It has been an interesting patch for the market. On one side, markets are excited about what is happening to metal prices, how growth is normalising and how capex is coming back. On the other hand, markets are worried about inflation and other issues which are affecting profitability and margins. Are we going through a confusing patch?
Let me rephrase my answer with a little bit of macro view. The macro is always a challenging thing. As the new Howard Marks memo tells us, macro forecasting is not something that one should be attempting. But at the same time, the way we look at it is weather forecasting. While one is better off forecasting the season, one is forecasting the daily weather! One has to realise that we are in the midst of a bull market that is driven by central bank liquidity and it is not ending at any point soon. Now within that ebb and flow of the larger wave, there are going to be smaller waves like opening up the economy or the Covid wave that is panning out and the beneficiaries and the companies that get affected by those things tend to perform and not perform within those smaller waves.
So it might look confusing but it is pretty clear that we are in a bull market. But we should not even attempt to make a guess which company or sector is going to perform at what point of time.
The market positioning is changing suddenly. It started with a comeback in PSUs and pharma when the market recovered from the pandemic shock. Now start-ups are getting listed and they have a different business model. Have you changed your positioning looking at the way the environment has changed?
No, we do not change our positioning dramatically. Our world view did change dramatically when Covid struck and so we are still of the opinion that it has fundamentally altered a lot of trajectory for a lot of companies and sectors but we still continue to hold on to that view that whether it is pharmaceutical or digitisation trend, the asset inflation that is happening around the world and the trend of the stronger company getting stronger will continue to roll out. Within that, there is also an added thing of a cyclical recovery which right now is leading to a lot of cyclical companies because they have become relatively cheap compared to some of the secular trends. From a very short term point of view, the cyclicals are doing better than the secular stories at this point of time but our view remains that we are in a secular bull market, in a secular trend and one should stick with companies that are going to generate wealth over a long period of time.
Why have the pharma stocks fallen and would you buy this fall?
Pharma was the beneficiary of bunching up of a lot of Covid related benefits in the previous three-four quarters and those benefits seems to be rolling off for the moment as the cases come down in US as well as in India. As a result of that, some amount of tapering off of the opportunity has happened. Along with the reopening, USFDA seems to be gearing itself for coming and doing physical inspections. So, all is not well yet with the pharma industry in India. However, having said that, it is part of life for most pharma companies. They have gone through multiple levels of scrutiny — whether it is FDA or at a client level, they continue to be subjected to that level of scrutiny on a larger scale and they continue to pass out with flying colours.
There will be an odd company or an odd client that gets stuck due to some reason but I do not think it is a structural issue anymore. There might be some company specific issue related to that, some uncertainty related to FDA, some uncertainty related to continuing of Covid benefits and underperformance of some companies in the US due to pricing pressure on drugs, leading to some money being taken off the table at this point of time.
I do not think the larger trend is in question anymore. The larger trend has been that since five-six years, we have been investing in capacities, we have been investing into preparing for the next wave of generics that are going to go off patent and that is still ahead of us. There are some really good opportunities coming up in the next three to five years and Indian companies are poised to take away a significant chunk of that market so one has to position in companies which are going to do the best from the next three to five years point of view.
How sharp do you think could be this Covid adjustment? Covid upside added 5-7% to top line and 19-20% margin. That significantly will change FY22 assumptions but if one works with an assumption that the Covid upside got limited and restricted and we will not have a Third Wave, what changes in the near term for pharma companies and their PE multiples?
I am of the opinion that Covid is not going away. One has to learn to live with it. The nature of it might change and we might not have shutdowns anymore– like ebola is not eradicated but it is one of the virus strains. We will learn to live with Covid and we will have tools to fight against it.
From that point of view, pharma companies have a large opportunity not only in India but globally as well and there is still a large part of the emerging markets where the vaccines have not reached yet. So, it is not the sunset in terms of Covid opportunity but the nature will change. We were earlier facing a situation where nobody was prepared for it. Now the capacities are coming up. The new age drugs that will come to fight this disease are what the companies are positioning themselves for this Covid opportunity. We have to identify companies that are going to be at the forefront and fighting this war against Covid.
What is happening to the global tech companies, especially the Chinese tech companies and what does it mean for Indian tech at a time when is going public?
The megatrend that is panning out in the world is digitisation. Very recently, Google, Microsoft came out with results and you can see that at this size and scale, these companies are growing at 60-65%. I am talking about the top line, the profits are growing far higher. We are being eaten up by software and that pace of eating up has got even more accelerated due to Covid. So I do not think that trend is reversing at any point of time. Will there be some deceleration in that growth rate? For sure, there is a likelihood. Having said that, the trend is firmly entrenched.
Now what is happening is along with this digitisation trend, there are these platform companies that are taking advantage of new niche verticals. Essentially, every business is a technology business now. Food delivery business has become food tech, banking business or lending business has become fintech and every business is becoming a tech business. Now if that is the case, then the technology trend is not going to change and among the new platforms that are emerging, the winner tends to take all. The economics, the network effects and the moat that they are building leads to network effects and that is leading to exaggerated valuation in the short run.
Of course, the push from the other side is going to be regulation — whether it is in the US or in China — and there is going to be a regulatory overhang because these companies are becoming so large and so dominant a force that the government of the day tries to control and discipline them. I do not think we are at that stage in the Indian economy where a particular tech company is dominating the space so much that they control our lives. So I do not foresee India having that kind of regulation at any point soon. Maybe five, 10 years down the line, if we are also in a similar situation, then that regulation might come. But 10 years down the line, we will probably have a few companies dominating the space and an amazing amount of wealth will be created in this space.
So leave your apprehensions aside on the regulatory front and be a little more sceptical of the valuation but do not throw them out of the window just because they are not making profit or cash flows and they are focussing on a 10-year period and not the immediate next one year.
As a framework one thing which you follow is the size of the opportunity. Your top holdings are pharma, Route Mobile. So let us understand the two themes where according to you the size of the opportunity is expanding.
Digitisation is one place where the opportunity is expanding and accelerating at an unprecedented pace. Nowadays nearly 70% of the world has mobile phones, 50% of the world has the internet and they are all connected and the opportunity size for most of these global tech companies is not geography-specific anymore. They are catering to the whole world except maybe China because China is still a walled garden and it will not allow other tech companies to enter.
So there is a large geographic opportunity and we have to figure out how to ride this digitisation trend. There are many small niche verticals within this digitisation trend that are giving rise to companies that can grow to be five, 10, 20-25 billion dollar kind of companies. So yes, that is clearly one of the biggest trend that is playing out in the world right now.
