[RLNGF] RELIANCE INDS LTD REG S GDR ADR - India
Building the New India
AFTER MORE THAN a decade working outside India, Piyush Gupta returned to
his homeland two months ago, exchanging the security and prestige of an
international assignment with the Citibank unit of Citigroup for the uncertainties
and turbulence of a local dotcom.
His return says much about how India is changing--and more importantly about
how the world is changing in a way that benefits India. "Indian companies
couldn't make it in the industrial age," says Gupta, CEO of go4i.com. "But the
knowledge economy plays to India's strength. India is evolving up the
value-added chain in the New Economy."
There have always been two Indias, or at least two types of Indians. There are
those who live by their muscle, a group that has always encompassed the vast
majority of India's 1 billion-plus population. And there are those who are fortunate
enough to make their way on the basis of their intellectual power. For the second
group, that generally has meant taking advantage of opportunities outside India.
Today, Indians hold top posts at some of the most formidable organizations in
the world--institutions such as Citibank itself and Lucent Technologies' awesome
Bell Labs.
But now, for the first time, the brains of India are returning and powering New
Economy companies back home. They are also transforming other parts of the
economy, taking traditional, low value-added companies such as copycat
pharmaceutical firms and pushing them up the value-added curve.
As this new sliver of globalized India grows, the increasing income of these
professionals and the people they employ is giving rise to a surge in domestic
demand for everything from Honda cars to Pepsi soft drinks. Indians working in
India--even in the most globalized firms in the most globalized industries such as
finance--used to be paid a fraction of what their counterparts in other countries
earned. But as competition for top talent heats up, they are swiftly climbing the
pay ladder.
Both foreign multinationals and local companies, even in relative backwaters like
Calcutta that are far from the feverish centres of the New Economy such as
Bangalore, are offering salaries to top managers equivalent to those paid in New
York or Silicon Valley. Gupta got a taste of the wage explosion as he searched
for employees for his start-up. In the several weeks between the time he poached
his first employee from a pharmaceutical company to the time he went after his
second, he found salary expectations had shot up 30%.
The implications of this rapidly growing group of well-off consumers are
widespread. Their presence and spending create economic opportunities for
entrepreneurs further down the food chain. And the spreading wealth makes India
a more attractive place for multinationals to ply their goods--and even produce
them. The ripple effects are not endless or exhaustive, but they are substantial.
"This is a new age which we couldn't have imagined even two years ago," says
Nanoo Pamnani, the Bombay-based head of Citibank's India operations.
Neither the new optimism nor the vast potential of Indian companies, however,
completely outweigh the dangers of investing in India. The Bombay stockmarket
is volatile, even by the dizzying standards of Asia, especially now that the
technology, media and telecoms industries account for 42% of Morgan Stanley
Capital International's India index. When the Nasdaq market dropped in March
and then fell more violently in April, the Bombay Stock Exchange plunged even
further, losing 25% of its market capitalization in weeks (and taking the market
to the level it was at six years ago). "Appealing valuations, nerve-racking
volatility" is how Ridham Desai, head of research for JM Morgan Stanley in
Bombay, describes the Indian market after the violent fall.
Many macroeconomic indicators also remain dismal. Foreign direct investment
is declining despite all the anecdotal evidence of South Korean computer
makers, Chinese television builders and American car companies piling into the
economy. Nonoil imports and capital spending both remain subdued. That
means timing the Indian market requires great skill. But the changes under way
have convinced most analysts that it's only a matter of time before both the
market and its listed companies come of age.
NEW ACCESS TO CAPITAL
Gupta's go4i.com highlights some of the factors working in India's favour. The
portal was founded by the influential Birla family, which runs The Hindustan
Times, one of the country's main daily newspapers. The start-up received $11
million in seed capital from Chase Capital Partners, the private-equity arm of
Chase Manhattan Bank. Indeed, Chase is so optimistic about the New Economy
in India that it has made Bombay, not Hong Kong or Singapore, its centre for
Asian technology investments.
And that's part of the story as well. Money used to be both a major constraint
and a competitive disadvantage for Indian companies. At about 27%, Indian
savings rates are low by Asian standards. That low savings rate and the
government's voracious appetite for funds has led to a combined state and
federal fiscal deficit approaching 9% of GDP and interest rates much higher than
those elsewhere in the region. But that was yesterday's drawback. Now, as
equity investors discover the Subcontinent, Indian companies have access to
another source of capital.
Nobody better understands just how dramatically circumstances have changed
than Ajit Balakrishnan, one of India's few and foremost serial entrepreneurs. At
the end of June, Balakrishnan's rediff.com listed on America's Nasdaq market,
becoming the first Indian portal to do so. The initial public offering was 19 times
oversubscribed and the stock price rose 61%, to $19.31, on the first day of
trading. The timing of the listing was especially noteworthy, coming when
dotcoms were universally out of favour with investors.
"The advent of all this capital is a wonderful thing. It has unleashed an energy
here which is unbelievable," says Balakrishnan in his Bombay office. "In the
past, there was no risk capital. There was no way to bring innovation to fruition."
When Rediff was founded in 1995, Balakrishnan funded the company himself
using profits from an advertising business he had built up earlier. He later raised
$20 million from offshore investors including Draper International, Intel, Citicorp,
General Electric and Warburg Pincus. The capital that Balakrishnan and other
entrepreneurs have raised is smart money. "Investors like Bill Draper gave us a
road map for how a company evolves," he says. "The capital we got gave us both
connections and insight."
These top-flight investors are drawn to companies like Rediff because they stand
up to international comparisons in a number of areas. These include costs--the
"burn rate" at which Indian companies spend their backers' money is lower than
elsewhere--as well as product quality and the size of the potential market. Rediff,
for example, offers an English-language site in addition to sites in Hindi, Gujarati,
Tamil and Telugu, all major local languages. That means it already competes
with Yahoo! and other international giants.
By the time Rediff listed, the combination of Balakrishnan's vision and his
investors' experience had created a world-class company. The company now has
a market capitalization of $600 million, despite the fact that India has just 1
million Internet users. China, by comparison, has 10 million Internet users.
Rediff is about content. But most companies that are powering the New
Economy are more about technology. Many analysts expected them to be a
passing phenomenon, so-called body shops tuning up Old Economy companies
fearful of the millennium bug. Instead they have upgraded themselves into
software-services companies that are increasingly getting the crucial
assignments that used to be kept in-house. "They can do the mission-critical
tasks on a timely basis," says Ajay Kapur, regional strategist for Morgan
Stanley Dean Witter in Hong Kong.
ATTRACTING FOREIGN INVESTORS
The magnetic pull of India's software industry is attracting more than just foreign
investors. Some of the world's most impressive technology powerhouses, such
as Lucent Technologies, are now also on the ground in Bangalore. And they are
seeing results. The work that Indians at Texas Instruments' Bangalore centre
pioneered on integrated circuits and software design was the basis for several
patents that TI applied for back in the United States. Would-be competitors are
now flocking to Bangalore to learn the secret. "Fifteen out of the twenty
companies which have received the highest international recognition for software
are Indian," points out Lu Ke, head of the Bangalore research efforts of Huawei
Technologies, a Chinese telecoms equipment maker based in Shenzhen, near
Hong Kong. "The software-management process is so good in India. We can
improve so much if we study why Indian software is so good."
The changes aren't just confined to the New Economy. The traditional business
families of India, urged on by the cruel realities of the market, are also
transforming their Old Economy behemoths at a speed that makes most of the
tycoons of Southeast Asia seem somnambulant by comparison. Two of India's
leading families, the Tatas (with 80 group companies in everything from steel to
telecoms) and the Birlas (with a conglomerate ranging from cement to financial
services), used to be arch rivals. Now they are working together in select areas
to take advantage of new opportunities and inviting foreigners with strategic
knowledge to join them. "If you aren't forward-looking, the market is penalizing
you," says Desai of JM Morgan Stanley in Bombay. "That means no market cap
and no capital to restructure."
Although the Indian government isn't known for business-friendly attitudes, it's
hard to see how it can derail the promise of India. At this point, it can only slow
the growth or feed it. The Indian miracle is partly built on the country's fiercely
competitive technical and management institutes, which produce about 10,000
graduates a year. But that meets only about one-tenth of current demand for
hi-tech workers. The government needs to upgrade and expand its other
engineering facilities and push forward in deregulating key areas of the economy.
Had it been speedier about deregulating telecoms, for example, the nation's
Internet industry would be more advanced than it is today.
"There is no comparison between a Shanghai and a Bangalore in terms of
infrastructure," says Narayana Murthy, CEO of Infosys Technologies, a top
software-services firm that listed on Nasdaq in March last year. "But we can't
wait for the government. We have found solutions despite the government. We've
shown we can succeed in spite of the environment."
No firm in India has a better shot at future success than giant Reliance
Industries. As one of the world's largest and most competitive petrochemical
and refinery operations, Reliance accounts for 3% of the country's GDP,
according to company data. It has started implementing plans to automate its
entire procurement process and is considering how best to position itself in a
virtual chemicals marketplace. Moreover, Reliance has announced a new
telecoms strategy and has a $15 billion market capitalization to help finance its
ambitions. Reliance holds the right to provide booming Gujarat state with basic
telecoms services and has cellular rights for a vast expanse of north and eastern
India.
Perhaps voicing the hopes of the new professionals returning to and being
developed in India, Reliance Chairman Dhirubhai Ambani told his company's
annual general meeting in mid-June: "We believe there is a one-time opportunity
for the Indian economy to leapfrog from its current inadequate infrastructure to a
super, world-class digital infrastructure." Making that leap and landing on its feet
will take all the talent and brainpower India can muster.
THE CAMPUS OF INFOSYS TECHNOLOGIES, one of India's most respected
software-services companies, lies an hour and a world away from the dusty
bustle of Bangalore. Outside the neat, low buildings set amid trees, sleek private
buses stand ready to transport staffers back to the city at the end of the day.
"Twice a day we have to transform ourselves from a Third World mindset to First
World expectations," says Narayana Murthy, the soft-spoken chairman of
Infosys. "No matter what the physical reality, we have to behave in step with
world-class, top companies."
So far, Infosys has more than met the challenge. The first Indian software
company to list on the Nasdaq exchange, it has transformed itself from a body
shop doing Y2K repair work into a company that is getting ever more value-added
orders from its customers, most of whom sit half a world away in the United
States. In the year to March 31, Infosys posted net profits of 2.9 billion rupees
($65 million) on sales of 8.8 billion rupees. That was 50% higher than analysts
had predicted a year earlier.
Infosys may be the most visible of India's software-services companies but it's far
from the only success story. It's just one of many firms that are helping to
reprogramme India's traditional image as a place where low costs rather than
reliability or quality are the main draw.
India's software-services firms control only a small part of the $300 billion global
software-services market. "But given this small base, the rising visibility of Indian
companies, a continuing wage-arbitrage advantage and the sector's progress on
the value chain, the Indian software industry is likely to continue on its strong
growth path," says Anantha Narayan, a software analyst at JM Morgan Stanley
in Bombay. Narayan expects the earnings of the 18 companies he follows to
grow at least 50% during the next two years.
Management consultancy McKinsey & Co. also sees a bright future for the
industry. It estimated in a December 1999 report that by 2008 India's
software-services industry will earn revenues of $90 billion a year and have a
market capitalization in excess of $225 billion--equivalent to the current market
capitalization of all Indian companies.
The industry's move up the value ladder is evident in the New Delhi offices of
NIIT. The company has a two-pronged information-technology strategy. One
prong consists of software services and e-commerce, which now account for
60% of revenues. "The Japanese pioneered the introduction of efficiencies within
a single organization," says Arvind Thakur, head of NIIT's software-services
division. "But we are introducing efficiencies through the whole chain from
supplier to customer through the application of IT."
The second prong is what executives at NIIT refer to as "knowledge-based
industry" and learning centres, which contribute 40% to the company's bottom
line. NIIT already is becoming a regional powerhouse, with training centres
across Asia. It is now accepting assignments from Japanese companies to
create customized software, for example, and subcontracting the jobs out to
engineers it has trained in, say, Shanghai. To ensure it has access to the latest
technology and the best minds, NIIT has developed a commercial relationship
with the Indian Institute of Technology in New Delhi.
In addition to Infosys and NIIT, India is home to a growing number of highly
focused and equally impressive software firms, several of which broke away from
their multinational parents in recent months.
Foremost in this group is Hughes Software Systems, which operates at the
highest end of the technological value chain. HSS sells network and
communications software systems to leading telecoms hardware companies
around the globe. Like many other Indian firms, HSS is moving from doing
routine, repetitive grunt work to developing original software products that it then
licenses to customers.
Late last year, HSS listed its shares on the Bombay Stock Exchange, the Delhi
Stock Exchange and the National Stock Exchange and is currently one of the
top picks of HSBC Securities in Bombay. HSS is now almost as well known
internationally as its parent, Hughes Network of the U.S., which retains a 56%
stake in its wonder child. (More than half of HSS revenues, which have been
growing 60% each year for the past five years, now come from customers
outside the Hughes group.) In the year to March 31, HSS posted profit of 294
million rupees on sales of 1.1 billion rupees.
It isn't only technology that distinguishes companies like HSS from counterparts
elsewhere in the region; it is management. Company executives at HSS think
about and structure their business in a way that is consistent with international
best practice. Indian software firms also have a lot of talent and are committed to
taking a long-term perspective. HSS, for example, spends more than 10% of its
revenues on research and development, a level five times higher than that of its
Japanese or Chinese counterparts, even if it's smaller in value terms.
There will be even more investment choices when a host of new start-ups now
eyeing the stockmarket actually list. Like HSS, Aztec Software, a
Bangalore-based software company, focuses on the higher end of the value
chain, providing technology and platforms to make application service providers
more competitive. "We don't want to be thought of as cheap," says V.R.
Govindarajan, Aztec's president and chief technology officer. "We want to
compete at the global level."
Aztec's partners include the likes of Microsoft, partnerships made possible
because so many of its staff came from multinationals like Microsoft or IBM.
Moreover, being cash-flush, Aztec, like HSS, has the ability to make
choices--and it chooses its clientele very carefully. Customers must offer future
business worth a minimum of $1 million as well as a certain aura of legitimacy,
whether derived from the strength of their management or standing of their
parent.
Aztec plans to list in the coming months. Indeed, staffers already know how they
intend to deploy the funds they hope to raise--opening marketing offices in the
U.S. and Europe and buying other companies. But like NIIT, Aztec doesn't plan
to use its shares to acquire other companies. They are potentially far too
valuable for that. "We think our shares will be worth more in a year than today,"
says NIIT's Thakur, reflecting the confidence of the industry.
IT HAS BEEN NEARLY four years since India's Supreme Court ordered the
closure of Hindustan Insecticides' pesticide factory on the outskirts of New Delhi.
Yet the government's reluctance to liquidate the state-owned company means
that its 600-odd workers continue to draw salaries as it plunges ever deeper into
the red. Last year losses more than tripled to about $1.25 million.
Hindustan Insecticides is just one example of the rotten state of India's vast
public sector. Jawaharlal Nehru, the country's first prime minister, wanted
state-owned companies to make India an industrial powerhouse by controlling
"the commanding heights" of the economy. Instead, the majority of the more
than 250 companies owned by the central government, and involved in everything
from telecoms to contraceptives, have long been synonymous with inefficiency
and mismanagement. Nevertheless, powerful political interests have ensured that
nearly a decade into economic reforms the public sector remains largely
untouched.
Slowly, this is starting to change. Fiscal pressures and concern that
public-sector inefficiency will slow wider economic growth have forced the
government to make privatization a cornerstone of promised second-generation
reforms. Support for getting the government out of business is growing among
politicians. But the road ahead looks more like an obstacle course than a
racetrack. Turf battles, ideological differences and an inability to give privatization
a politically friendly face are likely to ensure that progress remains slow.
Powerful lobbies within the government will fight to keep the public pie out of
foreign hands.
A June 23 cabinet decision illustrates the tussle between reformers and
conservatives within the 24-party coalition government. The newly created
Ministry of Disinvestment was given the go-ahead to sell 11 companies, bringing
to 33 the number of companies in which the government will either dilute its
stake or exit completely. Among those up for sale are Air India, Indian Airlines,
the Minerals and Metals Trading Corp. and the Shipping Corporation of India. But
the reformers didn't have it all their way. Prime candidates for privatization,
including telecoms giants VSNL and MTNL and car maker Maruti, were
excluded. The oil industry remains largely untouched.
"What they decided to do was the minimal amount," says Joydeep Mukherji, a
New York-based India analyst at ratings agency Standard & Poor's. "It will have
a minimal impact on the economy." In an interview on June 30, Disinvestment
Minister Arun Jaitley defended the government's cautious approach. "It may not
be as good as 10 leaps forward," he said. "But 10 steps forward is better than no
steps forward."
The success of the programme depends on whether Jaitley can take those 10
steps without stumbling. A gaping fiscal deficit and a growing political consensus
on the need for privatization may help. The government hopes to bring the fiscal
deficit down to 5.1% of GDP in the year ending March 31, 2001, from 5.6% of
GDP in the previous year. That will be difficult unless it raises its stated target of
at least $2.2 billion from the sale of state-owned companies.
More important is the realization by some politicians that India won't be able to
make a serious dent on poverty unless it can squeeze out more productivity from
the billions of dollars tied up in state assets. "We believe that this is the only
way we can serve the people better," says Suresh Prabhu, minister for
chemicals and fertilizers and a reformer.
But economic logic and a growing caucus of reform-minded politicians won't be
enough to force the pace of privatization. Lined up against them are old-style
politicians, powerful regional groups and trade unions. Many politicians are
reluctant to surrender the power of patronage that comes from controlling large
state-owned companies. And even regional allies of the government such as
Andhra Pradesh Chief Minister Chandrababu Naidu, who supports economic
liberalization in principle, object to sales in their states.
G.V. Ramakrishna, the former head of India's disinvestment commission, says
the biggest flaw in the government's approach to privatization has been its
inability to sell the programme politically. He says the failure to clearly explain
the benefits--for example, that the proceeds could help build schools and
hospitals--has blocked a consensus on the issue.
Analysts say that Jaitley, a squeaky-clean 47-year-old New Delhi lawyer serving
his first term in parliament, lacks the political heft and ability to communicate
directly with rural voters that is crucial to the programme's success. Jaitley, who
is also minister for information and broadcasting, says the mass media will
ensure that his message gets across.
One major sticking point will be the sale of companies to foreigners. Foreign
capital and expertise are essential to turning around companies such as Air
India. Car giant Maruti, a joint venture between the government and Suzuki
Motors, has seen its market share plummet as nimbler rivals from South Korea
deliver better cars at competitive prices. But the Rashtriya Swayamsevak Sangh,
a Hindu-nationalist organization with close links to the ruling Bharatiya Janata
Party, remains firmly opposed to foreigners taking over state-owned companies.
Seshadri Chari, a leading RSS ideologue, says his organization favours
privatization but that foreign ownership should "either be zero or minimal."
All eyes are now on the companies shortlisted for the first round of privatization.
Prompt implementation of policy isn't a hallmark of India's bureaucracy. But
Jaitley says his ministry has "a large amount of implementing authority" and he
is counting on a few early successes. "It is necessary to define and look for the
success stories," he says. "The rest will take care of itself."
Jaitley doesn't have time on his side. Next year, several large states such as
Uttar Pradesh and West Bengal are scheduled to hold assembly elections. A
setback for the BJP and its allies in state elections could stall the privatization
process. "There is a small window of opportunity," says Mahesh Rangarajan, a
New Delhi-based political analyst. "It's very important to get this right now."
Analysts say successes will have to include a few high-profile companies before
the programme can take root. Mukherji of Standard & Poor's says selling a
well-known company like Maruti would signal that the government is serious
about reform. He believes this is only a matter of time. "Privatization will take off.
Not like a Boeing 747 but maybe like a little Cessna two-seater," he says. "At
the end of the day, they've got to do it because they need the cash."
NOWHERE ARE THE MYRIAD contradictions of India more visible than in its
pharmaceutical industry. Counterfeit and spurious drugs kill and cripple scores of
Indians every year. Yet executives at India's more reputable drug firms are saying
that the industry stands on the threshold of a new era made possible by the
same combination of factors that drives the country's booming software industry:
intellectual power and low costs.
Like the software firms, the drug companies have another advantage: They aren't
handicapped by India's flawed infrastructure to the same extent as more
traditional manufacturers. "The Internet is more important to me than roads,"
says Swati Piramal, director and chief scientific officer at drug maker Nicholas
Piramal in Bombay. Soon, this scientist-entrepreneur claims, India will make
the leap from simply producing copycat drugs to doing world-class research on
genomes. "We can marry IT to microbiology cost-effectively," Piramal says. "We
can make our own supercomputers at a quarter of the cost in the West; we can
do clinical trials here for a tenth of the cost in the U.S."
Such predictions may be premature--or indeed, pure fantasy. But that they are
being voiced at all indicates how dramatically Indian drug companies have shed
the pessimism and defeatism they felt about their prospects not long ago. Until
recently, most Indian companies made a living by reproducing, through reverse
engineering, the drugs invented by Western multinationals and then selling them
to the populace at a fraction of the price. By volume India's pharmaceutical
market is substantial, accounting for 8% of all drugs sold worldwide. By value,
though, the Indian market is worth just 150 billion rupees ($3.4 billion) a year,
accounting for only 1% of global drug sales. That makes the market smaller than
the research budget of international giants such as Pfizer.
But India's pharmaceutical industry is beginning to make the transition from
parasite to pioneer. As drugs come off patent (and patents on drugs worth $40
billion a year will expire in the next few years), the range of products that Indian
companies can legally make is increasing. And as they move up the value chain,
many drug companies are changing their strategy and starting to focus on drug
invention rather than imitation. Because they now have a stake in the system,
some, like Ranbaxy Laboratories, are even urging the government to become a
signatory to international agreements on patent protection. "We are putting the
past and the culture of reverse engineering behind us," says D.S. Brar, chief
executive officer of Ranbaxy in New Delhi.
FROM IMITATOR TO INNOVATOR
Ranbaxy illustrates the changes so far. Already, it has made the shift from being
a local maker of generic drugs to becoming an international supplier of such
drugs. It now exports over 60% of its product, not only to other emerging markets
but also to developed markets with stringent regulatory regimes such as the
United States and Singapore. Other Indian firms like Cipla, Torrent, Lupin
Laboratories and Wockhardt aren't far behind.
What's more, Ranbaxy is becoming an innovator. Last year the company sold
the rights to its version of the popular antibacterial drug ciprofloxacin to Bayer of
Germany. Hyderabad-based Dr. Reddy's Laboratories also has had some
success in drug discovery, developing an insulin molecule for the treatment of
diabetes which it has sold to Danish company Novo Nordisk.
"India is an emerging powerhouse in biotechnology," says Ajay Piramal,
chairman of Nicholas Piramal, the country's fifth-largest drug company.
"Leveraging huge cost advantages in research and manufacturing, companies
could provide new drugs at a fraction of the $500 million it takes to launch a new
drug in the West."
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