Citi's $400 problem

Citi now wants to shed assets worth $400bn, which it says are non-core. This is only 20% of its total assets. Any large corporation will easily have 20% of its business which it perhaps should not be doing.

But when the corporation becomes so big, that this 20% amounts to $400bn, then u have to question the size. While Pandit is downsizing, he is still chasing the dream of a global mega bank. So this problem will occur again. This time sheikhs are awash money, and they saved Citi. Next time it may not be so lucky.

Rising business costs

A recent Citi report makes coins this concept of cost of doing business and how it has risen very rapidly in India. It points out that for distribution heavy sectors like retail and banking, cost of new outlet has risen almost 30% p.a.

Clearly this has to bite at some point. So long as businesses can pass on inflation, profits can be insulated. While govt will focus on breaking inflation in basic foods, inflation in other items cannot be controlled till there is atleast some growth slowdown

Fund numbers recover

It seems it is proving very hard to kill this bull. Indian markets have come back strongly in the last few weeks, and performance data of mutual funds and FIIs both is beginning to look decent once again.
The BSE Sensex is up 11% over last one month, and is up around 26% over a 12 month period. Most funds have risen in line with that. All domestic mutual funds are up over the last one month, with gains ranging from 4% to 18%. While funds are still down over last 3 and 6 months, the drops don’t look so bad anymore. Over last 3 months, funds are down around 3 to 5%, and over last 6 months the are down around 5 to 20%, with most clustered around -10% for 6 months. Over last one year, fund returns look good. While BSE Sensex is up 26% over last 12 months, funds are up anywhere from 10% to 50%. The large funds like Reliance Growth or HDFC Growth Fund are up around 35-40%, over ahead of the market.


Leading FII funds have recovered well. HSBC GIF-India Equity fund, one of the largest public funds with an asset base of around $6.4bn is down only 2% over last 3 months and is up around 35% over a 12 month period. JPMorgan India Fund is down 9% over 3 months, and is up around 20% in last one year. Aberdeen GI India Opportunities fund is down only 3% over a 6 month period, while it is up 20% over a 12 month period. Data for some of these foreign funds is in their local currencies, so movements of these currencies against the rupee impacts these returns. For example, dollar’s appreciation in the last few months would have depressed these returns. Despite that, the returns look far less gloomy than they did a few weeks ago.
This should suggest that funds would be beginning to see money starting to come back. The large FII funds certainly don’t seem to have faced much of redemption pressure as a result of the market fall from January. Their assets under management don’t seem to have fluctuated any more than can be explained by market movements. For example, JP Morgan India Fund’s assets under management (AUM) as on 2 May were $3.7bn, up 12% from its AUM as on Mar 31. This is roughly in line with market movement. Similarly Nomura’s India fund seems to have $140bn yen under management, up around 30% from a year ago. This again seems in line with market movement, so the fund may not have suffered too much of redemptions in the turmoil of the last 3 months.
The affect of recovery in performance numbers could mean less chances of redemption induced selling pressures in the immediate future. In fact, the numbers look almost good enough for money to start flowing in, both for FIIs and mutual funds.
In the last 2-3 months, funds have in a defensive mode. Some of the key FII funds mentioned here seemed to be overweight on sectors like IT, consumer staples and healthcare, all considered less volatile sectors. With bad news receding somewhat, this stance could be ready for change. One fund manager report for April for instance talks about marginal shift from defensive sectors to growth.

The (il)logic of Price justification

A sample of how target prices in analyst reports dont mean much. This is from a recent report on RIL after its 4Q08 results...

Our target price of Rs2,850 is based on a sum-of-the-parts value: 1) we value
RIL's core petrochem and downstream oil business on an EV/EBITDA of 6.5x
mid-FY10E, in line with regional chemicals and refining peers. The decrease in EV/EBITDA multiple from 7.5x earlier is to capture the impact of a possible global slowdown; 2) We value total E&P assets including oil & gas prospects and other blocks at Rs994/share based on 12x steady state (FY11E) FCF. This is lower than EV/FCF multiple of 15x used earlier as we attempt to be more conservative on valuations; 3) We value investment in RPL at 6.5x EV/EBITDA (in line with RIL); 4) We value organized retail business at Rs131/share, based on EV/sales of 1x; and 5) We value treasury stock at target price.


Lets try to understand this. This report is 'decreasing' the valuation of the E&P business, at a time when oil prices are at an all time high, and perhaps 15% higher than the previous report. With market having corrected, the earlier target price was perhaps too high to be justified.

Education - a missing pie in VC/PE action

While current sector allocation of VC/PE investment reflects India’s needs, education is one big sector to have missed out so far


While the VC/PE business has matured a lot in recent years, it is still instructive to see the dramatic transformation which has occurred in terms of where investments are going. Completely different sectors are soaking in money in 2008, compared to even 2-3 years ago.
The industry started off in the late’90s, when the first foreign firms started looking at India. The new entrants focused at IT and internet, much in line with the craze in US at that time. Quite a few of the early deals didn’t work out. The business really picked up only when investors broadened their horizons started looking at non-tech sectors like infrastructure, capital goods, financial services, retail and so on.
In the last three months, for example, infrastructure and real estate accounted for 30% of PE investments. Energy, telecom, media/entertainment, financial services, and manufacturing followed. Between them, these six sectors mentioned here accounted for 90% of all PE investments over the last three months. While this data may not be entirely accurate – some deals don’t report amount invested – the point here is, traditional VC/PE sectors like technology, internet, healthcare have perhaps accounted for less than 10% of investments this year so far. A clarification here – the distribution could look very different in the angel/VC space. PE deals tends to be large, and also focus on growth stage, rather than early stage. So the overall data here is perhaps coloured by trends in PE space.
The sectoral break up in 2008 seems to be vastly different even from say 2006, when IT/ITES accounted for about 20% of VC/PE money. Power/energy and real estate/infra barely accounted for 10% put together. So what does this all mean?
One inference – India is building up for the future. In terms of capital allocation, it seems about right that basic areas like infrastructure, real estate, energy, telecom get the largest share of investments; following by second order needs like financial services, logistics and manufacturing. Media/entertainment, internet, retail/consumer are perhaps third order needs, in a country like India.
Some of the basic sectors seem set to pull in a lot more money going forward, if the announcements in April so far are anything to go by. About $5bn of new funds have been announced in April so far, around 70% this dedicated money for real estate/infra. Some of the other money is sector agnostic, like Azim Premji’s newly announced $1bn fund - some of that could also fund infrastructure and energy.
However, PE investors are supposedly represent smart money – so this sector allocation could change just as rapidly a few quarters into the future.
For example, one sector which really hasn’t attracted meaningful VC/PE investment is education. A recent report by CLSA points out that private sector business in education is around $40bn. If CLSA estimate is correct, this makes education bigger than the healthcare sector, and almost as big as IT/ITES sector – the tradition favorites of VC/PE investors.
CLSA says – citing a household survey it seems to have commissioned – that education is the second largest item of middle-class household expenditure in India, after food. While a middle class household spends around 25% of monthly budget on food, around 9% goes to education, compared to 3% on healthcare. These ratios are very different from national averages, since CLSA’s sample set is intentionally different. CLSA has attempted to find the demand patterns of India’s consuming class.
Again, if this data is robust, it points to a great potential of education to throw up large businesses. One problem with education is that while private enterprises are there in basic schooling, and post secondary courses like engineering or management, most of these have been registered as trusts. There are ways to work around these restrictions – like for example, forming an operating company which the trust outsources or contracts out activities to. Outside of the formal schooling and graduation system, there could be number of opportunities in tuitions, assessments, vocational courses, e-enabling education, remote delivery, continuing education to name a few possibilities.