If one looks at the Indian corporate and financial sectors today, one finds world-class organizations operating in a competitive marketplace and capitalizing on tremendous growth opportunities. Yet only 10 years back, the picture was completely different.
Illustration: Jayachandran / Mint
Although the genesis of this change was the initiation of the reforms process in the early 1990s, it is important to remember that the 1990s themselves were a period of adjustment and reinvention for all of us. The sense of euphoria and anticipation of robust demand and economic growth, after the liberalization process had been initiated, led Indian industry to commit large amounts of investment. However, various sections of the economy were still in a nascent stage of development. Our capital markets lacked the depth to meet the investment needs of Indian industry. Our companies, therefore, entered the year 2000 with significantly stressed balance sheets and high levels of debt, and it was uncertain whether they would be able to compete with large global players and low-cost mass manufacturers such as those in China.
The real advantages of liberalization and a move towards more competitive markets started to be seen only in 2002-03. By this stage, the emergence of the knowledge economy and the services sector growth had become a structural phenomenon for India, not caused by cyclical fluctuations, but rather driven largely by a globally competitive low-cost and high-skill pool of human capital. The effect of this was significant. It led to a rapid increase in income in the hands of the working population, which set off consumption demand in the economy.
The Indian consumer now sought to fulfil his or her lifestyle aspirations at a younger age, and demanded more choices and better quality of products and services. The process of liberalization had already put in place key enablers for our companies to tap opportunities in a vast and under-penetrated market—and the economic situation post-2002 provided the right environment for exponential growth.
Post-2003, the Indian economy entered into a phase of high growth which spurred consumption, investment and manufacturing activities. Companies quickly built up scale in the domestic market to cater to a large population characterized by rising incomes. At the same time, the growth potential of Indian markets attracted foreign players, leading to greater competition and innovation in our markets. As a result, a lot of our companies emerged as game changers in their market segments, not only at the domestic level but also globally.
The spread of telecommunications in the country and its affordability is an example of this phenomenon. India is by far the cheapest market in the world in terms of telecom tariff rates. This clearly demonstrates the ability of our companies to compete at a global level. Another example of such innovation lies in the automobile sector, with India now being home to the world’s cheapest car—Tata’s Nano. Ten years ago, no one would have believed that such things were possible in the Indian context.
The most significant aspect of this transformation has been that in addition to successfully competing with large established global players, our companies have considerably built up scale and expanded operations beyond the domestic market alone. Growing global competitiveness has encouraged our companies to establish a presence overseas, whether by setting up new facilities or acquiring existing ones, and has led to the build-up of scale relevant even at the global level. In addition, the cash flows of our companies have improved significantly, giving them the ability to fund a significant proportion of their investment plans through internal accruals. This has significantly increased their flexibility to undertake large expansion plans.
One can, therefore, say that the transformation of the Indian corporate sector is now almost complete. After a prolonged and painful process of restructuring and repositioning, Indian businesses have emerged leaner, more efficient in terms of process, quality and financing, and competitive on a global scale. Companies have learnt the critical importance of operating discipline, financial discipline and efficiency. They have changed their mindsets, cleaned up their shop floors, restructured their balance sheets and improved their products in terms of functionality and quality. Indian companies today are expanding operations in overseas markets through both organic and inorganic means. There is a sense of optimism, and the ability to think big and execute large plans.
In addition, companies have developed the ability to quickly respond to changes in market conditions. For example, in response to the recent global economic slowdown, they aggressively reduced their inventories, realigned production levels and cut costs so as to rebase to the new cost price-demand equation. It is important to note here that the corporate sector entered this challenging phase much stronger than what it was in the late 1990s, in terms of quality, operating efficiency, scale and balance sheet health.
A lot of the changes in the economy over the last decade are reflected in the Indian financial sector as well. If we look back at the Indian economy in the late 1990s, we see a financial sector facing serious challenges. Our capital markets were underdeveloped and unable to fully support Indian industry. The financial sector was segmented among long-term lenders, commercial banks, insurance companies and a relatively small asset management industry. The sector, moreover, was largely government-owned.
The consumer banking market was underserved: While banks were offering branch-based deposit and transaction banking products, there was hardly any use of technology. Thus, the consumer had limited flexibility in the way he or she could transact, or act upon the choices that he or she had. Non-performing assets (NPAs) in the banking sector were at significantly high levels and the net NPA ratio for scheduled commercial banks—the proportion of these bad assets to total asset base—stood at around 8% in 1997.
The last decade has seen the financial sector being transformed, with high levels of technology, diversity and sophistication in products and services that have also improved efficiency. The most prominent trend in the financial services sector has been the rapid growth in consumer credit. After the opening up of the banking sector, banks in India have rapidly increased their market share by using technology-enabled channels to offer world-class services to customers. With technology now being increasingly applied in financial products, the customer is not only afforded a full suite of products at relatively low costs, but he or she also finds conducting transactions simple and convenient. These trends are likely to continue, as the next generation of customers comes up and increases demand, consequently making financial services firms lay greater emphasis on convenience, quality and availability of products.
Capacity expansion by manufacturing firms and infrastructure development also led to greater demand for financial services. This provided an important growth opportunity for banks in terms of project and working capital financing and investment banking, as well as treasury and risk-management products. The banking sector built capabilities to serve the corporate sector’s enhanced needs. From being providers of plain vanilla working capital and term debt, banks now provide a range of sophisticated financial services, including structured finance and derivative solutions. Banks are today partnering with companies as they compete in a globalized environment across domestic and international markets by not only providing financing solutions but also risk-management solutions necessary in the increasingly complex business and financial environment. Traditional transaction banking services such as cash management, foreign exchange and trade finance have also undergone a major change due to technology, which ends up imparting greater efficiency to both banks and companies alike.
Similar to those in banking, the trends of development and sophistication are evident across the spectrum of financial services, including insurance and asset management. We are seeing a variety of new product offerings and innovative methods of distribution fostering growth in these areas. Financial markets have grown in breadth and depth. Modern stock and commodity exchanges have been created and have grown to keep pace with the needs of the economy.
The Indian regulatory framework has also evolved and the financial system has become increasingly developed and complex. India’s financial regulatory framework is now comparable internationally. Considerable progress has also been made in liberalizing foreign investment in the financial sector, whether in terms of strategic investments or expansion of operations by foreign banks or investment by financial investors.
The Indian corporate and financial sectors have indeed come a long way since the start of the decade. Yet there is a lot still to be done. World markets in general have become more integrated—and rapid change and development have become inherent features of the business environment. This implies that to maintain competitiveness at the global level, Indian companies must constantly examine their strengths and weaknesses, competitive positioning, their long-term strategy and their portfolio of businesses. They must be willing to change their structures and reallocate their resources optimally, to maximize the value they deliver to their stakeholders. They must have a culture that encourages innovation and the challenging of conventions and existing procedures, at all levels.
Within the financial services space, while the growth momentum is without question, there is a need to continuously plan ahead for the resources needed to support this growth. We must look ahead and define a vision for the financial sector in this context. We need to work to build a financial sector that has the size and scale to support a $1 trillion economy growing at 8-10% annually. Today, we are participants in a new era of growth in India. A look at some of the world’s economies shows that high growth rates can be sustained. Post-war Japan grew at a compounded annual growth rate (CAGR) of 8.5% for 20 years from 1955 to 1975. The result was a fivefold increase in its gross domestic product (GDP). Similarly, China has grown at a CAGR of 9.5% for at least 25 years since it began its economic reform process in 1979, with its GDP growing by 10 times. The experience of the Asian “tiger economies” is similar.
The Indian economy today has the same characteristics that the economies of Japan and China had in the early years of their growth: favourable demographics, knowledge capital, industrial competitiveness and a rising savings rate. Over the last decade, the entrepreneurial talent and managerial capabilities of our people have come to the fore and India has become the place of action in the global economy. The future promises to be exciting and challenging for our businesses—but we must capitalize on these opportunities.
K.V. Kamath is non-executive chairman, ICICI Bank Ltd. Views are personal. Comments are welcome at email@example.com