»5 Minute Wrap Up by Equitymaster

On This Day - 5 SEPTEMBER 2012
Can investors know more than what companies tell?

In this issue:
» Is it too early to bet against China's growth miracle?
» ILO believes youth unemployment getting worse
» Will promotion quota hurt PSUs?
» Who is next in CAG's hit list after CIL and ONGC?
» ...and more!

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Number crunching is not for everyone. Especially for those who get palpitations at the very thought of numbers. But does that mean that they can never or will never be successful investors? After all, most of the investment gurus talk about the importance of good numbers in order to make a good investment. Well there is one financial guru who does not think so. And this gentleman is someone whose name is revered even by the likes of Warren Buffet himself. The gentleman is Mr Philip Fisher.

In his internationally acclaimed book 'Common Stocks and Uncommon Profits', Mr Fisher has outlined the investment process that he himself followed. The process is easy and simple in its outline. But of course like any other investment process or philosophy, it also requires determination and discipline to follow. In the book he has outlined the importance of something called 'scuttlebutting'. This involves talking not just to the company's management but also to its clients, suppliers, etc. Basically cover the entire value chain in order to get a clear picture of the company's past, present and future. If everything is in order and there are no negative surprises, the idea is to then invest in such a company and hold it for a long period of time.

Mr Fisher's book and investment philosophy can be a guiding light even to investors who are not acquainted well enough with sophisticated investment terminologies. But it is important to note here that just following his philosophy cannot do away with an opinion on the numbers altogether. Fundamental analysis is the prudent combination of numbers and scuttlebutting. The two complement each other to make it an ideal way of earning long term returns. Following one without the other can lead to disasters as numbers can be misleading. And competitors, clients and suppliers can have a larger than life viewpoint which may or may not hold true.

We will continue to review more such books, which are a must have in an investor's shelf, over next few days.

 Chart of the day
While Indian companies aim for a bigger share of revenue from the hinterlands, it seems that the rural story is losing its promise. As today's chart shows, the lower revenue from kharif crops like cotton is expected to substantially impact farmer income growth in 2012. In fact at 5.5% in 2012, the income growth will be less than half of the 12.4% growth seen in 2011. Given the steep inflation levels even in rural areas, consumer affordability is bound to be affected.

Data source: Mint

The Parliament is in a logjam over the coal-gate scam. In the meanwhile, the Union Cabinet has approved a Constitutional Amendment provision on 'promotion quota'. This amendment will clear some legal hurdles in formalising reservations in promotions in government jobs for Scheduled Castes and Scheduled Tribes (SC/ST). An earlier ruling by the Supreme Court required states to justify promotion quota. This was by showing evidence of inadequate representation and backwardness of beneficiaries. Moreover, it was also required that the quota policy should not negatively affect efficiency of administration. However, if the proposed bill is passed in Parliament, it will insulate 'promotion quota' from all the conditions laid down by the Supreme Court.

In a country plagued with extreme income inequality and rampant caste-based discrimination, reservations do have an important role to play. They give neglected and underprivileged people an opportunity to raise their standard of living. But reservations should be implemented in a way that the right people get its benefit. Hence, the conditions placed by the apex court were indeed necessary. But the UPA's move seems to be simply aimed at gaining political mileage. This, we believe, can turn out to be just a burden to the nation.

Do you think the 'promotion quota' will affect efficiency of PSUs? Do let us know your views or post them on our Facebook page / Google+ page

As the global economy continues to slowdown, things are getting worse for nearly everyone. Irrespective of their age, religion or nationality. But the generation that seems to be bearing the maximum brunt of it is the youth. As per the International Labor Organisation (ILO), the unemployment in the age group of 15 to 24 years is getting worse. It is set to increase to 12.9% by 2017 from its current level of 12.7%.

The problem is that even if the global economy accelerates, these youth may not find a job soon enough. As a result, unemployment rate would continue to be high. Considering that this is the generation that will spearhead future economic growth, the unemployment rise is a serious concern for all countries. As per ILO, the only way to resolve the situation is through global policy reforms. Reforms that would drive growth in every economy. That is the foundation for long term sustainability.

After the Coalgate scam, the Comptroller and Auditor General (CAG) has tightened the noose on PSUs. With Coal India out of the way, the latest entity to face CAG's wrath is Gas Authority of India Limited (GAIL), the key domestic player in the Indian natural gas sector. The sector is already facing multiple challenges like losses on selling fuel at lower prices and shortage of gas supplies. While the entire nation is debating the feasibility of fixed fuel prices, the CAG report alleges GAIL of selling gas at cheap rates to private sector power producers. It is to be noted that the latter in turn sells power at market rates. The entire act is against the Government directive and has led to a loss of Rs 2.5 bn.Another oil company under its scanner is none other than Oil and Natural Gas Corporation Ltd. (ONGC). The company was recently accused by CAG of showing poor drilling efficiency. The latest charge is that it is acquiring products without competitive bids, a must for any public sector company. What is ironical is that the Government, already a key convict in the Coalgate scam, happens to be the key promoter in both the companies. As the Government is having a tough time defending itself against CAG moves, we will not be surprised to see reforms take a backseat.

Things are not looking particularly rosy for the Indian auto as well as the auto ancillary industry. As inflation has stayed firm, the central bank has not been enthused about cutting interest rates. Thus a combination of high interest rates and steep rise in fuel prices has played a hand in dampening demand. Companies have also been facing pressure on the margin front. This is due to rising raw material costs and steep rupee depreciation. Plus, the market leader Maruti Suzuki's troubles at the manufacturing plant at Manesar have only piled on the woes.

But despite these near term headwinds, auto companies have not really cut back. They have been investing to keep up the pace of new product launches. These developments will be mirrored in the performance of auto ancillaries as well. The sector is cyclical. So, despite some near term hiccups, the long term story remains intact as the government lays emphasis on ramping up infrastructure (especially roads). What is more, the Heavy Industries Minister Praful Patel also holds a favourable view on the sector. He expects the auto as well as the auto parts industry to touch US$ 145 bn by 2016.

Are you betting on the end of the China's growth miracle? If you are, then an article in Business Week advises you against it. And it offers the age old argument to support its case. The productive capacity of a nation does not lie within its natural resources. Nor does it depend on the nation's location on the map. At its core, it is a function of nothing else but the skills and size of the workforce and also the country's accumulated intellectual and physical capital.

And Business Week takes the support of these very arguments to present its case. It opines that the shift of Chinese labour from agriculture and into manufacturing and services could alone account for 30% of the country's continued growth. And then there are the considerable opportunities to increase labour productivity through education. Thus, by 2025, the dragon nation will have to reach levels of university enrolment similar to those of Western European nations. And this might alone add more than 6% to growth rates.

Well, there's no arguing that the route suggested by the business magazine is certainly the right one. But the China of today appears ill equipped to go down this path we believe. Its growth up to this point has come about mainly due to infrastructure spending and thrust on exports. But to move into a still higher orbit, it may have to completely overhaul its present way of functioning. And how the dragon nation solves this problem will ultimately decide its fate over the next few decades.

Right from start of the session, the indices in Indian equity markets moved deeper into the negative territory today, with no signs of recovery. The BSE Sensex was trading lower by around 116 points at the time of writing. Commodity, banking and engineering stocks were under the maximum selling pressure. Most other Asian indices closed lower today while Europe also opened on a negative note.

 Today's investing mantra
"We like stocks that generate high returns on invested capital and where there is a strong likelihood that it will continue to do so. For example, the last time we bought Coca-Cola, it was selling at about 23 times earnings. Using our purchase price and today's earnings, that makes it about 5 times earnings. It's really the interaction of capital employed, the return on that capital, and future capital generated versus the purchase price today." - Warren Buffett

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