Driven By The Dollar

The tumbling rupee bodes well for some sectors, while others have taken a whipping. Team DSIJ analyses the sectors that have been affected in particular by the drop in rupee value against the dollar, and provides an outlook on these.

The tide is turning against India, which has long been perceived as a perfect destination for foreign investors. With young demography and under-penetrated industries, there was lot of expectation build around the Indian economy. However, in last few months the sharp fall in the external value of rupee against US dollar exposed our structural problems. As rupee is declining consistently for almost three months now and has shed more than 13 per cent of its weight since April to touch all time low of Rs 61.21 per dollar on July 8, 2013, the biggest impact of this fall would certainly be felt in the financial performance of the Indian corporate.
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There are more losers in this fall of rupee than the winners. We have studied only six sectors that are going to be majorly impacted by the fall in value of rupee. These six sectors include FMCG, Auto, IT, Healthcare, oil & gas and Hospitality and from 44 per cent of the Nifty. There are mainly three ways in which Indian companies will get impacted. First is on the revenue front, second is on the cost front especially the imported component and interest payment and finally on the balance sheet in terms of forex debt sitting on the book. Companies with foreign debt on their books and without any natural hedge in the form of forex earnings will take a beating by the depreciation of the rupee. The obvious reason for such negative impact will be due to outgo towards interest in dollar terms on its forex debt, marked-to-market losses, and rollover of hedged positions will increase.

In last few years India Inc has been borrowing heavily to take the advantage of interest rate differentials between the domestic and international market. According to a study by Crisil Research, India’s largest independent and integrated research house, “for companies in the CNX Nifty (excluding banking and financial services), around 40 per cent of debt is denominated in foreign currency. In total, corporate India had forex debt outstanding of over USD 200 billion as of March 2013, of which close to 45 per cent is short- term debt. Moreover, only half their forex exposure is hedged. Persistent weakness in the rupee and heightened volatility has reduced the benefits of borrowing”.

Depreciating rupee will definitely hurt the performance of the companies in the sector such as automobiles, oil marketing companies and consumer durables; upside is also limited for the export-oriented companies, which are supposed to be the biggest beneficiaries of a depreciating currency. As the clients start renegotiating the prices and force these exporters to bring down the prices. 

Therefore, depreciating rupee over-all will have negative impact on India Inc performance baring couple of sectors that too see gain for a shorter duration. Since such impact cannot be generalised and will depend upon various other factors, DSIJ team has sliced and diced these six sectors and company from these sectors to let you know the exact impact of depreciating rupee and take sound investment decisions.

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Automobile

Cross-currency fluctuations affect the automobile sector in several ways. The effects are primarily seen on:

• Export of vehicles
• Import of raw material and other components
• Foreign denominated loans
• Royalty payments

However, there is no trend that is specific and homogenous across the industry. Each player has different dynamics in terms of the above points. In order to analyse the impact of the rupee movement on the sector, companies have to be analysed individually.

Export Of Vehicles 

The Indian automobile industry is dominantly dependent on domestic sales. However, exports too are not negligible. Hence, the fall in the rupee does auger well for companies with a higher export component. Among the listed automobile companies, Mahindra & Mahindra (M&M) exports four per cent of its vehicles, in terms of volumes. At the same time, exports account for 34 per cent of total sales

In FY13, BAL earned Rs 6565.34 crore in exports. This translates to an export component of 32 per cent in total revenues. There is no doubting that with such a high export component, the depreciation in rupee will benefit the financial performance of BAL.

Another company that has tremendous exposure to foreign exchange is Tata Motors (TML). On a standalone basis, roughly seven per cent of its total sales come from exports. However, the existence of Jaguar Land Rover (JLR) changes the picture completely for TML. India accounts for a mere 0.83 per cent of the total sales of JLR while the rest comes from across the globe.

Over the last few months, the Indian Rupee (INR) has depreciated against the British Pound (GBP) which creates a situation that should benefit TML. Considering the fact that more than 75 per cent of Tata Motors’ consolidated revenues come from JLR, the situation seems favourable. However, it is important to note that the USD, the Chinese Yuan (CNY) and the Russian Rouble (RUB) have appreciated against the GBP, thus wiping out a substantial portion of the gains.

Hero MotoCorp (HMCL) had so far been restricted from exporting its vehicles because of its pact with Honda. In FY12, exports contributed to a mere 2.5 per cent of the company’s revenues. However, it is planning to increase this share to 10 per cent in the next four to five years. It launched its brand in Sri Lanka and Nepal in September 2012, Central America in May 2013 and Africa in July 2013. It plans to continue expanding its international foray and is thus expected to benefit from the rupee fall.

Import Of Raw Material And Other Components

Over the last few quarters, there has been a substantial easing in raw material and component prices. This should ideally bring some relief to automobile manufacturers. However, this is applicable only in cases where sourcing is domestic. With imported components, the depreciation of rupee has caused an offsetting of this decline in prices. However, imports form a small part of the total material consumption, and thus do not affect the financial performance of automobile manufacturers drastically.

For Maruti Suzuki (MSIL), 11 per cent of raw materials and 10 per cent of stores are imported. As much as 38 per cent of machinery spares are also imported but this amounts to a mere Rs 46 crore, which is minimal when compared to the total expenditure of MSIL. But to minimise the impact of currency fluctuations and further improve efficiency, MSIL began a major drive source all its parts locally and created a dedicated organisation structure to achieve this objective. In FY12, it saved Rs 84 crore through this method. Even with a small import component, MSIL managed to improve efficiency through localisation, thus reducing the impact of the rupee fall.

BAL imports five per cent of its raw materials and two per cent of its components thus remain unaffected by a depreciating rupee. This makes the rupee fall a stronger case for BAL because of its high export component.

Foreign Denominated Loans 

The one player that would be negatively affected by a large exposure to foreign debt is Tata Motors. 

MSIL has foreign currency loans but it hedges these positions. In FY12, it used hedges worth Rs 243.4 crore against the JPY and Rs 549.5 crore against the USD to cover its foreign loans. TVS Motor too has foreign currency debt worth Rs 29 crore. 

A drop in the rupee creates a negative impact on the foreign denominated debt that a company has, thus affecting its overall performance.
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Royalty Payments 

Due to alliances with foreign players, certain Indian automobile manufacturers have to make regular payments abroad. A good example of this is the impact of the INR-JPY (Japanese Yen) movement on the financials of MSIL. In FY12, MSIL had made a payment of Rs 1803 crore for ‘running royalty’ and Rs 201.5 crore for ‘lumpsum royalty’. An appreciation in the yen causes an increase in the rupee cost of these royalty payments, thus negatively affecting MSIL. 

Similarly, HMCL had to make payments of Rs 3.53 crore for ‘royalty’, Rs 6.82 crore as ‘technical guidance fee’ and Rs 172.09 crore as ‘model fees’. This resulted in total foreign exchange outgo of Rs 1022.32 crore for HMCL in FY12 and total foreign exchange earnings of RS 589.64 crore. The overall impact on HMCL would thus be negative at the moment. But, as mentioned above, this will skew towards being positive going forward, as HMCL concentrates more on international business.

While some benefit out of cross-currency fluctuations, others suffer; depending on the dynamics of the respective company. 

Among the major listed players in the industry, BAL is expected to benefit from the fall in the rupee because of high export content.

In the case of TML, the positive translational impact from JLR earnings is expected to more than offset the negative translational impact of foreign debt thus benefiting TML. 

For MSIL, export revenues are expected to positively influence the company and offset the negative impact of royalty payments, raw material imports and foreign debt. TVS too will see exports offsetting the impact of imports and foreign debt. 

Resulting out of low exports and imports, the effect on HMCL and M&M is expected to be neutral.

FMCG

India’s consumption story has always remained unabated even in turbulent times. This is the main reason behind the outperformance of the BSE FMCG index when compared to that of the Sensex. On a YTD basis, the FMCG index has given returns of 27 per cent as compared to 3.68 per cent witnessed in the Sensex. But this is not our concern. Here, we are here dealing with the impact of the rupee’s fall on the FMCG sector.

We have taken into consideration the 10 large players in the FMCG space for our analysis. Eight companies out of the 10 are currently exporting their products. Although the tumbling INR may bode well for such companies, the exact impact of the rupee’s fall will be seen through the percentage of exports in the total sales. At the end of FY13, on an aggregate basis, exports comprise merely 2.76 per cent of the total sales. In fact, on a YoY basis, exports have declined by 23 basis points for FY13.

The companies that have the highest exports as of FY13 are ITC (8.53 per cent of its total sales are exports), followed by Emami and Dabur India which had exported 6.30 per cent and 6.13 per cent respectively. Therefore, we do not see any direct impact of the falling rupee on these companies.

However, a weakening rupee has made imports costlier, which might add to the cost of sales. Nevertheless, analysing these companies individually reveals their import component is minimal with Godrej Consumer Products having the highest percentage of imports as compared to its sales and stands at 7.7 per cent at the end of FY13. Besides this direct impact, rising fuel costs may add some pressure to the overall costs.

It has been observed that whenever the company expects the cost of sales to be moving northward, they have an option of passing on the costs to the end consumers. Therefore, we feel that the companies in this sector remain least impacted with the crumbling rupee against the dollar. Moreover, a decline in the commodity prices will offset most of the direct as well as indirect costs due to the INR’s fall. The sector is a pure play on the consumption story of India and investors are betting big on the companies in the sector at this juncture.

In the last quarter of FY13, companies have put in strong numbers backed by volumes growth and better realisations. However, the one concern that remains an overhang on the sector is higher valuations. But this gets neutralised when we look at the earnings’ visibility of the companies which is purely based on the consumption-led picture of India. We do not see any major impact on the sector due to the depreciating rupee. We still remain bullish on FMCG as Dabur India, Emami and Godrej Consumer Products remain our top picks.

Hospitality

One industry which has a direct co-relation with the depreciating rupee is hospitality. India is fast becoming one of the favourite holiday destinations for tourists around the world, and a significant increase in the influx of foreign travellers in the past few years vindicates the same. The arrival of tourists in India has witnessed a CAGR of 8.6 per cent in past six years, touching 6.57 million in 2012.

If we take a look at the current situation of the Indian tourism industry as a whole, after witnessing marginal growth in the March quarter of 2013, the Indian tourism and hospitality industry has experienced a slower second quarter of 2013. Data posted by the industry to ASSOCHAM shows that the Indian tourist outflow (out-bound travellers) has registered a significant decline of 16-18 per cent in the last two months due to the depreciating rupee. Industry players suggest that travel costs and accommodation for vacationing abroad has gone up by around 20-25 per cent over the last three months due to the dipping currency. As a result, Indian tourists are either cutting their vacation plans short or have completely shelved their plans.

But the other side to the story is that while people are holding off on foreign tours, they are opting for holidays within the country. Apart from that, while outbound tourism has taken a hit, industry experts believe that the fall in the rupee against the dollar has seen travellers shift focus towards India as an emerging, and more importantly, a practical destination to explore.

Slump In Outbound Travel 

The first aspect of the story is that outbound travel may experience a slump. The devaluation of the rupee, which has touched an all-time low against the dollar, has not only affected the Indian economy but is likely to have a big impact on this tourism segment. In fact, the industry players expect to see a negative impact of the rupee drop in the second half of the calendar year.

The depreciation in the currency has caused a 15-20 per cent drop in outbound travel to dollar destinations, which are usually full during the holiday season. If the economy sees a further disbalance between the rupee and the dollar, the rest of the year might see outbound travel seeing going down by as much as 30-35 per cent. However, there are still certain positives to the story. While outbound travel is impacted, on the other hand, there are short haul and domestic vacation gains. Apart from this, inbound travels are expected to witness growth, and some early indications are already evident.

Inbound Travel To Take Wing

With the falling currency bringing down the overall package costs on one hand, and increased buying power on the other, foreign tourists are cashing in on the rupee slump. The inbound arrivals during the period from January to May 2013 were at 2.86 million, with a growth of 2.1 per cent. The foreign exchange earnings from tourism (in rupee terms) during January to May 2013 were at Rs 43412 crore, with a growth of 16.5 per cent from that of Rs 37275 crore between January to May 2012.
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June is normally the month when most tourists abroad firm up their travel plans, and India could well be their preferred destination. Foreign tourist bookings for the winter season have seen a surge, and the inbound industry has already seen an approximately 20-25 per cent increase in the number of enquiries. An industry report has also suggested that India’s popularity as a holiday destination has reached a record high since the rupee started to weaken and the country is now the most widely looked up holiday destination online. The scenario is such that tourists who had previously visited India in the cheaper off-season are now enquiring about the availability of more expensive rooms. So naturally, the demand is expected to rise. 

Put in perspective, we expect the positive factors to score over the negative ones. While tour operators like Thomas Cook and Cox & Kings may suffer a setback on account of lower outbound travel from India, this is expected to be compensated by increased domestic and short haul travels. Hotel players may see major gains, as we expect the occupancy rates to increase in the second half of CY13. The average room rates are also expected to improve as the peak season starts. 

All in all, one can look forward to a better performance from tourism players in the second half of FY14. Thomas Cook is our pick from this industry. The scrip is still trading at 28x its trailing four quarter earnings. The institutional holding in the company is at a healthy 12.57 per cent.

IT

The size of the Indian IT industry was approximately USD 95 billion as of FY2013. Of this huge industry, exports account- ed for more than 80 per cent of the total revenues, at USD 75.8 billion. The industry’s exports are so large that they account for 25 per cent of India’s total exports. Now, with an exposure to foreign currency to this extent, the sector is bound to not only be affected by cross-currency fluctuations, but actually depend on them as a major revenue determinant. 

The impact of the fall in the rupee can be gauged directly by reviewing the revenues of IT companies. When sequential growth in revenues is compared in dollar terms and rupee terms, the difference can be clearly visible.

Revenues of TCS, in Q1FY14, grew by 4.1 per cent in dollar terms. However, in rupee terms, growth stood at 9.5 per cent. This does, to an extent, create a confusing picture to analyse real growth. But this can be judged by looking at constant currency growth. In the case of TCS, constant currency growth stood at 4.8 per cent on a sequential basis in the quarter under review. 

This stands true for every export-dependent IT company. In Q1FY14, Infosys reported USD revenue growth of 2.7 per cent QoQ. However, rupee growth was reported at 7.8 per cent. Its constant currency growth stood at 3.4 per cent. 

If revenues of the four big Indian IT companies (TCS, Infosys, Wipro and HCL Tech) are averaged, 56 per cent of revenues come from the Americas, 27 per cent from Europe and 13 per cent from the rest of the world. India contributes to all of six per cent of the total revenues. This makes it rather obvious for the Indian software space to be heavily affected by currency movement. 

The fact that the rupee has slid in recent times makes it highly beneficial for Indian IT companies. Even in the case of lower volumes or pressure on pricing, these companies would be able to gain better realisation on their foreign denominated revenue sources and hence maintain their financial performance. 

There has been pressure on the Indian IT industry lately because of the global IT spending cuts and poor macroeconomic indicators. There are several factors that had helped the industry remain buoyant. While the high growth seen in the emerging technologies of social, mobility, cloud and analytics and emerging geographies of continental Europe provided for substantial support, these areas form a small part of the total revenue pie of the industry. 

This quarter has seen considerable traction from the US, which has been showing signs of recovery. At the same time, Europe continues to remain weak. However, despite these factors, the major contributor to the IT sector’s healthy financial performance has been the depreciation in the rupee. 

Let us consider that depreciation is passed through the profit and loss statement without accounting for the impact of hedges, which vary from company to company and can range anywhere from 10 to 30 per cent of their revenues. The EPS of all IT companies dependent on exports is thus likely to improve.
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Oil & Gas

T he falling rupee is definitely going to dent the financials of the public sector energy companies. As an energy-starved country, India imports more than 70 per cent of its crude oil requirement and every drop in the rupee sends shockwaves across the economy as it directly increases the under-recoveries of the oil marketing companies (OMCs).

During the fortnight starting July 16, OMCs were incurring daily under-recovery of RS 362 crore on the sale of kerosene, LPG cylinder and more importantly diesel. This was at a level of Rs 358 crore per day for the fortnight ending June 30. This itself demonstrates the gravity of the situation as the current account deficit (CAD) of the country is still very high and a further decline of the rupee can play havoc in the sector and the economy.

According to estimates, per rupee decline can add up to Rs 9000 crore of an additional oil subsidy burden on the government and upstream companies. During FY13, the total subsidy on petroleum products stood at Rs 161029 crore and around Rs 60000 crore of this was borne by upstream companies like ONGC, OIL and GAIL. 

The government fully deregulated petrol and started phasing out diesel subsidy from January 2013. Also, a cap on subsidised LPG cylinder was introduced. Through these steps, the government targeted a subsidy burden of Rs 80000 crore for FY14 but the free-fall of rupee has unsettled the government’s applecart.

A petroleum ministry statement says that the falling rupee and increasing crude oil prices have led to the OMCs losing Rs 9.45 per litre on diesel in the fortnight starting July 16, while it stood at a level of Rs 8.60 per litre during the first two weeks of July 2013. Under-recoveries in domestic LPG and kerosene reached a level of Rs 368.58 per cylinder and Rs 30.52 per litre respectively during this period. 

The average price of crude oil basket touched USD 103.73 per barrel from an earlier USD 101.24 in this period. This is mainly attributed to the decline in the INR. As per an estimate of ICRA, the under-recovery can go up to a level of  Rs 1.34 lakh crore during FY14 if the rupee remains at a level of 60 per USD and crude prices stay around USD 105/barrel. The entire equation of OMCs and upstream companies can go haywire in this case.

A Big Concern For Upstream Companies 

During FY13, ONGC shared a burden of Rs 49421 crore while OIL’s share was Rs 7890 crore out of the total subsidy burden of Rs 60000 crore. Sudhir Vasudeva, CMD, ONGC says, “We have a huge capex plan of Rs 11 lakh crore by 2030 but the only issue is the subsidy burden, due to which our surplus fund generation is getting stranded. Last year, we paid Rs 49421 crore and with a declining rupee, the situation is getting worse”. 

In the current scenario, tumbling rupee has played spoilsport as there may be a situation where the upstream companies will have to shell out bigger amount in terms of subsidy burden as compared to FY13. 

As per the FY14 budget estimate, oil subsidy is pegged at just Rs 65000 crore and Rs 45000 crore has already been assigned to the subsidy burden target of FY13. In such a situation, just Rs 20000 crore remains with the government for FY14. If subsidy goes up to Rs 134000 crore, there will be a huge pressure on upstream companies for a large portion of over-subsidy as the government wants to keep its fiscal deficit low to a targeted level of 4.8 per cent for FY14.

Interest Burden Will Play Havoc For OMCs 

This situation is grim on the part of OMCs as the release of the government’s part of subsidy usually takes some time (around 6-7 months). OMCs will thus have to borrow huge amounts of money to meet its working capital requirements. This increases its interest costs, hampering the financials of OMCs. During FY13, as release of subsidy by the government got delayed, for IOCL alone there was an increase of Rs 1189 crore in terms of interest costs. In such a scenario, if the rupee remains weak and under-recoveries keep piling up, the borrowing of OMCs (in USD denomination) will also increase. It is important to note that the government only compensates OMCs for the under recoveries and not for the interest burden on working capital. This clearly eats into the profitability of the OMCs. During the current financial year, the interest cost is likely to go up as the rupee seems quite volatile and it is very difficult to assess the levels of subsidy burden. 
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In addition to government-owned companies, there are some big players in the energy sector that are likely to get positively impacted by the all in the rupee. Reliance Industries and Cairn India are two such major companies to be benefited as the price of the crude oil is in US dollar terms. Although 88 per cent of RIL’s total debt is foreign denominated, its large exports provide it a natural hedge and the net impact will help it improve its EPS by 3 to 4 per cent in FY14, if the rupee remains at the current level. 

The depreciating rupee will thus have different impacts on public and private companies.

Pharmaceuticals

As a prudent practice, all exporters hedge their export income. With the pharma exports’ market accounting for a significant chunk of the exports’ revenues, pharma companies too have begun to adopt this practice. Over the last few years, this sector has been generating higher sales due to a generic boom in the advanced markets. It, however, should not be ignored that the rupee depreciation acted as a booster dose for the pharma companies to further increase their financial performance. 

The Indian Rupee (INR), during the April-June 2013 quarter, tumbled by 10 per cent. Clearly, this looks like a boon for the pharma sector. There are two aspects of looking its impact on the pharma sector - one is on the operating side and the other one on the balance sheet. The companies that have hedged their positions near the level of Rs 60/dollar on the operating side and no outstanding foreign debt, stand to gain from the rupee depreciation.

The top 10 Indian pharma companies reported total exports worth Rs 14784 crore for the March 2013 quarter, which accounted for 73 per cent of the total revenues generated by these companies. The exports of these top companies have gone up by 29 per cent YoY and therefore maximum companies stand to gain on the operating front. However, the hedging positions also need to be considered.

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Following is an analysis of rupee depreciation on the top pharma companies: 

Cipla as of March 31, 2013, had an outstanding position of USD 210 million hedged at Rs 55 per dollar but the rupee at 60 per dollar could see the company reporting a translation loss during the quarter. 

Dr Reddy’s Labs has been reporting a decline in forex losses over the last few quarters. The reason is its hedging near the spot price. The company has foreign currency cash flow hedges for USD 480 million (Rs 2880 crore) for the next 18 months, largely hedged around Rs 56 to Rs 59 to a dollar. The company also has balance sheet hedges of USD 350 million (RS 2100 crore). The overall impact on the company should thus be positive in the quarter. 

Lupin has also hedged positions but has declined to give any information about this. The company has some foreign currency debt but that is in the form of working capital loans and not as long-term liability.

Cadila Healthcare too has foreign currency borrowings worth around Rs 1000 crore. The company, in the March 2013 quarter, reported a net forex loss of Rs 9 crore while in the December 2012 quarter it reported forex loss of Rs 47 crore. With the rise in the foreign debt, the company could see rise in the translation losses in the quarter. The company also has no hedges. 

Aurobindo Pharma does not have any outstanding hedge at the moment. In fact due to the forex debt and exports revenues, company enjoys partial natural hedge. The company has an outstanding forex liability of Rs 3227 crore and it will have to reinstate this liability as per the current exchange rate which we believe would be negative for the company. 

Glenmark Pharma has unhedged positions and is repaying a forex debt of Rs 476 crore in the current fiscal and hence the impact would be negative on the company. 

IPCA Laboratories has a policy to hedge 40 per cent of its exports. The company did not provide any information on its hedging levels due to the upcoming June 2013 quarter results. It should be noted that in the March 2013 quarter, the company reported forex gains of Rs 7.77 crore and with the rupee’s low levels, we expect forex gains to rise. 

Divis Labs does not have any forex debt and revenue hedges. It would thus benefit from the rupee depreciation.

Torrent Pharma has hedged its foreign currency loans as well as revenues and hence the impact should remain neutral on the stock. 

Ranbaxy Labs has an outstanding dollar denominated long-term loan of Rs 1693 crore. It also has significantly high unhedged position in payables. The company has seen decline in its US revenues and hence the impact should be negative on Ranbaxy Labs.

Sun Pharma and Strides Arcolab have very specific issues when it comes to the impact of the INR’s downfall.

Sun Pharma is required to pay USD 550 million to Pfizer as a settlement fee as it lost the litigation pertaining to Pfizer’s brand Protonix. This liability would wipe out Rs 3300 crore from its balance sheet if worked out at Rs 60/dollar. It however has no forex liability and hence we expect the impact to be positive on the operating side. 

Strides Arcolab sold its injectables business to the US-based generic company Mylan for USD 1.6 billion in March this year. The rupee was trading near 55/dollar at that time but at 60/dollar, the divestment should add another Rs 900-1000 crore to Strides Arcolab’s kitty. Largely, the pharma pack, barring a few expectations, should mostly show gains arising out of the rupee depreciation. 

Praful Bohra, Senior Pharma analyst with Nirmal Bang told us that the impact of the INR’s downward movement would be mixed on the pharma sector. “The companies having low or no hedges against the dollar would benefit from the rupee depreciation while those who have hedges at lower levels or have forex denominated debt would get impacted due to reporting the mark to market values. Companies such as Jubilant Life Sciences, Aurobindo Pharma and Cadila Healthcare would face a negative impact, with their forex denominated debts while Cipla, Divis Labs would benefit, thanks to the lower hedges”, he said. Bohra further added that the positive impact of the Indian currency’s depreciation would be partially mitigated by hedges for Lupin and Dr Reddy’s Labs while for Sun Pharma, it will be mitigated by the presence of its large subsidiary in the US (Taro).