keep kidding yourself, leaving open the possibility of the cost going to 18-20% as it has sometimes happened. Do you have the profitability in your margin to be able to take this kind of chance? My sense is that no one has that. So, as a finance guy, I would rather pay that extra 4-5% that I could have made and cover myself at 8-10% and work with that rather than keep it open ended and keep speculating. In times like these, you need to take risks on your business but not on the currency.
RBI is unlikely to cut rates immediately because of the currency depreciation, but we understand banks have reduced corporate credit rates specially for large corporates. Is the interest rate scenario comfortable right now?
I think SMEs are subsidising large corporates and SMEs are worse off for that. But corporates are indirectly paying because the credit period from SMEs has shrunk, the pricing from SMEs has become dearer. So, if corporates are thinking they are getting low-cost funds because banks are able to pass on additional costs to SMEs to whom they are lending at between 13-14%, their produce reflects those higher interest costs. So, if you take the overall cost of production or cost of sales as we call it, it has only gone up. It has been inflationary. Borrowings costs may give temporary relief because you are borrowing at good rates. But that is only one factor. All other factors have gone up.