Aug 2012 : Infrastructure project delay

The equity market in India was strong through most of the month, but corrected towards the end to close up marginally, by about 0.6% for the month. Our portfolios did fairly well in this market, performing ahead of the market on the average. Many of the larger, core holdings showed signs of strength. Despite continuing negative headline news, especially with respect to governance in India, we see several companies performing well in their respective business and are trading at sensible valuations. The opportunity in these cases continues to be attractive.

Over the past few months the country has been besieged with governance issues and as a result crucial policy decisions are getting postponed. This has had a negative impact on several infrastructure projects, which have been delayed significantly. There are several large companies that have invested significant amounts of capital in these infrastructure projects – like power, roads, telecom, etc. Banks have also lent large amounts of capital to these projects as most of these projects are capital intensive requiring significant debt. When large amounts are capital are invested, it is essential for these projects to get completed on time. Given that Indian interest rates are fairly high, any delay in these large projects adds significantly to the interest cost, in many cases making these projects unviable. At the end of the day, the Indian public needs to bear all these costs in some form. The real challenge facing the country is to ensure no further delay in these projects, and at the same time handle the governance issues plaguing the country. This problem needs to be addressed urgently, as there is no way the country can move to the next phase of growth without efficient infrastructure being made available.

Many companies in the listed market are exposed to the problem of governance and project delays, and this has weakened these companies significantly. Sadly, one is not able to see any easy solution to this mess. Even though the stock prices are down significantly from their peak levels, the large debt exposure means that on an enterprise value level, these stocks are not cheap.

Despite this environment, the Indian consumer remains strong and recent surveys indicate that the Indian consumer is among the best positioned compared to his/her brethren internationally.  Unlike many other countries, the Indian consumer in the aggregate does not have any significant borrowings, has a high savings rate, a stable job and good career prospects. A young population, which is increasingly seeing the benefits of education, is an added advantage over several developed markets. Companies insulated from the government and addressing the needs of the consumer have been doing quite well.

Poor equity market sentiment over the last few years has meant that equity markets have given virtually no return over a 5 year period, vastly trailing the average 15% that the index has delivered over longer periods of time. The consequent compression in valuations offers a lot of interesting opportunities for the patient long term investor.