Half Yearly Report

RNS Number : 7831N

India Capital Growth Fund Limited

12 September 2013

 



12 September 2013

INDIA CAPITAL GROWTH FUND LIMITED

INTERIM RESULTS FOR THE PERIOD FROM 1 JANUARY 2013 TO 30 JUNE 2013

CHAIRMAN'S STATEMENT

After a robust 2012 for the Indian equity markets, the first half of 2013 has proved to be more challenging.

The net asset value of the Company fell by 10.0% to 46.1 pence. This constituted an outperformance of 8.2% against the BSE Mid Cap Index, the Company's notional benchmark which fell 18.2%. Whilst the Board is satisfied with such strong relative performance, it has occurred against a backdrop of renewed negativity and uncertainty in the stock market, creating negative absolute returns.

Economy and politics

2012 ended on an optimistic note for India's capital markets. The Government, under substantial pressure from the international debt rating agencies, announced a slew of positive reforms. Fuel subsidies were cut, easing pressure on the ballooning fiscal deficit, a number of anti-business policy proposals were reversed and foreign direct investment limits in certain sectors of the economy were raised. Accompanying this, inflation fell further towards more comfortable levels and GDP growth appeared to bottom out. Indeed, the Reserve Bank of India (RBI), which has been appropriately hawkish in its monetary policy over recent years, initiated a turn in the interest rate cycle with 75bp of cuts in the repurchase rate between January and May.

Despite these positives, events in the global market place, well beyond India's control, exposed further the vulnerability of the Indian economy. The rising import bill (driven by fuel and gold), coupled with weaker export growth, added further pressure to the elevated current account deficit, which in turn fuelled weakness in the currency, which is prone to the risk appetite of international capital flows. This pressure intensified following the US Federal Reserve Chairman Ben Bernanke's announcement of a potential "tapering" of quantitative easing as the US economy gained traction. India was not alone in this regard, as the Emerging Market currencies across the globe suffered similar pressure.

At the time of writing, the depreciation of the Rupee prompted the RBI to reverse partially the monetary easing upon which it had embarked in order to stabilise the currency. Overnight borrowing costs have been raised, tightening liquidity in the banking sector. This increased cost of credit will be passed onto corporate India, which ahead of the 2014 General Election is already reluctant to kindle its "animal spirits".

Outlook

The recent attempts by the Government to revive sentiment have been long overdue, yet we are still to see any meaningful visibility on "big ticket" reforms such as land acquisition, the removal of prohibitive labour laws and stalled infrastructure projects. These policy failures have frustrated foreign investors which, coupled with increasing investor confidence in the USA's economic recovery and monetary easing from the Central Bank of Japan, has led to a momentary re-writing of the Emerging Market story away from being a "must have", to one where caution prevails. We believe this is only temporary however and assuming the global economy gains strength in the months to come, Emerging Markets such as India will once again be viewed by investors as a market where elevated returns can be earned.

It would also appear that downward pressure on the currency has played out.  Not only do policy makers appear committed to implementing supportive measures but pressure on the current account deficit is also moderating. Actions to support the currency, such as the launching of an offshore dollar denominated Sovereign bond for non-resident Indians, as well as continuing the removal of hurdles for FDI are expected to reverse sentiment. Certainly from a purchasing power parity basis against a basket of international currencies, the Indian Rupee now appears undervalued.

In the medium and long term, we believe the changing global environment will serve to enforce the attractive investment proposition that India still provides rather than detract from it. As ultra-loose monetary policy comes to an end, the shale gas "revolution" increases global fuel supply and China re-balances away from an investment dominated economy, the expected moderation in commodity prices will benefit India. Indeed, the mind-set of viewing "Emerging Markets" as a single asset class is changing as investors look to differentiate between commodity producers such as Brazil and Russia, and domestic consumption driven economies such as India.

Political uncertainty ahead of the 2014 national election will no doubt dominate headlines in the coming months. However, history has shown no matter what party has been in power since India's liberalisation in 1991, overall a reform agenda of growth through international trade and investment has prevailed. The two main parties, whilst having to accommodate several small coalition partners, do not show any sign of deviating from this historical norm. Furthermore a strong monsoon this year has added to the positive of falling inflation which will support rural consumption.

The headwinds of a shifting global macro environment, capital markets, the Rupee and domestic politics appear to have passed their worst. In the face of such challenging market conditions, the investment manager has shown robust relative performance. The Company has outperformed the BSE Midcap Index by 8.2% over the period as mentioned above, and has delivered an outperformance of 10.7% over the last 12 months. Although absolute returns are yet to be realised this performance is still commendable. As such the pursuit of a patient, disciplined, long term, bottom-up investment process should bear fruit.

Fred Carr

Chairman

11 September 2013

INVESTMENT MANAGER'S REPORT

Introduction

The first half of 2013 has seen the Indian equity markets fall back after a strong performance in 2012 and the Indian Rupee depreciated 2.5% against Sterling. The BSE Mid Cap Index, the Company's notional benchmark, declined 18.2% and Ocean Dial's Composite Index declined 15.1%, whilst the broader BSE Sensex declined a more modest 2.6%, all in Sterling terms. Against this backdrop, the NAV of the fund was down 10.0%, outperforming the notional benchmark by 8.2% and the Composite Index by 5.1%. A detailed discussion on the performance of the portfolio is included later in the report.

The year started amidst a lot of hope that the various initiatives announced by the Government would kick start the investment cycle and thus drive growth. While the Government has continued on the reform path and has been able to control inflation and the fiscal deficit, the factors expected to lead an acceleration of the growth; declining interest rates, unclogging of stalled projects and some pickup in exports, are taking much longer to materialise. Meanwhile, the announcement by the US Federal Reserve of a calibrated withdrawal of QE 3 led to a sharp sell-off in Emerging Markets equities, with India being no exception. The outflow of capital, in India's case largely debt, has led to a 5.7% depreciation in the Indian Rupee vs. USD in the month of June. Given India's structural current account deficit, this could have serious implications on the revival of growth. Not only would it lead to imported inflation once more, but it may force the RBI to raise rates to defend the currency - we are already seeing some short term measures to curb gold imports and increase short term interest rates. This has already heightened the uncertainty on the uptick in growth we had anticipated. We thus find ourselves in a very uncertain environment as we enter the second half of the year.

Economy & Outlook

The year began against the backdrop of a sustained decline in most macro parameters. GDP growth had been steadily declining while IIP growth had turned negative. At the same time inflation remained at elevated levels. There was also a fear that the Government's fiscal deficit would be far higher than budgeted, forcing the Government to borrow more, crowding out investment for the private sector. Even on the external front, weak exports and inelastic imports led by oil and gold have created a significant current account deficit, increasing India's dependence on capital accounts to fund the balance of payments.

Despite this, 2013 commenced with the expectation that the worst was behind us and the bottom of the cycle was near. This optimism was driven by the fact that a lot of problems were self-inflicted, thus with its back to the wall, the Government announced a slew of reformist initiatives in the last quarter of 2012. These were aimed at kick starting stalled projects, attracting overseas investments and addressing its own balance sheet by reducing subsidies.

While there was some scepticism that such measures would not be sustained given that elections were scheduled for mid-2014, the first half continued to see the Government attempting to improve the investment climate. The budget presented in February 2013 not only surprised us by keeping the deficit for FY13 at just 4.2% vs. an anticipated 5%+, but more importantly, there were no populist measures announced while subsidies continued to be reduced.

Despite all these efforts, the investment climate has not improved and GDP growth in Q1CY13 came in at just 4.8%, the lowest in a decade, while IIP is see-sawing between positive and negative territory month-on-month. While the Government has set up committees to fast track all large projects which have seen delays, the pace of change is slow as each project has its own set of challenges which need to be addressed at the local, state and central levels. Moreover, within the bureaucracy, a fear of favouritism towards any industrialist continues to delay any speedy resolution of projects. A number of projects have also gone into litigation. Even at the corporate level, with balance sheets leveraged and margins under pressure, companies are focused more on improving cash flows. Corporates are thus still in a wait and watch mode. Although this pace is slow, we believe incrementally the direction is positive as some sectors like Railways and Roads are getting back into investment mode. The Government still continues to maintain that they should be able to do incremental investments of USD17bn in the infrastructure sector in the remaining part of the financial year.

There have been silver linings which allowed for a more positive outlook, the most important being that after three years of being above 8% levels, inflation has begun to moderate, ending June 2013 at 4.86%. This has led to the RBI easing interest rates by 75bps since January 2013 from 8% to 7.25%. This is a huge positive as not only does it reduce the stress in corporate balance sheets, it changes the mindset from one of conserving cash into investment mode.

Another positive was the expectation of a pick-up in government expenditure. In the run up to the Budget in February, the Government had aggressively cut back on expenditure to rein in the deficit. With this behind us, the Government has once again opened its purse strings. We have already seen a 15% rise in government spending in the quarter ended June 2013, which should in turn increase the money supply in the system and help boost demand.

The early arrival of the monsoon should give a big boost to rural demand. Based on the levels of rainfall up to the end of June, which have been excessive in many parts of the country, combined with good forecasts, there is an expectation of a strong monsoon this year. This should itself help increase GDP growth by a percentage point.

While there are signs of improvement in the domestic economy, it is global developments which are upsetting the applecart and could have deep ramifications on the economic outlook as well. The announcement by the US Federal Reserve of a calibrated withdrawal of quantitative easing has led to a sharp sell-off of equities and bonds across Emerging Markets. This is on expectations that the US economy is on a recovery path and the surplus liquidity in the system will not be available. Consequently, money has moved back to US bonds, driving up yields in 10 year US Treasury Bonds by over 50bps to 2.5%.

India too has felt these effects; between 22 May, when the Federal Reserve made the announcement, and the end of June, there was a net FII outflow of USD6.8bn in the debt markets and USD0.8bn in the equity markets. The biggest impact and destabilizing factor has however been on the currency, particularly for countries which run a current account deficit. For India, this has always been a structural weakness, which was amplified in the period FY12-FY13, when the current account deficit moved up from an average of 2.5-3.0% to 5.2%. The increased dependence on capital flows and the sudden sharp outflow has led to a 7.5% depreciation of the INR vs. USD since the announcement by the US Federal Reserve.

There are several implications for India. Companies with unhedged overseas borrowing could suffer large losses. At the same time, as India is a net commodity importer, there will be imported inflationary pressure. The bigger implication however is on policy measures that may be taken to stem the Rupee slide. While the Government has already put severe restrictions on gold imports and currency speculation, it is yet to have led to any material impact on the currency. Many other emerging economies have raised interest rates to encourage debt capital flows as spreads rise. Should India also go that route, it could imply a reversal in the interest rate cycle. While it is still too early to say, should the RBI raise rates it could have implications on GDP growth and corporate earnings growth would remain in low single digits. There is also the possibility of a further deterioration in the asset quality of banks as a number of corporates who have restructured loans, may end up as defaulters.

As we enter the second half of the calendar year, we believe the environment has certainly turned for the worse. At the domestic level, there is disappointment that the policy measures announced are yet to lead to substantial investment on the ground. The positivity generated from a good monsoon and declining inflation is being offset by the volatility in the currency and fears that the interest rate easing cycle may not be sustainable. There is also a fear that with elections approaching in 2014, there will be a limited window for the Government to take further policy initiatives.

Nonetheless, we still believe growth for FY14 could still be ahead of the 5% GDP growth achieved in FY13. Agriculture, led by good monsoon rains should itself help achieve this higher growth. Moreover it will also drive rural incomes, which flow straight into the consumption basket. Besides this, a recovery in the US along with a weaker currency would also help the export oriented sectors like Textiles, IT and Healthcare, many of which are labour intensive. The outlook for the Industrial and Infrastructure sectors is however less certain as they still face a lot of macro headwinds.

Portfolio construction and performance

During the half year ended June 2013, the BSE Mid Cap Index was down 16.2% whilst Ocean Dial's Composite Index fell 13.0%, both in Rupee terms. The Net Asset Value of the Company was down 7.8% in Rupee terms, an outperformance of 8.4% against the notional benchmark and 5.2% against the Composite Index. All sectors contributed to the negative returns, with Financials, Industrials and Materials the worst performing.

Incremental investments were largely in stocks in the IT and Consumer sectors, while we trimmed exposure in the Financial sector. In terms of portfolio positioning, the key differentiator against the benchmark was our significant underweight in the Materials and Consumer Discretionary sectors, whilst our biggest overweight exposure was in Financials. Positive relative performance was generated from our portfolio positioning across all sectors barring Financials. Average cash position over the period was ca. 5%.

Portfolio holdings which positively contributed were Berger Paints (3.2% weighting), Idea Cellular (3.6% weighting), and IPCA laboratories (3.2% weighting), giving gains of 43%, 36% and 26% respectively for the six months to June. The relative negative contribution came from Manappuram Finance (0.9% weighting), MCX Ltd (1.6% weighting) and Indian Bank (2.0% weighting), which fell 69%, 48% and 42% respectively.

Ocean Dial Asset Management

11 September 2013

INVESTMENT POLICY

The Company's investment objective is to provide long-term capital appreciation by investing (directly and indirectly) in companies based in India. The investment policy permits the Company to make investments in a range of Indian equity and equity linked securities and predominantly in listed mid and small cap Indian companies with a smaller proportion in unlisted Indian companies. Investment may also be made in large-cap listed Indian companies and in companies incorporated outside India which have significant operations or markets in India. While the principal focus is on investment in listed or unlisted equity securities or equity linked securities, the Company has the flexibility to invest in bonds (including non-investment grade bonds), convertibles and other types of securities. The Company may, for the purposes of hedging and investing, use derivative instruments such as financial futures, options and warrants. The Company may, from time to time, use borrowings to provide short-term liquidity and, if the Directors deem it prudent, for longer term purposes. The Directors intend to restrict borrowings on a longer term basis to a maximum amount equal to 25 per cent of the net assets of the Company at the time of the drawdown. It is the Company's declared policy not to hedge the exposure to the Indian Rupee.

PRINCIPAL GROUP INVESTMENTS

AS AT 30 JUNE 2013

HOLDING	TYPE	SECTOR	VALUE £000'S	% of PORTFOLIO
Jyothy Laboratories Limited	Mid Cap	Consumer Staples	2,060	5.96
Federal Bank Limited	Mid Cap	Financials	1,680	4.88
KPIT Cummins Infosystems Limited	Mid Cap	IT	1,513	4.37
Lupin Limited	Large Cap	Healthcare	1,494	4.32
Yes Bank Limited	Large Cap	Financials	1,401	4.05
Kajaria Ceramics Limited	Mid Cap	Consumer Discretionary	1,303	3.77
Idea Cellular Limited	Large Cap	Telecommunications	1,254	3.63
Dish TV India Limited	Mid Cap	Consumer Discretionary	1,192	3.45
Emami Limited	Large Cap	Consumer Staples	1,183	3.42
The Jammu & Kashmir Bank Limited	Mid Cap	Financials	1,177	3.41
Indusind Bank Limited	Large Cap	Financials	1,139	3.30
IPCA Laboratories Limited	Mid Cap	Healthcare	1,094	3.17
Berger Paints (I) Limited	Mid Cap	Consumer Discretionary	1,090	3.15
Max India Limited	Mid Cap	Industrials	1,081	3.14
Motherson Sumi Systems Limited	Large Cap	Consumer Discretionary	1,073	3.11
Larsen & Toubro Limited	Large Cap	Industrials	1,069	3.09
Eicher Motors Limited	Mid Cap	Industrials	1,030	2.98
Dewan Housing Finance Corporation Limited	Mid Cap	Financials	1,001	2.90
Divi's Laboratories Limited	Large Cap	Healthcare	957	2.77
Cairn India Limited	Large Cap	Energy	834	2.41
Total top 20 equity investments			24,625	71.28
Other Small Cap	(3 companies)		1,374	3.98
Other Mid Cap	(8 companies)		4,776	13.80
Other Large Cap	(2 companies)		1,463	4.23
Other Unlisted	(1 company)		-	-
Total equity investments			32,238	93.30
Cash plus other net current assets			2,315	6.70
Total Portfolio			34,553	100.00

Note:

Large Cap comprises companies with a market capitalisation above INR 100 billion (£1.1 billion)

Mid Cap comprises companies with a market capitalisation between INR 15 billion and INR 100 billion (£165 million - £1.1 billion)

Small Cap comprises companies with a market capitalisation below INR 15 billion (£165 million)

UNAUDITED CONSOLIDATED STATEMENT OF COMPREHENSIVE INCOME

FOR THE SIX MONTHS TO 30 JUNE 2013

					Unaudited	Unaudited
					Six	Six	Audited
					months to	months to	Year to
					30.06.13	30.06.12	31.12.12
			Revenue £000	Capital £000	Total £000	Total £000	Total £000
Income
Investment income			267	-	267	151	537
Other  income			1	-	1	-	-
			268	-	268	151	537
Net (losses)/gains on financial assets at fair value through
profit or loss
Market movements			-	(2,611)	(2,611)	6,406	11,984
Foreign exchange movements			-	(892)	(892)	(2,541)	(2,684)
			-	(3,503)	(3,503)	3,865	9,300
Total income/(expense)			268	(3,503)	(3,235)	4,016	9,837
Expenses
Management fee			(282)	-	(282)	(254)	(531)
Transaction charges for acquisition and disposal of investments			-	(19)	(19)	(79)	(124)
Foreign exchange losses			(87)	-	(87)	(14)	(41)
Other expenses			(216)	-	(216)	(236)	(446)
Total expenses			(585)	(19)	(604)	(583)	(1,142)
(Loss)/profit for the period/year before taxation			(317)	(3,522)	(3,839)	3,433	8,695
Taxation			-	-	-	-	-
(Loss)/profit for the period/year after taxation			(317)	(3,522)	(3,839)	3,433	8,695
(Loss)/earnings per Ordinary Share (pence)			(0.42)	(4.70)	(5.12)	4.58	11.59

The total column of this statement represents the Group's statement of comprehensive income, prepared in accordance with IFRS. The supplementary revenue and capital columns are both prepared under guidance published by the Association of Investment Companies.

The profit after tax is the "total comprehensive income" as defined by IAS 1. There is no other comprehensive income as defined by IFRS.

All the items in the above statement derive from continuing operations.

UNAUDITED CONSOLIDATED STATEMENT OF CHANGES IN EQUITY

FOR THE SIX MONTHS TO 30 JUNE 2013

							Other Distributable Reserve £000
			Share Capital £000	Capital Reserve		Revenue Reserve £000
				Realised £000	Unrealised £000			Total   £000
Balance as at 1 January 2013			750	(28,896)	(1,385)	(4,955)	72,878	38,392
Gain/(loss) on investments			-	4	(2,615)	-	-	(2,611)
Revenue loss for the period after taxation (excluding foreign
exchange losses)			-	-	-	(317)	-	(317)
Transaction charges for acquisition and disposal of
investments			-	(10)	(9)	-	-	(19)
Loss on foreign currency			-	(375)	(517)	-	-	(892)
Balance as at 30 June 2013			750	(29,277)	(4,526)	(5,272)	72,878	34,553

UNAUDITED CONSOLIDATED STATEMENT OF CHANGES IN EQUITY

FOR THE SIX MONTHS TO 30 JUNE 2012

							Other Distributable Reserve £000
			Share Capital £000	Capital Reserve		Revenue Reserve £000
				Realised £000	Unrealised £000			Total   £000
Balance as at 1 January 2012			750	(24,031)	(15,426)	(4,474)	72,878	29,697
Gain/(loss) on investments			-	(2,020)	8,426	-	-	6,406
Revenue loss for the period after taxation (excluding foreign exchange losses)			-	-	-	(431)	-	(431)
Transaction charges for acquisition and disposal of
investments			-	(30)	(49)	-	-	(79)
Loss on foreign currency			-	(952)	(1,511)	-	-	(2,463)
Balance as at 30 June 2012			750	(27,033)	(8,560)	(4,905)	72,878	33,130

UNAUDITED CONSOLIDATED STATEMENT OF CHANGES IN EQUITY

FOR THE YEAR ENDED 31 DECEMBER 2012

							Other Distributable Reserve £000
			Share Capital £000	Capital Reserve		Revenue Reserve £000
				Realised £000	Unrealised £000			Total   £000
Balance as at 1 January 2012			750	(24,031)	(15,426)	(4,474)	72,878	29,697
(Loss)/gain on investments			-	(2,810)	14,794	-	-	11,984
Revenue loss for the year after taxation (excluding foreign exchange losses)			-	-	-	(481)	-	(481)
Transaction charges for acquisition and disposal of
investments			-	(53)	(71)	-	-	(124)
Loss on foreign currency			-	(2,002)	(682)	-	-	(2,684)
Balance as at 31 December 2012			750	(28,896)	(1,385)	(4,955)	72,878	38,392

UNAUDITED CONSOLIDATED STATEMENT OF FINANCIAL POSITION

AS AT 30 JUNE 2013

		Unaudited		Unaudited		Audited
		30.06.13		30.06.12		31.12.12
		£000		£000		£000
Non-current assets
Financial assets designated at fair value through profit or loss		32,238		30,930		36,487
Current assets
Cash and cash equivalents		2,254		2,036		2,020
Receivables		193		294		25
		2,447		2,330		2,045
Current liabilities
Payables		(132)		(130)		(140)
Net current assets		2,315		2,200		1,905
Total assets less current liabilities		34,553		33,130		38,392
Equity
Ordinary share capital		750		750		750
Reserves		33,803		32,380		37,642
Total equity		34,553		33,130		38,392
Number of Ordinary Shares in issue		75,001,463		75,001,463		75,001,463
Net Asset Value per Ordinary Share (pence)		46.07		44.17		51.19

UNAUDITED CONSOLIDATED STATEMENT OF CASH FLOWS

FOR THE SIX MONTHS TO 30 JUNE 2013

			Unaudited	Unaudited
			Six	Six	Audited
			months to	months to	Year to
			30.06.13	30.06.12	31.12.12
			£000	£000	£000
Cash flows from operating activities
Investment income			103	56	537
Management fee			(289)	(251)	(520)
Other cash payments			(212)	(160)	(308)
Net cash outflow from operating activities			(398)	(355)	(291)
Cash flows from investing activities
Purchase of investments			(3,080)	(13,931)	(21,220)
Sale of investments			3,835	8,628	15,961
Transaction charges relating to the purchase and sale of investments			(19)	(79)	(124)
Net cash inflow/(outflow) from investing activities			736	(5,382)	(5,383)
Net increase/(decrease) in cash and
cash equivalents during the period/year			338	(5,737)	(5,674)
Cash and cash equivalents at the start of the period/year			2,020	7,865	7,865
Exchange losses on cash and cash equivalents			(104)	(92)	(171)
Cash and cash equivalents at the end of the period/year			2,254	2,036	2,020

This announcement was approved by the Board on 11 September 2013. It is not the Company's interim accounts, but has been prepared on the same basis as those accounts.

The full Interim Report together with the unaudited accounts for the period is expected to be mailed to shareholders on 30 September 2013 and a copy will be posted on the Company's website www.indiacapitalgrowth.com in accordance with AIM Rule 26.

Disclaimer: Neither the contents of the Company's website, nor the contents of any website accessible from hyperlinks on the Company's website (or any other website), is incorporated into, or forms part of, this announcement.

Enquiries:

India Capital Growth Fund Limited

Northern Trust International Fund Administration Services (Guernsey) Limited (Secretary)

Andrew Maiden                01481 745368

Ocean Dial Asset Management Limited (Investment Manager)

Amul Pandya                    020 7802 8907

Grant Thornton UK LLP (NOMAD)

Philip Secrett

Jen Clarke                        020 7383 5100

Numis Securities Limited (Broker)

Nathan Brown                 020 7260 1000

Hugh Jonathan

 

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