Thematic | Value Migration
Value Migration
Please refer our report
published on January 2017
Gautam Duggad – Research analyst (Gautam.Duggad@MotilalOswal.com); +91 22 6129 1522
Bharat Arora – Research analyst (Bharat.Arora@MotilalOswal.com); +91 22 3982 5410
Investors
14 May 2018 are advised to refer through important disclosures made at the last page of the Research Report.
Motilal Oswal research is available on www.motilaloswal.com/Institutional-Equities, Bloomberg, Thomson Reuters, Factset and S&P Capital.
Value Migration 2.0: Digging deeper, exploring more themes
Pace of migration accelerating in BFSI and Jewelry
 In our Theme Report on Value Migration published in January 2017, we had dwelt
upon the importance of staying with winning business models in ultra-disruptive
times. India is indeed witnessing a phase of heightened disruption over the last three
years, with transformational and game-changing reforms like GST, RERA, IBC
(Insolvency and Bankruptcy resolutions), and Demonetization, driving underlying
changes in the way businesses operate and create value for stakeholders.
 To recap, along with various nitty-gritties of Value Migration, we had highlighted 26
case studies in our report, which touched upon cases where (a) Value Migration is
already prevalent and has left a trail of winners/losers, and (b) Value Migration can
drive changes in the ensuing decade. We had also discussed the disruptions caused by
unlisted players and consequent challenges they posed to the listed ones.
 In this sequel, we look at the progress/updates on some of the cases already
highlighted and also dwell on two interesting new themes of Value Migration.
Recap: What is Value Migration?
 Value Migration is defined by Adrian Slywotzky, author of the book “Value
Migration”, as a flow of economic and shareholder value away from obsolete
business models to new, more effective designs that are better able to satisfy
customers’ most important priorities. The framework tries to identify industries
where Value Migration is underway and can help pick potential winners early in
the cycle.
 Value Migration happens in three stages: [A] Value Inflow: In this phase, a
company or an industry captures value from other industries or companies due
to superior value proposition. The market share and profit margins of the
company or industry expand. [B] Stability: In this phase, competitive equilibrium
is established. Growth rates moderate. [C] Value Outflow: Value starts to move
away towards companies or industries meeting evolving customer needs. In this
phase, market share declines, margins contract, and growth stops.
BFSI – pace of Value Migration accelerating
Value Migration from public sector (PSU) to private sector banks is one of the most
prominent themes underway today. While the thesis has been playing out right and
has many more legs to go, it is the pace of migration that has surprised us positively.
We believe while the corporate banking sector in India has been under tremendous
pressure over the past few years, the private sector banks are likely to emerge even
stronger, while PSU banks will continue to face challenges on capitalization and
growth. We further note that private sector banks have done a phenomenal job in
building their liability franchise (strong traction in CASA mix) using both digital
capabilities and rapidly expanding branch network. PSU banks’ market share loss has
accelerated and we expect the trend to continue. Overall, there is a long way to go
for PSU to private sector banks Value Migration and digitization will drive the trend
further, in our view.
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 Thematic | Value Migration

Information Technology – staring at Phase-3 of Value Migration?

For the best part of the last decade, the Indian IT services industry basked in the
glory of low-cost talent, offering services 40-60% cheaper, with admirable flexibility
to their global clients. It was the answer to large developed market clients’ need to
optimize their IT spending. Championed by local and MNC peers alike, the model
stabilized, and then, growth rates began to wane.

Fast forward to today’s era – clients’ spending pattern has moved to the duality of:
[1] optimizing IT spends on existing programs further by use of cloud, automation,
AI, RPA and SaaS technologies; and [2] investing these savings towards their digital
transformation.

As a result of the above, the pie of bread-and-butter services for the industry has
been directly hit, and the new services that provide growth opportunity are not
moving the needle as much, thanks to low base. Besides, the new models are
significantly deviant from status quo, requiring companies to embrace bold moves
such as cannibalizing existing streams of cash generation, resetting to a lower
profitability (at least in the interim) and actively chasing acquisitions.

In this context, we witness the three phases of Value Migration, starting from value
inflow benefiting the regime of low cost sourcing route to IT spending optimization
to value outflow towards models built on the combination of automation, cloud and
digital technologies.

Oil & Gas: Green metamorphosis – Value Migration from Oil to Gas
In the last few years, rising pollution has been at the forefront of the policy making
and judicial activism in India. The focus on increasing penetration of gas becomes all
the more important considering that in the latest study of the World Health
Organization (WHO), half of the 20 most polluted cities globally are Indian. Policy
initiatives in exploration and production (E&P) like Hydrocarbon Exploration
Licensing Policy (HELP), Open Acreage Licensing Policy (OALP), premium pricing for
gas production from difficult fields, and National Data Repository among others are
expected to boost domestic gas production by ~10% YoY for the next 3-4 years.

With enabling policies, increase in gas supply and improvement in pipeline

infrastructure, broadly, the whole gas sector is expected to benefit – producers,
importers, transmission companies and city gas distribution companies (CGDs).

Consumer: Jewelry – massive Value Migration unfolding; multiple tailwinds

conspire to augment the trend
Opportunity for branded jewelers in an era of demonetization/formalization of the
economy and Titan being the key beneficiary was one of the high-conviction themes
we had focused upon as a part of long term Value Migration opportunities. Since
then, additional growth drivers have emerged – GST implementation, which has
further tilted the balance in favor of organized trade, rigorous provisions under
PMLA, and credit squeeze for unorganized trade as fallout of the Nirav Modi scam.
This is over and above the initiatives undertaken by company – aggressive expansion
plans, focus on wedding jewelry portfolio. Titan has already been witnessing healthy

14 May 2018 2
 Thematic | Value Migration

market share expansion away from the unorganized trade and has delivered strong
performance over the last 18 months on revenue as well as profitability front. From
a longer-term perspective, the management has guided for strong ~20% five-year
revenue CAGR in its jewelry division. In our view, the Value Migration opportunity in
the jewelry industry remains immense, given the size of the industry and Titan, as
the only pan-national branded jewelry player, is at the forefront to capture this
long-term opportunity.

Exhibit 1: Synopsis of Value Migration case-studies

S.N. Industry Value migration thesis Remarks Winners/Losers
1 BFSI PSU Banks to Private Banks The pace of migration has accelerated HDFC BANK, IndusInd, KMB
2 IT Legacy models to Digital Entering Phase 3 of Value Migration Large-cap IT
3 O&G Oil to Gas Policy thrust - multiple winners IGL, Gujarat Gas, MGL
4 CONSUMER - Jewelry Unorganized to Organized Rapid market share gains for organized plays Titan
Source: Company, MOSL

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 Thematic | Value Migration

BFSI – Pace of value migration accelerating

Value migration from public sector banks – long way to go; digitization and
superior customer service to further drive the trend
In our first theme report, we had highlighted how the shift away from public sector
banks to more agile, competitive and customer friendly private sector banks can
happen over the next few years. While the thesis has been playing out right and has
many more legs to go, it is the pace of migration that has surprised us positively. We
believe that while the corporate banking sector in India has been under tremendous
pressure over past few years, the private sector banks are likely to emerge even
stronger, while public sector banks will continue to face challenges on capitalization
and growth. We further note that private sector banks have done a phenomenal job
in building their liability franchise (strong traction in CASA mix), using both digital
capabilities and rapidly expanding branch network. This has enabled them to offer
attractive lending rates, and thus, gain market share across most lending products.

Private sector banks have significantly strengthened their liability franchise;

cross-sell abilities further driving business growth
Till a few years ago, private sector banks, with the exception of Axis Bank, HDFC
Bank and ICICI Bank, had lower CASA ratio than their public sector peers. However,
over the last three years, private sector banks have invested heavily in technology
and have come up with a wide variety of innovative products in assets and liabilities
as well as enhanced transactional abilities. With a wider customer base, private
sector banks have used their cross-sell capabilities optimally to sell both asset and
liability products, which is visible in fast paced CASA growth. IndusInd Bank has
reached out to government budgetary departments for dashboard solutions, which
has enabled it to gain 60%+ YoY SA growth through FY18. Kotak Mahindra Bank has
used its one-stop platform 811 to cross-sell liabilities, enabling it to achieve 50%+ SA
growth through FY18.

Exhibit 2: CASA market share within our coverage banks – continuous shift to private
sector banks*
Total private Total PSU
86.0 85.1 84.8 83.8 83.3 82.9 81.8 80.1 79.4 78.0

18.2 19.9 20.6 22.0

14.0 14.9 15.2 16.2 16.7 17.1

FY09 FY10 FY11 FY12 FY13 FY14 FY15 FY16 FY17 3QFY18

FY18 PSU numbers are estimates Source: Company, MOSL

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 Thematic | Value Migration

Market share in digital transactions key to look at; private sector banks
clear winners
Private sector banks have made significant investments in building a digital
architecture to support voluminous growth. This has lent scalability to their business
while at the same time enabling them to improve upon customer experience. We
note that the share of digital transactions for private sector banks (in both volume
and value terms) is higher than their overall market share in systemic loans. This
indicates the continued market share gains these banks can have as they further
capitalize on their digital strength. We note that the share of HDFCB across most
digital payment products (RTGS, NEFT, etc) is 15-26%, much higher than its systemic
loan market share of ~7.5%.

Exhibit 3: The six largest private sector banks have command 56% of total credit card POS transactions by value
and 55% by volume
Mkt Share POS Amount of POS Mkt Share POS
Credit Cards No of POS Average ticket
FY18 transactions nos transactions transactions
outstanding (m) transactions (m) size (INR)
(%) (INRb) amount (%)
Private Banks
Axis Bank 4.5 127.5 9.1 439.9 9.6 3,449.4
Hdfc Bank 10.7 402.5 28.6 1,313.0 28.6 3,262.2
Icici Bank 5.0 188.8 13.4 514.0 11.2 2,722.3
Indusind Bank 0.8 26.4 1.9 154.5 3.4 5,845.5
Kotak Mahindra Bank 1.5 35.3 2.5 106.4 2.3 3,013.3
Yes Bank 0.3 6.9 0.5 18.9 0.4 2,727.1
Private Banks Total 22.7 787.5 56.0 2,546.6 55.5 3,503.3
PSU Banks
State Bank of India 6.3 210.5 15.0 764.7 16.7 3,633.0
Punjab National Bank 0.3 6.3 0.4 13.4 0.3 2,116.8
Bank of Baroda 0.1 4.0 0.3 9.7 0.2 2,407.0
PSU Banks Total 6.7 220.8 15.7 787.8 17.2 2,719.0
Grand Total 37.5 1,405.1 100.0 4,589.5 100.0 3,266.3
Source: MOSL, Company

Taking innovation beyond products – strategic partnerships have helped

control costs even in investment phase
Many private sector banks have taken a balanced approach while targeting growth
to control costs. This is in contrast to the growth on the back of traditional brick and
mortar expansion. An example is RBL Bank, which has used a mix of branch
expansion to sell asset products, BC partnerships to expand microfinance book,
partnerships with e-commerce companies and with BAF to expand cards business,
and digital platform to sell liabilities. Similarly, Federal Bank has expanded its
retail/SME book outside Kerala on the back of loans originated by its NBFC
subsidiary, Fedfina. This has kept costs under control and has maintained
profitability at robust levels even during the investment phase for new age banks
like RBL Bank.

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 Thematic | Value Migration

Market share loss has accelerated for public sector banks; we expect the
trend to continue
Public sector banks have been struggling with low profitability and capitalization
challenges, coupled with resistance to organization-level changes and unionization
of employees. The government announced a big bang recapitalization plan in FY18
to support the growth requirements of public sector banks; however, owing to
continued challenges on asset quality, most of the capital will be used to meet
provisioning requirements and the public sector banks will still be bereft of growth
capital. In general, while private sector banks have led the change, public sector
banks have been followers that have adapted only when it is inevitable. We note
that over FY14-17, six of the largest private sector banks have collectively gained
450bp loan market share, which is one of the sharpest gains ever.

Exhibit 4: Market share has continuously shifted to private sector banks*

Market share (%) FY14 FY15 FY16 FY17 FY18
Major Private Banks
Axis Bank 3.8% 4.1% 4.5% 4.7% 5.1%
HDFC Bank 5.0% 5.4% 6.2% 7.0% 7.6%
ICICI Bank 5.6% 5.7% 5.8% 5.9% 5.9%
IndusInd Bank 0.9% 1.0% 1.2% 1.4% 1.7%
Kotak Bank 0.9% 1.0% 1.6% 1.7% 2.0%
Yes Bank 0.9% 1.1% 1.3% 1.7% 2.4%
Major PSU Banks
Bank of Baroda 6.5% 6.3% 5.1% 4.9% 4.9%
Punjab National Bank 5.7% 5.6% 5.5% 5.3% 5.6%
State Bank of India 25.7% 24.5% 24.6% 23.7% 21.9%
Source: MOSL, Company
*Historical data has been restated for SBIN to account for merger of its associates pre FY17
**FY18 PSU Bank numbers are estimates

Asset quality challenges have restricted choice of lending

Public sector banks are saddled with high levels of balance sheet stress – capital
infusion is needed frequently to ensure operational existence, particularly as
business growth and profitability remains under pressure. Also, FY19 being the year
of full compliance with Basel-III regulations, there will be continued pressure on
public sector banks to meet the capital norms and stick to safer low-yield lending.
Resolution through IBC process has been getting delayed owing to several
litigations, despite the law prescribing a timeline of maximum 270 days for the
resolution process. The RBI’s revised asset quality framework dispensing all asset
quality dispensations has further put pressure on corporate banks; as a result,
private sector banks have reported very high NPL levels in 4QFY18 (results of public
sector banks awaited).

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 Thematic | Value Migration

Exhibit 5: PAT market share has shifted rapidly to private Exhibit 6: Private sector banks have consistently
sector banks demonstrated better profitability (RoE of coverage universe)

118.5%
Private Banks PSU Banks Private Banks PSU Banks

121.0%

17.9%

17.4%

16.6%

16.4%

16.3%

16.0%
15.5%
14.5%
71.8%
71.7%

13.9%
68.9%

13.8%
68.0%
65.1%

12.5%
60.6%

12.1%
53.8%

11.1%

10.8%
50.1%
49.9%

10.2%
46.2%
39.4%

9.1%
34.9%

32.0%
31.1%
28.3%

28.2%

4.2%
4.2%
-18.5%
-21.0%

-2.0%

-1.5%
FY09 FY10 FY11 FY12 FY13 FY14 FY15 FY16 FY17 FY18 FY09 FY10 FY11 FY12 FY13 FY14 FY15 FY16 FY17 FY18
Source: MOSL, Company Source: MOSL, Company

Exhibit 7: Private sector bank stocks have outperformed public sector bank stocks across cycles

Private Banks PSU Banks

10,110

12,285
3,622

3,499
2,420

3,110

2,336
3,342

2,689

2,512
1,186

2,443

7,767

7,486
4,335

5,134
1,103

2,943

3,664

3,554

FY09 FY10 FY11 FY12 FY13 FY14 FY15 FY16 FY17 FY18

Source: Company, MOSL

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 Thematic | Value Migration

IT – Staring at Phase -3 of Value Migration?

 For the best part of the last decade, the Indian IT services industry basked in the glory
of low-cost talent, offering services 40-60% cheaper, with admirable flexibility to their
global clients. It was the answer to large developed market clients’ need to optimize
their IT spending. Championed by local and MNC peers alike, the model stabilized, and
then, growth rates began to wane.
 Fast forward to today’s era – clients’ spending pattern has moved to the duality of: [1]
optimizing IT spends on existing programs further by use of cloud, automation, AI, RPA
and SaaS technologies; and [2] investing these savings towards their Digital
transformation.
 As a result of the above, the pie of bread-and-butter services for the industry has been
directly hit, and the new services that provide growth opportunity are not moving the
needle as much, thanks to low base. Besides, the new models are significantly deviant
from status quo, requiring companies to embrace bold moves such as cannibalizing
existing streams of cash generation, resetting to a lower profitability (at least in the
interim) and actively chasing acquisitions.
 In this context, we witness the three phases of Value Migration, starting from value
inflow benefiting the regime of low cost sourcing route to IT spending optimization to
value outflow towards models built on the combination of automation, cloud and
digital technologies.

Phase 1: VALUE INFLOW

 Through the last decade and the early part of the current decade, Indian IT
reveled in the high growth trajectory (barring a brief period amid the Global
Financial Meltdown (GFM), driven by cost-led value migration from developed
market MNC providers to India-origin providers (IOPs). India enjoys ~60%
market share of the low cost sourcing market and 15% of the global Services
market. It has employed ~4m people directly in the process, contributing 7.7%
to GDP and 49% to services exports.
 Indian IT’s global penetration saw sustained momentum in the last couple of
decades in the internet era, which allowed the high-scale, low-cost talented
supply out of India to cater to the IT services demand in a relatively efficient
manner. The industry, thus, ensured: [1] world class processes in delivery, led by
Mr Narayana Murthy's Infosys, and [2] increased flexibility for clients, which was
a refreshing change from the limited room to maneuver in existing large multi-
year IT contracts.
Exhibit 8: It took the industry only 13 years to grow exports from <USD10b to USD100b+
Total Exports (USD b) YoY (%)
38.3
33.3 33.3 32.6
28.8
26.3
19.3
14.9 16.0
13.1 12.7 12.2
10.2
5.6 7.3 7.6

7 8 10 13 18 24 31 40 46 50 59 69 76 86 97 108 117
FY01

FY02

FY03

FY04

FY05

FY06

FY07

FY08

FY09

FY10

FY11

FY12

FY13

FY14

FY15

FY16

FY17

Source: Company, MOSL

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 Thematic | Value Migration

Exhibit 9: IT has been a major source of urban employment in the country

Number of people employees (m)

3.52 3.69 3.86

3.05 3.29
2.54 2.77
1.96 2.20 2.29
1.29 1.62

FY06 FY07 FY08 FY09 FY10 FY11 FY12 FY13 FY14 FY15 FY16 FY17

Source: Company, MOSL

Exhibit 10: The economics of offshore speak for themselves – and Indian IT supplied the
requisite talent
Offshore economics 100% onsite Offshore
Resources allocation %
Onsite 100 30
Offshore 0 70
Hourly Billing rates on average (USD) 70 70
Onsite 20 20
Offshore
Cost of project 7000 3500
Savings with offshore 50.0%
Source: Company, MOSL

Phase 2: VALUE STABILITY

The Indian IT industry went on to reach the stability phase once the market share
gains and profit margins started to settle. Competitive intensity increased and
started to weigh on the industry’s profitability – demonstrated in the trend across
margins and RoICs amidst a weakening INR, which was a key tailwind.

Exhibit 11: Decline in margins despite a favorable movement of the INR during this period
Top-5 EBITDA margin (%) INR / USD

65.7 67.1
60.8 61.2
54.5
48.2

25.0 25.5 26.9 25.9 24.8 24.1

FY12 FY13 FY14 FY15 FY16 FY17

Source: Company, MOSL

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 Thematic | Value Migration

Exhibit 12: The trend of Declining RoICs has been common across top-tier firms except TCS
ACN RoIC (%) CTSH RoIC (%)
193.4
181.6 62.7
58.0 60.8
156.4
50.9
41.4
86.9 29.5
68.0 66.6

FY12 FY13 FY14 FY15 FY16 FY17 FY12 FY13 FY14 FY15 FY16 FY17

Source: Company, MOSL Source: Company, MOSL

INFO RoIC (%) TCS RoIC (%)

73.4 62.5
68.4 68.0 56.6 58.0 56.1
62.6
53.8 48.5
49.2 44.0

FY12 FY13 FY14 FY15 FY16 FY17 FY12 FY13 FY14 FY15 FY16 FY17
Source: Company, MOSL Source: Company, MOSL

Phase 3: VALUE OUTFLOW

From the standpoint of the end user of technology services, the changing priorities
are clearly visible. These were drivers of greater efficiencies in running the business
and enablers of their web avatars in the early years of the internet era. But that is
now set to change, and the drivers of this change are the following:
 The large spenders of IT have largely matured in the adoption of their low cost
global delivery network model. The next level of savings in these services is
being offered by Automation of manual efforts, making location irrelevant.

Exhibit 13: Commoditization of the traditional model evidenced in declining realizations

Realization Indexed at 100 INFO (blended adjusted for onsite shift)

102 TCS (quarterly reported adjusted for TCS Japan)

99

96

93

90
4QFY14

1QFY15

2QFY15

3QFY15

4QFY15

1QFY16

2QFY16

3QFY16

4QFY16

1QFY17

2QFY17

3QFY17

4QFY17

Source: Company, MOSL

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 Thematic | Value Migration

Exhibit 14: Plummeting headcount growth has been an imperative compelled by the
changing model, apart from low business growth

Source: Company, MOSL

 As far as the IT infrastructure goes, Cloud has ushered the concept of sharing
economy, and consequently, savings from doing away with the need to own
servers, etc.
 Efficiencies thus realized already have an avenue for redeployment in the form
of Enterprises’ Digital transformation. These technologies have also bred
disruptive new competition, necessitating change in clients’ technology systems,
business operations and also strategies – by impacting areas from IT
infrastructure to business intelligence to customer interactions. Digital
transformation is the imperative to survive the threat from born-in-the-cloud
organizations.

This shift of customer priorities in spending has been quantified by NASSCOM and
Mckinsey in their “Perspective 2025” study, depicted below:

Exhibit 15: 15-25% of the traditional services pie expected to shrink

Source: NASSCOM, MOSL

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 Thematic | Value Migration

The challenge for Indian IT: Indian IT has ridden other waves in the past, which
involved bringing new services offshore, and meant net increase of addressable
market. The key differences this time around are:
 It is their pie that is shrinking to feed into Digital. So, even if they are right up
there with their Digital offerings, they have to replace traditional stream
revenues with new ones.
 Catering to the Digital demand requires more proactive consultative selling as
opposed to reactive selling through RFP response, implying a paradigm shift that
needs to be successfully transcended.

Below are some of the anecdotes around Digital business imperatives, and this is
not an exhaustive list:
 Digital is all about consultative proactive selling, and not about responding to
RFPs
 The deal sizes are negligible to start with, and then they grow on to become
bigger. But you don’t have USD50-100m deals here. In the traditional business,
large deals undergo some contraction with every renewal.
 The business models will depend upon the solution: fixed price, license (for own
IP), linked to client outcomes, subscription (usage)-based, etc.
 Buyer organization is different – CXO, marketing team, supply chain team,
product team, etc., and not just the CIO organization.
 Onsite centricity is an imperative for the clients to gain comfort in the business.
 Automation is an absolute must – people-centric model will transform to people
+ software combine.
 A capability in Agile development and iterative solution building is the approach
– fail-fast. Traditional methodology was longer-term contracts that were
delivered fail-proof.

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Value Migration from Oil to Gas – Green Metamorphosis 2.0

In the last few years, rising pollution has been at the forefront of the policy making and
judicial activism in India. The focus on increasing penetration of gas becomes all the more
important considering that in the latest study of the World Health Organization (WHO),
half of the 20 most polluted cities globally are Indian. Policy initiatives in exploration and
production (E&P) like Hydrocarbon Exploration Licensing Policy (HELP), Open Acreage
Licensing Policy (OALP), premium pricing for gas production from difficult fields, and
National Data Repository among others are expected to boost domestic gas production by
~10% YoY for the next 3-4 years. The government’s thrust on infrastructure has been taken
well by LNG importers, who have announced several LNG import facilities in the future. All
combined, we expect a bright future for gas companies (transmission, city gas distribution
and LNG importers) in India.
Exhibit 16: India is home to 10 most polluted cities in the world

KHANNA, #16
114
LUDHIANA, #12
122
DELHI, #11
122
GWALIOR, #2
176
PATNA, #6
149

RAIPUR, #7
144

* RANK, # PM2.5 (µg/m3) Source: WHO, MOSL

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Exhibit 17: Domestic gas production has started rising

Domestic gas availability 3% increase, expected to
KG D6 production
rise further at ~10% for
rise and fall 140
127 next 3-4 years
110 109
86 87 95 90 85 87
85

2007-08

2008-09

2009-10

2010-11

2011-12

2012-13

2013-14

2014-15

2015-16

2016-17

2017-18
Source: PPAC, MOSL

Huge unmet demand; lack of infrastructure a big constraint, but catching up

Against projected demand of 494mmscmd in FY18, India’s consumption was
143mmscmd. The major bottleneck in realizing projected demand has been lack of
sufficient infrastructure – gas production, LNG import and gas pipelines. However,
the government’s focus on battling pollution backed by policy initiatives like viability
gap funding for trunk pipelines and launch of bidding for large number of
geographical areas for city gas distribution among others is likely to ensure sharp
rise in demand.

We find India in the same scenario as China was more than a decade back. As a
result of focus on gas consumption, China has witnessed a CAGR of 10.1% in gas
consumption during FY90-18. Increasing focus on gas in India is expected to result in
a similar fast-paced growth in gas consumption.

India has lagged behind China in terms of gas consumption

INDIA CHINA
Dismal growth of India’s gas consumption China has witnessed far stronger growth
250
194.7 700 649.3
200
560
150
Consumption 420
Consumption
100 CAGR of 6.1% Impact of KG 280 CAGR of 10.1%
D6 production
50 140
0 0
FY90
FY92
FY94
FY96
FY98
FY00
FY02
FY04
FY06
FY08
FY10
FY12
FY14
FY16
FY18E

FY90
FY92
FY94
FY96
FY98
FY00
FY02
FY04
FY06
FY08
FY10
FY12
FY14
FY16
FY18E

Source: BP Statistical Review, PPAC, MOSL Source: BP Statistical Review, MOSL

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 Thematic | Value Migration

Exhibit 18: Pipeline infrastructure development in India

Length Capacity
Pipeline Entity Remarks
(Kms) (mmscmd)
Work on ~450km Kochi-
Kochi-Kottanad-Bengaluru-Mangalore GAIL 1,056 16
Mangalore ongoing
Dabhol-Bengaluru Spur Lines, Phase-2 GAIL 302 16
Surat-Paradip GAIL 2,112 74.81 Revoked
Jagdishpur-Haldia-Bokaro-Dhamra
GAIL 2,539 16 In progress
(Phase-I, 755 Km, 7.44 mmscmd Capacity)
Mallavaram-Bhilwada GSPC India Transco 2,042 78.25 Work ongoing in minor sections
Mehsana-Bathinda GSPC India Gasnet 2,052 77.11 Work ongoing in minor sections
Bathinda-Jammu-Srinagar GSPC India Gasnet 725 42.42 Work ongoing in minor sections
Kakinada-Vizag-Srikakulam AP Gas Distribution Corporation 391 90
Ennore- Nellore Gas Transmission India Pvt. Ltd. 250 36
Ennore- Tuticorin IOCL 1,385 84.67
Jaigarh-Mangalore H-Energy 635 17
Total 13,489
Source: PPAC, MOSL

Exhibit 19: Upcoming LNG facilities

Capacity
Company Location Project type Completion by Remarks
(mmtpa)
Petronet LNG Dahej 2.5 Brownfield Early 2019
GSPC/Adani Mundra 5.0 Greenfield Late 2018  Delayed due to incomplete pipeline
IOCL Ennore 5.0 Greenfield 2019
H-Energy Jaigarh 4.0 FSRU Late 2018
Swan Energy Jafrabad 5.0 FSRU Late 2019  In partnership with Mitsui, GSPL, Gujarat Maritime Board
Adani Dhamra 5.0 Greenfield 2020
HPCL/Shapoorji Chhara 5.0 Greenfield NA
H-Energy Kolkata Greenfield NA
AP/Shell/VGS Kakinada 2.5 Greenfield NA
LNG Bharat Krishnapatnam 2.5 Greenfield NA
Source: Industry, MOSL

New avenues like small scale LNG (ssLNG) yet to take off in India
China consumes ~18mmtpa of ssLNG. India is yet to latch on to the bandwagon.
However, Shell, Petronet LNG and H-Energy have already announced their
intentions. We expect LNG trucking, off-grid applications as well as marine
bunkering to open up 7-10mmtpa of new market (35-50% of the current LNG
consumption) in India in the next 5-10 years.

14 May 2018 15
 Thematic | Value Migration

Huge scope of ssLNG in India

INDIA CHINA

LNG capacity growth in India (mmtpa) LNG capacity growth in China (mmtpa)

India's LNG capacity China's LNG capacity

A total of four LNG 51.6
terminals currently: 30.0
Dahej- 15mmtpa
Dabhol- 5mmtpa
Hazira- 5mmtpa
Kochi- 5mmtpa
5.0 3.7

CY04 CY17
CY04 CY17

Growth in LNG vehicles in China

LNG vehicles ('000) LNG stations
3,000

CAGR of 87% in LNG vehicles

300
0.3 4

2006 2017

ssLNG consumption in China

Annualized (mmtpa)
17.8
18.6
14.1 15.6 16.8
13.8 13.7
11.5 13.3
11.5
11.0
9.2
Jul-16
Apr-16
Feb-16

Jun-16

Sep-16

Nov-16
Oct-16
Jan-16

May-16

Dec-16
Mar-16

Aug-16

14 May 2018 16
 Thematic | Value Migration

Winners and losers

With enabling policies, increase in gas supply and improvement in pipeline
infrastructure, the whole gas sector is likely to benefit – producers, importers,
transmission companies and city gas distribution companies (CGDs). The biggest
beneficiary would be the importers, as demand increases and domestic gas
production is unlikely to keep pace. The only listed firm, Petronet LNG would be the
biggest beneficiary. This would be followed by CGDs. In the ninth bidding round, the
regulator has put a total of 86 geographical areas (GAs) on the block. Award of these
GAs would help provide an answer for long-term volume growth for companies.
Access to gas and increasing number of GAs would also enable inter-city CNG travel.

Our preference would be Indraprastha Gas, Gujarat Gas, and then, Mahanagar Gas.
Transmission companies are also likely to benefit in the longer term. However, there
is uncertainty on tariff regime, going forward. It remains to be seen if this would
buoy their return ratios or serve the larger aim of achieving higher penetration of
gas through lower tariffs.

14 May 2018 17
 Thematic | Value Migration

Consumer: Jewelry – massive Value Migration unfolding;

multiple tailwinds conspire to augment the trend

In our first theme report on Value Migration, we had highlighted the massive long
term opportunity for branded jewelry players like Titan owing to several steps taken
by the government on policy front and general thrust towards formalization of
economy.
The events of past fifteen months indeed reinforce our thesis. In fact, the
investment case is actually becoming stronger.

 Core drivers remain relevant: In our thematic report, we had highlighted factors
like changing consumer preferences, rising disposable incomes, and widely
prevalent under-caratage in the industry due to which Titan was successfully
playing on the trust factor. Also, there were macro factors like stringent norms
being introduced on cash purchase, 1% excise duty on gold jewelry and PAN
card requirement for jewelry purchases above INR200,000 that were expected
to aid growth. These factors continue to be relevant.

 Additional growth drivers have emerged since then:

a) GST implementation has further tilted the balance in favor of organized
jewelry players. Moreover, low rate of GST at 3% means that the organized
sector players following the rules are not at a disadvantage compared to
unorganized players. At the same time, better tracking of gold from import
stage as part of the GST process has ensured continued rapid conversion.
b) More stringent rules are being introduced. More rigorous provisions under
PMLA (Prevention of Money Laundering Act) and mandatory hallmarking are
likely to be implemented soon, putting the unorganized players at a further
disadvantage.
c) Recent developments in the sector: Fallouts of the Nirav Modi scam have
been (a) far lower credit availability for smaller/unorganized players – with
most of its loans in the form of ‘gold on lease’, Titan is anyway minimally
affected, but also has excellent credit history and reputation; and (b) lower
availability of diamonds for the small/ unorganized players – not a
constraint for a reputed jeweler like Tanishq (Titan).
d) Company initiatives: Titan has also increased its proportion of sales from (i)
wedding jewelry – until recently, an unexplored segment for the company
and a market that is at least 3x that of the high value diamond jewelry that
was its earlier forte; and (ii) gold exchange schemes, which have resulted in
massive footfalls (40% of sales in recent quarters) – 50% of its customers are
first-time customers as a result of schemes like these. It has expanded its
store addition targets (40 stores in FY19; the highest ever, with likely
similarly high store openings, going forward).

As a consequence, the management has also exuded confidence and guided for
strong medium to long term growth.

14 May 2018 18
 Thematic | Value Migration

 Management guidance: In May 2017, the management of Titan guided for 2.5x
growth for its jewelry business (sales of INR100b in FY17), quantifying the
tremendous growth opportunity over the next few years – the 2.5x growth
target implies a revenue CAGR of 20% over FY17-22.
 Titan’s share of the total market is still miniscule: Titan’s share of the jewelry
business in India at ~5% in FY17 (INR100b sales in the INR2t jewelry market in
India) is still miniscule, leaving ample room for growth ahead of the guidance.

Guidance is increasing as well, indicating rising management confidence led

by improving visibility
 From the initial guidance of 2.5x growth for its jewelry business in May 2017
(sales of INR100b in FY17, implying a revenue CAGR of 20% over FY17-22), in
April 2018, the company revised its guidance to 2.5x growth over FY18-23.
 The revised guidance not only adds another percentage point to revenue CAGR
over FY18-22, but also extends it by another year – an indication of the
increased management confidence on growth prospects.

Exhibit 20: Initial management guidance as on May 2017 Exhibit 21: Revised management guidance as on April 2018

Management guidance on jewelry business (INR b) Management guidance on jewelry business (INR b)
256 330

103 133

FY17 FY22E FY18 FY23E

Exhibit 22: Share of organized segment has grown from 10%

in FY09 to 30% in FY17 Exhibit 23: Tanishq leads the listed jewelry pack

2008-09 (%) 2016-17 (%) Net sales (INR b) Titan PC Jeweller TBZ
90 103
93
70 85 87 85
79
70 73
63
53
30 40
30
10 19
14 17 18 17 17

Organised gems and jewellery Unorganised gems and

jewellery FY12 FY13 FY14 FY15 FY16 FY17

Source: Company, MOSL Source: Company, MOSL

14 May 2018 19
 Thematic | Value Migration

Exhibit 24: Titan’s market cap expanded at 34.5% CAGR Exhibit 25: Market opportunity for Titan, going forward

Titan's Market cap (INR b) Market Size (INR b)

1,500

863

300
41

2008 2018 High Value Diamond Jewellery Wedding Jewellery

Source: Company, MOSL Source: Company, MOSL

Exhibit 26: Momentum in jewelry sales growth to continue till FY20 – expected 3-year
CAGR of 24%

Jewelry sales (INR b)

197

103

FY17 FY20E

Source: Company, MOSL

No increase in market size, but market share is increasing

According to World Gold Council (WGC), despite jewelry demand being flattish or
declining for three of the past four quarters ended 1QCY18 (which is 4QFY18, and
reflects full year financial year data) and a decline in tonnage in the full year, FY18
(519T jewelry sales v/s 524T in FY17, and 679T total demand – which includes
investment as well – against 690T in FY17). Industry sales (calculated by multiplying
tonnage with average domestic selling price) are likely to decline 2.2% in terms of
jewelry sales in India in FY18 and decline 2.8% in terms of total gold sales in India.
Yet, Titan has reported ~25% growth in its jewelry segment sales in FY18, which has
resulted in a market share gain of around 140bp to around 6.4% in FY18.

14 May 2018 20
 Thematic | Value Migration

Exhibit 27: Jewelry tonnage declined 1% in FY18 Exhibit 28: Total tonnage declined 1.6% in FY18

Jewelry tonnage Total tonnage

524 690 679

519

FY17 FY18 FY17 FY18

Source: WGC, MOSL Source: WGC, MOSL

Exhibit 29: Calculated jewelry sales declined 2.2% in FY18 Exhibit 30: Calculated gold sales declined 2.8% in FY18
Jewelry sales (INR t) Gold sales (INR t)

1.55 2.05 1.99

1.52

FY17 FY18 FY17 FY18

Source: WGC, MOSL, Bloomberg Source: WGC, MOSL, Bloomberg

14 May 2018 21
 Thematic | Value Migration

NOTES

14 May 2018 22
THEMATIC/STRATEGY RESEARCH GALLERY
Explanation of Investment Rating
Investment Rating Expected return (over 12-month)
BUY >=15% India Strategy | Review 4QFY18
SELL < - 10%
NEUTRAL > - 10 % to 15%
UNDER REVIEW Rating may undergo a change
NOT RATED We have forward looking estimates for the stock but we refrain from assigning recommendation
*In case the recommendation given by the Research Analyst becomes inconsistent with the investment rating legend, the Research Analyst shall within 28 days of the inconsistency, take appropriate measures to make the recommendation consistent with the investment rating legend.

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May 2018 10