India’s largest companies and banks will be closely watching Thursday's Indian budget to see what kind of reform roadmap is set for the new Narendra Modi-led government.
Hopes are high that Modi, a tea seller’s son who earned a reputation for being able to get things done when he was chief minister of Gujarat state, will unveil bold reforms to jump-start the stalled Indian economy and stimulate greater investment.
“The budget is the first indicator of what the policy framework will be under the new government,” said Paresh Sukthankar, deputy managing director of privately owned HDFC Bank, said. “The government needs to drive growth and that growth has to come from the investment cycle, which has come off.”
Under the country's previous coalition government, red tape and bureaucracy often hobbled investment. As a result, many projects were held back, capital expenditure plans were put on hold and India's economic growth rate nose-dived from 9.6% in 2011 to 4.6% in the first quarter of 2014.
“India has seen a pretty dramatic fall of 1.5% per annum in [its] GDP growth rate over the last three to four years,” R Govindan, vice president of corporate finance at Larsen & Toubro, India's largest engineering and construction company, told FinanceAsia in an interview in Mumbai.
For capital markets, this meant companies were unable or less willing to raise equity finance. “The banking system was reluctant to provide additional facilities due to sector exposures and non-performing assets, and because the economy was slowing, there was not so much need for additional capital," Govindan said.
It remains to be seen if Modi can deliver on his electoral promises of reform but markets have already risen on optimism that he will. With the benchmark Bombay Sensex index crossing the 25,000 level for the first time ever in May, cash-strapped companies finally have an avenue to raise funds.
“The market is hoping to see very bold policy reforms in the upcoming Indian budget. It will be interesting to see if the government will deliver those reforms or if there will be any disappointment,” Therese Esperdy, co-head of Asia Pacific banking at JP Morgan, said.
Top of Modi’s task-list is cutting through red-tape. Like many other companies in the Indian private sector, Larsen & Toubro has been frustrated by the bureaucracy and inaction of state-owned entities. A case in point is the coal sector. India is sitting on plenty of coal reserves but power companies face difficulties obtaining coal as there is a lack of railroads and infrastructure.
Larsen & Toubro’s power generation unit in northern India has faced delays in coal delivery – a vital ingredient in power generation – from state-owned Coal India, which produces 80% of India’s coal. It wants to import coal but has been hampered by the inability of government agencies to reach an agreement, though there are already some signs this has improved since Modi took over.
"In the power-generation sector, the decision to import coal has to be taken by the central agency that was supposed to supply us coal and by the utility company that is buying power from us," Govindan said.
"Both are government entities and earlier even the call for a meeting used to take time. Even if we met, there would be no decision. Now with more flexibility in importing coal by the power plant, all those decisions are happening faster.”
India’s major companies are hopeful for reform – be it fuel subsidies or taxation–and clear decision-making. "We hope and believe that the new government will take positive decisions to promote investment,” Rupshikha Borah, director of finance at state-owned Oil India, told FinanceAsia in an interview in New Delhi. “Backed by a strong majority mandate, the government is expected to usher in speedy reforms to steer the country in a growth path,” she said.
India’s capital markets have been in the doldrums for the past half decade. Total investment banking revenue from India almost halved to $613 million last year from $1.1 billion in 2010, according to data provider Dealogic. So far this year it stands at $270 million, behind China and Hong Kong.
However, with a pick up in deal flow, investment bankers expect fees from India to rise this year. “We had a good year in India in 2013 and we expect our revenues from India to be better this year compared to previous years,” JP Morgan's Esperdy said.
With economic activity slowing and competition ferocious, some foreign banks have scaled back their presence in India in recent years. Last year, for example, Morgan Stanley surrendered its banking license in India while continuing to operate its investment bank.
But a sea-change could now be in the air.
“Unfortunately the fee wallets in India have been shrinking quite dramatically in the last few years, thanks to the economic slowdown which we witnessed,” said Ravi Kapoor, head of corporate and investment banking at Citi in India. “We now expect market activity to pick up significantly with the new government in place.”
India Inc.’s titans have borrowed heavily and need to raise funds to pay down their debt. Many are struggling, having embarked on costly offshore acquisitions nearly a decade ago, which have taken time to integrate and turn around. This includes Tata Steel, which bought Anglo-Dutch steelmaker Corus in 2006 at the height of a global steel boom, and Sunil Mittal-controlled Bharti Airtel, which bought Zain’s Africa assets in 2010.
“In 2006 and 2007, Indian companies raised a lot of debt, instead of diluting stakes, to fund big ticket acquisitions,” Rahul Shukla, head of corporate banking India at Citi, said. "They hoped to deleverage at a later date on better valuations but markets turned weak and remained so for a prolonged period.”
Many companies are looking at ways to reduce their debt. Bharti Airtel, for example, is reportedly looking to sell its telecom towers in Africa, while Tata Steel is eyeing a major debt-refinancing package. A Bharti Airtel spokesman did not reply to a request for comment.
Companies within relatively stressed sectors such as property, infrastructure and power are also hungry for funds.
Capital markets revival
Luckily for them, the country's equity drought appears to have ended and investor demand is back. In May, India’s fourth-largest private lender Yes Bank raised $500 million through a share placement that was sold at a 0.3% premium to the close, a rare instance where a discount was not necessary.
In June Anil Ambani’s Reliance Communications tapped the market with a $1 billion qualified institutional placement and warrants issue, in the largest-ever rupee-denominated equity deal by a private sector Indian company. The company was raising funds to help pare its high debt levels.
“There is a nice convergence of companies needing to raise capital and interest from the investor side,” JP Morgan's Esperdy said. “India is the top emerging market pick among many investors,” she added.
There are signs too that the investment cycle is ticking up again as companies raise capital to fund growth. Idea Cellular, India’s third-largest telecoms company by subscribers, raised $500 million through a qualified institutional share placement in June to build a war chest for an upcoming spectrum auction.
“Now that the sentiment has become positive, companies are turning to both bond and equity markets to lengthen tenor of debt as well as to deleverage. India will surprise this year with the volume of issuance,” Citi’s Shukla said.
Offshore bond issuance has long been hampered by expensive withholding taxes. Indian companies and banks have held discussions with the Reserve Bank of India to cut withholding tax on US dollar bonds from 20% to 5%, which would enable a wider group of borrowers to tap the dollar bond market.
So far the government has not cut taxes but bankers and companies are hoping it will do so during the upcoming budget. At present, most Indian companies need to pay a withholding tax of 20% unless they are using the funds offshore or are in the infrastructure sector.
While the mood is upbeat, there are questions as to how quickly this will translate into genuine economic growth for India. With the Indian government in a weak fiscal state – posting a deficit equal to 4.5% of GDP for the year ended March 2014 – bankers say that private sector companies will drive the next investment cycle.
“We are starting to see the animal spirits come back,” HDFC Bank's Sukthankar. “The equity markets will play an important role. Unless a lot of private sector companies can deleverage, they may not have the capacity to take on new capital expenditure.”
Hopefully, the budget the will not spoil the party.