Beyond DCF: The Oxford Dictionary defines the word “Plutocracy” as a society governed by the wealthy. Accordingly, the “plutocracy” label is usually attached to countries such as present day Russia or to societies such as ancient Greece or the Republic of Venice in the 16th century. India is fast emerging as a heavyweight entrant of this club. Why do I say so and what implications does it have for investors? Let us focus on the “why” first.
Recently, the Asian Development Bank published a study (“India 2039 - an affluent society in one generation”) highlighting that that India has 50 billionaires who together control wealth equivalent to 20% of gross domestic product and 80% of stock market capitalisation. Concentration of immense wealth (and the power that goes with it) in the hands of a select few is one would think fairly commonsense criteria for entry into the plutocrats club.
Secondly, one of the features of the Indian stockmarket over the past four years has been the visibility and rising importance of realty, infrastructure and construction companies (loosely called “infrastructure” in this column). Infrastructure now constitutes nearly 20% of the BSE 500 by market cap, up from 13% five years ago. Whilst there are fundamentally sound reasons for this sector coming to fore, if there is one sector where politics and business works hand in glove to enrich each other, it is infrastructure. In our daily interactions with these companies and their financiers, we cannot but help notice how deeply embedded politicians and/or political power brokers have become in the Boardrooms of these companies.
Thirdly, there is the RIL-RNRL saga being played out in the full glare of the media. Leaving aside the vexed issue of which of the two companies is in the right, one cannot help being astonished by the sheer punch that each Ambani brother packs in the corridors of power in Delhi. Add to that the sheer size of two Ambani empires (the Reliance companies in totality account for 14% of the BSE 100’s market cap and nearly 6% of the Indian economy) and one can safely say that we are looking at not just two of the wealthiest people who have ever lived anywhere in the world but also two of the most powerful people in India.
So if India is on its way to becoming a plutocracy, what implications does it have for investors in India? The first and obvious implication is that to be a large and successful investor in the long run, you have to have strong political connections. As a contact of ours in the Infrastructure sector says “apart from experience, political connections matter a lot in winning small to large infrastructure/ construction projects”.
Beyond winning contracts, political connections also give you powerful informational advantages as is evident from the successful “political consultancy” business that a friend of mine runs in Delhi – he specialises in helping investors stay on top of the latest thinking in high places on subjects such as the 3G licenses, Governmental infrastructure subsidies, Governmental spending plans, etc.
Secondly, if politicians are as important for investment success in India as I am making them out to be, it stands to reason that rather than being satisfied by a base fee they will want a cut of investment returns. So investors’ “carry” or upside assumptions need to be revisited accordingly.
Thirdly, since most politicians’ careers fluctuate, unless investors are able to associate themselves with politicians from across the political spectrum, their investment returns too will fluctuate in line with the fortunes of their political contacts.
Finally, to the extent that what I have described above is already part of the status quo but is not reflected in your investment strategy, you might want to dig deeper into the ownership of the subsidiaries of listed Indian companies. You might then find some very powerful non-businessmen holding large stakes in the subsidiaries of listed entities. To understand the true value of the listed entity, you could then knock off from it value of the powerful non-businessman’s sizeable minority stake in the subsidiary. If you were the person holding the regulatory keys to the biggest infrastructure contracts, I don’t think you would be attaching any sort of discount to the value of your stake in those projects. Astonishingly that is what many analysts assume when they attach attractive valuations to such infrastructure companies with undisclosed investors at the subsidiary level. So much for the efficient market hypothesis.