The budget may help consumption growth, but sustainable macro growth depends more on capex. The deceleration in capex growth is worrying, says UBS Global Research
The market has reacted positively to budget on hopes of consumption boost Equity markets have reacted positively to the budget, as the headline fiscal deficit does not signal major loosening, and there are hopes that giveaways will aid both rural and urban consumption. The bond market's reaction supports the concern over ambitious revenue assumptions and risk of further fiscal slippage. The budget may help consumption growth, but sustainable macro growth depends more on capex, so the deceleration in capex growth is worrying, especially as it could be cut even more if revenues disappoint.
Budget may raise hopes of PM Modi coming back; our nifty target is 10,000 The budget may raise the market's hopes that Prime Minster Modi will be re-elected, though the link between populist measures and election outcomes is not clearly evident historically (link). The policy space for any new government after the May elections to address capex driven growth will be constrained, given this budget and recent promises by opposition parties. We maintain our Nifty base case of 10,000 in December 2019.
We remain selectively overweight consumer discretionary and neutral on autos.
New schemes and tax breaks for households
The Finance Minister announced a scheme to provide income support to farmers: Rs 6,000 per annum will be transferred in 3 instalments to farming families with cultivable land of up to 2 hectares. The scheme will take effect from 1 December 2018, and the first instalment will be paid in March 2019. The fiscal cost will be 0.36 per cent of GDP (Rs750bn annually). Households earning up to Rs 0.5m will not be required to pay income tax. These schemes could boost consumer staples (especially rural), discretionary consumption, and rural demand for entry-level two-wheelers (link).
FY20 revenue targets look ambitious
The government estimates the FY20 fiscal deficit at 3.4 per cent of GDP, which is a deviation from the 3.1 per cent projected in the medium-term fiscal policy statement last year. It assumes revenue growth of 14 per cent YoY (20.5 per cent YoY in FY19 (revised estimate) and 8 per cent YoY in FY19 YTD). The government continues to rely on tax buoyancy, including from the GST (link).
Slowing capex is a concern
Overall capex is projected to grow 6 per cent YoY in FY20 (vs. 20 per cent in FY19), reflecting deteriorating spending quality and a skew towards social welfare spending. FY19 capex for railways, roads, defence and metro grew 23 per cent YoY (driven by roads), missing the target by 1ppt; budgeted growth in FY20 for these 4 sectors is 13 per cent YoY, led by railways, while FY14-19 growth was 18 per cent YoY. We remain underweight industrials/infrastructure (link).
Will the RBI cut rates?
Gross market borrowing (Rs7.1trn) was much higher than the market expected, and the bond market reacted adversely to this news. We believe the RBI to be cognizant of the risk to inflation from fiscal slippage, and we continue to expect it to keep rates on hold in the upcoming policy review on 7 February. That said, we expect a change in its policy stance from "calibrated tightening" to "neutral".
Key sector/stock implications (see inside for detailed sector impacts) For autos, the budget will support entry-level 2-wheelers, especially in rural areas, but will unlikely benefit premium bikes, MCHV and tractors. HUL, Dabur, Britannia, Titan and Asian Paints will likely be the key beneficiaries of the budget. It maintains the status quo for tobacco taxation, which is positive for ITC.
Income support to farmers
In his budget speech, the Finance Minister announced an "Income Support Scheme" for small and marginal farmers (Pradhan Mantri Kisan Samman Nidhi).
Under this scheme, farmers with cultivable land of up to 2 hectares will receive a direct cash transfer of Rs 6,000 per annum in three instalments.
The scheme will be implemented in the current fiscal year (FY19), and the first instalment will be paid in March 2019. Based on the 2015-16 agriculture census (released in 2018), the scheme will cover 86 per cent of total farmland holders. The government has allocated Rs200bn for FY19 and Rs750bn for FY20 (0.36 per cent of GDP) for the scheme.
Central government spending on rural development and agriculture is budgeted to grow 27 per cent YoY, largely due to the income support scheme; excluding this, it will grow 4 per cent YoY.
Budget spending on rural housing will decline in FY20 and has been revised downward for FY19 compared to the budgeted estimate.
Allocation for Modicare
The government has allocated Rs64bn for the national health insurance scheme, 'Pradhan Mantri Jan Arogya Yojana' (PMJAY), launched in September 2018. The budgeted absolute spend on healthcare looks reasonable (we have assumed a cost of Rs110bn per annum at an annual premium of Rs1,100 covering 100m families), as the cost will be shared 60 per cent/40 per cent between the central and state governments.
Impact on infrastructure and capital goods
Budget FY20 impact: Capex growth in four key sectors will slow to 13 per cent in FY20 from FY14-19 CAGR of 18 per cent
*While FY19 railway capex is set to miss earlier estimates by 4 per cent, FY20 railway capex is set to grow by 14 per cent YoY. The increased railway capex will be funded by a combination of higher budgetary support and borrowing by railways.
*FY19 road capex growth is expected to exceed earlier estimates by 8 per cent, funded by higher borrowing. FY20 capex is set to grow by 13 per cent YoY (on a higher base). Importantly, this higher spending will be mostly funded by borrowing (up 21 per cent YoY) rather than budgetary support (up 5 per cent).
Impact on Banks and NBFCs
*The government have raised the TDS threshold on interest earned on bank/post office deposits from Rs10,000 to Rs40,000. This is marginally positive for bank deposits growth and will likely boost the attractiveness of bank deposits vs. other savings products.
Sector and stock implications
The increase in the TDS threshold could slow down the dis-intermediation of bank deposits, in our view, and help banks access low-cost deposits. We believe retail deposit gathering will be critical in sustaining above-industry growth rates in loans for banks (link our detailed note) Cement
Road capex to grow by 13 per cent YoY
*In FY19, spending on roads exceeded estimates by 8 per cent. The FY20 capex outlay of Rs1,470bn is up 12.6 per cent YoY. The capex outlay for metro projects is also up 18.5 per cent YoY to Rs185bn.
*However, overall capex growth is expected to moderate from 20 per cent YoY in FY19 to 6 per cent YoY in FY20.
*The tax exemption for affordable housing projects (houses up to 60 sqm) has been extended by a year (Section 80IBA). This could provide a continued boost to affordable housing project launches in FY20.
*The long-term capital gain exemption under section 54 can now be availed by the purchase of two properties instead of just one currently. This could mildly aid demand in urban residential.
*Assured income support for 120 million small and marginal farmers could also boost rural cement demand to some extent.
Sector and stock implications
*A limited impact from the above measures on cement volume growth.
*Hence, the budget as neutral for the sector. Consumer Budget FY20 impact: Consumption boost ahead? In our view, the FY20 budget is likely to impact both rural as well as urban consumption. Rural growth has been showing signs of recovery over the last 6-9 months, which in our view is an indicator of rural consumers' intent to consume more. Some of the schemes announced could finally provide some disposable income to such consumers and boost rural consumption after the headwinds of demonetization and GST, which impacted both the supply and demand environment in some of the rural hinterlands.
*Also, consumer companies are likely to be key beneficiaries if the excess liquidity in the hands of consumers increases consumer inflation. Historically, consumer companies, especially those with strong brand recall, have done better in an inflationary environment, as it provides headroom for price increases and therefore EPS increases.
*In the Union Budget FY20, the government has announced a direct benefit transfer of Rs 6,000 per year to small and marginal farmers under the PM-KISAN scheme. This amount is to be disbursed in three equal instalments of Rs 2,000 each directly to the farmers' bank accounts. It is likely to benefit around 120m rural households and the first pay-out is expected on 31 March 2019. In our view, if this scheme is implemented successfully, it could meaningfully increase the disposable incomes of a large proportion of rural consumers. In this case, we believe all consumer staples companies with exposure to rural India should benefit. However, in our view, the companies most likely to capture the lion's share of this growth will be the ones with the strongest distribution and sales execution in rural India. We identify HUL, Dabur and Britannia as key beneficiaries of the above scheme.
*The government has also announced that individual taxpayers with taxable annual income up to 5 lakhs will get a full tax rebate. This targeted approach could aid inclusion of the bottom half of the consumer pyramid into the realm of discretionary consumption. Titan and Asian Paints could be key beneficiaries of the above scheme.
*Status quo maintained on tobacco taxation: This is positive for ITC, as it allays investor concerns regarding disproportionate taxation increases on tobacco to fund populist schemes.
Sector and stock implications
*Based on analysis, the following stocks are key beneficiaries of the schemes above:
*HUL is a key beneficiary of the budget announcements. However, we are neutral on the stock given it is already trading at valuations which leave limited upside room.
*Dabur’s on the ground strategy has been working well. Low historic affordability has meant low availability in geographies of brand strength. With improved access to products, consumer throughput is improving. Mr Mohit Malhotra’s refreshed plans for Dabur’s core brands will present to consumers a far more aggressive positioning while differentiating and expanding into adjacent product categories.
*Britannia's brand equity should support extensions into categories other than biscuits across India. Consumers can also now afford better-quality biscuits, and Britannia’s market share and volume growth should improve. This should be further aided by rural distribution expansion undertaken by the company.
*Titan: Gold demand in India is slowing, but importantly the trend of formalisation of jewellery continues. 'Tanishq' as a brand has done even better, with sustained improvements in consumers’ perception as a wedding jeweller.
*This trend is likely to continue given more noise around the need for hallmarking all gold jewellery and as the Indian consumer's preference for diamond jewellery.
Autos: boost in rural consumption
The FY20 budget announced by the government as supportive for entry-level 2-wheelers, especially in rural areas. We do not see the budget resulting in a major boost for PVs and the tractor industry. Also, the budgeted spends for highways are not encouraging, and we maintain our negative stance on trucks, considering the excess capacity build-up. We were already expecting 9 per cent growth for entry-level bikes in FY20, higher than the 7 per cent industry growth, expecting a populist budget with a focus on the rural segment. We maintain 8 per cent/16 per cent/1 per cent growth estimates for the PVs/LCVs/MHCVs industries in FY20.
*The Rs750bn cash push (0.36 per cent of GDP) as direct income support for small farmers will keep demand strong for 2-wheelers and LCVs.
*The demand boost for PVs will be limited, considering that the net benefit to a person below a Rs0.5m income level will be restricted to Rs10k in the best case.
*Capex growth for highways is expected to decelerate to 13 per cent in FY20, vs. 29 per cent in FY19. Maintaining cautious stance on trucks, as the industry capacity increase of 35 per cent over FY18-20 will be difficult to absorb.
*Do not expect much benefit for tractor growth, as we believe farm loan waivers are more of a stimulus than the direct income benefit of Rs6000/year.
Sector and stock implications
*Expect Maruti to outperform the PV market, given its large distribution network and rural penetration.
*Rural demand for entry-level 2-wheelers will be strong in FY20.
*Expect Mahindra & Mahindra to also benefit considering the rural consumption boost.
*Do not see benefits for MHCVs (impacting Ashok Leyland and Tata Motors), as capex growth for highways is set to decelerate.
Real estate to incentivise demand
*The tax exemption for affordable housing projects (houses up to 60 sqm) has been extended by a year (Section 80IBA). The continued tax exemption for developers augurs well for affordable housing supply and demand during FY20.
*For developers, the tax on notional rent on unsold ready inventory has been extended from 1 year to 2 years. This measure gives developers more time to handle unsold ready inventory, though even the extended period could still be not enough for developers developing luxury projects, as their demand is currently subdued.
*Homebuyers are exempted from paying tax on notional rent on second self-usage houses.
*The long-term capital gain exemption under section 54 can now be availed by the purchase of two properties instead of just one currently
*In line with its favorable policy stance on the sector, the government has now tried to boost investor demand slightly by making second-home purchases (for self-usage) tax exempt and two properties purchases now eligible for capital gains exemption. In addition, the tax exemption for affordable housing projects has been extended by a year, ensuring that demand and supply of affordable homes continue even in FY20. These measures are positive for Godrej, Prestige Estates and Oberoi Realty. Extension of tax relief on notional rent on unsold ready inventory from 1 year to 2 years will give developers more time to handle unsold ready inventory; however, for developers struggling with the wrong inventory in this market, this could still prove not enough.
Oil & Gas
*BFY20 budgeted subsidies significantly higher; providing LPG to poor women remains a focus area
*Fuel subsidies for FY20 have been increased by nearly 50 per cent to Rs375bn, while there is no change in revised estimates for FY19. The higher budgeted subsidy in FY20 with no upward revision in FY19 fuel subsidies indicates a roll-over of 2HFY19 subsidies to next year.
*The government has maintained the target of providing free liquefied petroleum gas (LPG) connections to 80m poor women, with more than 60m connections already provided.
*A high-level inter-ministerial committee has made several specific recommendations, including transforming the system of bidding for exploration, and changing from revenue sharing to an exploration programme for Category II and III basins. The government is in the process of implementing these recommendations.
*The higher budgeted subsidy for FY20 should be positive for upstream SOEs (ONGC and Oil India), as they might not have to bear the Under-recovery (UR) burden, though this could lead to delays in outstanding payments for SOE oil marketing companies (OMCs) (IOCL,BPCL, HPCL).
*An increase in LPG connections is likely to be positive for SOE OMCs, as LPG is typically a higher-margin product.
*FY19 capital expenditure for GAIL/MRPL/CPCL has been revised upwards by 25 per cent/34 per cent/18 per cent respectively, while for Oil India, it has been cut by 10 per cent. FY20 planned capital expenditure is significantly lower for MRPL, OVL, and GAIL, while significantly for HPCL and Numaligarh Refinery.