Author: Thyagarajan

Coal India: In the pits?

Coal India Limited (CIL) faces headwinds from different quarters. Production targets have gone awry and the impasse over fuel supply agreements with power companies continues. Amidst all this, the coal behemoth has digested a 25% wage hike in February this year even though its attempts to effect a price hike have met with stiff resistance from key customers.

Coal India [stockquote]COALINDIA[/stockquote] sells coal at a discount of up to 78% to imported Indonesian coal, giving it solid headroom to raise prices. It sells 83% of its coal at the notified price under the fuel supply agreement (FSA) and 11% of its total production through e‐auction, which is priced up to 30% higher than the notified price. Regulated sectors such as power utilities, defense, railways and fertilizers receive their quota through the FSA. 

imageIn line with international pricing mechanism, CIL migrated to a new system for pricing its non-coking (NC) coal on the basis of Gross Calorific Value (GCV) of its various grades of coal from January 01 this year. Earlier, it priced its NC coal under the Useful Heat Value (UHV) based method.

Non-coking coal is mainly sold to power companies. By raising prices, CIL hoped to offset the impact of wage hike to its over 3.65 lakh employees that would entail an outgo of over Rs 6,500 crore.

imageBut within a month, it had to roll back the price hike under the new mechanism due to stiff protests from consumers in sectors such as power and cement. The new grading system would have given CIL an additional Rs 6,250 crore annually. Bowing to pressure, the government forced Coal India to put off the price hike and said it would review the new system after three months.

NTPC [stockquote]NTPC[/stockquote], which is Coal India’s biggest customer, has vociferously opposed the switchover to GCV-based pricing saying its input costs would soar. India’s largest power generator has also refused to sign the fuel supply agreement in its present shape.

CIL wades through a critical phase wherein key policy developments relating to coal / power sectors are in the pipeline like setting up of a coal regulator, auction of coal blocks, mining bill, etc.

imageOn the operational front, Coal India’s performance has been sub-par with production languishing at around 430 million tonnes for the last three years. Its inability to raise prices to offset the rise in input costs could adversely affect its EBITDA margins.

If CIL is to increase productivity, then a price hike is long overdue. Customers have a choice- either allow the coal PSU to raise prices and benefit from increased supply or pay through the nose for imported fuel. While CIL’s profitability has got a boost from higher realizations through e-auctions, better pricing power, faster environment/ forest clearances and solution to land acquisition issues is the key to drive profitability and earnings growth going forward.

Sino-India trade: Going strong but worries persist

When it comes to business, the Hindi Chini bhai-bhai comment has lived upto its billing. Despite the sharp downturn in global economy, bilateral trade between India and China has been growing, reflecting the vast potential for economic cooperation. Trade between India and China hit a record $ 73.9 billion last year, rising by almost 20%. China is the fastest growing market for India, ahead of US and Japan and two-way trade is expected to touch the $100 billion- mark by 2015.

clip_image001[8]While India’s exports to China grew by a mere $3 billion last year, China’s exports to India during the said period jumped by over $10 billion.

The huge trade imbalance in favour of our northern neighbour has been a cause of concern and India has been vocal about ‘seeking a more conducive business environment’. The trade deficit for India for 2011 stood at $ 27.08 billion.

Notwithstanding the huge trade gap, the economic relationship between the two top emerging market economies has gained much traction during the last decade.

Chinese export to India relies strongly on manufactured items meeting the demand of fast expanding sectors like telecom and power in India. Chinese companies supply equipments at competitive prices. India’s exports are characterized by primary products, raw material and intermediate products.

clip_image001[10]Items like iron Ores, textile, copper, precious stones, organic chemicals, etc. continue to dominate India’s export basket. Among these, iron ores, slag and ash comprised of a hefty 45% share while cotton, yarn and fabrics made up 14% of the export basket. The fall in export of iron ore in 2011, which has traditionally been the top export item, has been attributed to the ban on mining in Karnataka and Goa and restriction on shipments from Orissa.

Imports from China rose by 24% with India emerging as the seventh largest export destination for China with a share of 2.66% of total Chinese exports to the world. Electrical machinery accounted for a huge chunk of imports to India. The composition of export/ import basket reveals that India ships raw material to China while China sends finished, value added goods back to India.

clip_image001[12]To ensure more balanced trade ties, India wants China to import more IT, ITeS and pharma products. New Delhi has also sought removal of restrictions on import of basmati rice, fruits and vegetables, ­­ landing rights for Indian TV channels in China and import of more Indian films.

With China emerging as our largest trading partner, it is high time India ups the tempo as far as the rate of its exports is concerned in relation to imports.

clip_image002India must diversify its trade basket and press for increased access to Chinese market whose annual imports stood at $1.4 trillion annually. Trade disputes between the two are not new with both initiating anti-dumping charges against each other. India has filed more anti-dumping investigations against China than any other country at the World Trade Organization (WTO) against a host of Chinese products, from toys and mobile phones to tyres and chemicals. China has slapped anti-dumping measures on Indian antibiotics.

Despite the political distrust between the two nations, bilateral trade has grown exponentially.

While India must cash in on the growing Chinese market by targeting different segments like jewellery, pharma and services, it also needs to plug the widening trade deficit for long-term benefits. Expanding economic engagement will also set the platform for overcoming political hostilities.

GAAR-hit FIIs give India a miss

India Gate

India Gate (Photo credit: aroris)

Just when it seemed like foreign institutional investors (FIIs) have reaffirmed their faith in Indian equities, the enthusiasm has fizzled. After pouring hefty funds into the Indian equity market in the first two months of the year, overseas investors turned bearish in April and pulled out Rs 777 crore.

Jan and Feb saw a smart rally with the Sensex jumping over 2000 points or over 12% as foreign funds pumped $8.72 billion into Indian stocks on hopes of monetary easing by the Reserve Bank of India (RBI) and the improving liquidity position. Nifty, which hit a high of 5600 points in mid-Feb, has consistently drifted downwards and has been trading in a narrow range. Higher foreign inflows have also been aided by cheap loans doled out by the European Central Bank (ECB) through long term refinancing operations (LTRO).

imagePost the Union Budget in mid-March, uncertainty surrounding General Anti Avoidance Rules (GAAR) and continued paralysis in decision making at the centre has resulted in foreign investors adopting a wait and watch stance. Especially, proposals regarding GAAR have spooked foreign investors as they fear tax authorities could use them to deny the benefits of Double Taxation Avoidance Agreement (DTAA) to a private investment fund or vehicle organized in Mauritius. A huge chunk of foreign funds in equities comes from companies that are registered in the tiny island nation and are exempted from tax in India under DTAA with Mauritius.

imageLast year, the index fell by nearly 25%, the second worst annual loss, as foreign investors pulled out over Rs 27,000 crore after a series of rate hikes by the RBI to fight inflation hurt factory output while Europe’s debt crisis stalled global growth and tempered demand for emerging-market assets.

But India’s problems are far from over. While fiscal deficit has been a problem for sometime now, the ballooning current account deficit is a major cause of worry.

The current account deficit was $19.6 billion in the December quarter, higher than $9.7 billion a year earlier. The widening current account deficit coupled with sluggish capital inflows will further worsen the macro-economic picture and cloud outlook for Indian equities.

imageTwin deficits, policy logjam, regulatory flip-flops on tax issues like GAAR and retrospective amendments and the likelihood of a rebound in inflation threatens to derail India’s growth story.

Since FIIs are the driving force of Indian markets, any thoughts of regaining 21k and 6k for both Sensex and the Nifty rests on the government getting its act together on both policy and execution front, lower global commodity prices, mainly oil, and inflation staying in ‘comfort zone’.

Countertrend: Does India Inc. Need A Bailout?

Gone are the heady days of blowout earnings and record revenues. All that has given way to defaults, debt restructuring and distress sale. The once blue-eyed boys of corporate India are now in deep red, giving blues to investors and lenders.

Corporate credit defaults surged to the highest in a decade last fiscal with textiles, steel and construction & engineering sectors accounting for a quarter of total defaults, according to imagerating agency CRISIL. It noted that 3.4% of the companies it rates defaulted on its debts.

Rising input and interest costs coupled with slackening demand and weak pricing power have impacted corporate margins. Therefore, servicing of loans has come under stress. CRISIL adds that weak liquidity caused by elongation of working capital cycles have led to defaults. Companies like Bharati Shipyard, Kingfisher, GTL Ltd, Hindustan Construction Co, etc have managed to restructure their debt or sought approvals, thus avoiding default on their existing debts.

imageDomestic funding has been hit hard in the last 18 months, thanks to the record 13 times (175 bps) hike in repo rate since March 2010. Asset quality stress has permeated into the health of banks. Between March 31 and December 31, 2011, gross NPAs of banks rose to 2.9% of advances from 2.3% while the quantum of restructured debt spiked to 3.3% of advances from 2.5%. Higher provisioning requirements as a result of rising non-performing assets will dent the profitability of banks.

Going forward, pressure on corporates’ balance sheet is expected to ease due to lower interest rates, softening of commodity prices imageand flexibility to defer capital expenditure. But credit quality may take time to recover as interest rates are only expected to decline at a slower pace while global demand, especially in the Eurozone, looks wobbly.

Even as more companies opt for Corporate Debt Restructuring (CDR) or moratorium on loan payments, lenders can learn a lesson or two from these events. Their aggressive lending practices during the preceding boom years coupled with lack of due diligence and laxity in monitoring of loan accounts are also to blame for the deterioration in their asset quality. Banks would do well to tighten the screws from their end to insulate themselves in stressful situations.

[stockquote]KFA[/stockquote] [stockquote]CRISIL[/stockquote] [stockquote]GTL[/stockquote] [stockquote]BHARTISHIP[/stockquote] [stockquote]HCC[/stockquote]

Coal India–The Perils of Investing in PSUs

Coal India Limited (CIL) is at the receiving end from different quarters. While, on the one hand, it is facing the government’s wrath for failing to fulfill the country’s burgeoning coal demand, minority shareholders, on the other side, are crying foul at the lack of corporate governance standards at CIL and its failure to protect their interests.

clip_image002On Tuesday, the government issued a presidential directive to force CIL to sign fuel supply agreements (FSAs) with power producers to supply as much as 80% of the fuel requirements committed to power plants. Softening the blow, it however, allowed the PSU’s board the freedom to decide on penalty that would be payable in case it breaches the pact.

The presidential diktat was enforced after Independent Directors of CIL’s board, which has been holding discussions for the last few days, put their foot down on committing fuel supplies.

Going by CIL’s current output and ramp-up capabilities, independent clip_image002[5]directors felt it was impossible for the state-run miner to meet supply requirements and it may have to opt for imports which is a costly affair.

Instead, they questioned the lower price paid by the power sector for coal and suggested that CIL should cut down on fuel supplies to the power sector and sell excess coal through e-auction to augment profitability.

Amidst this furor over fuel supplies, investors are clearly not impressed at the way Coal India is being arm-twisted. UK-based hedge fund and CIL shareholder, The Children’s Investment Fund Management (TCI) has threatened arbitration against the Indian government, alleging that the government was going out of its way to help private power producers by pressurizing CIL.

TCI, which holds 1% stake in the monopolistic miner, has charged Coal India of selling the fuel at a price that’s up to 70% lower than the market price, hurting minority shareholders.

clip_image001The country’s powerful lobby comprising of Cyrus Mistry, Anil Ambani and other corporates, who forced the government’s hand on Coal India by knocking on the PM’s door for seeking solution to the power crisis, must be relieved as more than 25,000 MW projects will be kick-started. The demand-supply gap for coal, which stood at 84 million tonnes (MT) during FY 2010-11 is likely to touch 142 MT in FY 2011-12.

While the Prez decree will awaken Coal India from its clip_image001[5]deep slumber and help meet fuel requirements, the government would do well to address some pertinent issues that plague the miner than just issuing diktats. Coal India faces land acquisition problems and delays in environmental clearances due to which several projects have missed deadlines while domestic prices are yet to align with international rates, hurting the company’s profits. To make matters worse, the coal behemoth has almost been headless, critically hampering its decision-making. At present additional secretary in the ministry Zohra Chatterjee is filling the post.

If Coal India is to retain its tag as the darling of D-Street (thanks to its blockbuster listing), the government would do well to address these ‘bitter truths’ instead of just administering ‘bitter pills’.