The challenge:

India’s current account deficit had spiked to US$78 billion in 2011-12 and US$88 billion in 2012-13. Vijay Kuppa Manager, Corporate Finance – Treasury at Larsen & Toubro explains, “we realised that India would be incapable of handling these kinds of deficits on a sustainable basis. This was the origin of the thought process in our minds of what could possibly go wrong in India and what impact it could have on different asset classes like currency and rates.”

“In the second half of the year, we were closely observing the rise of BJP’s potential PM candidate Narendra Modi. His track record as the Chief Minister of Gujarat was gaining a lot of positive media attention. So our thought process was that Modi could be a major swing factor in favour of the BJP if he was confirmed as their PM candidate and given 7-8 months to campaign. During the same period, we saw that the ruling party was getting a lot of criticism and negative media coverage.”

The solution:

The crisis of 2013 began with the rupee slowly depreciating. At this point, Larsen & Toubro thought it should be careful and not take any chances. It proceeded to cut its duration-heavy positions and reallocated the funds to short-term liquid instruments. It was also sitting light on equity positions as the company was uncomfortable with India’s weak macro picture in the first half of fiscal year 2013-14. Then unfortunately, the crisis of 2013 hit with EM currencies blowing out between June and August 2013. The Reserve Bank of India was forced to raise rates to defend the currency.

Through keeping an eye on the news and the political developments the Larsen & Toubro treasury team was able to avoid any adverse effects from the crisis. “Since we were sitting light and liquid, we saved a lot for the company. We were not sure how the crisis would manifest and did not know what the problem could be and hence we did not take positions on the paid rates side,” says Kuppa. “Potentially we could have lost approximately US$10m but since we were light on positions we were able to save this amount.”

Best practice and innovation:

The core objective of the team is to manage surplus investments (mainly debt and equity) until they are required for business-related activities. 2013-14 was one of the most volatile and challenging of recent years for India. Yet it was one of the most profitable for Larsen & Toubro (it generated an alpha of approximately 2.5% on investments worth US$1 billion vs. 2.0% in 2012-13 and 1.2% in 2011-12 when markets in emerging economies such as India were relatively calmer).

As Kuppa explains: “when we sensed danger we stayed away, stayed liquid and conserved our capital; and when we sensed an opportunity, we went all-in to capitalise on it. Our two main investment strategies for the year, reduction of duration in the first half of 2013-14 and investment in equity in the second half of 2013-14 perfectly exemplify the philosophy of the desk which in order of priority is: liquidity, returns, and limited capital risk.”

The Larsen & Toubro treasury team managed average surplus investments of approximately US$1 billion. In fiscal year 2014, the investment team earned approximately US$120m on this amount translating into a pretax return of 11.97% for the company. The outperformance from the more expected rate of return of 9.5% was on account of two strategic investment decisions:

• To reduce the duration of the investments in the first half of the year.

• To invest in equities in the second half of the year.