India’s journey as an emerging economy can be traced back to the landmark economic liberalisation of 1991 aimed at making the economy more market-oriented and expanding the role of private and foreign investment.
More than 25 years later, at $2.6trn, India has emerged as the sixth largest and the fastest growing major economy in the world, contributing almost 3.2% of world GDP.
According to recently released global forecasts by Capital Economics, India has the potential to deliver growth of 5-7% for the next 20 years. This implies the economy would triple in size and double its share of global GDP, becoming the third largest economy in the world, surpassed only by the US and China.
India has strong structural drivers in place to sustain high growth over the coming decades. With two-thirds of its 1.3 billion people in the working age group, it has amongst the best demographic profiles in the world.
India is predominantly a domestic consumption driven economy. Per capita GDP recently crossed $2,000 – a more than four-fold increase since the turn of the century – a level that is generally regarded as a threshold where consumption of discretionary items tends to accelerate.
Another aspect of this demographic trend is rapid urbanisation, which in turn is propelling demand for infrastructure and housing. Urbanisation is also leading to increased access to formal financial system, translating into the financialisation of household savings.
Combined with increasing financial literacy, this is driving a shift towards financial instruments such as insurance, mutual funds, equities and bank deposits, away from physical assets such as gold and real estate.
Investor-friendly corporate sector
Beyond economic growth, what makes India a particularly compelling investment opportunity is the superior profitability of its corporates. The corporate sector has successfully translated economic growth into profit growth. This is evident from the fact that over the last 25 years, India has delivered amongst the highest RoE in the world compared to both developed and emerging markets.
This profitability is a result of entrepreneurial allocation of scarce financial capital towards the most promising opportunities.
Government-owned enterprises constitute barely 10% of the equity market in India; in stark contrast to more than 60% for China and over 25% for broader emerging markets (EM).
Unlike some of these EMs, which run large trade surpluses and have government incentives that lower cost of capital, India has historically been a capital-starved country with a relatively high cost of capital. Also, unlike developed nations, Indian entrepreneurs have not experienced multi-generational private wealth accumulation that could finance the explosion of opportunities seen since 1991.
As a consequence, Indian entrepreneurs have ventured towards less capital-intensive business models or otherwise been forced to cherry-pick opportunities with the highest return on invested capital.
For instance, contrast the evolution of the technology sector in India to that in Taiwan. Indian entrepreneurs embraced an asset-light IT services opportunity, making India the largest in the business globally. On the other hand, Taiwan flourished in building a capital-intensive semi-conductor hub, benefitting from government incentives including a lower cost of capital.
Furthermore, India offers a very well diversified sector mix compared to most other EM countries. The likes of Brazil, Russia and South Africa are dominated by commodities and allied industries. The asset mix in India is very well spread across multiple sectors similar to a more developed market such as the US.
Besides economic growth and corporate profitability, the fact that India is a long-established and well-functioning democracy makes it a superior investment destination among EMs.
Like developed countries, India enjoys a robust institutional infrastructure comprising of an independent central bank, election commission and judiciary. India also inherited the common law system from its British colonial rulers which, amongst other things, grants strong property rights to all investors – domestic or foreign.
Such democratic institutions and the rule of law empower minority shareholders to take corporate managements or even the government to court if their investor rights have been compromised – something which in many EM countries with quasi-authoritarian regimes would be unthinkable.
Successive governments since 1991 have continued to take forward the reform agenda. Two of the important reforms under the current government are Goods & Services Tax and the Insolvency & Bankruptcy Code. Several other similar reforms have been effected to remove bottlenecks and to enhance ease of doing business.
The overall direction of liberalisation and reforms has largely remained the same irrespective of the party leading the government.
The structural growth drivers of the Indian economy are deep rooted and regardless of who holds the reins of power, India remains multi-generational investment opportunity.
Prashant Khemka is founder of White Oak Capital Management.
5 reasons for investors to get a taste for the subcontinent
Business owners with long-term horizons willing to promote sustainable development are ones to watch, Douglas Ledingham writes.
1. Democratic progress
Pakistan became a sovereign nation on 14 August 1947, the day before India. Sri Lanka followed shortly afterwards and Bangladesh a couple of decades later. Despite political instability in the subcontinent since independence, the region has consistently shown a determination to remain on the democratic path.
There is a lingering question as to whether the subcontinent has delivered lower growth because of its democratic political systems. We believe that democracy with its checks and balances is critical for long-term investment. The rule of law, where contracts are respected, is crucial for businesses operating with a long-term view.
2. Investors can contribute and benefit
One of the benefits of democracy is that the responsibility for sustainable development falls as much on private organisations as the government.
While governments can take a long-term view, they often disregard profits. Much of the private sector, on the other hand, places too much emphasis on short-term profits. Private owners with long-term horizons who are willing to promote sustainable development stand to benefit disproportionately in such a scenario. For example, providing affordable and quality healthcare to the wider population can be a good business opportunity although it requires patience to balance profits with the duty to provide healthcare.
3. The subcontinent is home to a quarter of the world’s population
As a result it has many problems – poor infrastructure and inadequate access to basic products and services have resulted in widespread poverty and growing inequality.
While there are no easy answers, long-term investment can be a part of the solution. While such conditions exist in many parts of the world, the subcontinent is home to a large number of good quality companies with family owners and stewards.
Many business-owning families on the subcontinent have managed succession over generations. High quality stewards such as the Tatas, Godrejs and the BRAC (Bangladesh Relief Action Committee) Foundation have cared for and successfully invested in the region’s sustainable development over decades while retaining their moral compass.
The BRAC Foundation, a non-government organisation (NGO) founded in the early 1970s, quickly realised that it needed to incubate private businesses to create a significant impact. Today BRAC is the parent of many well- established enterprises which fund social and development commitments.
4. Multinational companies can thrive
In addition to families, many multinational companies have subsidiaries in the subcontinent which have proved to be successful stewards.
Unilever India has been successful because of its belief that focusing on the poorer sections of society is not just profitable but important for society’s development. Selling a bar of affordable soap to people living on a few dollars a day requires a long-term mind-set and decades of investment in distribution.
5. The quality of company stewards
A company’s ability to deliver long-term sustainable returns is strongly correlated with the attributes of its owners.
Company owners who had the most involvement with the company’s foundation often have the strongest sense of purpose and culture. In addition, owners with long histories are more likely to have experience of successfully navigating periods of economic difficulty.
The region has a long way to go before it reaches the living standards of cities like Zurich or Vancouver. The opportunity and challenge for the subcontinent, and for long-term investors, is to continue to develop without placing the same levels of stress on the environment as developed countries.
There is no price worth paying for a company that has poor long-term positioning from a sustainability standpoint or has a low quality steward at the helm. Also, one should be mindful of overpaying for the best quality companies.
No company is perfect and, as a result, engagement with company management is central to the investment process.
The first hurdle is to identify managements and cultures which recognise weaknesses and are willing to correct them where possible. Investors should strive to build a relationship of trust with management seeking to challenge and be challenged in a constructive manner. However, change is complex and takes longer than most investors appreciate. Being patient is an important aspect of sustainable investment.
Investing beyond India
The subcontinent’s investment universe has expanded significantly over the last decade due to the listing of many quality companies on the Indian market; and increasing comfort with stewards in Bangladesh, and Sri Lanka who continue to harbour many quality, long-term businesses.
It should not be too long before there are some good quality companies in Pakistan to invest in; but, sadly, the Nepalese and Bhutanese markets remain immature.
We remain focused on investing in good quality family-owned companies who have patiently set out to build long-term, responsible and sustainable businesses across the subcontinent. We see no reason why such companies should not continue to thrive over coming decades.
Douglas Ledingham is co-manager of the Pacific Assets Trust plc at Stewart Investors.