Indian Prime Minister Manmohan Singh took the reins of India's Finance Ministry after Pranab Mukherjee, till then the finance minister, resigned last week. The resignation came at a time when India's economy has slowed down dramatically. The Indian Rupee has hit a record low of 57.11 against USD, while its economy showed a growth rate of 5.3% in the last quarter, the lowest in nine years. In April, several of foreign institution investors (FIIs) asked to remove the applicability of GAAR for foreign portfolio investment, arguing that no country taxed foreign investment in stock markets. The country also witnessed a decline in the annual FII inflows. In the wake of the retrospective taxation liability slap on Vodafone (VOD), these rules have fueled pessimism among investors. Indian ADRs were consistently shedding value. In March alone they saw a collective erosion of $5.7b, while in April the loss amounted to $650mn, owing to a decline in the Indian equity markets amid fears over the implementation of GAAR. The loss for April was of $5.04b, with major software company Infosys and IT firm Wipro losing a majority of its market cap.
In May 2012, when Mukharjee first announced a delay in the implementation of GAAR, Sensex wiped out a loss of 300 points, while Nifty was firmly above the 5,000 mark and the Rupee rose to a one-week high of 52.68. Measures to boost the confidence of FIIs were announced on Friday, June 29, 2012, soon after the PM took over the Ministry of Finance. Backed by the ruling Congress, these measures include support for the foreign exchange rate, by enhancing the limit on foreign investment in government bonds by $5b. Also, it is expected that the uncertainty among investors, especially foreign investors stemming from anti-tax avoidance rules and General Anti Avoidance Rules (GAAR) would be resolved at the earliest by the PM. The signal of a liberal taxation policy from the PM is a sign of relief for the investors. With the recent sentiment turn from the PM office, and big multinationals like Coca-Cola (KO) and IKEA's decision to invest $3b and €1.5b, respectively, have pushed Indian stocks sharply up. Sensex, as illustrated in the graph below, rallied to its two-month high, while Nifty surged above 5,250 mark. However, since our investment analysis is aimed at American investors only, we will concentrate on Indian ADRs.
In the backdrop of such events, the ADRs of Indian companies that export goods or services will be the prime beneficiaries from the depreciation of the Indian Rupee and a boost in investor confidence due to reforms planned by the PM, which would further drive up share prices of these ADRs.
Infosys Ltd. (INFY)
India's second largest software exporter with a market cap of $25.75b, Infosys stands to be one of the biggest losers, on a year to date basis, among Indian ADRs. The stock was up by 5.26% on Friday, however, it is 12.3% down on year to date basis. The company is known for having a competitive advantage due to labor cost differentials. These costs are rising for Infosys, however, they are still lower compared to its competitors in the U.S. Amid rising labor cost, which jumped by 26% from a year earlier, the company has delayed hiring of the planned 28,000 new graduates until the second half of 2013. The company has targeted that 40% of its revenues be generated from debt stricken Europe. Even in these hard times, the company has been able to grow its revenues from Europe by 26% in the year ended March 31, 2012. The stock has attractive valuations, the market has already priced in any risks stemming from its operations in Europe. The stock is trading at 15x, a discount of 23% with regards to its earnings multiple when compared to its industry peers, and the company has no long-term debt coupled with sufficient operating cash flows of $1.68b, to benefit from any near term opportunities that comes its way. Analysts have a strong long-term growth outlook for INFY, especially in the wake of the depreciation of the Indian Rupee. They estimate a 2013 EPS of $3.09, along with a growth rate of 14% for the next five years. Going forward, in the long term, we recommend those investors who want to play the Indian technology stock, to take a long position on Infosys. Having said that, conditions in Europe continue to be a potential source of stress for the company.
ICICI Bank (IBN)
In the financial services sector, ICICI Bank , with a market cap of $18.7b, rose by 6.58% after Friday's developments in the Indian Finance Ministry. The stock is also up 22.63% on a year to date basis. The stock is attractively priced and trading at a discount of 7% and 14%, with regards to its earnings and tangible book multiples of 16.89x and 1.83x respectively. However, Fitch recently cut its outlook for ICICI Bank from stable to negative. Similarly, Moody's and S&P have also downgraded the bank's credit ratings, citing near-term pressures on its asset quality as a reason. The bank has an operating cash flow of $-352mn. These downgrades, along with insufficient cash flows, will increase the cost of funds, reducing margins for the bank, which has a majority of its portfolio composed of domestic loans, which means it would be affected less from the sluggish global economy. However, its plans to expand internationally would be hit hard by both the downgrade of credit ratings and it's in ability to generate sufficient cash flows. We recommend our investors to stay away from the stock until the bank is able to improve its asset quality.
Dr. Reddy's Laboratories Ltd (RDY)
RDY is a major Indian healthcare ADR with a market cap of $5b. Healthcare stocks are typically classified as defensive stocks. Besides operations in India, the company conducts business in the United States, Russia, Germany, the United Kingdom, Venezuela, South Africa, Romania, and New Zealand. The company provides a variety of segments, including Pharmaceutical services and Active Ingredients, Global Generics, and Proprietary Products. The stock was up 5.02% after news hit that PM Singh had taken over the Ministry of Finance, and are up 0.65% on a year to date basis. The stock trades at a discount of 60% with regards to its earnings multiple of 19.66x, while its price to sales multiple of 2.83x is at a discount of 40% when compared to its peers in the industry. The company has several of its medicines in the pipeline, including the launch of Ibandronate Sodium tablets, Ropinirole Hydrochloride XR tablets in the U.S. and its partnerships to co-develop a portfolio of biosimilar compounds in oncology, have the potential to enhance the company's earnings. The company's attractive valuations coupled with its upcoming products have the potential to drive the stock price up. Therefore, we recommend our investors to take a long position in the stock.
Tata Motors Limited (TTM)
If investors in the U.S. want to play the Indian consumer goods, Tata Motors is the best option. The company designs and manufactures a variety of cars. The stock, with a market cap of $12.5b, is 29% up on a year to date basis. The company has tremendous potential to grow, and this is why analysts have an expected five-year growth of 35%.
MakeMyTrip Limited (MMYT)
MakeMyTrip operates in the general entertainment industry of Indian services segment. The company has a market cap of $610mn, and its stock is 36% down on a year to date basis.