D-Street's lofty equity valuations are pure Bollywood

Even to seasoned investment professionals, India’s lofty equity valuations are a head-scratcher. How’s a sell-side researcher to explain to a foreign institution that the country’s cement makers are more than twice as expensive as their peers in every other major market?

Building materials are just one example, though that’s what analyst Sanjeev Prasad and his team at Kotak Institutional Equities picked to raise some provocative questions in a recent investor note, titled What the cement sector tells us about our industry.

They discussed the possible reasons for what they termed as “absolutely ridiculous” multiples. Those looking for short-term trading opportunities may not care about rational analysis from brokers as long as the prognosis is cheery enough to draw in other punters. And sure enough, as Prasad and his colleagues show, deep downgrades to upbeat earnings forecasts for the sector have been routine over the past decade. And this is when as a single-product, domestic industry, cement is relatively easy to analyze.

Alternatively, it could be that a section of the buy-side community is too heavily invested in its thesis — an underbuilt India eventually catching up to China in infrastructure and housing — to brook any challenge to its conviction that cement stocks will do well.

Some investors I spoke to offered a pushback. It’s possible, they say, that retail buyers are being guided not by optimistic forecasts, but by a parable — a memory from another industry.

Tycoon Mukesh Ambani entered telecom in 2016, bankrupted most of his competition, and only then allowed dirt-cheap data prices to rise. What if Gautam Adani, Asia’s second-richest man behind Ambani, is pursuing the same strategy with construction materials? Including the acquisitions concluded and announced, 11% of the country’s installed cement capacity is changing hands over two years, a record pace of consolidation, according to CRISIL, an affiliate of S&P Global Inc. Once Adani’s challenge to market leader Kumar Mangalam Birla cools, the sector will get back what it now lacks: pricing power.

For global asset managers, this may still not justify paying 33 to 34 times estimated earnings for Birla’s UltraTech Cement Ltd., or Adani’s Ambuja Cements Ltd. Not when China’s Anhui Conch Cement Co. trades below a price-to-earnings multiple of 10 in Hong Kong, as does Indocement Tunggal Prakarsa Tbk PT in Jakarta. For the domestic investor, though, no good story is too far-fetched.



That puts those who deploy other people’s money in a spot. Earlier in the year, Sankaran Naren at ICICI Prudential Asset Management Co. raised a much-needed alarm over “absurd” valuations of small- and mid-cap shares. But just when it looked like a meaningful correction was underway, a new central bank chief opened the liquidity floodgates. Since domestic mutual funds aren’t allowed to invest freely in foreign stocks, their managers must take the deluge of cash coming their way (nearly $50 billion over 12 months), and join the party.

Elsewhere, it’s technology that’s helping investors overcome their fears of a global trade war. In Hong Kong, they have opened their purse strings for $5 billion-plus share sales by Xiaomi Corp., BYD Co., and Contemporary Amperex Technology Co., this year’s biggest listing worldwide. But hardly any Indian company is at the cutting edge of generative artificial intelligence or new-age transport solutions. Losses and troubles are mounting at Ola Electric Mobility Ltd. The electric two-wheeler maker’s shares have collapsed by two-thirds since August.

Overseas institutions have cut their ownership of India’s largest companies to a 15-year low. Yet such is the local investor’s fear of missing out that even unlisted shares of a humdrum capital-market utility are being pitched in the informal market at around 70 times earnings.


That brings us back to cement: If the investment industry can prop up a sector that’s slow to garner revenue from clunky assets, and mediocre when it comes to earning a return on equity, then it can surely drum up a much higher level of excitement around businesses that are more amenable to storytelling, such as defense? Sure enough, following the recent military clash between India and Pakistan, the sector is trading at a price-to-earnings multiple of around 50.

More than excess liquidity, it’s the stories that are driving India’s lofty valuations. Some of them may be easier to follow. Others may have convoluted plots. But all of them have Bollywood-style happy endings.