India: Prudence ahead of tax cuts

Market reaction to yesterday's Budget in India was subdued. However expectations of a 'tax giveaway' by some commentators, in the form of personal and corporate tax cuts, failed to materialise.

According to Sam Mahtani, manager of F&C's Indian Sicav fund, of all the emerging markets India's budget has received the most attention with key reforms announced for the past several years. But this year's announcements from Finance Minister Chidambaram were more prudent.

"The main focus of the budget was an increase in spending in the areas of infrastructure, rural development, health care and education. People had expected the Finance Minister to announce further tax reductions in support of corporates but in reality the budget actually increased taxes on some parts of corporate India, including the construction and IT sectors.

"The tax exemptions for construction companies have been removed and the tax rates within the IT sector raised, putting both sectors on a more equal footing with other areas of the market. However, although the stock market was mildly disappointed, we do not expect the budget to have a very significant impact on corporate earnings which are expected to grow by 20% in 2008. The long term investment outlook for India remains very positive."

The finance minister has targeted a fiscal deficit of 3.3% for 2008 down from 3.7% for 2007.

"When you look at some of the assumptions in the FY08 budget the Finance Minister has made some rather prudent assumptions. The overall fiscal deficit is estimated at 3.3% of GDP, which assumes nominal GDP growth of 13% and gross taxes rising by just 17% compared to 27% in 2007. This more conservative approach will give him flexibility to increase spending or reduce taxes later on this year.

"The Indian market has not escaped the global correction of the last few days but strong capital expenditure within the corporate sector and the Government's ongoing commitment to infrastructure spending continue to underpin the long term growth story for the Indian economy."

One of Mahtani's highest conviction growth stocks is State Bank of India which is trading on 1.3x consolidated book with a return on equity of 17%.

"We believe strongly that the new management team is serious about improving shareholder returns," said Mahtani.

"The bank has the largest market share in terms of loans and deposit and has announced plans to grow its loan book by 20% this year. We expect net interest margins to remain stable and the company could potentially unlock more shareholder value through the IPO of its subsidiaries," he concluded.