Kbuzz: Sector Insights
Kbuzz: Sector Insights
Kbuzz: Sector Insights
Sector Insights
Issue 16 – April 2012
kpmg.com/in
The mid of this month saw the much awaited and long delayed move by the RBI, when it
slashed its key lending rate. The repo rate was lowered by 50 bps for the first time in three
years of the RBI’s focus on containing inflation. The move, largely based on slowing growth
and reducing inflation, was welcomed by all and is expected to be a key driver of economic
revival in the country1.
Illustratively, the headline inflation for March 2012 reduced to 6.9 percent from 7.0 percent
seen in February 2012. Inflation has moderated in India since November 2011, however,
upside risks from fuel price movements still exist.
On the growth side, various indicators of economic activity continue to show weak
performance. Illustratively, growth in the Index of Industrial Production (IIP), an important
indicator of industrial activity in the economy, stands at 3.5 percent from April-February, 2011-
12 compared with 8.1 percent during the same period of the previous year. While, in
February the indicator was up - 4.1 percent vis-à-vis 1.1 percent noticed in January 2012,
which is much below market expectations2.
Additionally, the Purchasing Managers’ Index (PMI) for manufacturing slowed for a third
consecutive month. It reduced to 54.7 in March,2012 from 56.6 in February, 2012 as growth
in new orders eased and raw material costs displayed upward pressure. PMI for services also
slipped to a five-month low of 52.3 in March from 56.5 in the previous month as growth in
new orders eased and future expectations dimmed to its weakest level since 20093.
India’s external sector also continued to show weak performance. The exports for
February,2012 were up by 4.3 percent while imports rose by a staggering 20.7 percent. The
gap led to a widening of the trade deficit to USD 15.2 billion during February from USD 14.8
billion in January. As per the recent data released by commerce secretary, Rahul Khullar,
India’s exports grew by 21 percent while imports grew by 32.1 percent during 2011-12 and
Pending trade deficit widened to a record USD 184.9 billion in 2011-12. The widening trade deficit
might drive India’s deteriorating current account position and can have adverse implications
for the rupee4.
Amidst slowing economic activity, RBI’s loosening grip on the monetary policy can play an
important role in reviving business confidence and fueling investment activity, which in turn
can support growth in the Indian economy. However, much would depend upon the
complementary steps taken by the Indian government to tame inflation.
Regards,
Rajesh Jain
Head – Markets
KPMG in India
Sources:
1- RBI, Monetary Policy Statement for 2012 -2013, April 17, 2012
2- Ministry of Finance, Monthly Economic Report, March 2012
3- Business Standard, Services PMI inches up, May 04, 2012
4- Economic Times. Exports grow 21% at USD 303.7 billion, trade deficit zooms to record high USD185 billion, May 1, 2012
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Indian Economy 03
Loosening liquidity – A right move?
Education 06
A skilled India @ 75 – NSDC’s role, challenges and opportunities
Financial Services 12
NBFC gold loan – Short term pain, long term gain?
Government 15
Direct cash subsidy and its impact in the Indian context
Healthcare 18
Medical devices sector: Key challenges and methodologies
IT-BPO 21
Future of IT hardware industry in India
Private equity 28
2012 could be a good vintage year for private equity investments
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Indian
Economy
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Loosening liquidity – A right move?
RBI in its annual Monetary Policy meet for FY13 started the monetary easing
cycle and aggressively cut the repo rate by 50 basis points – first cut in three “RBI has fired its big guns
years. The move surprised the people from all rungs – even the most and positively surprised
optimistic experts who were expecting a 25 bps decline in repo rate amid even the most optimistic
concerns over inflation risks from suppressed coal, electricity, fertilizer and oil market watchers.
prices. With this cut, repo rate stands at 8 percent while CRR remains Suppressed inflation,
unchanged at 4.75 percent and reverse repo at 7 percent. particularly in petroleum
products, and the current
Rohit Bammi Guided considerations account deficit would keep
Head The RBI move has been guided by the twin considerations of growth a check on further
Financial Risk Management slowdown and declining inflation. Illustratively, growth declined to almost a aggressive rate cuts”
rohitbammi@kpmg.com three year low of 6.1 percent in the third quarter of FY12 and headline
inflation accommodating receding demand pressures moderated to below 7
Rohit Bammi
percent in March 2012 as compared to 9.5 percent witnessed in November
Head
2011.
Financial Risk Management
More importantly, core (non-food manufactured products) inflation dropped KPMG in India
from a high of 8.4 per cent in November 2011 to 4.7 per cent in March 2012,
actually coming below 5 per cent for the first time in two years1.
The need
The monetary loosening was required as the economic activity plummeted in
the economy last fiscal due to a combination of domestic and external factors.
Domestically, the liquidity tightening measures by the RBI pulled down
consumption and investment drastically during the last fiscal. Illustratively,
investment growth dipped to -2.7 percent in Q2, FY12, which was the lowest
in two years2.
Similarly, private consumption, an important demand side driver of growth
(which accounts for around three fifths of the GDP), feeling the heat of
inflation and rate hikes by the RBI, dipped in line with other economic
indicators. The IIP, another indicator of industrial activity, also declined,
posting a negative growth rate of -4.9 percent in October 2011 – the lowest
since March 20092.
These domestic pressures coupled with global uncertainty triggered a flight to
safety amongst global investors and led to an outflow of FII that touched a
three year high in August 2011 (USD -1.77 billion). The rush towards the US
Dollar translated into the Rupee weakening, which touched an all time low of
INR 54.30/USD in mid December 20113.
So, the aggressive move of the RBI is justified in order to revive growth in the
economy which remains below pre-crisis level with weak business and
investors sentiments further threatening to pull the growth down in long run.
RBI on the expectations of normal monsoon, revival in industrial activity, and a
relatively better global outlook expects GDP growth in FY 13 to be 7.3
percent4. The growth is expected to remain below trend till first quarter of
FY13, however, it is expected to improve gradually thereafter as the impact of
monetary policy easing unfolds and the government also support.
1. RBI Monetary Policy Statement for 2012 -2013, April 17, 2012
2. Ministry of Statistics and Programme Implementation, Reports and Publication
3. SEBI website – statistics section
4. RBI Monetary Policy Statement for 2012 -2013, April 17, 2012
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Loosening liquidity – A right move?
KPMG in India point of view - The future course
RBI has also stated a limited room for further monetary policy easing. This is
because the deviation of growth from its trend is modest plus several
upside risks to inflation persist, particularly petroleum products. If the
subsidies targets as set in the Union Budget, 2012-2013 are not met,
demand pressures will remain and could lead to inflationary pressures in the
economy limiting the scope for further monetary easing. The RBI expects
inflation to remain range bound during the year with March 2013 WPI to be
approximately 6.5 percent. Nevertheless, expectations exist for another 25
bps cut in repo rate depending upon the complementary fiscal policy move
from the government on supply side to improve investment climate and
addressing inflationary pressures.
To conclude, the RBI has acted timely however a little more aggressively
than expected. The move is expected to support the real economy, as it will
signal banks to ease lending rates much however would depend upon the
attempts by the government to stick to deal with the supply side
constraints.
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Education
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A skilled India @ 75 – NSDC’s role, challenges and opportunities
Overview
“As it redoubles its efforts
Though fate stands in the way, strenuous effort yields fruit. Labour to transform the skills
recompenses what fate denies --- Thirukkural 619 training landscape in the
Quoting this famous couplet from a hugely popular Tamil literary work, in his country, it will no doubt
India @ 75 presentation in 2007, Professor CK Prahalad defined India’s role rope in expertise from
as a global power in the year 2022. While this vision document outlines international consulting
many a goal for India to achieve and among them a very ambitious goal for organizations that can
human development – to have a 500 million strong skilled labour by 2022. bring their global
Narayanan Ramaswamy
Today, fulfilment of this audacious goal is driven by no less than the Indian experience in vocational
Head education and skills
Prime Minister’s office. The Prime Minister’s National Council on Skills
Education training to bear fruit in the
Development is pushing for a skilled India through various government
narayananr@kpmg.com mechanisms as shown in the pie chart below.1 Indian context. Indeed, it
is in overcoming such
challenges that
Split of 500 million target across various government initiatives
opportunities will flourish.”
Ministry of
Human Ministry of Labor
Resources and and
Development, 50 Employment,
100
1. NSDC Reports,
2. NSDC Annual Report, year ending March 2011, KPMG in India Analysis
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A skilled India @ 75 – NSDC’s role, challenges and opportunities
• On an average NSDC share in total project cost is approximately 70 percent. The total number
of training centres of investee companies envisaged is approximately 14000 and the average
number of students foreseen per centre per year is approximately 4153
• While the top 4 investments have about 2/3rd of the total committed numbers for skills
development (~58 mn), they account for only 43% of the project costs. This is indicative of
the benefits of scale accruable to investments in this space4
• NSDC has been investing on creation of capacity on a large scale. The typical ratio of NSDC
funding within total project costs is 80 : 20 for the top 4 entities5
• The target for NSDC is to train 0.5 million students per year but its has been able to train only
approximately 75,000 students which is 16 percent of the target
• Despite this support for highly scaled models, there is reason to believe, that while NSDC’s
smaller investments have been relatively more compliant with their committed targets, large
multi sector/ geography players may have significantly underperformed
• In light of the current trends in investment performance, NSDC is likely to significantly tighten
its appraisal & monitoring, tread more cautiously on further disbursements and revise
estimates to indicate a delay of 2 -3 years to achieve current commitments.
Indeed, much of NSDC’s initiatives that are currently underway indicate a move toward a more
robust evaluation of investments and Sector Skills Councils (SSC) are bodies which will identify
current and projected skill gaps in the sectors and develop sector-specific competency.
Research
• Identify current and projected skill gaps
• Develop sector specific competency standards and benchmark these with international occupation standards
• Establish sector specific Labor market information systems.
Quality Assurance
• Standardize and streamline the affiliation and accreditation process
• Participate in accreditations and certifications in their sectors.
Delivery
• Develop and update course modules, and train trainers
• Partner with educational institutions to train the trainers
• Promote academies of excellence.
• NSDC has already approved 8 SSCs for the following sectors (i) Automobile Manufacturing (ii)
Private Security (iii) Energy (iv) Media, Animation, Gaming, and Films (v) IT and ITeS (vi) Health
care (vii) Retail and (viii) Banking and Financial Services. While approval is only the first
milestone, actual implementation requires expertise and knowledge that multilateral funding
agencies like 6ADB and World Bank are trying to inculcate, through select SSCs that they
have picked up for funding.
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Energy and
Natural
Resources
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PNGRB regulation on IGL’s Tariff – Implications for CGD
Industry
Overview
The downstream regulator Petroleum and Natural Gas Regulatory Board
“PNGRB order on
(PNGRB) has issued an order determining the transmission tariff and
regulating the tariffs
compression charges for IGL's city gas distribution (CGD) network in Delhi.
might have an
As per the order, PNGRB has approved a significantly lower compression
unfavorable impact on
charge of INR 2.75/kg (vs INR6.66/kg as proposed by IGL) and network tariff
future CGD bidding
Arvind Mahajan of INR 38.58/mmbtu (vs INR 104.05/mmbtu as proposed by IGL)
rounds. “
retrospectively from April, 20081. Thus, the combined new tariff is around 60
Head
percent lower than proposed by the IGL. Moreover, PNGRB has directed
Energy and Natural IGL to reduce its selling price for CNG and PNG in accordance with the Arvind Mahajan
Resources lower transmission tariff and compression charges. In response to this Head
arvindmahajan@kpmg.com order, IGL has moved to Delhi High court challenging the constitutionality Energy and Natural
and legality of the powers of the PNGRB to fix the tariff. Resources
KPMG in India
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PNGRB regulation on IGL’s Tariff – Implications for CGD
Industry
The current order is only applicable for IGL, but in future, PNGRB might
issue similar regulations for other downstream natural gas players such
Gujarat Gas, Adani Gas, GAIL etc., impacting their profitability.
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Financial
Services
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NBFC gold loan – Short term pain, long term gain?
India is known to possess large stocks of gold, estimated at about 11
percent of global gold stock. Over the past ten years, the value of gold in
‘’ In spite of tighter
India has increased at a compounded average growth rate (CAGR) of 13
regulation, the benefits
percent, outpacing the country's real gross domestic product, inflation and
like flexibility, less
population growth by 6 percent, 8 percent and 12 percent respectively. India
formalities, faster
has one of the highest savings rates in the world (34 percent of GDP in
turnaround time, ability to
FY10), of which one third is invested in gold.1
service non bankable
In India, gold prices increased by a staggering 180 percent during FY06- customers etc. should
Naresh Makhijani
FY11 and have outperformed practically all known asset classes in the last help NBFCs to garner
Partner
decade.2 It is estimated that 10 per cent of the country’s gold stock is significant portion of the
Tax – Financial Services pledged as collateral for loans, of which approximately 75 percent is in the gold loan market share in
nareshmakhijani@kpmg.com unorganized market (money lenders, pawn brokers, etc.), and the remaining future.”
25 percent in the organized market (specialized Non-Banking Finance
Companies (NBFCs), other NBFCs, commercial/cooperative banks, etc).3 Naresh Makhijani
The value of the organized gold loan market in India is estimated at INR 400- Partner
450 billion, with a CAGR of approximately 40 percent during FY02-FY10.4 Tax - Financial Services
KPMG in India
Organized gold loan market size (INR bn) Share of organized gold loan market
players (%)
375
Gold loan NBFCs have recorded significant growth in recent years in terms
of both their balance sheet and physical presence. These NBFCs have
increased their books by a little more than 50 percent year-on-year over the
past two years, while banks registered growth of only 32-37 percent.5 To
meet their growth objectives, the NBFCs have increased their dependence
on public funds, including bank finance and non-convertible debentures
issued to retail investors.6
With these NBFCs are growing beyond the normal rate, the impact on them
of any future crash in price by the same margin or more could be severe.
The financial sector may also be affected, since NBFCs are often big
borrowers. To rein in the uncontrolled growth of gold loans and reduce the
risks involved (concentration risk and market risk because of adverse
movements in gold prices), the Reserve Bank of India (RBI) has brought in a
slew of measures to tighten regulatory supervision in the sector during the
last year.
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NBFC gold loan – Short term pain, long term gain?
Earlier, in February 2011, the RBI removed priority sector status from gold loan
companies, which led to a higher cost of borrowings for these companies.7 In another
step to protect the financial system against any possible adverse movement in gold
prices, RBI introduced the following guidelines for gold loan NBFCs in March 2012:
1. Loan to value (LTV) ratio not to exceed 60 percent for loans granted against the
collateral of gold jewellery
2. Percentage of gold loans to total assets to be disclosed in balance sheets
3. Loans not to be granted against bullion, primary gold, gold coins
4. Tier I capital requirement (currently 10 percent) raised to 12 percent by April 1,
2014 for gold loan NBFCs (where such loans comprise 50 percent or more of their
financial assets).
As there were previously no LTV restrictions, many companies had extended up to
90-95 percent of the value of gold jewellery as loans, and a relatively small proportion
of the lending happened at LTVs of 60 percent or lower.8 The new LTV cap of 60
percent could result in significantly lower growth rates, as borrowers will have to bring
in additional gold jewellery to obtain a loan of the same amount. The RBI’s new
measures could also adversely impact the asset quality of gold loan companies in the
short term as the loan eligibility of borrowers seeking refinance is expected to decline.
In addition, this development could result in business shifting to the unorganized
sector or to banks, which would continue to extend loans at higher LTV ratios. The
current high profitability of gold loan companies may also moderate as they are likely
to reduce pricing in order to protect their market shares and prevent a shift to the
unorganized sector.
The RBI guidelines are expected to impact gold loan NBFCs’ business in the short-
term. Business growth could fall from more than 50 percent to 20-25 percent per
annum while return on assets could fall from 4.5 percent to 2.5-3 percent.9 However,
in the long term these guidelines should have an overall positive impact on the sector,
by bringing regulatory clarity. The moderation of growth would increase the
confidence of stakeholders, including banks and other investors, in the sector. In
addition, the LTV cap would lead to better asset quality. Furthermore, slower growth
rates will likely reduce capital requirements over the medium term.
In April 2012, the RBI required banks to reduce exposure to any single NBFC engaged
in the gold loan business from the current 10 percent of their capital funds to 7.5
percent.10 This means that banks will have fewer funds to lend to these gold loan
NBFCs, which will increase their borrowing cost. Even if the new regulations attempt
to make gold loan NBFCs less attractive, these specialized NBFCs have nevertheless
created a niche for their gold loans capabilities by flexibility, easy access, low levels of
documentation and formalities, quick approval and disbursal of loans, faster
turnaround time, customer trust, ability to service non bankable customers and quality
of service. These unspoken associated benefits will help NBFCs to capture and
sustain a significant portion of the gold loan market share in future, in spite of the
tighter regulations.
To summarize, these guidelines might moderate the growth and impact the
profitability of gold loan NBFCs in short term. In the long term, however, they are
expected to enhance the gold loan NBFCs’ ability to assimilate the impact of any
sharp decline in gold prices, thereby improving the sector's asset quality. These
guidelines should not only strengthen the well-capitalized established business
players but also help regulate new players which lack the experience or the necessary
understanding of the business, making the gold loan market more mature.
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Government
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Direct cash subsidy and its impact in the Indian context
Existing system and its challenges
Under direct transfer, the difference between the market price and subsidized “Direct cash subsidy
would not only eliminate
price is directly transferred to the beneficiary in the form of cash in proportion
to the quantity uplifted from the market.1 the opportunity for
benefiting from pilferage
In the Union Budget 2011, the government announced a direct transfer of and diversion in the
subsidies to BPL households which is a drastic departure from the existing current system due to sale
indirect or price subsidy system wherein subsidies are routed through of goods at more than one
Navin Agrawal manufacturers who are required to sell goods below the market rate. prices, but also give the
Head The change in subsidy policy follows in response to the following shortcomings liberty to the beneficiaries
Government in the current system. to buy the goods of
navinagrawal@kpmg.com their own choice and
• Dual-pricing
choose the place where
• Market distortions they buy their goods from.
• Unresponsiveness to customer needs
• Poor targeting of BPL population Navin Agrawal
• Diversion and leakages Head
• Under recoveries for Oil Manufacturing Companies (OMCs). Government
KPMG in India
The new policy would help poor access basic goods by reducing demand
constraints. Since now the manufacturers and retailers would be selling the
commodities at market determined price universally; this policy would not only
put a check on dual pricing, market distortions and leakages but would also
remove the burden of under recoveries on OMCs. However, the real success
of the policy lies in the accuracy and efficiency in identification of worthy
beneficiaries, i.e. BPL Households.
Evolution in India
The government in order to leverage technology solutions and in particular the
Aadhaar i.e. the Unique Identification (UID) programme for this purpose,
constituted a task force on “Direct Transfer of Subsidies on Kerosene, LPG &
Fertilizer” headed by Nandan Nilekani (Chairperson of UID Authority). The task
force proposed the Solution Architecture (Core Subsidy Management System
(CSMS)) to achieve a fully electronic back‐office process for direct transfer of
subsidy. The system would automate all business processes related to direct
subsidy transfer and can be customized according to the business rules. At the
very core of the system would be: Aadhaar Integration, ERP Integration and
Integration with nodal bank and payments gateway.
1. Financial times – Lexicon
2. Direct cash subsidy: Challenges for implementation; Business Standard, 25 April 2011
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Direct cash subsidy and its impact in the Indian context
As the task force proposed in its report, the new subsidy system for kerosene would
be implemented in 2 phases:
Phase I Phase II
Source: Report submitted by the task force on “Direct Transfer of Subsidies on Kerosene, LPG & Fertilizer”, GoI.
Impact on government
• The new system is expected to reduce this cost and subsidy bill through better targeting
• In the Union Budget 2012-13, target is to keep 2012-13 subsidies under 2 percent of GDP
and under 1.75 percent of GDP in the next 3 years3
• Government endeavors to scale up and roll out Aadhaar enabled payments for various
government schemes in at least 50 districts within next 6 months
• Public sector OMCs have launched LPG transparency portals to improve customer service
and reduce leakage.
Recommendations
• Identification of beneficiaries
Selection criteria should be kept broad-based and inclusive. Lessons can be learnt from the
successful implementation of Brazil’s Bolsa Família Program
• Vulnerability to fluctuating market prices
Prices can be averaged out yearly based on forecasts. Cash subsidy should allow flexibility
in the choice of commodity to the beneficiary. The amount of subsidy should be calculated
based on the number of individuals per household rather than assuming an average
household size
• Transfer of cash subsidy
To expedite the implementation, bank accounts can initially be opened for one member per
household. The withdrawal can be done at bank branches and ATMs through debit cards
and through the business correspondent model using smart cards, PoS devices, etc.
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Healthcare
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Medical devices sector: Key challenges and methodologies
Introduction
The Indian market for medical equipment and supplies ranks among the world’s top 20
but, despite strong growth rates, the market remains disproportionately small with per
capita spending of USD 2, as of 2011, the medical devices market in India was estimated
to be worth USD 2642 million. As the sector gains traction continually over the years,
there is a perpetual demand for high quality products (especially in the private sector).
Although the high-tech end of the medical device market is dominated by multinationals
with extensive service networks, the market for medical supplies and disposable
Amit Mookim equipment is dominated by domestic manufacturers.1
Head
Healthcare
amookim@kpmg.com Key issues in the industry and possible solutions
Unstable regulatory environment
The regulation of medical devices is often complicated by legal technicalities. In India, the
Department of Health has nominal jurisdiction over medical devices, evident from the
illegal reprocessing and re-packaging of used syringes for re-sale and the availability of
equipment that fails minimum safety and quality standards.2
About seven years ago, the use of unregulated implantable devices came to the notice of
the Mumbai High Court who passed orders insisting on regulation of medical devices. As
a result, the office of the Drug Controller General of India (DCGI) announced regulation of
ten categories implantable medical devices on October 7, 2005. A number of issues
arose following this announcement owing to lack of preparation on the side of the
industry and the lack in experience of the regulatory body.
It is imperative all stakeholders in the field; industry, regulators and customers be aware
of the regulatory environment. There is considerable gap in knowledge that needs to be
bridged.
The need for regulations arose primarily due to the safety concerns that surround the field
and hence it is essential to have on board regulatory personnel with qualifications and
knowledge appropriate for regulation of these products.
There are multiple proposals being made to effect the provisions of the Drugs and
Cosmetics Act, hence the regulation of medical devices is likely to be an issue that would
not be taken up immediately and without debate. It would therefore be in the best
interest of all stakeholders of the industry if the Ministry of Health were to separately take
up and fast track the setting up of an independent Medical Device Regulation as well as
an independent authority for its implementation.
1. Epsicom Research
2. AmCham report – KPMG
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Medical devices sector: Key challenges and methodologies
Insufficient skill sets
The Department of Science and Telecom, The Ministry of Health and Family
welfare and Indian Council for Medical Research have taken strong initiatives to
improve the quality manpower in the medical device sector. The Department of
science and Technology and Sree Chitra Tirunal Institute for Medical Sciences
and Technology (SCTIMST) have drafted a recent bill for biomedical devices
regulatory authority to structure the industry dynamics.
The Department of Science and The Ministry of Health and Family welfare have
introduced several courses with an industrial perspective in the biomedical
sector. Namely:
MTech in clinical engineering at IIT Madras in collaboration with Christian
Medical College and Sree Chitra Tirunal Institute for Medical Sciences and
Technology (SCTIMST), Thiruvananthapuram.The course was funded by the
department of science and The Ministry of Health and Family welfare in 2007.
Apart from B-Tech Biomedical programmes in some private and semi-private
institutes, IIT-Bombay, Khagarpur and Madras have some viable programmes in
this stream.
Amalgamation programmes are also catching the attention of students at the
premier institutes which are expected to play a major role in reducing the skill set
crisis. A good model of blend of medical and engineering streams is the Stanford
Biodesign programme, because of which AIIMS and IIT Delhi students are
working together.
Conclusion
The medical technology segment has tremendous potential. This potential is
being recognized by the government and there have been many initiatives to
promote the sector. In the Union Budget 2012-2013, customs duty has been
reduced from 16 percent to 8 percent for medical and veterinary furniture. The
sector is expected to grow at a CAGR of 13.4 percent (USD 4,957.8 million by
2016).4
3. KPMG Analysis
4. IBEF Research
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IT - BPO
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Future of IT hardware industry in India
India has witnessed remarkable success in the field of information
technology and business process outsourcing (IT-BPO) over the two “The hardware industry in
decades. Total export revenues earned by IT-BPO sector have grown to India is bullish and
USD 69 billion in FY12, with the overall sector (including hardware) touching promises immense
revenues of USD 100 billion.1 The domestic hardware market comprising potential. While significant
desktops, laptops, servers, printers, storage, networking peripherals is the opportunity lies ahead of
largest segment within the domestic IT-BPO market. This segment is us, there is a need to
expected to reach revenues of nearly USD 13 billion.1 make some policy
Pradeep Udhas changes to tap the latent
Head potential. Inverted duty
Domestic Hardware Market in India Vertical Split of Domestic Hardware
IT-BPO Market – FY 2012 (100%=USD 13 billion) structure duty due to
pudhas@kpmg.com which importing finished
14.0 12.8 goods turn out to be
Financial Services
12.0
11.7
2.6 Other Peripherals 7%
3%
Manufacturing cheaper than assembling
10.0 2.4 0.4
0.5
Printers 7% 23% Government & Education them in India needs an
0.4 Communications & Media
8.0
0.4
0.5
0.5 Servers 7%
Retail & Wholesale
overhaul. All we need is to
2.5 Storage
6.0
2.2
Network Equipments
Professional Services take the right foot forward
9%
4.0
2.7
2.8
Desktop PCs 16% Transportation & Logistics
towards making India an
Energy and Utilities
Notebooks 9%
Healthcare
electronic manufacturing
2.0 3.2 3.6
9% 11%
Other hub.”
0.0
FY2011 FY2012
Pradeep Udhas
Source: NASSCOM Strategic Review 2012; Ovum, IT Hardware Global Forecast Model, March 2011
Head
IT-BPO
This growing market, which is currently sized at USD 13 billion, has been led KPMG in India
by BFSI, Manufacturing and Government, which have the maximum share in
hardware spend in India.2 Factors such as infrastructure requirement in
public sector, capital-intensive nature of manufacturing firms and increasing
need or modernization of banks has been driving the spending of these
three verticals. While these three verticals lead the market in the current
scenario, sectors such as Communications and Media, Financial Services
and Healthcare are expected to ride the next wave of growth witnessing
growth rates of 12 percent, 11.6 percent and 11.4 percent respectively.2
Other 10.6%
Healthcare 11.4%
Energy and Utilities 10.0%
Transportation & Logistics 11.1%
Professional Services 11.1%
Retail & Wholesale 10.6%
Comms & Media 12.0%
Government & Education 11.2%
Manufacturing 10.7%
Financial Services 11.6%
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Future of IT hardware industry in India
Although the segment is promising and has immense potential, the
increasing demand-supply gap remains to be a cause of concern. While the
demand for hardware was estimated to be USD 13 billion in FY12, the
production of goods stood merely at USD 6 billion.3 Growing demand for
hardware fuelled by modernization across verticals, clubbed with the slow
rate of increase in domestic production, is widening the demand-supply gap.
While this is seen as a challenge, it is also also unveils a plethora of
opportunities for hardware manufacturers, be it global or India, who can gain
significantly while bridging this chasm.
3 Report of Task Force to suggest measures to stimulate growth of IT-ITeS and Hardware manufacturing industries in India, MIT, Govt. of India, December 2009
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Future of IT hardware industry in India
Industry Vertical Present state Future potential
While India has the fastest growing Hardware market, the absolute size of
the market is still small when compared to leading countries such as China
and Japan in Asia Pacific.4 Other economies such as China, Malaysia and
Vietnam have been taking significant steps to enhance manufacturing
capabilities. China has become the world’s manufacturing hub, Vietnam has
turned into an attractive destination for Electronic Manufacturing Services
(EMS), and semiconductors and Original Device Manufacturing (ODM), and
Malaysia has also transformed into an industrialized market.4
• Corporate tax rate was reduced from 26% in 2008 to 25% in 2009.
• Government also offers other significant tax incentives under the
China Promotion of Investments Act 1986 and the Income Tax Act 1967
Vietnam • Companies are opting for Vietnam to reduce their dependence on China
Vietnam
Source: KPMG in India Analysis; 3 Report of Task Force to suggest measures to stimulate growth of IT-ITeS and
Hardware manufacturing industries in India, MIT, Govt. of India, December 2009
4 KPMG in India Analysis; 3 Report of Task Force to suggest measures to stimulate growth of IT-ITeS and Hardware manufacturing industries in India, MIT, Govt. of India,
December 2009
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Media and
Entertainment
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Is the cable industry digital ready?
The cable television industry in India is poised for one of its most significant
developments in the last decade – a transformation to the Digital Addressable
System (DAS) for television distribution. Cable operators in a DAS regime
would be legally bound to transmit only digital signals. Subscribed channels
can be received at the customer’s premises only through a set-top-box
equipped with a conditional access card, and a subscriber management
system (SMS).
With the parliament clearing the bill to amend the Cable Television Networks
Jehil Thakkar (Regulation) Act in December 2011, the stage has now been set for transition
Head
to DAS, to be implemented across India in four phases. The sunset date of
Media and
30th June 2012 has been set for completion of phase-I and the government
Entertainment
seem to be committed towards ensuring a smooth transition within the set
jthakkar@kpmg.com timelines. However, with an installed base of only 6 million1 set-top-boxes
(STBs), is the cable industry ready to usher the first wave of digitization?
Some of the digital cable operators expect that 70-75 percent of the analog
market has the potential to easily shift to digitization, provided that the cable
industry is prepared for it.1 Further, they believe that if the cable industry
does not gear itself for the transition, the DTH industry may gather around 40-
45 percent of the market.1
With rising demand and the lead time for the delivery of STBs being 3-4
months, operators who did not place timely orders for STBs are likely to see
delays as the deadline approaches near. As cable operators begin STB
installation very close to the actual deadline, it is unlikely that all existing
analog cable TV homes will be able to make a transition to digital cable within
the specified time frame. Accordingly, we may witness a delay of
approximately 6 to 12 months for complete digitization across metros (Phase
I). Also, the implementation may vary across the metro cities. The Delhi
market is considered the most challenging, given the highly fragmented
nature of cable industry in the city, while the Mumbai market is largely
consolidated, with fewer MSOs.
We believe that timely installation of STBs is one of the many challenges that
the cable operators will need to confront. The shift will require large capital
expenditure (INR 15-20 billion in phase-I)1 on digital head-ends, back-end
infrastructure, and STB installation. Regional and smaller Multiple System
Operator’s (MSOs), which account for approximately 50 percent of the cable
TV market, may find it difficult to raise the required capital for phase-I in
time.1
Apart from the financial requirements, digitization also presents large
organizational challenges for the MSOs. A consumer focused approach will
be a critical success factor for MSOs to succeed post digitization. While
MSOs will continue to provide technical and manpower assistance to Local
Cable Operator’s (LCOs) for setting up head-ends and installation of STBs,
they will also need to scale up their back-end infrastructure such as IT
systems, call centres, billing operations and STB management (procurement
and repair). While the back-end infrastructure and required network is largely
in place for Phase-I, however much more work needs to be done to scale-up
billing and customer service operations, which may further lead to large scale
IT outsourcing contracts. This would call for significant manpower
preparedness and deriving learning’s from consumer focused industries such
as Telecom where most critical processes are outsourced.
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Is the cable industry digital ready?
suspend/Interrupt/ Installations
Pre-sales support Claims/Returns Reinstate Technical trouble
handling.
Product configuration Amount owned on bill shooting
Credit check Credit card/Online Provisioning/Field
payments Support
Set up payment
Roaming queries Customer interaction
process.
Security deposits centre.
Convergence billing.
Conclusion
While the industry is excited and positive about successful adoption of
digitization, the transition is not expected to be entirely smooth and there are
bound to be implementation challenges. The Indian consumer also appears to
be ready for digital television, as demonstrated by the high penetration of
DTH platform amongst C&S subscribers. However, the cable industry will
need to accelerate its efforts and ensure that it does not lose out on the
digitization opportunity to the DTH players. In the quest to build a sizeable
subscriber base, going forward, we may witness consolidation amongst
MSOs, LCOs being acquired by MSOs and capital rising by MSOs. The
success will depend on how the players work collaboratively towards
overcoming their operational challenges, ensuring technological and
manpower preparedness and building sustainable processes which will
define the dynamics of the industry.
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with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
Private Equity
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Union budget 2012-13: Impact analysis
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2012 could be a good vintage year for private equity
investments
Current valuations are lower than before but starting to see an uptrend
The steep fall in public markets in 2011 has meant that companies are now
trading at valuations that are below their historical averages. The BSE
Sensex price earnings (PE) multiple on a trailing basis is currently at 17.8x5,
which is at a discount to its five year trailing average of 18.9x. Similarly, on a
price to book basis, the Sensex was trading at 3.4x as of March 2012
against its five year trailing average of 4.1x. Lower valuations should allow
for deals to happen at more realistic levels and expectation of earnings
growth for the financial year 2013 is expected to increase investments.
Although comparative valuations in India may still not be compelling vis-à-vis
other emerging markets, they have come down sharply across certain
sectors. For instance, valuations in the power sector have declined by more
than 60 percent in December 2011 since the peak in December 2007.
Similarly valuations for engineering and construction companies have gone
down by about 25 to 30 percent over the same period (See Exhibit 1). Other
sectors too such as oil and gas and logistics have witnessed a fall in
valuations. Given that most funds in India are sector-agnostic; PE investors
are likely to find attractive opportunities across sectors.
2007 2011 % Change 2007 2011 % Change 2007 2011 % Change 2007 2011 % Change
Logistics 26.1x 17.6x -32.4% 1.6x 1.7x 4.5% 13.2x 7.6x -42.4% 16.2x 9.3x -42.4%
Pharma 12.6x 16.3x 28.6% 1.9x 2.2x 15.9% 8.6x 9.4x 9.6% 10.3x 11.3x 9.3%
Power 32.7x 12.5x -61.9% 7.2x 2.2x -69.5% 18.5x 5.6x -69.8% 22.5x 7.5x -66.5%
Oil & Gas 10.4x 8.9x -14.4% 0.6x 0.2x -61.6% 6.2x 10.1x 62.9% 7.6x 21.6x 185.9%
Engineering 19.2x 14.7x -23.3% 1.7x 1.1x -36.3% 9.4x 6.9x -26.5% 11.1x 7.8x -30.1%
Oil
27.6x 11.2x -59.4% 4.7x 2.7x -41.5% 11.7x 4.8x -58.6% 13.6x 6.2x -54.4%
Exploration
Note: Figures are on a median basis for a set of companies in the respective sectors and as of December 2007 and
December 2011 respectively. Valuation is based on trailing basis for last 12 months.
Source: Bombay Stock Exchange, Capitaline, KPMG in India analysis
5. As of March 2012
6. VCCEdge
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2012 could be a good vintage year for private equity
investments
Exhibit 2: Companies that dropped IPO plans and raised PE funding
IOT Infrastructure & Energy Services 2010 Dec-11 19.0 UTI Capital
Max Flex & Imaging Systems 2010 Oct-11 21.0 Reliance Equity
Trimax IT Infrastructure and Services 2011 Apr-12 20.0 Aditya Birla Private Equity
7. VCCEdge
© 2012 KPMG, an Indian Registered Partnership and a member firm of the KPMG network of independent member firms affiliated with 31
KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
2012 could be a good vintage year for private equity
investments
PE funds contribution to portfolio companies
25%
19.3%
20%
14.0%
15%
12.3% 12.3% 12.3%
10% 8.8%
7.0%
5.3%
5% 3.5% 3.5%
1.8%
0%
Others
Helped business to expand and
Helped in efficiency
development
in company
capability
models
Conclusion
Currently deal flow is in abundance for the PE industry. One would hope that
a more positive environment will prove for 2012 to be a good vintage year,
particularly for those willing to ride out short term fluctuations.
© 2012 KPMG, an Indian Registered Partnership and a member firm of the KPMG network of independent member firms affiliated with 32
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Real Estate and
Construction
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Joint development arrangement – Gaining importance and
posing significant challenges
Introduction
The Joint Development Arrangement (JDA), as a business model has been
in vogue for a couple of years in the real estate sector. With the evolution of
the sector, opening up FDI for the sector and increased corporatization, JDA
concept has also evolved and gained importance.
The key feature of JDA is that the land owner contributes land and
Sachin Menon developer undertakes the responsibility of obtaining approvals, property
Partner development, launching and marketing the project with its financial
resources.
Real Estate and
Construction Depending upon various factors such as land prices, products to be
sachinmenon@kpmg.com developed on the land, financial risks undertaken, roles and responsibilities
undertaken by each participant, JDA model is structured. The land owner
expects much higher consideration in return for providing development
rights to the developer. Typically, consideration is discharged in the form of
upfront payment, sharing of gross revenue, sharing of constructed area or a
combination thereof. Given these commercial, regulatory and tax facets of
the JDA various innovative JDA models are being structured. Each model
offers its unique challenges and its implications also differ variedly.
JDA is effectively a cost effective, lesser financial risk and lesser litigative
model for the developer. At the same time, it also allows the land owner to
participate and share upside in the commercial exploitation of the land. JDA
allows a land owner to climb up the value chain without having to be
engaged (in a real sense) in the construction / developmental activities. It
also presents developer an avenue to commence projects without making
investment in the land, which in metro and major cities, constitutes a
significant portion of the project cost and for which bank finance is not
available. Increase in land prices has contributed significantly to the growth
of JDA as a most suitable model in the recent years.
By its very nature, JDA concept encompasses complex interplay between
the parties involved. Further, the complexities have also increased due to
the use of JDA model in newer opportunities of Redevelopment projects,
Slum Rehabilitation projects, etc. As such, JDA model poses various
challenges from tax (direct and indirect), stamp duty and accounting
perspective. The key challenges from tax and regulatory perspective are
summarised below:
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Joint development arrangement – Gaining importance and
posing significant challenges
In the hands of land owner
• The land parted by the land owner, whether constitutes a stock in trade
or capital asset? Since the scheme of taxability is different for business
income and capital gains, this issue is quite relevant. Further, whether
the land owner by parting with the land under the JDA is engaging
himself in the business of real estate is also relevant question and is
dependent upon the specific facts. Many a times, in practice we have
observed conversion of capital asset into stock in trade before
participation by the land owner into a JDA to achieve tax efficiency and
defer the incidence of taxation on transfer of development rights in the
land. This conversion is often attempted to be disregarded by the
revenue authorities.
• There is no uniform principle or guideline for determining point of accrual
of capital gains (if land is capital asset) and taxability of income in the
hands of land owner. The point of transfer is a matter of debate i.e.
whether at the time of entering into a JDA or handing over of
possession or receipt of consideration (i.e. cash or built-up area or share
in revenue / profits,) or eventual sale of built-up area received by the land
owner. Matter gets further complicated when varied forms of Power of
Attorney (POA) i.e Specific POA and General POA are executed by land
owner in favor of the developer.
• Basis of computation of consideration received in the form of built-up
area or sharing of revenue/ profits is again a disputed area. In case of
area sharing without consideration being capped, the land owner could
be exposed to significant taxation as the revenue authorities could apply
the valuation rules as deemed fit in the absence of any specific rules.
This consequently impacts the quantum of taxability in the hands of the
land owner.
• Applicability of stamp duty on JDA and provisions of section 50C of the
Income-tax Act is another challenge.
© 2012 KPMG, an Indian Registered Partnership and a member firm of the KPMG network of independent member firms affiliated with 35
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Joint development arrangement – Gaining importance and
posing significant challenges
In the hands of land owner
• JDA poses another important challenge from the service tax regime.
Whether the JDA per se is subject to service tax or not a moot question.
Further, in cases where the land owner receives built-up area, whether
service tax or VAT is applicable on the basis that land owner is
appointing developer for construction of its share is another tricky issue.
• The changes proposed in the Finance Bill 2012 have further complicated
the subject of levy of service tax given the introduction of negative list.
• Two more important proposals in the Finance Bill 2012 namely GAAR
and domestic Transfer Pricing provision would significantly impact the
JDA structuring especially when the arrangement is entered into
between the related entities.
• Accounting of construction cost for the built-up area to be provided to
the land owner or share of revenue / profit to the land owner is also
quite complex and different parties adopt different accounting principles.
Summing Up
While there exist tax and regulatory challenges, business realities and
commercial advantages / necessities would require parties to adopt varied
JDA models depending upon commercial aspects. Further, complexities
surrounding JDA are also bound to increase with parties adopting more
innovative and varied forms of JDAs. While, it is generally said that tax
cannot be driving the business, but in today’s time tax cost cannot be
ignored and all possibilities of optimizing tax cost should be evaluated.
Therefore, it is extremely important that the parties should undertake
efficient pre-planning and structuring the JDA post evaluating all possible tax
and regulatory aspects.
© 2012 KPMG, an Indian Registered Partnership and a member firm of the KPMG network of independent member firms affiliated with 36
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Transportation
and Logistics
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with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
Warehousing opportunities in India
Introduction
As the Indian transportation and logistics market witnesses new heights,
there has been increasing buzz around technology adoption, network “The warehousing
optimization, multimodal transportation and improving warehousing. The landscape in India is
latter in particular has been evolving rapidly from traditional ‘godowns’ to witnessing multiple
modern facilities. Though this sector has been widely researched and interesting trends,
analyzed, in this paper we take a unique view on its several dynamic including increasing
aspects: latest forecast of warehousing demand, the key end user opportunities across many
Manish Saigal segments, attractive locations across India, critical success factors for user segments,
Head service providers and end users’ key buying criteria. emergence of attractive
Transportation and tier-2 cities as
Logistics Warehousing demand growing at ~ 6.8 percent CAGR (2010-13) warehousing locations and
msaigal@kpmg.com Driven by growth in production and consumption, organized retail, logistics several key buying
outsourcing, modern assets and the likely rollout of Goods and Service Tax preferences of
(GST), the demand for warehousing space is estimated to grow from ~ 391 customers.”
mn sq. ft. in 2010 to 476 mn sq. ft. in 2013, growing at ~ 6.8 percent CAGR
during this period1. Manish Saigal
Head
Transportation and
Warehousing demand in India
Logistics
KPMG in India
500
54
51 24
400 47 23
Warehousing space (mn sq ft.)
44 21 71
20 66
61
300 56 64
55 59
50
200 111 117
99 105
18 19
16 17
100 60 64
53 57
53 56 59 63
0
2010E 2011E 2012E 2013E
Note: Warehousing demand excludes CFS warehousing space, warehousing space within factories and public agriculture warehouses
Source: Industry discussions, KPMG in India Analysis
Among the key sectors, the highest growth is expected from Engineering
Goods and IT, Electronics & Telecom domains since their warehousing
demand is estimated to respectively grow at CAGR ~ 8.6 and 8.2 percent
during 2010-13. The other sectors are estimated to witness growth rates in
the range of 5.7 to 7.1 percent CAGR1.
© 2012 KPMG, an Indian Registered Partnership and a member firm of the KPMG network of independent member firms affiliated 38
with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
Warehousing opportunities in India
Location attractiveness landscape presents a wide opportunity across
India…
In the light of various growth prospects and challenges, a deeper analysis
across the geographic landscape in India reveals that while Mumbai,
National Capital Region (NCR) and Nagpur are most attractive locations,
most other attractive locations lie in major western and southern cities.
Competitive Intensity
Low Medium High
Further, to appropriately tap opportunities at the Critical Success Factors and Key Buying Criteria
discussed locations especially with regard to
modern warehousing, industry stakeholders need
to be wary of two crucial aspects: (1) customers’
Key Buying Criteria, and (2) Critical Service
Factors. While price sensitivity, manpower
availability and location rank as the leading buying
criteria, service providers need to offer high-quality
industry-specific value-added solutions, skilled
manpower – both management and operational,
IT/technology solutions - ERP, Put-to-Light, GPS,
etc., and build up strong relationships with
customers, helping ensure long-term contracts
and hence regular and predictable volumes.
Conclusion
Given that the Indian warehousing landscape is
gradually getting redefined from the conventional
concept of ‘godown’ - a mere four-wall-and-shed –
to modern set ups with high levels of automation,
multi-rack and palletization infrastructure, etc., the
need for the wider industry to re-visit their
warehousing approach is pressing. Perhaps, the
onset of GST, with its potential to revamp the
national warehousing network, could be
considered as the single largest industry-wide
opportunity to consider smart warehousing as a Notes: Location refers to proximity to user groups
cost-saving opportunity across the supply chain Source: Industry discussions, KPMG in India Analysis
instead of a standalone necessary evil due to its
capital-intensive nature.
© 2012 KPMG, an Indian Registered Partnership and a member firm of the KPMG network of independent member firms affiliated 39
with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
This document has been compiled by the Research, Analytics, and
Knowledge (RAK) team at KPMG in India.
kpmg.com/in
The information contained herein is of a general nature and is not intended to address the circumstances
of any particular individual or entity. Although we endeavor to provide accurate and timely information,
there can be no guarantee that such information is accurate as of the date it is received or that it will
continue to be accurate in the future. No one should act on such information without appropriate
professional advice after a thorough examination of the particular situation.
© 2012 KPMG, an Indian Registered Partnership and a member firm of the KPMG network of
independent member firms affiliated with KPMG International Cooperative (“KPMG International”), a
Swiss entity. All rights reserved.
The KPMG name, logo and “cutting through complexity” are registered trademarks or trademarks of
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