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What is going to happen in the telecom sector?
We do not have coverage on any of the telecom companies. We dropped it after we figured out that it is impossible to figure out the way forward for many of these guys.
But if it is a duopoly and it seems that that is the way it is headed, is there merit in investment in Bharti purely because their balance sheet looks like it is going to be able to absorb the AGR dues hit?
There are better excuses to find, there are better candidate to find for serious investing. The big trade in Bharti has probably played out. We do not have a formal view here. I do not see the telecom industry having sustainable pricing power or consumer franchise in the way that we used to think about 15 or 20 years ago. The penetration stories played out, the tariffs cracks have played out and if I am looking for sustainable ROC in a stable business, there was a time when people used to look at telecom as being some kind of a utility business which would keep on giving your annuity income. But there has been massive disruption — technological disruption as well as the entry of Jio — which has completely turned the tables on all these players and they have been bleeding a slow death for a while.
The more leveraged ones like a Voda Idea despite the merger and alleged synergies have just bled themselves more and more. You do not want to be in that space especially when there is debt on the balance sheet and the residual equity value that flows through to shareholders becomes very volatile.
Now with this AGR ruling and even Vodafone globally making noises about having pretty much at least in their minds in terms of even writing off the Indian business. When a large global player says $15 million has just gone down the drain, it does not look like a very inspiring moment to the industry.
What were these guys thinking when they invested Rs 15,000-16,000 crore not once upon a time but six-seven months ago? The rights issue was subscribed both by quality investors and long only funds, the best of the breed names. AGR is one part but Vodafone had been a Rs 6 stock before AGR. What were the promoters thinking?
I have the luxury of hindsight today, so let us be a little humble.
No, no…I am just trying to understand.
It is a fair question to ask. But what can we see and how do we read this? I suspect what they were looking at was the fact that bleeding was over in terms of tariffs. Now tariffs should have bottomed out and should have started looking up. The sensitivity to tariffs is obviously very high because it is a fixed cost industry.
Would operating leverage kick in?
Operating leverage will kick in very strongly. It is just a hope and if the lead player is not doing that and if you are pretty much going to follow, I am surprised that none of these guys have had the guts to say okay we do not mind losing market share but we are going to hold our tariffs. None of them have done that for donkey’s years now. They were just following someone who is disrupting based on a large stash of cash in the background. Jio has invested close to Rs 3.5 lakh crore. Much of that is now going to move off the debt and is going to move off their balance sheet and get into the parent balance sheet. But that is not a big deal.
The big deal is that none of them were creative, none of them were aggressive, they were just followers in a market which is being disrupted. I suspect the reason they were followers is that they were too used to being in a horribly regulated and babu-driven industry where the pickings were easy earlier on.
We have seen a whole lot of telecom scams and scandals play out in the early 2000s and then when things got tough and the industry got opened up, nowhere did the quality of governance and policy mix around the industry improved. They were just stuck in their own world for a long time and when the question of putting in good money after bad came, that is what so many banks have also done when they have lent to the rogue lenders. You are not used to taking tough decisions you have come from a culture where you have been spoon-fed or where you have had easy pickings.
In December 2018, for the first time, Mr Sunil Mittal of Bharti Airtel went on record saying it is okay if I am not number one, I want to be a profitable enterprise. 2% of SBI’s exposure to telecom is AAA rated. It is not an NPA. 3.5% of YES Bank’s exposure is in telecom. Telecom is not NPA on any of the bank’s balance sheet…
Not yet.
But if it becomes an NPA on their balance sheet, what are we staring at? There would be a domino effect if telecom goes NPA.
The domino effect on the financial industry is of course something that we should be wary of.
Wary or scared?
We need to get the specific details of the exposures. If you have a very high exposure to let us say Voda-Idea as opposed to Jio, then that is cause for stress. If you are exposed to Jio where in any way, much of that loan book is now going to move to the parents’ balance sheet, then maybe you should not be worried. There are specific answers. There is a catch-all answer for the industry, but obviously there are specific answers. It is like asking if corporate debt is a bubble. It is not. Not on Kotak Bank’s books, but on some smaller banks, yes. That is how one should look at it. Obviously we are held by the fact there in terms of making the decision, there may be 3.5% players out there in telecom. You can go out and understand what is happening. The banks are going to be very scared, telling you who they have lent to.
We have seen a whole lot of telecom scams and scandals play out in the early 2000s and then when things got tough and the industry got opened up, nowhere did the quality of governance and policy mix around the industry improved.-Dipen Sheth
So they will just give you some number on telecom exposure. Now I do not know if lending to a Bharti Group company or let us say a Voda-Idea group company or one of the KM Birla Group companies for giving them the liquidity to subscribe to the rights in Idea, does that qualify as telecom lending or does that qualify as something else? There is a lot of details that one will have to find out and till then we can only make ill-informed guesses and I do not think that is the way to look at it.
What is going to happen once the Cabinet takes a decision on scrappage policy? We understand there will be an answer in the next 15 days because it seems there is going to be stringent tax ruling for vehicles older than 15 years, Is this all really going to add up to the numbers and woes of the auto sector?
On scrappage, the big acts will naturally fall more on the CV industry and not so much on passenger vehicles. Of course, there are old passenger vehicles and I am all for owning older passenger vehicles. My own car is close to 10-years old now and I do not intend to scrap it for another five years at least. But that is a different matter.
On scrappage, the big deal is whether we will see a sensible scrappage policy that leads to elimination of those vehicles which are really polluting and inefficient and does the incremental demand created through this policy lead to a sustainable uptick in CV sales? There are two headwinds to CV sales. One is that old vehicles simply do not get scrapped until they just come apart because they keep on going into more and more interior areas of the country, upcountry areas where they continue to ferry low priority or low sensitivity items. I must confess that a whole lot of very interesting lending models are also built around that. Look at Shriram Transport’s used vehicle book. At least 20-25% of what they have lent would probably qualify under the scrappage policy. But are you really in a position to be able to implement this.
A basic thing like having third party insurance drawn on every truck that is out there is so difficult to implement. If you are talking of trucks just look at the kind of backlash you have got when you try to put third party insurance for two-wheeler owners. It is a very messy world out there as you go more and more upcountry and to implement a scrappage policy across the length and breadth of this country is going to be very difficult ,so that is one.
The second thing that the CV industry is looking at two or three bad years outside of the scrappage policy boost. Should that come for the simple reason that the dedicated freight corridor is going to get commissioned in phases and as that capacity goes up, the big fat transport corridor between the twin metros of Delhi and Mumbai, which feeds into export and import traffic of the country, is going to see a capacity rampup. This comes at a much lower alternative pricing than road transport if the railways get their act right. We are actually very constructive on Concor for this reason.
There is going to be supply creation of an order which is going to lead to HCVs and the heavier range of the CVs. That is why people are not so gung ho on Ashok Leyland. I also feel they are close to some a sentimental bottom in their business. But in the next two or three years, how the railway, the freight corridor commissioning affects the heavier vehicle demand from their range is going to be very strongly watched. CVs are in for trouble, scrappage or no scrappage. Yes scrappage will help on sentiment, but implementation is going to be a problem and fiscal headroom for the government is coming down with every passing day.
I do not know how generous the government is going to be on this. I think we have been talking on scrappage for a decade now and there are bigger worries for the government. If they do come up with something on scrappage, it will be more sentimental than material.
What are your thoughts on SBI’s planned IPO for its credit card business?
Any bank that builds out a series of subsidiaries or related businesses to the main core business of lending sets itself up for an SOTP value creation opportunity over the longer term. SBI has built a great life insurance business; they have built an admirably good cards business as well; there is SBI Caps as well where there is talk of a tie up with a foreign investment bank and eventually divesting some stake there.
Interestingly we have historical evidence of this having played out in phases with say another stressed bank like ICICI Bank where the joke at one point of time was ICICI is good at everything except banking and God knows they have built some very good quality businesses outside banking as well — . be it life insurance, general insurance or brokerage.
Of course, now the bank is rapidly on the mend and look at the value creation that has happened. It is at around Rs 500 when at Rs 250, people were not so gung-ho two or three years ago. In SBI, whether the IPO will happen now or not is a different matter but value creation has happened in life insurance; it will happen in general insurance, cards business and eventually out of brokerage. That creates a larger story around SBI. Like ICICI, the theory of healing of the asset quality in the mainline business plus a very interesting chain of babies that you monetise over a period of time, add to SOTP and in fact even raise some capital out of selling stakes there.
SBI and ICICI Bank both moved up like twin brothers in the beginning of the year. Now, there is a large difference. SBI is nowhere close to its 52-week high, ICICI Bank is mounting to a new high on a daily basis. If someone has ICICI Bank, is it time to switch to SBI or would rather stay with ICICI Bank?
While we have buys on both of them. The faith in ICICI Bank, despite the runup and the relative runup, is higher because we see sustained build out of the healing cycle playing out in a much more predictable way at ICICI Bank than at SBI.
Having said that. SBI is alluringly cheap. If the big value trade does play out, then we have a winner in SBI. If people are still going to get choosy and picky about what they are buying, then the choice should be ICICI Bank.
We seem to be in a ‘slow for long’ kind of a growth scenario. India was supposed to heal; it is not healing. Earnings were supposed to pick up but it has not. Festival season was not as great as expected. Do you think quality premium or the choice of stocks or choice of outperformance will be very limited or restricted? There is value, it is great, but would that make money?
When you are ‘slow for long,’ you cannot be long on value blindly. I do not think SBI is low quality franchise by any stretch of imagination but I would suspect that there could be a few accidents on asset quality even here on. Does that mean that it is not going to happen at ICICI Bank at all? No. But what do the current vibes tell me? They tell me that the healing cycle is relatively easier to call in case of ICICI Bank. It is reflected in the price but if you want to play it safe, then go with ICICI Bank. And if you want to take a chance and if you are a five-year investor, then you would probably pick SBI.
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