Ambani Charges: The numbers don’t add up
In the latest bout of the Ambani vs Ambani fight, Mukesh Ambani has blamed Anil Ambani of attempting to make a profit of Rs3,50,000 crore in 17 years. Anil Ambani does not have his own gas-based power projects, charges RIL. He cannot use this gas for himself and will trade in it to make huge profits. 
 
Last month Anil Ambani had come out with a series of advertisements charging Reliance Industries of trying to make super profits. Interestingly, neither of the two brothers has given calculations behind these huge figures.
 
Here are our calculations that both the brothers are hugely exaggerating the numbers. Reliance Industries controlled by Mukesh Ambani was contracted to supply 28 million cubic metres of gas (which is equal to one million MMBTU) everyday to Anil for 17 years at a price of $2.4 per MMBTU. RIL says that he has to follow government pricing of $4.2 per MMBTU. In fact, calorific value of one MMBTU is equal to 28 cubic metres of natural gas. The production, demand and supply are measured in cubic metres whereas pricing is done as per MMBTU. As per Anil Ambani, he has to pay $2.4 per MMBTU and his daily expenses are $2.4 million per day. As per the agreement between the two brothers, he will pay $876 million per year. For 17 years, Anil will pay $ 14.89 billion which is equal to Rs 74,450 crore at a conversion price of even Rs50 a dollar. This is nowhere near the figure RIL alleges Anil of making. Clearly, both the brothers are charging each other of trying to make highly exaggerated sums. .
Dhruv Rathi [email protected]
 

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‘India is getting back to speed. We had merely taken our foot off the accelerator’

Debashis Basu/ Sucheta Dalal (MLD): The last time we had met, in February, you were quite bullish about the economy, in contrast to the general gloom and doom. You have been proved right. What is your sense now?
KV Kamath (KVK): I believe the India story is intact. What has happened in Japan and South East Asia, and then China, is valid for India too. And that is, once structural change happens, it is difficult to reverse it, unless there is a major shock. We’re getting back to speed as it were. Last year, we took our legs off the accelerator; we didn’t really brake. Clearly, we’re back onto 7%-7.5% target for the year. It should then be easy to take up to whatever the Government wants —9%-10%.

MLD: What should happen to take us to a higher growth path?
KVK: Looking around the world, I would have wished for lower interest rates. I’ll benchmark two countries—Thailand and The Philippines. In Thailand, just a few years back, the exchange rate was same as ours. It’s 33 baht to a dollar today. I am not saying the rupee should be 33. I’m saying that’s an interesting benchmark to look at. The interest rates in Thailand are 4%-6%. Interest rates are out of skew in India, primarily because the bond market is worried about how the deficit would be funded. This is because the government is not articulating the wealth we have. Look at this way. That’s a simple yardstick, Rs15 lakh crore listed value of government companies. ...Cash balance of PSU companies with banks is Rs3,00,000 crore, adding somewhere around Rs60,000 crore a year. Dividend payout ratio is 25%. Nobody will then talk of deficit. You don’t have to actually release, say very forcefully— this is available. It is a fact that the poor are asked for collateral and the rich get away with no collateral. This will probably have a solitary impact on interest rates.
 
MLD: On the other hand, if you really measure inflation properly, is it really reflective of the prices?
KVK: Have we as a nation done what is required to bring that inflation rate down? For example, we are letting sugar prices get out of hand. The problem is not now; it will come six months from now. What have we done about it? Here, proactive action was required. We are being reactive.
 
MLD: But that’s not going to change, is it? It’s a government attitude and I don’t think it is going to change.
KVK: No, it’s not going to change.
 
MLD: So, ideally we should have 3% inflation and maybe 2% real interest rates, adding to 5% nominal interest.
KVK: Yes, 5%-6% would be ideal.
 
MLD: What are the other key factors that would determine our future?
KVK: One important issue is how China handles its economy. I am not believing the China story this time for certain. I did not believe it in 2000-2002 when they had huge bad loans. But they managed it. This time again nobody is clear as to who’s going to pay for the subsidies being given to get rural China buy. Whether it is banks or industrial companies or government direct intervention, it’s not very clear. Looks like ultimately it’s the banks which will take the hit. They will try another cleaning-up exercise down the line, like they did last time. Last time, they were running surpluses. Now, with this sort of pump-priming against the backdrop of budget deficit, nobody knows that they will do. What is happening is very opaque.
 
MLD: You are just back from a trip to the US. What were your observations?
KVK: American bankers are extremely wary of what’s happening in the US. I have not seen such pessimism at all. I thought that the worst is over and what happens next (would be) a slow return to growth. They have bad loans and they of course, know what to do. They have handled bad loans in the past. But somebody told me that of the 8,000 banks in the US, 1000 banks, that is 12%, have commercial real estate exposure equal to five times their tier1 capital. These are all suspect. All it needs is 20% of these to go bad for that entire capital to be wiped out. The number of banks that may go down is the issue being raised and what does it do to the whole system? If China and the US as growth engines come under pressure, what happens? We are fairly insulated because we are still by and large domestic. But we are getting globalised more and more by the day. For the moment, though, the prognosis seems to be we are going strong domestically. But if China and US both have problems, sentiment will get hit very badly.

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‘Industrial recovery was stronger than expected’
ML: Why has the market so quickly discounted the impact of the monsoon?
VS: I think the monsoon is not a significant factor. When you look at data like monsoon is 20% less, how much does it affect the GDP growth? I am not an expert in this issue but it suggests to me that there is some kind of downside pressure on the economy coming through from agriculture. But I think the reason why the market has looked beyond is actually something else and that is essentially the fact that the industrial recovery has been far stronger then what we had anticipated. I mean six months ago our baseline view was that we would grow at a 6%-6.5% and while my baseline view has still not changed, that number frankly should be revised upwards given the strength in the industrial production. The only reason that it has not been revised upwards is only because of the weakness that we can eventually see from a poor monsoon.
 
ML: Domestic investors have poured more funds into the markets. Have we finally shrugged off our huge dependence on FIIs? If so, what are the long-term implications?
VS: Well, the rally was started more by foreign money. You can argue that the paper that was floating around was actually sucked out in the first place by domestic investors during late 2008 and early 2009. I think the bigger issue is that pretty much since 2007, the total domestic institutional buying—whether it is insurance, banks, mutual funds put together—has actually been more than what the foreigners have done. I think this is an important trend and it’s a trend that will at some level eventually sustain because at the end of the day the economy is growing in nominal terms at 10%-12% and incomes are growing and when incomes are growing investible surpluses are growing. They have to go somewhere. Obviously the asset class of choice much to our chagrin has been ULIPs over the last three-four years. Maybe it will be the New Pension Scheme in the next three-four years. Eventually this money has to find a home somewhere. If you say this money won’t go into the equities because the Indian investors are very risk-averse, I would argue it would equally end up creating an asset bubble, because the money would then flow into bank fixed deposits. Then we should not be discussing rate tightness; we should be discussing 5% rate for FDs. Eventually something has to balance out the equation and I think the pure fact that you are continuing to grow at nominal terms 12-14% GDP means that incomes are growing and disposable savings are growing and equities are bound to benefit.
 
ML: What are your expectations regarding corporate performance and which sectors do you see outperforming?
VS: I think the resilience has been more on the economic numbers rather than necessarily in earnings and particularly balance sheets. A lot of the pain which was not felt in the economy was recorded in the earnings and lot of the pain that was not recorded on the earnings was recorded in the balance sheet. Companies have done all sorts of accounting jugglery; they used the rules to their advantage to not take into account what they should have had on their P&L and all of that. Maybe the true extent of non-performing loans has also not been recorded in the system because the RBI gave a time-window to the banks. I don’t think the true extent of earnings damage has been captured fully in all the reported numbers. Having said that, in terms of a trend, the June quarter numbers were clearly a little bit of a surprise, but more because of cost-related issue rather than top-line. My sense is that the second quarter will be more of the same. Maybe the top-line is still going to look uneven but the bottom line will look much better, but by the time you get to the end of the year, the cost pressures are going to start catching up again. We already started having pressure on most cost items whether raw materials, salaries, fixed overheads all of them have started to inch back up again. It’s interesting that you actually saw some of the best operating margins that companies have ever recorded in the last eight years being reported in the June quarter, when we were just coming out of a recovery. I think at some level they will have to give out some of their margins back either because of the pressure of raw materials or because of competitive pressures. Margins cannot stay at these elevated levels for so long. But hopefully it may get replaced by some element of top-line growth by the time you get into the fourth quarter and that should be possible because on a year-on-year basis obviously your volume numbers should grow as per your expectations.

Our key preference remains for domestic consumption themes like consumer staples and consumer discretionary items. Not that they are absent of valuation issues but the valuation issues are across the market. Banking and finance companies too feel that credit growth is starting to recover. We are far more cautious about sectors that are more globally interconnected like the commodity space. We have been positive about IT but now valuations have gone up. But on a two-three year perspective, the IT business model will weather this downturn because the downturn in the western economy in this time is more consumer led rather than business led. The health of corporate balance sheets in the developed world is reasonably good. The financial system had a problem but that also has been largely put behind so I don’t think spending trends will really get badly affected.

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