Vijay Kumar Gaba: June 2017

Friday, June 30, 2017

Farm sector reforms - 2

Thought for the day

"The best revenge is to be unlike him who performed the injury."

—Marcus Aurelius (Roman, 121-180)

Word for the day

Interditate (v)

To interlock, as or like the fingers of both hands.

Malice towards none

What kind of government do we have?

(a) Capitalist

(b) Socialist

(c) Communist

(d) Opportunist

(e) None of the above

(f) Mix of all of the above

First random thought this morning

In past three years, many sections of the Indian society have seen rise in agitation. Youth, farmers, religious minorities, religious majority, armed forces, media, traders, industrialists, bankers - all have been quite restive.

The factors could have been varied. For example, poor monsoon for two years, abolition of large currency notes, stricter compliance norms, demand slowdown, GST implementation, rise in cross border threats, authoritarian disposition of the leadership, rise in assertiveness of fringe elements within religious communities, and fear of marginalization amongst regional parties, etc. But the fact is that an average Indian is far more agitated today, that he/she was three years ago.

The moot point is whether this agitation will give rise to a new vibrant India or dissipate India's energy and push us back by couple of decades!

Farm sector reforms - 2

There was this feudal lord, who had enslaved a number of peasants on different pretexts. He would make them toil hard the whole day and give two inadequate meals to survive.

Occasionally, on festivals, birthdays of his children, his marriage anniversary, and death anniversary of his parents, he would treat them with a good meal and sweets. Once in 3-4yrs, during winters, he would give them new blankets so that they do not die of cold. In return, the bonded peasants were expected to hail him as protector and great benefactor of the poor.

No one ever dare ask for freedom from bondage. No one ever considered freeing these poor enslaved peasants.

The condition of Indian farmers is no better than those bonded labors in the story stated above. Various governments have been exploiting them, giving occasional doles and expecting favors in the form of votes.

No one has considered making these farmers self-dependent and economically viable. Unfortunately, the farmers have also been quite satisfied with occasional doles and have not been seeking redemption from slavery.

The recent episode of loan waiver is nothing but the new blanket given to farmers so that they survive the chilly winter and vote for the incumbent governments. Anyone assuming it to be anything more than that is seriously mistaken, in my view.

I believe that this is the primary reason for Indian economy not being able to grow faster on sustainable basis. Unless, two third of the population earns enough so that it can adequately consume, save and invest - it may be actually foolish to believe that a inwardly oriented economy like India can consistently grow faster.

As suggested yesterday, a sustainable improvement in Indian farmers' conditions is possible only under a comprehensive rural development mission. I presented my suggestions for one aspect of this mission yesterday (see here). Today I am presenting my thoughts on the reforms needed on the Policy level.

Since independence the government has focused on development of industrial infrastructure in the country. It has actively participated in the endeavor through a large number of public sector enterprise; besides offering a myriad tax and other concessions to the private entrepreneurs.

Now, the country has a reasonably strong industrial base. Many of our industries are globally competitive. We have a strong set of entrepreneurs and risk takers.

It is therefore high time when the government should reset its priorities and turn its primary focus on agriculture.

To begin with, as a matter of policy, the government should exit all industrial and banking activities.

Instead of sitting in Krishi Bhawan and making plans, the agriculture minister of the country should step out, take all state agriculture minister along and toil on the fields.

Firstly, the government should actively take agricultural activities - develop barren lands; develop water bodies and irrigation facilities; develop and use technology for enhancing productivity; give employment to landless farmers; take risk with new technologies & crops; partner with marginal farmers in consolidating their land and do farming on that land - just the way it undertook industrial activities immediately after independence. The minister should be made accountable for making the endeavor remunerative.

It has taken seven decades for Indian industries to reach a stage where the government can consider fully exiting the industrial activities. It may take 2-3 decades for Indian agriculture to reach a stage where the government will be able to exit farming activities completely, in my view.

Please note that at this point in time, I am not interested in engaging in debate whether the government's industrial policy was appropriate in the first place. I am also not suggesting nationalization of agriculture sector. I am just saying that the government should undertake the activity on commercial basis to provide the sector with much needed escape velocity in terms of capital, technology, and risk taking capability.

Secondly, the government should undertake on mission basis the task to reskill of underemployed farmers and farm labor. The farmers and their family members may be trained as dairy workers, domestic help, nurses, tourist guides, artisans, etc. Expecting construction sector to absorb all surplus farm labor is a bad idea, in my view.

Thirdly, the government should consider developing at least 5 very large special agri export zones in rocky and desert areas of central and western India and undertake export of farm produce as a commercial activity. These zones may be developed in private or joint sector.

Fourthly, the government may consider acquiring farm assets, especially rice farms, overseas to reduce water intensity of Indian agriculture.

Fifth, various states of the Union may be allowed to make bilateral or multilateral agreements for procurement, processing and trading of farm produce, movement of labor

Last, but not the least, nationalized all rivers, set up a national water regulator (commission) who shall work out water sharing formula for all states and union territories every three year and maintain adequate provisions for managing droughts.

...to continue next week

Thursday, June 29, 2017

Farm sector reforms - 1

Thought for the day

"Each day provides its own gifts."

—Marcus Aurelius (Roman, 121-180)

Word for the day

Parallax (n)

The apparent displacement of an observed object due to a change in the position of the observer.

Malice towards none

Can Maharashtra government impose anti dumping duty on import of onions from Madhya Pradesh?

First random thought this morning

No matter what we claim as our foreign policy, our relations with neighboring states have never been great in past five decades. The pace of deterioration has accelerated in past two decades. If the Army and RAW officers who like to spend their evenings with news channels are to be believed, we are facing unprecedented security risk from our neighbors, much more than 1960s when we actually fought two wars.

Many businessmen also tell me that despite great images of friendship between our leadership with foreign leaders, the terms of economic cooperation with many developed countries have also not improved materially in recent times.

Do we need to stop for a while and review our foreign & trade policies?

Farm sector reforms - 1

To bring any meaningful improvement in the dismal condition of India's farming community, a comprehensive rural development effort is needed. Any piecemeal solution like occasional loan waiver shall have almost no sustainable impact.

The traditional farmer welfare measures like periodic hikes in support prices for certain crops, farm input subsidies, interest rate subvention have not yielded the desired results. The impact of cash subsidy schemes in the garb of wages (first Jawahar Rozgar Yozna and later MNREGA) has also remained questionable.

In my view, a sustainable improvement in Indian farmers' conditions is possible only under a comprehensive rural development mission. The mission should address the problem with structural reforms at three levels, viz., 1. Farm Level; 2. Policy Level and 3. Social Level.

All reforms need to be pursued urgently, vigorously, simultaneously and in a fully integrated fashion, for having a meaningfully sustainable impact.

Farm level reforms

At farm level farmers are struggling with a multitude of problems. The most prominent being:

(a) Uneconomical land holdings (fragmented holdings, unclear land titles)

(b) Low productivity

(d) Poor price realization

(e) Poor market access

The measures initiated so far, e.g., higher support prices, cheaper credit, crop insurance, improved irrigation, cash fertilizer subsidy, better market access (eNAM, roads etc.) have positive impact on the state of agriculture in the country. But this may not be sufficient, as it will have only some incremental impact on the sector. What we need is a set of radical reforms that would break the linearity and provide much greater impetus to growth.

For example, the following steps may be taken at the farm level:

· Enforce land consolidation by linking subsidies and facilities to a minimum farm size. Village or Block level farm cooperatives should be encouraged.

· Digitize all land titles within 2years. Enforce time bound Panchayat level resolution of all title disputes.

· Change government procurement system. Government should provide all inputs and technical guidance to the participating cooperatives, and take 50% of the crop in lieu of this. The balance crop should pay for the labor cost and profit. This will ensure three things: (1) Guaranteed timely supply of quality inputs; (2) No debt burden on farmer in case of crop failure. The government can take adequate insurance for recovery of its costs; and (3) Adequate profit to the farmers.

· The landowners who have never engaged in farming activity in past two decades should be forced to give away their landholdings to cooperatives at 50% discount. Anyways these landowners let out their land on crop sharing basis or nominal lease rental.

· Make sure not a single drop of river water flows into the ocean from India. Develop river linking and water distribution on the models of roads.

· Allow corporates to develop waste and barren land for farming purposes. For example, many corporates from India and Arab world may be interested in developing Rajasthan and Gujarat desert and barren lands for growing dates, palm, aloe etc.

· Set up a price equalization mechanism through participation of private corporate sector. Encourage building large scale storage capacities for farm produce. Assure a regulated return of 10% premium on bench-mark yields, and allow bonds issued by warehouses as SLR securities PSL assets.

· Take factories to farms. Encourage industry to partner with farm cooperatives to set up food processing units at the farms. The farmers' cooperative allots land and provides farm produce, whereas the entrepreneurs contribute capital and undertake marketing and sales responsibilities. Both share the profit in pre-agreed ratio. This should maximize profit of both the industrial enterprise as well farmers, in my view.

...to continue tomorrow

Wednesday, June 28, 2017

Time to do it is Now

Thought for the day

"Nothing happens to any person but what was in his power to go through with."

—Marcus Aurelius (Roman, 121-180)

Word for the day

Beatinest (adj)

Most remarkable or unusual.

Malice towards none

My friend came! He charmed everyone! I sold him drones!

First random thought this morning

While the people remain busy with movies and cricket, the country is silently becoming a relevant global force in space technology, automobile, tennis (doubles) and badminton.

Wrestling, archery, shooting etc. are much talked about, but results have not been any spectacular.

Which category you want me to put political ?

Time to do it is Now

Prime Minister Modi has proudly promised Indian Diaspora in US that his government will strive to make India a developed country like US. In past also many political leaders have aspired to make India like China. One former chief minister of Maharashtra promised to make Mumbai like Shanghai. Congress party leader Rahul Gandhi wanted to emulate the manufacturing model of China and manufacture toys and watches in India.

If we eliminate the political rhetoric out of these assertions made in the heat of the moment, what we get is a constricted vision of the future of India. Regardless of the posturing, our political establishment appears mostly lacking in innovation, self-belief, and faith in rich cultural & economic legacy.

The right wing politicians claim to have pride in India's glorious past. Their sole ambition is to restore India's stature as world leader (Vishwa Guru). However, when it comes to implementation, they suffer from cognitive dissonance.

They seem unable to think beyond highly exploitive and authoritarian Chinese model of development. The tragedy is that they want India to become like US by following Chinese model and enforcing parochial social agenda that has no Vedic sanctity!

There is no meaningful left party in the country. The left wing politics is now limited to violent and exploits of handful Naxals and Maoist.

The academics and elite that subscribe to left ideologies appear mostly too pliable and dependent on state favors to make any difference.

The traditionally strong center and left of center parties have mostly degenerated to become feudal lordships. Their vision of India appears to begin and end with their vested political and economic interests.

The tokens like secularism, socialism, equality and justice are blatantly used to camouflage the vicissitude of their ideologies.

Under these circumstances, finding a sustainable solution for farmers' plight seems like a impossibility.

Given that over two third of the population is directly or indirectly dependent on the farming and allied activities, their political importance can hardly be overemphasized. It is not surprising that the structure of policy framework is such that farming should continue to remain an unviable activity, so that the farmers always remain dependent on political establishment and submit to their exploits in lieu of petty concessions.

In my view, imagining India as a developed (or even a middle income) country is meaningless unless some radical structural reforms are implemented in the rural sector. The incremental changes would never be sufficient to cure the deformities developed over past two centuries in the sector.

The recent farmers' agitations across many states are a reminder that things needs to be done immediately, before it is too late. In next couple of days, I would be sharing my somewhat utopian (but not impossible) solutions for initiating a wider discussion on the topic.

Friday, June 23, 2017

Silent truth

Thought for the day

"A man should be upright, not be kept upright."

—Marcus Aurelius (Roman, 121-180)

Word for the day

Estival (adj)

Pertaining or appropriate to summer.

Malice towards none

After western music, Korean Pop Bands are becoming increasingly popular with Indian youth and children.

This is one Make in India battle we are certainly losing.

First random thought this morning

In this post truth world dominated by social media, Google and Wikipedia, politicians should be extra careful while making claims and hurling accusations, especially when they rely on these very tools to say what they are saying.

The effort should be minimize one's digital footprints; cross verify whatever sensational material is available online; and learn to distinguish between "truth" and "post truth".

Silent truth

"The water in a vessel is sparkling; the water in the sea is dark. The small truth has words which are clear; the great truth has great silence."
—Rabindranath Tagore

To understand the politics of farm loan waiver, it is important to first understand the economics of farming in India.

(a) As per 2013 NSSO survey about 83% (80% in 2003) of the total farming households in India are either landless or marginal (holding less than 1 hectare or 2.47 acres cultivable land).

The total cultivable land in India shrank to 92mn hectare in 2013 (average 0.6hectare per farmer household) from 107mn hectare in 2003 (0.72hectare per farmer household).

In 2013 the landless and marginal farmers owned 30% of the total cultivable land in the country up from 23% in 2003. This is due to further fragmentation of the land, or lower conversion of their land holdings.

(b) On the contrary, percentage of medium and large farmer household (owning more than 4 hectares) shrank from 3.5% in 2003 to 2.17% in 2003. The cultivable land owned by these medium and large farmer households shrank from ~35% in 2003 to 24% 2013. Many of these farmers actually do not cultivate land themselves. They lease the land to landless or small farmers.

(c) From political perspective, 130mn farming households are marginal or landless against just 3mn farmer households are medium to large land owners.

(d) The average cultivable land price in 50-100km radius of a city or large industrial project is about Rs5lac/acre, It may though vary between Rs. 1 lac to Rs. 5crore/acre depending upon the location.

The crop on the land yields less than Rs75000/year for a medium and large farmer. Assuming minimum 2 crops every year, for a small and marginal farmer the yield is Rs25000 to Rs50000 per acre/year, excluding the cost of self labor.

Pertinent to note here is that a typical landless, marginal or small farmer household deploys 3-4 adults for 6 months in the farm. At ~Rs7000/month minimum wage rate the cost of self labor itself comes over Rs1,50,000.

If we adjust the yield for one crop loss every three year, lease rent and 18-24% interest that small and marginal farmer pays, agriculture is mostly an unviable business.

If we factor in rising labor cost, lower subsidy in input prices (fertilizer, electricity, diesel and water) and slower rise in MSP, the viability gap will likely only increase going forward.

(e) A large majority of farmer households in India are landless or marginal. Many of these farmers take land on lease. The rent varies from Rs5000/acre to 50% of produce. A lost crop puts such farmers in a debt trap that may take minimum 3years to get out.

Many of these farmers do agriculture for sustenance. They grow wheat or rice for self consumption only.

Remember, the Gen X of these farmers is no longer enamored by the feeling of Dharti Meri Mata Hai (my land is my mother). The next generation of landless, marginal and small farmers is therefore least likely to prefer agriculture over construction or industrial labor. (Availability of agriculture labor is likely to shrink even further from the current alarming levels).

(f) Given the low returns, the current generation of medium and large farmers is also not much interested in taking up farming as occupation. Many would want to sell the land if they get right price.

The problem however is that an overwhelming proportion of land holdings have unclear or disputed titles. Besides, finding a buyer for fragmented and scattered land parcels is tough. To make the matter worst, in many areas the revenue rate (circle rate or ready reckner rate) of land is much higher than the actual market price, making it really tough to sell the land.

Thursday, June 22, 2017

Farm loan vs. farmers' debt

Thought for the day

"Forward, as occasion offers. Never look round to see whether any shall note it."

—Marcus Aurelius (Roman, 121-180)

Word for the day

Confusticate (v)

To confuse or perplex; bewilder.

Malice towards none

At the end of the day, both Kumble and Kohli seem to have moved to a little lower pedestal.

First random thought this morning

A few months back, BJP MP from Mumbai had criticized the cryptocurrency Bitcoin a Ponzi scheme.

Notwithstanding, the ill-informed but aggressively judgmental views of some of its own MPs, the government reportedly has decided to regularize the trading in Bitcoin.

It is commendable. As per some estimates, the Indian Bitcoin exchange market is responsible for processing around 11% of Bitcoin-to-USD trades. It will be not long when Bitcoin will give serious competition to gold, at least in Indian urban markets.

Farm loan vs. farmers' debt

Farm loan waiver has been a contentious issues in India's socio-economic milieu for past many decades. It would not be entirely wrong to say that most governments and political parties have used this as a tool to exploit voters' sentiments rather than solving the problem of farmers' stress or structural inadequacies in the Indian agriculture sector. Consequently, every episode of loan waiver has yielded almost nothing more than a temporary relief for the farmers.

My colleagues visited Madhya Pradesh and Maharashtra to assess the ground level situation in the wake of recent violence involving farmers'.

In our assessment, the recent episode of loan waiver, which started with the newly elected BJP government in the state of Uttar Pradesh waiving farm loans to fulfill its election promise, seems materially different from the earlier episodes. This episode manifests some seriously disturbing trends emerging in Indian socio-economic sphere.

First of all, we found that the farmers are demanding loan waiver as matter of "Right" and not as a matter of "Relief", as used to be the case in earlier episodes of loan waivers. This change in attitude can potentially alter the dynamics of state-farmer relationship in future.

Secondly, for the first time we realized the change in the ethos of the farming community. Traditionally, Indian farmers considered defaulting on loans and other financial and social obligations an unpardonable sin. The popular belief was that if you fail to discharge your debt in this life, you will have to take another birth to discharge such obligations. This seems the case no longer. A significant number of young farmers are more than willing to default on their loans. With morality out of financial dealings, this can potentially change the whole paradigm of non-corporate lending in the country.

Third, in past many episodes of farm loan waiver were preceded by protests, blockades and some spontaneous violence. But this time the violence appeared more organized. There is nothing to suggest that this will end with one time waiver of loans. This appears to be a natural corollary of the first point. Not waiving loan would be considered violation of a legitimate "Right" and hence violent protests would be considered "in order".

Forth, the construct of "farm loans" is diverging wide from "farmers' debt".

The rise in aspirational consumption; distortion of social customs (especially marriage, death, birth) for the sake of vanity, ignorance, and misguidance; rise in crime and litigation expenses; rise in cases of chronic diseases and hence prohibitive healthcare expenses form an overwhelming part of "farmers' debt". This debt usually has nothing to do with farming activity.

Moreover, "farm loans" are also becoming riskier as the cost of input (seeds, agro chemical, equipment rental, wages etc.) is rising along with the output prices. However, in case of crop failure the quantum of loss is much higher as compared to, let's say, 10years ago.

In my view, farm loan waiver is just like first aid. It cures no problem.

...to continue tomorrow

Tuesday, June 20, 2017

Strategy 2H2017

Thought for the day

"Never let the future disturb you. You will meet it, if you have to, with the same weapons of reason which today arm you against the present."

—Marcus Aurelius (Roman, 121-180)

Word for the day

Sundog (n)

A small or incomplete rainbow.

Malice towards none

PM Modi loves to surprise people. Great!

What if people surprise him?

First random thought this morning

I don't keep more than Rs500 currency in my wallet, because I fear government may scrap currency notes anytime. My faith in the examination system and meritocracy is seriously diminished. I seriously doubt any data published by the government. I am being told not to trust the story of Ramayana that my grandmother used to raise me as a good human being. I am sure my tax liabilities are going to be rise materially. To make the matter worst, Indian cricket team has lost to Pakistan. I must buy some hope.

Strategy 2H2017

As discussed in past few posts, I believe that—

(a) Indian macro environment seems stable at present, however there is not much visibility for further improvement in near future;

(b) Consumer inflation may ease further due to excessive supply. Manufacturing inflation may also stay low due to lower commodity prices, poor pricing power and stronger INR. However, rates may not fall much due to a variety of reasons, like rate trajectory in developed economies, fiscal pressures due to political reasons, falling private savings rates and capital constraints at banks. The real rates may therefore continue to be higher.

(c) There is little visibility for improvement in private investment demand. The government investment demand visibility is limited to a few sectors (mainly roads and irrigation).

(d) The consumption demand may remain stable. However, there is little visibility of any marked improvement in consumption demand.

(e) The corporate earnings may not grow at the rate of 20% CAGR over FY18-FY19. The growth is more likely to be 12-16%, depending upon (i) how fast situation normalizes post GST implementation; and (ii) how effectively NPA resolution efforts yield results. However, given cost efficiencies, better capital allocation, financial restructuring etc., the quality of corporate earnings has improved. There is therefore justification for some premium valuation over long term average of ~15x PE ratio.

(f) There is virtually no case for further re-rating of Indian equities. Post 1QFY18 results, we may in fact could see slight de-rating to 16-17x from the current 18-19x.

(g) The upside in equities in next 12-15months seems limited, insofar as the benchmark indices are concerned. The investment opportunities therefore would mostly exist beyond the benchmark indices.

My strategy for 2H2017 would be as follows:

· Continue to remain overweight in equities. Prefer long term debt.

· Focus on globally competitive businesses, preferably with significant IPR assets, market leadership and high quality of earnings.

· Underweight capital goods manufacturers.

· Prefer road and water project contractors and asset owners with stronger balance sheets.

· Prefer consumption proxies, e.g., packaging, supply chain, financing etc., versus expensive final good producers; auto OEMs.

· In financial space prefer consumer NBFCs and select MFIs.

· Continue to own large real estate developers, especially those with sizable land bank and lower dependence of pre-sales.

· Lowering overall 2017 return expectations to 12%, including 1% dividend yield.

Mid Year Review 3

Thought for the day

"Everything that exists is in a manner the seed of that which will be."

—Marcus Aurelius (Roman, 121-180)

Word for the day

Whizzo (adj)

Absolutely first-rate; superb; excellent

Malice towards none

Why overanalyze everything?

First random thought this morning

In all likelihood GST will become a reality from 1st July. This will mark a big change in Indian trade and commerce landscape.

Such big changes, especially if these happen after a considerable amount of deliberation spread over a long period of time, are mostly good for the economy at large. All apprehensions about any major disruption in the businesses might therefore be misplaced.

In my view, all pieces will fall into place within 4-6months, and businesses will move forward strength to strength. If some businesses face existential threat, GST might only be a small push not the reason for their extinction.

Mid Year Review 3

After 4QFY17 results, we have heard a number of corporate management giving positive bytes about the future outlooks, especially those from cyclical financials, capital goods sectors. Auto, consumer durable and staple producers did also sound optimistic about the growth in FY187 and FY19.

A careful analysis of the commentary shows that most of the optimism is flowing from the government promise to invest more in infrastructure & capacity building, and spend more on social sector. Corporates also seems to have built in a lower interest cost in their projections.

The commentary on global demand has remained cautious. It is therefore safe to assume that most of the growth projections rely on the pickup in domestic demand.

Though, the outlook seems to have been well accepted by the market participants, there remain some areas of doubt. For example, FY18-19 growth projections assume a stable macro environment, including achievement of fiscal and inflation targets, and a stable current account.

My feedback from industry and lenders suggests that, regardless of falling interest rates there is almost no visibility of investment demand picking up in next 12-15months, as the capacity utilization continues to remain poor and falling. The fact that underutilization of capacities is a global phenomenon, does not help either.

The recent data shows significant deterioration in private savings in India. This trend juxtaposed with rise in personal borrowings, might imply constraints on household investment and consumption growth also.

Rising reliance on government investment and consumption, along with additional resource requirement for meeting political promises (farm loan waiver) and NPA resolution (bank recapitalization, UDAY funding etc.) may challenge fiscal discipline and therefore limit easing of interest rates.

Under the circumstances, I would like to discount the corporate optimism adequately. I may therefore not work with the premise of 18-20% CAGR in earnings over FY18-19. I am however quite optimistic about the improvement in earnings efficiency (ROCE), due to better capital allocation, financial restructuring and cost efficiencies.

I am thus willing to give a premium over long term average PE multiple of ~15x.

Assuming a 16% CAGR in earnings over FY18-19 (FY17 Nifty EPS Rs420) and discounting of 18x, 12 months Nifty target comes to 10173, a mere 6% return from the current levels. Most of these return may be front ended, leaving little for 2018.

I shall therefore work with the assumption of a bad 2018 in terms of benchmark equity returns, at least 1H2018.

I shall therefore focus on niche businesses that have the capability to do well even in challenging macro environment. Being a tiny investor, I can afford to buy these business even if these are micro sized. Leveraged trade is a strict no-go zone for me, unless market corrects 15-17% from the current level.