why do great indian companies fail-ambit-capital-report

June 07, 2013

Strategy

THEMATIC

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Analyst contacts

Saurabh Mukherjea, CFA Tel: +91 99877 85848 [email protected]

Gaurav Mehta Tel.: +91 22 3043 3255 [email protected]

Consultant: Anirudha Dutta Tel: +91 98201 34825 [email protected]

The most prominent fallen angels

Name Period*

Hero MotoCorp 2004,09

TVS Motor 2004,09

Ranbaxy Labs. 2005,10

Tata Motors 2006,11

Tata Steel 2007,12

Bharti Airtel 2007,12

Indian Hotels 2007,12

Bharat Forge 2007,12

Source: Ambit Capital research; Note: * 2004, 09 indicates that these companies, which were great firms in 2004, have been identified as fallen angels in 2009.

Sustaining leadership Name Period*

Berger Paints 2003,08

Asian Paints 2004,09

Larsen & Toubro 2004,09

Dabur India 2005,10

CRISIL 2005,10

Nestle India 2006,11

Balkrishna Inds 2007,12

TCS 2007,12

Source: Ambit Capital research; Note: * 2003, 08 indicates that these companies have been identified as sector leaders in 2003 as well as in 2008.

Why do great Indian companies self-destruct? Over 80% of great Indian companies slide to mediocrity in a short span of time led by poor strategic decision-making fuelled by hubris and arrogance. Such faulty strategic decisions usually result in poor capital allocation which destroys RoCE and creates financial stress. Thus, the importance of evaluating and tracking strategic decisions to achieve long-term outperformance cannot be over-emphasised although it is an area that is often overlooked. Through a series of notes, we will analyse management strategies of select companies. Our aim is not only to understand the past better but also to set a framework for analysing the future.

The systematic slide to mediocrity We find that the average probability of a sector leader remaining a sector leader five years later is only 15%, implying that 85% of BSE500 companies slide towards mediocrity. In fact, the average probability of a great company becoming a sector laggard five years later is 25%. Even the Nifty churns by around 50% or so every decade (as compared to around 25% for developed markets and around 30-40% in other major emerging markets). The tendency for large, successful companies to slide down the market-cap spectrum is not confined to the Nifty.

Why do successful firms slide with such regularity? Promoters, in their own explanations for underperformance, tend to cite exogenous factors (such as business cycle, Government interference, rising competitive intensity or the macro environment). However, such explanations are not always convincing because within the same sector (and hence subject to the same regulatory and competitive forces), whilst some firms are sliding, others are rising. Contrast, for example, the performance over the past five years of Infosys vs HCL Tech or Bajaj Auto vs TVS Motors. In our view, the slide is primarily due to poor strategic decision making.

Our framework and forthcoming research on this subject In the first of a series of strategy notes, we present our framework to analyse and evaluate why companies slide in performance. The framework is primarily based on the works of Jim Collins and William Thorndike. The framework and the case studies will help you understand how certain companies achieved great success, how they stumbled and how some of them recovered. The past is relevant because it gives a peek into the future and is potentially a determinant whether a company comes out of the rut to regain greatness. This first note has a preponderance of discussions on Tata group companies (owing to its virtue of being the largest and most diverse corporate group in India), an imbalance which subsequent notes will correct.

Investment implications Our analysis shows that Tata Steel, Tata Motors, Titan and TTK Prestige are at an inflection point today. A cyclical turnaround in the domestic market could propel a turnaround at Tata Motors. Tata Steel, however, has larger challenges of sorting out the problems at Corus, even if the domestic demand were to see an upswing. Titan and TTK Prestige have had a great run for a decade and the key question is will growth stall over the next five years. We have no firm answers, but we prefer Tata Motors over Tata Steel. TTK Prestige remains on our BUY list (we do not cover Titan at present but like TTK Prestige, Titan is also on our ten-baggers list).

Strategy

Ambit Capital Pvt Ltd 2

CONTENTS

Executive summary 3

Introduction.. 18

The greatness framework20

Self-destruction quantified 22

Identifying fallen angels. 24

How and why do great companies fall?.................................................. 27

Case study: Titan. 41

Case study: TTK Prestige 50

What we will cover in our forthcoming notes62

Strategy


Executive summary More than 80% of great Indian companies slide to mediocrity in a brief span of time. Super successful companies usually become victims of their own success because after a while, hubris and arrogance sets in and the promoter and/or management make ill-judged strategic decisions. More than anything to do with the business cycle or with regulation or competition, this point emerges forcefully from our observations of corporate India over the past decade. Such faulty strategic decisions usually result in poor capital allocation which destroys RoCE and creates financial stress. Therefore, the importance of evaluating and tracking strategic decisions to achieve long-term outperformance cannot be over-emphasised although it is an area that is often overlooked. Through a series of notes, we will analyse the management strategy of select companies, which will help you to understand not only the past but hopefully set a framework for analysing the future as well.

Exhibit 1: Factors used for quantifying greatness (as used in the 2012 model)

Head Criteria

1 Investments a. Above median gross block increase (FY10-12 over FY07-09)*

b. Above median gross block increase to standard deviation

2 Conversion to sales a. Improvement in asset turnover (FY10-12 over FY07-09)*

b. Positive improvement in asset turnover adjusted for standard deviation

c. Above median sales increase (FY10-12 over FY07-09)*

d. Above median sales increase to standard deviation

3 Pricing discipline a. Above median PBIT margin increase (FY10-12 over FY07-09)*

b. Above median PBIT margin increase to standard deviation

4 Balance sheet discipline a. Below median debt-equity decline (FY10-12 over FY07-09)*

b. Below median debt-equity decline to standard deviation

c. Above median cash ratio increase (FY10-12 over FY07-09)*

d. Above median cash ratio increase to standard deviation

5 Cash generation and EPS improvement

a. Above median CFO increase (FY10-12 over FY07-09)*

b. Above median CFO increase to standard deviation

c. Above median EPS increase (FY10-12 over FY07-09)*

d. Above median EPS increase to standard deviation

6 Return ratio improvement a. Improvement in RoE (FY10-12 over FY07-09)*

b. Positive improvement in RoE adjusted for standard deviation

c. Improvement in RoCE (FY10-12 over FY07-09)*

d. Positive improvement in RoCE adjusted for standard deviation

Source: Ambit Capital research. Note: * Rather than comparing one annual endpoint to another annual endpoint (say, FY07 to FY12), we prefer to average the data out over FY07-09 and compare that to the averaged data from FY10-12. This gives a more consistent picture of performance (as opposed to simply comparing FY07 to FY12).

80% of companies slide into mediocrity

thanks to management hubris and arrogance

Strategy


The systematic slide to mediocrity We find that the average probability of a sector leader remaining a sector leader five years later is only 15%, implying that 85% of BSE500 companies slide towards mediocrity. In fact, the average probability of a great company becoming a sector laggard five years later is 25%. Even the Nifty churns by around 50% or so every decade (as compared to around 25% for developed markets and around 30-40% in other major emerging markets). The tendency for large, successful companies to slide down the market-cap spectrum is not confined to the Nifty.

We use our greatness model to assess the probability that sector leaders (defined as firms with a greatness score in excess of 75th percentile of the sector) from five years ago are now amongst the sector laggards (defined as firms with a greatness score of less than 25th percentile of the sector), i.e. what is the probability of self-destruction? We contrast this against the probability of sustaining leadership i.e. what is the probability that sector leaders are still sector leaders five years hence. We check this historically starting from 2003for example, we assess the chances that a sector leader in 2003 was still amongst the sector leaders in 2008 and contrast this against the chances of it becoming a sector laggard by 2008 and so on.

Exhibit 2: The 'greatness' framework

Source: Ambit Capital research

Exhibit 3: Distribution of firms on the greatness score has been calculated by using data over FY07-12 (total population: 381 firms)

0

10

20

30

40

50

60

0%-10% 10%-20% 20%-30% 30%-40% 40%-50% 50%-60% 60%-70% 70%-80% 80%-90% 90%-100%

No

. o

f fi

rms

Greatness Score

Zone of mediocrityGood, not Great Zone of greatness

211 firms score < 50%

93 firms (between 50% and 67%)

Only 77 firms score > 67%


Over five years, there is only a 15% probability that a sector leader retains its leadership position

and 25% probability that they become sector laggards

b. Conversion of investment to sales (asset turnover, sales)

c. Pricing discipline (PBIT margin)

d. Balance sheet discipline (D/E, cash ratio)

a. Investment (gross block)

e. Cash generation (CFO)

Strategy


Exhibit 4: Probability of self-destruction 2003,08 2004,09 2005,10 2006,11 2007,12 average

Probability that sector leaders in Year-0 stay sector leaders in Year-5? 12% 20% 19% 10% 17% 15%

Probability that sector leaders in Year-0 become sector laggards in Year-5?

23% 20% 30% 23% 31% 25%

Source: Ambit Capital research, Note: 2003,08 indicates the probability in Year-5 (2008) for a sector leader in Year-0 (2003)

Exhibit 5: Probability of rising to greatness 2003,08 2004,09 2005,10 2006,11 2007,12 average

Probability that sector laggards in Year-0 stay sector laggards in Year-5?

20% 17% 13% 21% 19% 18%

Probability that sector laggards in Year-0 become sector leaders in Year-5?

37% 23% 42% 39% 28% 34%

Source: Ambit Capital research, Note: 2003,08 indicates the probability in Year-5 (2008) for a sector laggard in Year-0 (2003)

Strategy


Identifying fallen angels Using our greatness framework, we can identify the fallen angels i.e. the once-loved companies that were considered to be undisputed market leaders, say, for 5-7 years, but then they faded away. More practically speaking, we use our model to grade firms into leaders (scores above the 75th percentile) and laggards (scores below the 25th percentile). Then we define fallen angels as those firms that slide from being a leader to a laggard over a five-year period. Our quantitative analysis suggests that RoEs and RoCEs are the most sensitive measurables in a companys fall from grace.

Exhibit 6: List of 'fallen angels' FY03, 08 FY04, 09 FY05, 10 FY06, 11 FY07, 12

Monsanto India Hero MotoCorp Monsanto India Tata Motors Bharti Airtel

Hero MotoCorp Eicher Motors Tata Motors SKF India SKF India

Eicher Motors Tata Motors ABB Bharat Forge Bharat Forge

Atlas Copco (I) Ashok Leyland Siemens Siemens Alstom T&D India

Godrej Inds. TVS Motor Berger Paints Kirl. Brothers AIA Engg.

Carborundum Uni.

Motherson Sumi Tata Chemicals Havells India Lakshmi Mach. Works

CMC Siemens Bharat Electron Lakshmi Mach. Works

Gateway Distr.

Container Corpn.

Atlas Copco (I) Lakshmi Mach. Works

Bharati Shipyard Sterlite Inds.

ONGC Kirl. Brothers Gateway Distr. Allcargo Logistics Hind. Zinc

BPCL Berger Paints Tata Steel Ent. Network SAIL

IOCL PTC India SAIL Hind. Zinc Natl. Aluminium

Dr Reddy's Labs BPCL Natl. Aluminium SAIL Tata Steel

Ranbaxy Labs. HPCL Hotel Leela Ven. Tata Steel Indian Hotels

Guj Gas Company

IOCL ONGC Natl. Aluminium Hotel Leela Ven.

Neyveli Lignite GAIL (India) BPCL Hotel Leela Ven. MRPL

Sanofi India IOCL Thomas Cook (I) GE Shipping Co

Ranbaxy Labs. GAIL (India) Biocon

Guj Gas Company Ranbaxy Labs.

Neyveli Lignite GE Shipping Co

Neyveli Lignite

Source: Ambit Capital research; Note: 2003,08 indicates that these companies, which were great firms in 2003, have been identified as fallen angels in 2008.

RoEs and RoCEs are the best measures to identify a companys fall from grace

Strategy


Why do successful firms slide with such regularity? Promoters, in their own explanations for underperformance, tend to cite exogenous factors (such as business cycle, Government interference, rising competitive intensity or the macro environment). However, such explanations are not always convincing because within the same sector (and hence subject to the same regulatory and competitive forces), whilst some firms are sliding, others are rising. Contrast, for example, the performance over the past five years of Infosys vs HCL Tech or Bajaj Auto vs TVS Motors.

Exhibit 7: NOPAT margins Infosys losing momentum; HCL Tech catching up

0.0%

5.0%

10.0%

15.0%

20.0%

25.0%

30.0%

FY04

FY05

FY06

FY07

FY08

FY09

FY10

FY11

FY12

FY13

Infosys HCL Tech

Source: Company, Ambit Capital research

Exhibit 8: RoCE of Infosys and HCL Tech moving in different trajectories

0.0%

5.0%

10.0%

15.0%

20.0%

25.0%

30.0%

35.0%

FY04

FY05

FY06

FY07

FY08

FY09

FY10

FY11

FY12

FY13

Infosys HCL Tech


Exhibit 9: PAT margin of Bajaj and TVS way apart!

0%

2%

4%

6%

8%

10%

12%

14%

16%

18%

FY03

FY04

FY05

FY06

FY07

FY08

FY09

FY10

FY11

FY12

Bajaj TVS


Exhibit 10: Bajajs RoCE in a different trajectory vs TVS

0%

50%

100%

150%

200%

250%

300%

350%

FY03

FY04

FY05

FY06

FY07

FY08

FY09

FY10

FY11

FY12

Bajaj TVS


Within the same sector, there is wide divergence in performance, suggesting internal factors are more important than external factors

Strategy


The five-stage framework

In this note, we use a modified version of Collins framework and Thorndikes approach to analyse capital allocation to understand why great Indian companies slide. The core stages in our framework are as follows:

Stage 1 - Hubris and arrogance: The company is on top of its game. Operating margins, RoCE, growth, valuation multiples, etc., are at all-time highs. Captivated by the success in its core business, the management starts believing its own press. Success and adulation intoxicates the top brass. Arrogance sets in. The company loses sight of the factors which made it successful in the first place.

Stage 2 Unbridled expansion: In search of more growth and more adulation, the management begins an expansion drive which is often inorganic. The firm overreaches into new geographies and product lines where it has no real experience or expertise. Sub-par capital allocation begins.

Stage 3 Stuck in a rut: Often cost discipline and/or product excellence erodes and prices are then raised. Profits, return multiples and valuation multiples start sliding. Company politics thrives. The leader becomes increasingly autocratic and announces 'recovery plans' that aren't based on accumulated experience.

Stage 4 Grasping for solutions: The company thrashes around and looks for a solution even as profits and financial strength continue to slide. Senior management jobs are on the line. Often a new leader comes in and sometimes he tries to fire silver bullets (eg. a 'transformative' acquisition, a blockbuster product, a cultural revolution, etc). However, a new leader (ideally, someone from inside) who takes a long, hard look at the facts and then acts calmly to put in place a measured recovery strategy with sensible use of cash and capital at its centre, could be the saviour.

Stage 5a Capitulation: The firm is sold or fades into insignificance or, and this happens rarely, shuts down.

Or Stage 5b Recovery: The firm turns the corner and begins the long, slow climb to recovery.

Exhibit 11: The five-stage framework

Source: Ambit Capital research, From the book How The Mighty Fall


Strategy


Investment implications Our analysis shows that Tata Steel, Tata Motors, Titan and TTK Prestige are at an inflection point today. A cyclical turnaround in the domestic market will propel the outperformance of Tata Motors. Tata Steel has larger challenges of sorting out the problems at Corus. Titan and TTK have had a great run for a decade and the key question is will growth stall over the next five years. We have no firm answers, but over the next five years, we prefer Tata Motors over Tata Steel. TTK remains on our BUY list. Both Titan and TTK are on our 10-baggers list.

Exhibit 12: Tata Steel's journey through the five stages Stage Remarks

Hubris and arrogance Superb financial performance through FY01-05

(FY01-05) Feted as the lowest-cost steel producer globally by World Steel Dynamics

Won the Deming prize

Company started believing that it had insulated itself from steel price cycles

Unbridled expansion Evaluates alternative businesses to enter into including telecom, BPO, etc

(FY06-08) Bids for Corus in 2006 and completes the acquisition in 2007, after a bidding war with CSN

Corus acquisition at a value of US$12bn when company net worth was US$2bn

Corus did not measure up to the criteria that the company had enunciated in its annual reports for growth/ acquisition

Stuck in a rut After initial strong performance, Corus goes into the red

(FY09 - present) Domestic expansion plans get delayed

Company saddled with huge debt

Downturn in global steel cycle exacerbates the situation

Grasping for solutions Restructuring at Corus by mothballing capacities and disposing assets

(FY09 - present) Debt refinancing and equity raising

Enhance raw material security

Change of leadership at Corus

Capitulation or Recovery? Write-down of goodwill - acknowledgement that the acquisition is not working

(FY09 - present) Plans to sell off underperforming and inefficient assets of Corus

Accelerate expansion plans in India to improve the competitive structure of the entire company


Exhibit 13: Tata Motors' journey through the five stages Stage Remarks

Hubris and arrogance Strong financial performance between FY03-07

(FY03-06) In a short span of time, becomes one of the three largest passenger vehicle companies in the country

Unbridled expansion Takes two big challenges: develop the Nano and takeover of JLR

(FY07-08) Launch of Nano is widely celebrated; acquisition of JLR is criticised

Stuck in a rut Nano fails to deliver the expected results after the initial euphoria

(FY09) JLR is hit severely by the downturn in global demand after the financial crisis

Grasping for solutions Several leadership changes at JLR and India business

(FY10) A three-tier strategy to revive the fortunes of JLR; decides not to cut back on investment plans

Strengthen the domestic commercial vehicle portfolio

Capitulation or Recovery? JLR starts performing strongly, although will continue to need substantial investments towards product development

(FY11- present) Work on to revive the fortunes in the domestic passenger car market


The four companies in our first of a series of notes are poised at an interesting juncture

Strategy


Exhibit 14: Titan's journey through the five stages Stage Remarks

Hubris and arrogance Launches quartz watches in the Indian market and is widely successful; five-year goals achieved in two

Enters the Middle East and is successful

Unbridled expansion Makes a foray into the European watch market

(FY96-98) Enters into jewellery exports

Stuck in a rut European watch foray creates financial stress; crimps company's ability to invest in domestic business

(FY1999-2002) Jewellery exports fails to take off

Grasping for solutions Pull back from the European markets

Launch jewellery in the Indian market

Capitulation or Recovery? Relaunch the domestic jewellery SBU with 22ct jewellery

Tanishq becomes a huge success

Rejuvenate the domestic watch portfolio

Expand the Fast Track brand into other product categories

Launch prescription eyewear business


Exhibit 15: TTK Prestige's journey through the five stages Stage Remarks

Hubris and arrogance Successful launch of its US business through 'Manttra'

(FY90-94) Strong growth of pressure cookers and pans in India (25%+ CAGR)

Unbridled expansion Expansion of its US business; funding it through IPO proceeds

(FY95-99) Ventured into new markets like Middle East, UK and Australia

Stuck in a rut Labour issues in Hosur and Bangalore plant could not be managed in time

(FY2000-02) International sales was decimated due to stiff competition

Planned new product launches either failed or could not be executed in time

Government increased excise and other taxes

Grasping for solutions Reallocated and restructured responsibilities within existing senior management team

(FY03-04) Reduced focus on exports

Convinced the Government to reduce excise tax rates on pressure cookers

Gave VRS to a large part of the workforce, relocated manufacturing facility and resolved union problems

Capitulation or Recovery? Launched Prestige Smart Kitchens to support distribution of new product launches

(FY05 - present) Decided to diversify Indian operations across geographies and products

Consistent innovation pipeline for new products meant that 50-70% of sales generated in any year related to products/SKUs introduced over the past three years


Strategy


TATA STEEL LTD. TATA MOTORS LTD.

Mr. H.M. Nerurkar, MD, Tata Steel

Karl Slym, MD, Tata Dr Ralf Speth, CEO Motors Jaguar Land Rover

Tata Steels RoCE (%) through the different stages

0

10

20

30

40

50

60

70

FY01 FY02 FY03 FY04 FY05 FY06 FY07 FY08 FY09 FY10 FY11 FY12

Year

Ro

CE

(%)

RoCE (%) through the five stages

Hubris&Arrogance

Unbridledexpansion

Stuckinarut/Graspingforsolutions/CapitulationorRecovery?

Tata Motors RoCE (%) through the different stages

-20

0

20

40

60

80

100

120

140

FY03 FY04 FY05 FY06 FY07 FY08 FY09 FY10 FY11 FY12 FY13

Year

Ro

CE

(%)


Hubris&Arrogance

Unbridledexpansion

Stuckinarut

Graspingforsolutions

CapitulationorRecovery?

Tata Steels share price performance through the

different stages Share Price chart-Tata Steel vs Sensex

0.0

200.0

400.0

600.0

800.0

1000.0

1200.0

1400.0

1600.0

Apr-00 Apr-02 Apr-04 Apr-06 Apr-08 Apr-10 Apr-12

Tata Steel Sensex

Hubris&Arrogance5yrCAGRrelativeperformanceof33%

Unbridledexpansion3yrCAGRrelativeperformanceof9%

Stuckinarut/Graspingforsolutions/CapitulationorRecovery?TilldateCAGRrelativeperformanceof19%

Tata Motors share price performance through the

different stages

Share Price chart-Tata Motors vs Sensex

0.0

200.0

400.0

600.0

800.0

1000.0

1200.0

1400.0

1600.0

Apr-02 Apr-04 Apr-06 Apr-08 Apr-10 Apr-12

Tata Motors Sensex

Hubris&Arrogance4yrCAGRrelativeperformanceof31%

Unbridledexpansion2yrCAGRrelativeperformanceof36%

Stuckinarut1yrCAGRrelativeperformanceof32%

Graspingforsolutions1yrCAGRrelativeperformanceof240%

CapitulationorRecovery?TilldateCAGRrelativeperformanceof49%

Strategy


TITAN INDUSTRIES LTD. TTK PRESTIGE LTD.

Mr. Bhaskar Bhat, MD, Titan

Mr. T.T. Jagannathan, Chairman, TTK Prestige

Titans RoCE (%) through the different stages

0

10

20

30

40

50

60

FY96 FY97 FY98 FY99 FY00 FY01 FY02 FY03 FY04 FY05 FY06 FY07 FY08 FY09 FY10 FY11 FY12

Year

Ro

CE

(%)


Unbridledexpansion

StuckinarutHubris&Arrogance?

Growth

TTKs RoCE (%) through the different stages

-10

0

10

20

30

40

50

60

FY90 FY92 FY94 FY96 FY98 FY00 FY02 FY04 FY06 FY08 FY10 FY12

Year

Ro

CE

(%)


Hubris&Arrogance

Unbridledexpansion

Stuckinarut

Graspingforsolutions

CapitulationorRecovery?

Titans share price performance through the different stages

Share Price chart-Titan vs Sensex

0.0

500.0

1000.0

1500.0

2000.0

2500.0

3000.0

3500.0

4000.0

4500.0

5000.0

Apr-95 Apr-97 Apr-99 Apr-01 Apr-03 Apr-05 Apr-07 Apr-09 Apr-11 Apr-13

Titan Sensex

Unbridledexpansion3yrCAGRrelativeperformanceof 32%

Stuckinarut4yrCAGRinlinewithSensex

Hubris&Arrogance?TilldateCAGRrelativeperformanceof36%

TTKs share price performance through the different stages

Share Price chart-TTK vs Sensex

0.0

500.0

1000.0

1500.0

2000.0

2500.0

3000.0

3500.0

Dec-94 Dec-96 Dec-98 Dec-00 Dec-02 Dec-04 Dec-06 Dec-08 Dec-10 Dec-12

TTK Prestige Sensex

UnbridledexpansionDec94Mar99CAGRrelativeperformanceof20%

Stuckinarut3yrCAGRrelativeperformanceof29%

Graspingforsolutions2yrCAGRrelativeperformanceof31%

CapitulationorRecovery?TilldateCAGRrelativeperformanceof69%

Note:TTKgotlistedinDec94,hencesharepriceperformanceduringthefirststageisnotapplicable

Strategy


Who are the big winners and losers of tomorrow? In our forthcoming notes, we will be using our greatness model to address the following issue:

1. Amongst todays great firms which are the laggards of tomorrow?

Using our greatness model, we will attempt to identify the 80% of great Indian companies of today that are most prone to sliding to mediocrity in the near future.

The list of leading Indian companies that can either sustain good performance or slide to mediocrity in the near future has been provided in exhibit 16 on page 14 (in the entire BSE500 universe, ex-financials) and exhibit 17 on page 15 (on a sector by sector basis).

2. What do great companies who stay great have in common?

What do the remaining 15% of the great companies who manage to sustain greatness over long periods of time (eg. Asian Paints, HDFC Bank, ITC) have in common with each other? How have these firms immunised themselves from hubris and arrogance and the poor capital allocation decisions that follow?

3. Amongst the laggards and fallen angels of today, which are the great firms of tomorrow?

We return to our greatness model and now combine it with the tenets of disciplined capital allocation to identify the titans of tomorrow who are currently regarded as second- or third-rate players. So we will attempt to figure out whether firms like BHEL, Infosys, Wipro, and Indian Hotels, can mount a turnaround.

The list of laggards that can either continue to exhibit mediocrity or alternatively show enough mettle to revive and turnaround has been provided in exhibit 18 on page 16 (in the entire BSE500 universe, ex-financials) and exhibit 19 on page 17 (on a sector by sector basis).

Strategy


Exhibit 16: Overall leaders of today

Stock Sector Mcap

($ mn)

6 mnth ADV

($ mn)

3-yr share price CAGR

(%)

Next 2-yr EPS

CAGR (%)

Next 2-yr BVPS

CAGR (%)

3-yr average RoE (%)

(FY10-FY12)

3-yr average RoCE (%)

(FY10-FY12)

Eicher Motors Auto 1,642 1.3 63 31 25 15 31

Exide Inds. Auto Anc 2,112 3.7 5 22 18 26 40

Balkrishna Inds Auto Anc 446 0.3 34 12 21 30 25

Elgi Equipment Capital Goods 220 0.2 13 48 19 26 39

Cummins India Capital Goods 2,262 2.3 5 4 13 31 43

Whirlpool India Consumer Durable 467 0.4 -5 30 DNA 38 53

TTK Prestige Consumer Durable 690 3.1 77 24 33 49 69

Bayer Crop Sci. Fertilizers 970 0.4 24 DNA 25 24 32

Nestle India FMCG 8,982 3.0 24 15 24 110 141

Asian Paints FMCG 7,796 7.8 29 18 21 45 61

ITC FMCG 46,557 40.8 32 19 15 32 47

GlaxoSmith CHL FMCG 4,187 3.2 52 18 19 31 48

Carborundum Uni. Industrials 426 0.2 10 34 10 22 24

Supreme Inds. Industrials 791 0.4 52 24 26 40 36

Sadbhav Engg. Infrastructure 279 0.3 -4 60 5 12 12

Redington India IT 539 0.5 -1 14 20 20 18

Persistent Sys IT 371 0.6 11 15 18 20 23

Jagran Prakashan Media 519 0.2 -10 9 14 28 32

CRISIL Miscellaneous 1,440 0.6 28 17 14 43 57

Kajaria Ceramics Miscellaneous 326 0.3 60 28 30 28 26

Cadila Health. Pharma 2,774 1.7 8 31 22 34 27

Ipca Labs. Pharma 1,333 1.7 30 22 25 26 25

Lupin Pharma 5,933 10.6 27 23 26 29 26

Torrent Pharma. Pharma 1,214 0.6 14 18 22 30 27

Mahindra Life. Realty 281 0.2 -2 22 12 9 11

Oberoi Realty Realty 1,276 0.5 NA 44 19 20 23

Titan Inds. Retail 4,330 12.4 35 22 30 46 61

Bata India Retail 1,004 3.5 51 26 23 25 38

Shoppers St. Retail 535 0.8 19 DNA 5 10 11

Torrent Power Utilities 1,089 0.8 -26 16 6 24 21

Source: Ambit Capital research, Bloomberg

Strategy


Exhibit 17: Sectoral leaders of today

Stock Sector Mcap

($ mn)

6 mnth ADV

($ mn)

3-yr share price CAGR

(%)

Next 2-yr EPS

CAGR (%)

Next 2-yr BVPS

CAGR (%)


(FY10-FY12)


(FY10-FY12)

Eicher Motors Auto 1,642 1.3 63 31 25 15 31

Bajaj Auto Auto 8,854 15.8 17 15 24 68 72

Exide Inds. Auto Anc 2,112 3.7 5 22 18 26 40

Balkrishna Inds Auto Anc 446 0.3 34 12 21 30 25

IndusInd Bank BFSI 4,662 12.9 40 23 15 19 NA

HDFC Bank BFSI 28,586 35.2 22 25 19 17 NA

HDFC BFSI 23,141 37.8 16 16 13 21 NA

MM&FS BFSI 2,414 5.7 41 24 20 22 NA

Cummins India Capital Goods 2,262 2.3 5 4 13 31 43

Elgi Equipment Capital Goods 220 0.2 13 48 19 26 39

UltraTech Cem. Cement 8,871 7.3 25 14 18 21 22

Shree Cement Cement 2,881 1.4 32 16 26 27 20

TTK Prestige Consumer Durable 690 3.1 77 24 33 49 69

Asian Paints FMCG 7,796 7.8 29 18 21 45 61

GlaxoSmith CHL FMCG 4,187 3.2 52 18 19 31 48

ITC FMCG 46,557 40.8 32 19 15 32 47

Supreme Inds. Industrials 791 0.4 52 24 26 40 36

Sadbhav Engg. Infrastructure 279 0.3 -4 60 5 12 12

TCS IT 50,479 37.9 25 13 24 40 50

Persistent Sys IT 371 0.6 11 15 18 20 23

D B Corp Media 807 0.3 3 21 13 33 34

Jagran Prakashan Media 519 0.2 -10 9 14 28 32

Cadila Health. Pharma 2,774 1.7 8 31 22 34 27

Lupin Pharma 5,933 10.6 27 23 26 29 26

Torrent Pharma. Pharma 1,214 0.6 14 18 22 30 27

Oberoi Realty Realty 1,276 0.5 NA 44 19 20 23

Mahindra Life. Realty 281 0.2 -2 22 12 9 11

Titan Inds. Retail 4,330 12.4 35 22 30 46 61

Bata India Retail 1,004 3.5 51 26 23 25 38

Jubilant Food. Retail 1,251 9.4 57 31 38 46 51

Idea Cellular Telecom 7,777 8.6 36 48 13 7 8

Bharti Airtel Telecom 19,697 28.7 4 59 9 16 16

Torrent Power Utilities 1,089 0.8 -26 16 6 24 21

Source: Company, Bloomberg, Ambit Capital research

Strategy


Exhibit 18: Overall laggards of today

Stock Sector Mcap

($ mn)

6 mnth ADV

($ mn)

3-yr share price

CAGR (%)

Next 2-yr EPS

CAGR (%)

Next 2-yr BVPS

CAGR (%)


(FY10-FY12)


(FY10-FY12)

Bharat Forge Auto Anc 963 1.7 -3 25 10 11 12

BEML Ltd Capital Goods 125 0.8 -44 DNA DNA 7 9

Suzlon Energy Capital Goods 403 12.1 -41 54 -44 -12 5

India Cements Cement 366 1.9 -16 10 4 6 8

Century Textiles Conglomerate 478 4.8 -13 145 4 12 11

Simplex Infra Engineering & Construction 87 0.0 -41 12 6 11 13

Punj Lloyd Engineering & Construction 259 4.6 -27 DNA 1 -3 8

Natl.Fertilizer Fertilizers 383 0.1 -24 DNA DNA 9 11

Monsanto India Fertilizers 222 0.1 -3 DNA 3 15 17

G N F C Fertilizers 215 0.1 -10 DNA DNA 10 12

AIA Engg. Industrials 568 0.2 -7 19 15 18 25

Lak. Mach. Works Industrials 396 0.3 4 DNA DNA 15 23

Firstsour.Solu. IT 123 0.2 -25 19 DNA 7 6

3i Infotech IT 50 0.2 -58 DNA DNA 9 9

Tata Elxsi IT 100 0.2 -12 65 16 22 24

Uttam Galva Metals 168 0.9 -14 DNA DNA 9 12

S A I L Metals 4,149 5.5 -33 8 6 15 17

Natl. Aluminium Metals 1,474 0.3 -32 DNA DNA 8 13

Tata Steel Metals 5,046 30.8 -14 99 -1 5 10

Thomas Cook (I) Miscellaneous 247 0.1 -3 30 13 11 14

Indian Hotels Miscellaneous 729 0.7 -19 66 2 -1 5

Hotel Leela Ven. Miscellaneous 134 0.1 -26 9 -33 2 3

Astrazeneca Phar Pharma 347 2.2 -5 DNA DNA 32 44

Natco Pharma Pharma 235 0.6 38 16 14 16 17

Omaxe Realty 428 0.6 15 75 16 6 7

Anant Raj Inds. Realty 323 2.3 -15 11 4 5 6

Ansal Properties Realty 60 0.2 -35 46 4 4 6

Mercator Shipping 51 0.2 -35 51 DNA 2 6

S C I Shipping 288 0.3 -40 DNA -8 0 3

M T N L Telecom 210 0.7 -30 8 DNA -49 -25


Strategy


Exhibit 19: Sectoral laggards of today

Stock Sector Mcap

($ mn)

6 mnth ADV

($ mn)

3-yr share price

CAGR (%)

Next 2-yr EPS

CAGR (%)

Next 2-yr BVPS

CAGR (%)


(FY10-FY12)


(FY10-FY12)

Ashok Leyland Auto 1,114 2.5 -9 19 0 14 13

Sundram Fasten. Auto Anc 125 0.1 -10 DNA 15 16 14

Bharat Forge Auto Anc 963 1.7 -3 25 10 11 12

BEML Ltd Capital Goods 125 0.8 -44 DNA DNA 7 9

Suzlon Energy Capital Goods 403 12.1 -41 54 -44 -12 5

Birla Corpn. Cement 338 0.1 -12 15 3 20 22

India Cements Cement 366 1.9 -16 10 4 6 8

Guj Fluorochem Chemicals 522 0.8 18 DNA DNA 23 22

Guj Alkalies Chemicals 234 0.5 16 6 15 11 11

Simplex Infra Engineering & Construction 87 0.0 -41 12 6 11 13

Punj Lloyd Engineering & Construction 259 4.6 -27 DNA 1 -3 8

Jyothy Lab. FMCG 567 0.4 22 45 10 13 16

Tata Global FMCG 1,628 7.8 12 17 8 8 12

Lak. Mach. Works Industrials 396 0.3 4 DNA DNA 15 23

Rel. Indl. Infra Infrastructure 99 3.8 -21 DNA DNA 11 13

GTL Infrastructure 44 0.2 -66 DNA DNA -2 10

3i Infotech IT 50 0.2 -58 DNA DNA 9 9

Tata Elxsi IT 100 0.2 -12 65 16 22 24

Container Corpn. Logistics 2,631 2.0 -1 7 11 18 23

Sh.Ashtavinayak Media 14 0.1 -57 DNA DNA 3 5

Natl. Aluminium Metals 1,474 0.3 -32 14 4 8 13

Tata Steel Metals 5,046 30.8 -14 99 -1 5 10

Indian Hotels Miscellaneous 729 0.7 -19 66 2 -1 5

Hotel Leela Ven. Miscellaneous 134 0.1 -26 9 -33 2 3

Astrazeneca Phar Pharma 347 2.2 -5 DNA DNA 32 44

Natco Pharma Pharma 235 0.6 38 16 14 16 17

Anant Raj Inds. Realty 323 2.3 -15 11 4 5 6

Ansal Properties Realty 60 0.2 -35 46 4 4 6

Rajesh Exports Retail 648 0.5 15 DNA DNA 19 13

Shree Gan.Jew. Retail 114 0.4 -7 DNA DNA 34 31

Mercator Shipping 51 0.2 -35 51 DNA 2 6

S C I Shipping 288 0.3 -40 DNA -8 0 3

M T N L Telecom 210 0.7 -30 8 DNA -49 -25

Bombay Rayon Textiles 530 0.5 -3 DNA DNA 8 8

Lanco Infratech Utilities 364 3.0 -48 55 -6 8 10


Strategy


1. Introduction Alice: Would you tell me, please, which way I ought to go from here?

The Cheshire Cat: That depends a good deal on where you want to get to.

Alice: I don't much care where.

The Cheshire Cat: Then it doesn't much matter which way you go.

Alice: so long as I get somewhere.

The Cheshire Cat: Oh, you're sure to do that, if only you walk long enough.

From: Lewis Carrolls Alices Adventures in Wonderland

On 31 March 2007, Tata Steel had a market cap of `261bn (share price of `397) and Tata Motors had a market cap of `280bn (share price of `141). Then within a year, the two companies made acquisitions which made global media headlines. Five years later, as on 31 March 2013, Tata Steel and Tata Motors have a market cap of `303bn (share price of `313; equity dilution of 32%) and `858bn (share price of `269; dilution of 40%), respectively. As the strategy of the two companies unfolded, could this have been foreseen? Titan and TTK Prestige over the last decade have delivered shareholder returns of 58% CAGR and 82% CAGR, respectively. What will be the trajectory of these companies over the next five years? We seek to answer these questions by tracking the journeys and evaluating the decision making of these companies.

Over the last two years, we have developed a framework called the greatness model to identify ten baggers; basically we look for companies which over a six-year period show that they can consistently invest in their business and generate profits and cash flows (see Section 2 for more details). Also, we use the greatness framework for other purposes:

The framework can be used to identify the propensity of leading Indian companies to fade away to mediocrity and vice versa (of second- or third-rung franchises to rise to greatness). This is discussed in Section 3 of this note.

We can also use the framework to identify fallen angels i.e. the once-loved companies that were seen as undisputed market leaders, say, for 5-7 years but then they faded away. Section 4 of this note identifies such companies in the context of the Indian market and discusses Tata Motors and Tata Steel.

In Section 5, we take our analysis beyond number crunching and delve into the reasons why a number of great companies fade away whilst a few fall from grace but then pick themselves up and make a comeback. Since most companies make important strategic decisions that determine their future trajectory, we explore whether analysis can help to identify the strengths and flaws of such strategic decisions.

As we begin this series of notes on India Incs strategic decisions, we also understand that luck and/or timing, as in all else in life, plays a big role in corporate success. Seemingly similar decisions have diametrically opposite results. And that is what makes corporate history interesting, exciting and relevant. For example, both Tata Steel and Tata Motors made large acquisitions at around the same time, acquisitions that were multiple times their balance sheet size then. One acquisition now seems hugely unsuccessful whilst the other is an albatross around the neck and the first major challenge for the new chairman of the group. At the time of the acquisitions, experts had expected exactly the opposite outcome.

Titan and TTK Prestige have delivered returns of 58% CAGR and 82% CAGR over the last ten years

Our greatness model identifies ten-baggers

We take our analysis beyond number crunching and take a deep look into strategic decision making

Seemingly similar decisions have diametrically opposite outcomes

Strategy


The main purpose of this series of notes is to give investors a toolkit (both in terms of analytical tools and in terms of questions to ask managements) which will enable them to analyse strategic decisions that are made by corporates as they happen. Furthermore, since some great companies can recover after falling, we intend to arm investors with tools that can help them track and time the turnaround trade i.e. when the ill-effects of poor strategic decisions have peaked out. Investors need to have a toolkit to analyse strategic decisions as they happen because of the huge impact such decisions have on capital allocation and thus on RoCE, which we find to be the single best metric to assess a companys rise and its subsequent fall.

For example, two companies from Ambits ten-baggers listTitan Industries (Section 6) and TTK Prestige (Section 7)went through a crisis and then emerged from it to have a strong run over the last ten years. How did they get into trouble? How did they come out of it? Have they proofed themselves from future disasters? What should investors watch out for? We seek answers to these questions in this note.

Some fallen angels revive and become great again

Strategy


2. The greatness framework Greatness is not in where we stand, but in what direction we are moving.

Oliver Wendell Holmes

This quote appropriately captures the driving philosophy behind our greatness framework that lies at the core of our process of identifying potential ten baggers. We had unveiled this framework on 19 January 2012 with the first iteration of the Tomorrows ten baggers note. This framework studies a firms structural strengths by focusing not on absolutes but rather on improvements over a period of time and the consistency of those improvements. A basic sketch of the underlying process behind the making of a great firm has been recaptured in Exhibit 20 below.

Exhibit 20: The greatness framework


We rank the BSE500 universe of firms (excluding Financial Services firms and excluding firms with insufficient data) on our greatness score, which consists of six equally weighted headingsinvestments, conversion to sales, pricing discipline, balance sheet discipline, cash generation and EPS improvement, and return ratio improvement. Under each of these six headings, we further look at two kinds of improvements:

Percentage improvements in performance over FY10-12 versus FY07-09; and

Consistency in performance over FY07-12 i.e. improvements adjusted for standard deviations.

b. Conversion of investment to sales (asset turnover, sales)

c. Pricing discipline (PBIT margin)

d. Balance sheet discipline (D/E, cash ratio)

a. Investment (gross block)

e. Cash generation (CFO)

The greatness framework The framework uses publicly available historical data to assess which firms, over a sustained period of time (FY07-12), have been able to relentlessly and consistently: (1) Invest capital; (2) Turn investment into sales; (3) Turn sales into profit; (4) Turn profit into Balance Sheet strength; (5) Turn all of that into free cash flow; and (6) Invest free cash flows again. Clearly, this approach will have limited value if there is a structural break in the sector or in the company, which makes past performance a meaningless guide to future performance. However, to the extent that such structural breaks tend to be the exception than the rule, the greatness model helps in creating a shortlist of stocks that investors can then analyse in greater detail.

Strategy


The various metrics used to quantify greatness can be seen in the following exhibit:

Exhibit 21: Factors used for quantifying greatness (as used in the 2012 model)

Head Criteria

1 Investments a. Above median gross block increase (FY10-12 over FY07-09)*

b. Above median gross block increase to standard deviation

2 Conversion to sales a. Improvement in asset turnover (FY10-12 over FY07-09)*

b. Positive improvement in asset turnover adjusted for standard deviation

c. Above median sales increase (FY10-12 over FY07-09)*

d. Above median sales increase to standard deviation

3 Pricing discipline a. Above median PBIT margin increase (FY10-12 over FY07-09)*

b. Above median PBIT margin increase to standard deviation

4 Balance sheet discipline a. Below median debt-equity decline (FY10-12 over FY07-09)*

b. Below median debt-equity decline to standard deviation

c. Above median cash ratio increase (FY10-12 over FY07-09)*

d. Above median cash ratio increase to standard deviation

5 Cash generation and EPS improvement

a. Above median CFO increase (FY10-12 over FY07-09)*

b. Above median CFO increase to standard deviation

c. Above median EPS increase (FY10-12 over FY07-09)*

d. Above median EPS increase to standard deviation

6 Return ratio improvement a. Improvement in RoE (FY10-12 over FY07-09)*

b. Positive improvement in RoE adjusted for standard deviation

c. Improvement in RoCE (FY10-12 over FY07-09)*

d. Positive improvement in RoCE adjusted for standard deviation

Source: Ambit Capital research. Note: * Rather than comparing one annual endpoint to another annual endpoint (say, FY07 to FY12), we prefer to average the data out over FY07-09 and compare that to the averaged data from FY10-12. This gives a more consistent picture of performance (as opposed to simply comparing FY07 to FY12).

Exhibit 22: Distribution of firms on the greatness score has been calculated by using data over FY07-12 (total population: 381 firms)

0

10

20

30

40

50

60

0%-10% 10%-20% 20%-30% 30%-40% 40%-50% 50%-60% 60%-70% 70%-80% 80%-90% 90%-100%

No

. o

f fi

rms

Greatness Score

Zone of mediocrityGood, not Great Zone of greatness

211 firms score < 50%

93 firms (between 50% and 67%)

Only 77 firms score > 67%


Strategy


3. Self-destruction quantified "We're so great we can do anything!"

How the mighty fall, Jim Collins

Over the last 20 years, around 80% of listed companies have failed to deliver shareholder returns in excess of inflation (assuming an annual inflation rate of 7.9%). Given that nominal GDP growth over this period has been around 15% per annum, such paucity of shareholder returns is surprising.

Even more worryingly for those who prefer investing in large caps:

The top-100 companies (in terms of their market cap as of March 1993) have delivered an average return of only 7% per annum in the subsequent 20 years; and

The Nifty has churned by around 50% or so every decade (as compared to around 25% for developed markets and around 30-40% in other major emerging markets).

Sustaining leadership Through our greatness model, we seek to contrast the probability of sector leaders remaining sector leaders over long periods versus them turning sector laggards.

Methodology

We use our greatness model to assess the probability that sector leaders (defined as firms with a greatness score in excess of 75th percentile of the sector) from five years ago are now amongst the sector laggards (defined as firms with a greatness score of less than 25th percentile of the sector), i.e. what is the probability of self-destruction? We contrast this against the probability of sustaining leadership i.e. what is the probability that sector leaders are still sector leaders five years hence. We check this historically starting from 2003for example, we assess the chances that a sector leader in 2003 was still amongst the sector leaders in 2008 and contrast this against the chances of it becoming a sector laggard by 2008 and so on.

Results

Whilst the average probability of a sector leader remaining a sector leader five years later is only 15% (see the table below), the average probability of it becoming a sector laggard is 25%. Thus, the chances of a sector leader becoming a sector laggard are significantly higher than its chances of sustaining leadership, i.e. the probability of self-destruction is relatively high.

Exhibit 23: Probability of self-destruction 2003,08 2004,09 2005,10 2006,11 2007,12 average

Probability that sector leaders in Year-0 stay sector leaders in Year-5?

12% 20% 19% 10% 17% 15%

Probability that sector leaders in Year-0 become sector laggards in Year-5?

23% 20% 30% 23% 31% 25%

Source: Ambit Capital research, Note: 2003,08 indicates the probability in Year-5 (2008) for a sector leader in Year-0 (2003)

Conversely, when we look at sector laggards, we find that it is much more likely that they will become sector leaders five years later (34% probability) as opposed to staying laggards (18% probability).

80% of listed companies returns are less than inflation

Laggards become leaders with unerring regularity

Strategy


Exhibit 24: Probability of rising to greatness 2003,08 2004,09 2005,10 2006,11 2007,12 average

Probability that sector laggards in Year-0 stay sector laggards in Year-5?

20% 17% 13% 21% 19% 18%

Probability that sector laggards in Year-0 become sector leaders in Year-5?

37% 23% 42% 39% 28% 34%

Source: Ambit Capital research, Note: 2003,08 indicates the probability in Year-5 (2008) for a sector laggard in Year-0 (2003)

The two preceding tables show that mean reversion in corporate fundamentals is the norm in India. Very few leaders remain leaders (only 15% probability) and very few laggards remain laggards (only 18% probability). This implies that the fundamentals of more than 80% of Indian companies revert to the mean the mighty go into decline and the puny begin to rise.

Strategy


4. Identifying fallen angels "The bigger they are, the harder they fall."

- Joe Walcott

Using our greatness framework, we can identify the fallen angels i.e. the once-loved companies that were considered to be undisputed market leaders, say, for 5-7 years, but then they faded away. More practically speaking, we use our model to grade firms into leaders (scores above the 75th percentile) and laggards (scores below the 25th percentile). Then we define fallen angels as those firms that slide from being a leader to a laggard over a five-year period. Our quantitative analysis suggests that RoEs and RoCEs are the most sensitive measurables in a stocks fall from grace. More specifically, we use the following steps to quantify the sensitivity of a fundamental parameter (such as sales growth, asset turnover, profit margins, RoE, and RoCE) as firms decline from being leaders to laggards: (1) Using the difference between the value of the parameter in years t & t-5, and

dividing it by the average for the period (t-5 to t), to arrive at value x; (2) Using the difference between the value of that parameter in years t+5 & t, and

dividing it by the average for the period (t to t+5), to arrive at value y; and (3) Using the difference (y-x) to measure the sensitivity of that parameter. Based on this, RoE and RoCE are the most sensitive factors that best reflect a firms fall from grace. Exhibit 28 on page 26 provides a list of fallen angels. As seen in this exhibit, some of the once-loved companies that have been identified as fallen angels based on our greatness framework include companies such as Hero MotoCorp, Ranbaxy Labs, Tata Motors, TVS Motor, Tata Steel, Bharat Forge, Indian Hotels and Bharti Airtel. Bharti is the numero uno in the telecom space and for many years it seemed that the company could do no wrong as it went from strength to strength. However, Bharti appears on our list of fallen angels in FY12, as for some time now, it seems that the company and its management can do nothing right. For one, growth in the domestic market slowed down as tariffs were driven down by high competitive intensity. The industry bid astronomical amounts for the 3G/BWA spectrum in FY11 auctions, resulting in the Government garnering `677bn. It whet the Governments appetite as spectrum reserve prices have been set much higher than industry expectations in auctions since. Moreover, regulatory challenges increased especially in the aftermath of the 2G scam. Whilst Bharti has not been accused of anything in the scam related to the 2008 licence handouts, no one is quite sure of who may try to implicate whom in the murky world of Indian politics-business. Possibly stung by the 2G scam, the Government and the regulator have become more punitive, introducing what may deemed to be anti-industry regulations such as one-time excess spectrum fee on retrospective basis, reduction in termination rates and possible abolishment of roaming. These are all external challenges that impact the entire industry. What added to Bhartis woes was its decision to make a big bet on the African market. It acquired Zain at an enterprise value of `503bn (US$10.7bn; 51% of its then market cap of US$20.9bn). Bharti was trading at 6.1x FY11 EV/EBITDA when it acquired Zain and instead of issuing stock, it paid in cash. Three years down the line, with the

We identify fallen angels

RoE and RoCE best reflect a firms fall from grace

Bharti is a good example of a fallen angel

Decision to acquire Zain - a game changer

Strategy


benefit of hindsight, the acquisition seems ill-timed and expensive. Whilst the Africa market is potentially large (total population of 495mn in 17 countries), the larger markets are moderately penetrated (~51% average), have significant competition and present varying regulatory challenges. The acquisition was completed just after the highly expensive 3G auctions and at a time when the managements attention was possibly needed in the domestic business. The company has undergone multiple management changes including swapping roles, whilst the well-oiled machine appeared to be stumbling. The companys market cap tumbled from US$38.0bn in August 2011 at its peak to a low of US$16.5bn in August 2012. Since then it has partially recovered.

Exhibit 25: Bharti's subscriber growth in India has tapered off recently

100110120130140150160170180190200

Jan-

10

May

-10

Sep-

10

Jan-

11

May

-11

Sep-

11

Jan-

12

May

-12

Sep-

12

Jan-

13

mn

Source: COAI, Ambit Capital research

Exhibit 26: Snapshot of African countries in Bhartis portfolio

Percentage of Bharti's FY12

Africa Revenue

Population (mn)

Mobile penetration

(%)

Nigeria 34.3% 162.5 59%

Zambia 9.6% 13.5 61%

Congo DRC 9.4% 67.8 23%

Gabon 7.3% 1.5 120%

Tanzania 6.0% 46.2 56%

Congo Brazzaville 4.5% 4.1 95%

Ghana 4.3% 25.0 85%

Niger 4.0% 16.1 27%

Others 20.6% 158.3 47%

Total 100% 495.0 51%

Source: COAI, Ambit Capital research

Similarly, no one would have doubted the leadership position of Indian Hotels five years ago. Indian Hotels also does well on our greatness framework for 2007. In fact, its greatness score was 71% in 2007, which implies that it was consistently investing capital, converting that into revenues, converting revenues into profits, maintaining high return ratios, generating operating cash flows, and investing these cash flows again. Indian Hotels five-year average net sales growth (FY03-07) was 26% and its EBIT margins were close to ~21%. Even its RoEs and RoCEs were pretty decent, unusual for an Indian hotel chain. The five-year (FY03-07) average RoE was ~10% and RoCE was ~11%. Much of this was also reflected in its stock price performanceIndian Hotels outperformed the Sensex by 13% CAGR over December 2002-December 2007).

Exhibit 27: Indian Hotels - breakup of revenue growth (in ` mn unless otherwise mentioned) FY02 FY07 5-year CAGR (%)

Standalone revenues 5,380 16,184 25

Room revenues 2,530 8,451 27

Average Room Rate (` per day) 4,418 9,234 16

Room occupancy (No. of rooms) 1,569 2,507 10

Source: Company, Ambit Capital research; Note: standalone entity

As can be seen in the above exhibit, according to the disclosures made by the company in the Management Discussion & Analysis section, it appears that whilst the AR` increased at a CAGR of ~16% over FY02-07, the remaining 10% of the growth in room revenues was on account of an increase in the number of rooms.

Strategy


However, over the next five years, Indian Hotels leadership position faded away. The five-year average net sales growth (FY08-12) declined to 7% (from 26% in the previous block of five years). This was accompanied by a corresponding decline in its EBIT margin to ~15% average over this period. Even its FY08-12 average RoEs and RoCEs declined to ~3% and ~8% respectively. Not only did Indian Hotels underperform the Sensex by 16% (the five-year CAGR over December 2007- December 2012 of Indian Hotels stock price was -17% as against -1% for the Sensex), even its greatness score declined to a mere 8% (in FY12). The reasons for the fall from grace are usually multiple and can be a result of external (usually not controllable) or internal factors (usually addressable by the management). A sharp decline in the price of a global commodity coupled with reduction in import tariffs can hit an entire sector very hard. These are external factors and the Indian steel industry was adversely affected by these factors in the 1990s. Usually, internal factors are also involved. For example, in the steel industry, whilst the new entrants in the 1990s went on a high-cost debt-fuelled investment binge, Tata Steel went on a restructuring and modernisation programme. The results were there for all to see over the next decade. Research has shown that when companies fall from grace, over 80% of the factors are within management control or internal and less than 20% are external. Hence, it is important to scrutinise and understand corporate and management strategy for strong investment returns and to avoid minefields. And last but not the least, is the role of lady luck. We will discuss these in greater details in the next section.

Exhibit 28: List of 'fallen angels' i.e. companies which in the space of five years went from being top quartile to bottom quartile on our greatness scores

FY03, 08 FY04, 09 FY05, 10 FY06, 11 FY07, 12

Monsanto India Hero MotoCorp Monsanto India Tata Motors Bharti Airtel

Hero MotoCorp Eicher Motors Tata Motors SKF India SKF India

Eicher Motors Tata Motors ABB Bharat Forge Bharat Forge

Atlas Copco (I) Ashok Leyland Siemens Siemens Alstom T&D India

Godrej Inds. TVS Motor Berger Paints Kirl. Brothers AIA Engg.

Carborundum Uni.

Motherson Sumi Tata Chemicals Havells India Lakshmi Mach. Works

CMC Siemens Bharat Electron Lakshmi Mach. Works

Gateway Distr.

Container Corpn.

Atlas Copco (I) Lakshmi Mach. Works

Bharati Shipyard Sterlite Inds.

ONGC Kirl. Brothers Gateway Distr. Allcargo Logistics Hind. Zinc

BPCL Berger Paints Tata Steel Ent. Network SAIL

IOCL PTC India SAIL Hind. Zinc Natl. Aluminium

Dr Reddy's Labs BPCL Natl. Aluminium SAIL Tata Steel

Ranbaxy Labs. HPCL Hotel Leela Ven. Tata Steel Indian Hotels

Guj Gas Company

IOCL ONGC Natl. Aluminium Hotel Leela Ven.

Neyveli Lignite GAIL (India) BPCL Hotel Leela Ven. MRPL

Sanofi India IOCL Thomas Cook (I) GE Shipping Co

Ranbaxy Labs. GAIL (India) Biocon

Guj Gas Company

Ranbaxy Labs.

Neyveli Lignite GE Shipping Co

Neyveli Lignite

Source: Ambit Capital research; Note: 2003,08 indicates that these companies, which were great firms in 2003, have been identified as fallen angels in the year 2008.

In the 1990s, Tata Steel undertook restructuring when others chose a debt-fuelled expansion binge

Strategy


5. How and why do great companies fall? I change my mind when the facts change. What do you do?

- John Maynard Keynes

As highlighted in the preceding sections, more often than not great firms regress to mediocrity in India. Why does this happen? CEOs and promoters in their own explanations for underperformance tend to cite the business cycle or Government interference and regulations (eg. the telecom sector or the infrastructure sector). Occasionally, they point to rising competitive intensity in a sector (eg. in two-wheelers). However, such explanations on closer inspection are not particularly compelling because within the same sector (and hence subject to the same regulatory and competitive forces), we find some firms which are sliding and others which are rising.

For example, over the past five years, as Infosyss NOPAT margin has slid from 25.1% (in FY09) to 19% (in FY13) and its RoCE has fallen from 30.4% (in FY09) to 20.2% in FY13, HCL Tech has displayed a very different trajectory. HCL Techs NOPAT margins have remained relatively flat over FY09-12 (15% in FY13 vs 15.5% in FY09) and its RoCE has risen from 21.1% in FY09 to 27.2% in FY13. (We have used a 12-month period ending March for HCL Tech.) Unsurprisingly, therefore over this period, Infosys has underperformed the Nifty by 20 percentage points whilst HCL Tech has outperformed the Nifty by 540 percentage points.

Exhibit 29: NOPAT margins HCL Tech catching up

0.0%

5.0%

10.0%

15.0%

20.0%

25.0%

30.0%

FY04

FY05

FY06

FY07

FY08

FY09

FY10

FY11

FY12

FY13

Infosys HCL Tech


Exhibit 30: RoCE moving in different trajectories

0.0%

5.0%

10.0%

15.0%

20.0%

25.0%

30.0%

35.0%

FY04

FY05

FY06

FY07

FY08

FY09

FY10

FY11

FY12

FY13

Infosys HCL Tech


Another example is Bajaj Auto and TVS Motors. Over the past ten years, TVS Motors PAT margin has slid from 4.7% (in FY03) to 3.5% in FY12 and its RoCE has fallen from 26.2% (in FY03) to 23.0% in FY12. Over the same period, Bajaj Autos PAT margins have risen from 10.6% (in FY03) to 15.8% in FY12 and its RoCE has risen from 30% (in FY03) to 200% in FY12. Unsurprisingly, whilst TVS Motors share price has risen by a CAGR of 6% over the last ten years, Bajaj Autos share price has returned to a CAGR of 40% over the last five years (Bajaj Auto was listed in 2008 after the demerger).

Infosyss performance has lagged behind peers

Bajaj Auto has outperformed TVS Motors

Strategy


Exhibit 31: PAT margin of Bajaj and TVS way apart!

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Bajaj TVS


Exhibit 32: Bajajs RoCE in a different trajectory vs TVS

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In this section, we use a modified version of Collins framework and Thorndikes approach to analyse capital allocation to understand why great Indian companies slide. The core stages in our framework are as follows:

Stage 1 - Hubris and arrogance: The company is on top of its game. Operating margins, RoCE, growth, valuation multiples, etc., are at all-time highs. Captivated by the success in its core business, the management starts believing its own press. Success and adulation intoxicates the top brass. Arrogance sets in. The company loses sight of the factors which made it successful in the first place.

Stage 2 Unbridled expansion: In search of more growth and more adulation, the management begins an expansion drive which is often inorganic. The firm overreaches into new geographies and product lines where it has no real experience or expertise. Sub-par capital allocation begins.

Stage 3 Stuck in a rut: Often cost discipline and/or product excellence erodes and prices are then raised. Profits, return multiples and valuation multiples start sliding. Company politics thrives. The leader becomes increasingly autocratic and announces 'recovery plans' that aren't based on accumulated experience.

Stage 4 Grasping for solutions: The company thrashes around and looks for a solution even as profits and financial strength continue to slide. Senior management jobs are on the line. Often a new leader comes in and sometimes he tries to fire silver bullets (eg. a 'transformative' acquisition, a blockbuster product, a cultural revolution, etc). However, a new leader (ideally, someone from inside) who takes a long, hard look at the facts and then acts calmly to put in place a measured recovery strategy with sensible use of cash and capital at its centre, could be the saviour.

Stage 5a Capitulation: The firm is sold or fades into insignificance or, and this happens rarely, shuts down.

Or Stage 5b Recovery: The firm turns the corner and begins the long, slow climb to recovery.


Strategy


Exhibit 33: The five-stage framework

Source: Ambit Capital research, From the book How The Mighty Fall

We first apply the framework to two of the largest and well-regarded companies in IndiaTata Steel and Tata Motors. We chose these two companies not only because both of them appear on our fallen angels list, but being part of the same industrial group, they present a good chance to compare and contrast their respective strategies over the last decade. Both the companies, at the peak of their performance in the last decade, made big acquisitions that made headlines globally. How and why did they make these decisions and could the results of the same have been foreseen or at least forecasted with certain probability assigned to them?

In the next two sections, our case studies on Titan and TTK (two mid-cap stocks that we like) takes you through the history of these two companies as they grow, stumble, take big bets and then enjoy a decade of strong growth.

Stage 1: Hubris and arrogance

In stage 1, when a company experiences great success, it starts generating considerable free cash flow (as, almost by definition, high profits and high RoCE over the span of multiple years translate into considerable free cash flow). This often leads to hubris and arrogance, which finally drives poor capital and resource allocation decisions.

In the successful years spanning FY01-05, Tata Steel generated more cumulative EBITDA (`135bn) than it had generated in totality over the previous 15 years. Tata Steels RoCE rose from 10% in FY2000 to 61% in FY05. Tata Steels performance during this period was a result of: (1) a strong upturn in the global steel cycle due to strong economic growth worldwide in general and specifically in China; and (2) Tata Steels restructuring and modernisation efforts of the previous decade and a half, which bore fruits.

Tata Steel and Tata Motors two companies from the same group and such different trajectories over the last 3-5 years

After FY02 - an era of strong performance

Strategy


Exhibit 34: Tata Steel - standalone CFO and RoCE

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CFO (RHS) RoCE (%)

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Capacity grows from 3.3mt to 5mt

Visibility over strong cashflows in the coming years gives confidence to expand geographically with a large acquisition

CFO and RoCEs multiply over FY2000 to FY05

Standalone

Source: Capitaline, Ambit Capital research

For Tata Motors, in the four successful years spanning FY05-08, the firm generated a cumulative EBITDA of `136bn. In the ten years prior to FY04, the same firm had generated a cumulative EBITDA of only `70bn. Pre-tax RoCE for Tata Motors rose from 4.5% in FY98 to 33% in FY06. Tata Motors performance was driven primarily by the upturn in the domestic market.

Alongside this generation of capital, comes fame, adulation, awards and press attention. In a country, which has liberalised only in the last couple of decades, such public attention combined with the financial fruits of success can prove to be a heady cocktail for many CEOs. As a result, just as they have to make the most capital allocation decisions in their companies history, managements find that their egos are being stroked by the press, the sell-side and investment bankers. Stage 2 then follows and overexpansion organic or inorganic begins.

To be fair, both Tata Motors and Tata Steel at the early part of the last decade had the humility to acknowledge the role of the general upswing in the economy to their strong performance. To quote Ratan Tata, the then Chairman of Tata Motors, from the FY03 annual report: It is important also to recognise that a major component of the companys performance has been due to the growth in market size

Both the companies were coming out of a difficult period and reflected the orientation of the managements of the two companies. Tata Steel had spent much of its life since inception in a highly controlled and protected environment. Once economic liberalisations started, Tata Steel spent the years restructuring and modernising to meet the challenges of an extremely difficult operating environment in India and globally. Further, with liberalisation, Tata Steel had become exposed to global cycles of the steel industry.

Tata Motors, on the other hand, had been used to taking big, hairy, audacious goals (BHAGs1) and was used to operating in an environment where business cycles were notorious and vicious. First, the company took on the Japanese JVs in the LCV market in the 1980s. In the late 1990s, Tata Motors embarked on indigenously developing a passenger car (Indica), the launch of which coincided with the economic slowdown and the downturn in the CV industry. In the first decade of the 21st century, Tata Motors would endeavour to build the cheapest car in the world and take over two iconic luxury car brands that BMW and Ford had struggled with.

1AtermborrowedfromthebookBuilttoLastbyJamesCollinsandJerryPoras

A major part of the performance was thanks to the market growth

Tata Motors has a history of taking on BHAGs and coming out tops

Strategy


Strong turnaround performance brought recognition in its wake. Once again we would like to stress that the recognition and awards are well deserved but its consequences often are the seeds of future downfall. In 2000, Tata Steel became the first firm in the Tata Group to qualify for the JRD-Quality Value Award, an award created by the Group in 1995 in memory of JRD Tata and with the aim of recognising business excellence. When, in July 2000, Dr JJ Irani, the then MD of Tata Steel, received the award from Ratan Tata at Mumbais elegant National Centre for Performing Arts (NCPA), the ovation that ensued never seemed to cease. (Source: Tata Log, by Harish Bhat, Penguin Books, 2012.)

In 2004, Tata Steel, now under the leadership of its new MD, B. Muthuraman, received a special Leadership in Excellence plaque to mark the companys progress up the Quality Value ladder. At this stage, Tata Steel was regularly being feted by World Steel Dynamics as one of the most-efficient and low-cost global steel companies.

In October 2008, Tata Steel won the Deming Prize, the manufacturing equivalent of the Nobel Prize. In November 2008, at a special ceremony in Tokyo, Muthuraman, who would eventually be bestowed the Padma Bhushan by the President of India, received the Deming Prize. Says Harish Bhat, a veteran of the Tata empire, The Indian national flag was prominent on the dais that day, which made many people at Tata Steel very proud some even wept with joy. (Source: Tata Log, by Harish Bhat, Penguin Books, 2012.)

When Tata Motors launched the Indica, the very first India-made car, in the January 1998 Auto Expo, the public gave it a euphoric welcome. The then minister of commerce and industry, the late Murasoli Maran, called the car The Kohinoor of India. Three years later, when the Indica V2 was launched, it became the fastest-selling automobile in Indian history when it completed sales of 100,000 cars in less than 18 months. The [cars] market share zoomed to over 20% during the year 2000-02. (Source: Tata Log, by Harish Bhat, Penguin Books, 2012.)

With the Indicas commercial success came other accolades. JD Power, a car review publication, called the Indica V2 diesel the best in the operating costs category, ahead of the legendary Maruti 800. BBC Wheels declared the Indica V2 the best car in the `3 lakhs to `5 lakhs category.

For Tata Motors, the heady success of the Indica in the 1990s (the first contemporary car designed by an Indian firm) was compounded by the sensational debut of the LCV 'Ace' in the mid-2000s. These two runaway successes combined with the boom in the Indian economy over FY04-08 boosted the managements confidence.

Stage 2: Unbridled expansion

By itself, expansion is not a bad thing. However, in the Indian context, there are two limiting factors which make expansion a perilous affairlack of promoter (or key management) bandwidth and the relatively small size of the domestic market. The modest size of the domestic market means that market leaders relatively early in the Nifty lifecycle find that they have to venture abroad or into new sectors to sustain growth. Unfortunately, Indian companies, for all their claims to be reliant on professional management, are still overwhelmingly dominated by and run by promoter families. These families are only human and once they find that they have to expand beyond the core business and the core territory that they know so well, they struggle.

Expansion into new countries or new sectors by Indian companies are rarely successful as the finite nature of the promoters skill set puts a natural cap therefore on how far an Indian company can go. Rapid expansion into new markets or products usually results in poor capital allocation which dilutes both operating margins and RoCEs. Thus, the slide in the companys financial strength and share price begins. Tata Steel and Tata Motors are classic examples of these problems.

Well-deserved recognition and accolades often sow the seeds of hubris and arrogance

Lack of management bandwidth and relatively small domestic market are constraints for Indian companies

Strategy


We continue with the examples given in the preceding sub-section. In August 2004, Tata Steel announced the acquisition of NatSteel, a South Asian steel maker with ~2mt of steel capacity for ~SG$260mn. Whilst NatSteel was a pure converter with low margins, Tata Steel believed the acquisition would give it entry in South Asian markets and eventually drive significant synergy benefits. Then, in December 2005, Tata Steel acquired Millennium Steel, Thailand, which has a 1.2mt steel-making capacity and 1.7mt long products rolling capacity.

After this came the mega acquisition - in 2006, Tata Steel bid for Corus. Tata Steels first bid for Corus in October 2006 was at 455pence/share. A counter bid by CSN Brazil made Tata Steel raise its offer twice, and Corus was finally acquired by Tata Steel at 608pence, 34% above the original bid value. The total acquisition cost for Tata Steel was US$12.04bn, which was funded through a combination of debt and equity. To put this acquisition into perspective, Tata Steels FY06 shareholders equity was just over US$2bn. To date, this acquisition remains the largest by an Indian firm.

Tata Steels global foray should not have been surprising given that the company had consistently articulated its strategy in its communication to shareholders. As early as 2003-04, the chairman Ratan Tata wrote to shareholders: It (Tata Steel) must explore ways of enhancing its capacity domestically as also establishing finishing facilities in strategic location internationally, leveraging its low-cost Indian base and the availability of domestic iron ore. The same year in its MDA, the company stated: It is the Companys vision to be a 15 million tonne company by year 2010. This would be achieved through organic growth and through acquisition of steel capacities, both within and outside the country.

What was surprising in the acquisition of Corus was that Corus did not have raw material security and would not be able to leverage on the low-cost production base in India. The Corus acquisition was not consistent with the companys stated vision. Read these excerpts from the MDA in its FY05 annual report: "In the near term, the industry cost structure is likely to remain high due to shortage of coking coal and iron ore. These structural deficiencies in the steel value chain are unlikely to be resolved in the near future... the company believes that the maximum value can be created by making semi-finished products (slabs/ billets) at locations where raw materials are available (or can be competitively assembled), and by finishing them at locations where customers/ markets currently exists or will grow in future."

Corus certainly did not fit into the above criteria. What did Tata Steel see in this acquisition then? The acquisition could have partly been driven by the then prevalent wisdom in the steel sector about consolidation, with Mittal Steel (LNM Group) showing the path. But LNM was consistently following the strategy of having primary manufacturing in countries which had cheap energy or availability of raw materials or both. The other reason, and the less flattering one, could be that Tata Steel was driven by hubris into making a large acquisition to match the chairmans vision of taking the group global.

In Corus, Tata Steel saw the chance to become one of the largest steel producers in the world. In its FY07 annual report, Chairman Ratan Tata wrote to shareholders: "Undoubtedly the most notable event during the year was the company's public offer to acquire 100% of the shares of Corus group plc... the acquisition of Corus has transformed Tata Steel from a domestic producer to an international steel company with global scale." One can only speculate if the outcome would have been different, if instead of a marketing person (B Muthuraman), an operations person (Dr JJ Irani) had been at the helm of the company at that point of time. Was the acquisition driven by the group chairman's vision to take the group global and caution was thrown to the winds?

In April 2007, Tata Steel completed the acquisition of Corus

Corus did not fit with Tata Steels publicly stated strategy

so why did Tata Steel acquire Corus?

Strategy


To be fair, Tata Steels decision was hailed by most industry observers as being

one which was synergistic and sensible. Steel Business Briefing stated that there were lot of synergies and Tata Steel was acquiring "extremely good management" and "extremely good distribution". Initial results were encouraging given that steel prices were buoyant and the deal was hailed as a success over the next few quarters. Such was the hubris that Muthuraman, the then MD, gave a target of the combined EBITDA margin to improve from 13% to 25% in five years. In contrast, in 2001 and 2002, the company would be hesitant to forecast steel prices beyond one quarter. Unfortunately for Tata Steel, in FY12 and FY13, the combined EBITDA margin achieved was 9.3% and 9.2% respectively.

Leaving aside the acquisition price for Corus and leaving aside the recession that the world economy entered after September 2008, Tata Steel simply did not have the management bandwidth to run an ailing European steel manufacturer. We quote from the April 2013 issue of Forbes:

It was a bad start says Leahy (Secretary of British Trade Union community). And he blames Kirby Adams. (Adams, once MD of BlueScope Steel, was chosen by B Muthuraman, then MD of Tata Steel, to replace Philippe Varin, who was exiting Corus after seeing off the acquisition.) We had a fraught relationship with Adams, says Leahy. He didnt understand how to deal with unions. It was an unmitigated disaster. Not surprisingly, Adams left in 2010. Even as all of this was happening, a slowdown started to loom and job cuts were rising.

Khler, the third managing director in two years, shifted gears in the restructuring process that Adams had initiated in Europe. He centralised functions across verticals and regions. His aim was to integrate key functions like operations, sales, marketing and the supply chain.

Whilst the intentions were noble, the organisation was completely unprepared. Instead of improving communication channels with the leadership team across units, insiders said Khler surrounded himself with yes men. An executive from Tata Steel Europe, who declined to be named, said Khler surrounded himself with former colleagues from ThyssenKrupp: There is no British executive in the top management.

Exhibit 35: Management changes at Tata Steel

May 2003 - April 09 Philippe Varin, CEO

Philippe Varin stepped down from his position on April 6, 2009, within two years of the acquisition. He was to be replaced by Kirby Adams, formerly chief executive of BlueScope Steel, headquartered in Australia

April 09 - October 10

Kirby Adams, CEO (was made MD & CEO from September 09)

In June 2010 Kirby Adams stepped down from his executive roles

October 2010 - present

Mr. Karl-Ulrich Khler, MD & CEO

Mr Kolher's term gets over by October 2013 News reports mention that Tata Steel is looking out for a new CEO for the European business


An integration team was put in place right from Day 1, but company insiders speak about how the integration proved to be a big challenge. Even when a seasoned Tata veteran, Dr T Mukherjee, was based out of London, he could make limited headway and apparently there were too many differences between the Dutch and the English managers.

Further, Dr Mukherjee was close to retirement and probably did not have the appetite to drive the tough integration process. Raw material security proved to

To be fair, Tata Steels move was welcomed by most analysts and industry watchers

It was a bad start

Strategy


be elusive, without which having production facilities in high-cost locations did not make sense. Also, this was the first really large deal for a company; its earlier biggest challenge was operational in nature and internally focused restructuring and modernisation. To top everything, the global financial crisis came soon after and demand in Europe is yet to recover to its pre-crisis levels. In Tata Motors case whilst the Indica and the Indigo had been relatively successful, the firm was not able to attack Marutis market share in a meaningful manner. Meanwhile, Ratan Tata had the dream and vision of building an affordable family car to migrate two-wheeler users to four-wheelers. Tata Motors took up the challenge and began serious work on the development of the low-cost car (Nano) in the mid-2000s (total project cost of around US$1bn, according to unofficial sources). The product was showcased in the Auto Expo in January 2008 and then the Nano was launched in the summer of CY10 amidst much fanfare.

Tata Motors strategy was very clearly enunciated in the chairman's statement in its FY02 annual report, "In the commercial vehicles segment, the new vehicles being developed today will totally upgrade the company's product range... a greater commitment to build an international presence for the Company's brands and products in selected international markets."

On passenger cars: "...the necessary investments to continue to develop and renew a range of products would be uneconomical, given the limited size of the Indian market. Therefore, the challenge will be to explore a creative and meaningful relationship which would synergise our company's advantages with the market size and access of an international associate." The takeover of Daewoo's CV business and tie-ups with MG Rover and Fiat were consistent with the companys stated strategy.

Exhibit 36: Tata Motors - standalone exports (` mn) FY05 FY06 FY07 FY08 FY09 FY10 FY11 FY12

Total revenues 2,03,769 2,38,721 3,16,112 3,28,850 2,82,615 3,81,448 5,16,070 5,97,950

Export revenues 14,527 21,967 26,873 27,541 22,064 19,2

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