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India’s love affair with insurance cos to last long: Saurabh Mukherjea

ET Now|
Aug 19, 2019, 11.10 AM IST
Saurabh Mukherjea-1200


  • Top life and general insurance cos to grow enormously over next 10-20 years.
  • Expect rupee to end in mid 70s over 12-months; that will be a trigger for pharma cos.
  • It looks like we are heading for a Jio, Bharti duopoly in telecom.
There is very little doubt that the country is going through a structural shift, away from physical savings towards financial savings. The Indian stock market does not have very many listed AMCs, but it does have several good insurers which are benefitting from the financialisation of the country, says Saurabh Mukherjea, Founder & Chief Investment Officer, Marcellus Investment. Excerpts from an interview with ETNOW.

We may be staring at a slowdown in autos, consumer durables, consumer discretionary but if the latest data from LIC is to be believed, the Indian insurance sector is still growing. What is your stake there?
Over the last three years, we have seen flows into insurance, mutual fund flows and PMS. In our own PMS at Marcellus, inflows have been very robust week after week, month after month. There is very little doubt that the country is going through a structural shift, away from physical savings towards financial savings. The Indian stock market does not have very many listed asset management companies, but it does have several good insurers and it is no surprise that as the insurance companies benefit from the financialisation of the country, the stock market has fallen in love with them.

My reckoning is this love affair with insurance will continue for a prolonged period of time as the financialisation of the country continues. Just one area of concern though is that we are set for a period of interest rates falling substantially -- 100 bps drop in interest rates over the next 12 months is not out of the question. Insurance companies do earn a big part of their profits from financial income from investment income so a big drop in interest rates will hit the profitability of Indian insurers but that is a short-term thing. If you were to take a structural view, having at least one of these insurers in your portfolio, would make sense. In some of our portfolios, we have ICICI Lombard though I personally do not have it.

How is it that you continue to buy only a handful of stocks? In the past also you have said that you would stick to premium quality stocks in this market. When we are looking at that scenario and given where valuations are currently, what really is the return potential for an average investor even if you are looking at a year or more as your time frame?
What is interesting is that other than paints and FMCG, we also invest in life insurance and general insurance. What is very clear both in life and in general insurance is that you have no more than say two or three high quality life insurers and no more than two high quality general insurers. The numbers are as few as that and obviously these are massive industries they will grow enormously over the next 10-20 years.

Hence if you can lock into a high quality life insurer or a high quality general insurer -- someone who is building dominant market share in this industry, someone who has got deep competitive advantages -- either because of big data analytics or because of balance sheet strength, then you should be looking at 15-20% consistently compounded returns in spite of the current elevated levels of price to embedded value.

So, just like with HDFC Bank, we are looking at price to book value. It does not make you any wiser about whether you make money on HDFC Bank. There should be similar holds on say insurers of the ilk of an ICICI Lombard or HDFC Life. These are high quality firms, they have proven over the last decade that they have built enormous competitive advantages and over the next 10 years, they will pull away from the rest of the herd even more than they are currently perceived to have pulled away.

What about pharma? I notice it is something that you are looking at and interestingly you have said focus on pharma companies with global businesses? What are you seeing over there?
The short-term trigger that I have been looking for for the last eight-nine months was the currency slide. I was a little surprised to see the rupee strengthen as we ran through the general election. Obviously we saw the FII flows came in and the rupee strengthened in the run-up to the general election results. But post that, the rupee is sliding as I expected and if you buy my expectation that the rupee will end up somewhere in the mid 70s over 12-month period, then this is a natural comparative trigger for our pharma companies.

We have to be very careful about this FDA angle and it has become a bit of a black box. It is very difficult to second guess who the FDA will go after and in that context, I find Divi's Lab to be one of the better plays. It did have an FDA problem but it got out of it very quickly and because it does not manufacture end products which go head to head with western Big Pharma. Divi's is a supplier to western Big Pharma. It does not take on the western pharma companies head on. It gives us a lot of confidence that the FDA problems will be muted in Divi's going forward.

Secondly, it has a dominant global market position in pain killers, around 80% of the world’s diproxen comes from Divi's, well run company, deep comparative advantages, valuations are undemanding to my mind and the short-term trigger over the next 12 months is potentially the rupee giving up say 6-7% of its value. We have Divi's in some of our clients’ portfolios. I do not personally own the stock.

You recently wrote that must ask difficult questions to find companies that can fit into coffee can investment philosophy. Elaborate for the benefit of our viewers on the behavioural aspect.
All of us obviously got very caught up on the numbers -- what happened this quarter, what is the ROCE target? Beyond a point, those sorts of things actually tell very little about a company. What you are trying to understand is, is this a promoter who will play a long patient game and build a franchise with deep comparative advantages? If I were to meet the CEO of say one of the coffee can companies this quarter, the last thing I should be asking him how is current business? We all know it is a slowdown.

So what you are trying to understand from a promoter is how will he allocate his free cash flows. He is generating surplus capital, how will he allocate his free cash flow, how does he choose his top two or three people who will report into the promoter, on what basis are they selected, what are the leading indicators that the promoter uses to monitor his business and what is the set of KPIs -- sort of dash board of indicators that he used to monitor his business?

If you ask CEOs, promoters those sort of questions, you understand far more about their ability and willingness to play the long game and build a world class franchise. If you ask them about what is going to happen in the next two or three quarters, that is a bit of a nonsense question, there is very little value to be gleaned from that. He will tell you what he wants to hear, that yes things will be difficult but I will put up a brave show over the next two or three quarters.

So we have tried to build an investment approach by reading 10-15 years of annual reports of a company before we go to see them and then asking questions about how the promoter runs the business, how does he select his top people, how does he allocate capital, how does he build comparative advantages. We found that to be a more interesting way to identify high quality franchises.

Post the rights issue, Vodafone has gone one way, Bharti has gone one way. There is very little to distinguish between them in terms of basic offering. But the way markets are choosing between Vodafone-Idea and Bharti there seems to be a big difference?
I am not a telecom expert but if I apply the framework that has worked for us in other sectors -- be it biscuits, paint or indeed telecom -- we see two companies ending up accounting for 80-85% of the sector’s profits. I suppose implicitly what the markets are trying to figure out is who are those two and my reckoning at this juncture it looks as if we are heading for a Jio, Bharti duopoly and that is why I guess markets are a little concerned as to where does a Vodafone fit in a Jio, Bharti duopoly.

Where do you think this monopoly structure is already there and markets are not recognising it? Or it is up for grabs and we must recognise it and invest in that company or that sector?
It is not that people do not realise Asian Paints’ dominance. What people do not realise is what is the implication of that for the cash flows that Asian Paints will generate over the next 10 years. So when this company went public in 1982, they already had 50-55% market share and in spite of that, the stock is up 1700x in the 35 years since IPO; around 28% compounded. If you look at Asian Paints at any 10 year slice of the firm since IPO, what you find is quite remarkable. Almost in any 10-year period, they will give you volume growth of 11-12%, revenue growth of 14-15%, profit growth of 18-19-20% and cash flow per share growth of 23-24-25%. Now if you keep compounding and remember the market share gains have not been massive really since IPO, but they are compounding cash flow for share pretty consistently at 23-24-25%.

If you keep doing that, then even if the current PE multiple in Asian Paints halves over the next 10 years, if the cash flow per share keeps bounding ahead by 23-25% and you add back the dividend, you will still compound pretty comfortably at 20% on Asian Paints.

I reckon a similar dynamic could end up happening in dominant players in life and general insurance as well. The point I am driving at is the human mind struggles to understand the impact of dominance over a 10, 20 year period and if you were to look at this on a global scale, companies such as Apple, Microsoft, Google are examples that if you can continue building dominance or reinforcing your dominance over 10, 20 years, you make loads and loads of money and both the sell side analyst and I think the typical fund manager fails to comprehend the impact of that on your wealth.

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