More tax cuts coming? Consumer companies with high ROIC - CLSA

In any bull market, a correction is inevitable especially when we reach a point where everyone is on the same side of the trade. We are in the middle of a “inflation” bull market. In recent months this “inflation trade” has become consensus where almost everyone hated the dollar and going long commodities, EM currencies/bonds etc. Technical correction is obviously due especially when the bubble machine, called the dollar printing press, is due to take a summer break by the end of June. (Suddenly all the noise from the deflationist begins to find an audience triggering a little panic). However be assured that QE 2.5, 3.0 whatever it’s called will come for the rescue.

For the last 40 years, federal spending in the US has averaged 21% of GDP while revenue averaged 18%, a structural shortfall of 3% of GDP. Amount of tax and tax rate would have to be doubled, tripled just to match spending. Perfect recipe for Inflation? You bet.

On the other side of the world here in Indonesia, our fiscal position is very different. Instead of raising tax rates, we have lowered tax rates in the last few years (Tax revenue actually more than doubled since the tax cut in 2009 – good example of the Laffer curve at work). Government debt to GDP as of end of 2010 stood at 25%, one of the lowest.

The government (the ministry of manpower) is proposing to double the tax-exempt salary limit from Rp1.3mn (US$US$152) to Rp2.6mn (US$304). Using 5% tax rate for the lowest tax bracket, this translates into Rp790k (US$92) p.a. more cash at the hand of the consumers, or Rp66k (US$7.69) per month. It may sound small but this is meaningful as a percentage of disposable income for many Indonesians.

It is also interesting to see that the government has raised the non taxable limit for the property tax by 100% from Rp12mn (US$1,400) to Rp24mn (US$2,800), as of 1 Jan 2012. This means lower property tax for property owners.

This is very positive for the mid to mid-low income level consumers as the tax exempt directly contributes to an increase in disposable income.

Reading Berkshire Hathaway latest annual note just published, Warren Buffer shared some of his wisdom on what and how to invest in an inflationary environment. The most superior group he picked are high ROIC low capital businesses.

“If you have a product which uses low capital to grow, that is wonderful asset to have in inflation. As inflation goes along your services will command more and more, with no more investment in yourself” Warren Buffet

Consumer companies stated below are all top 3 players in their respective sectors here and there ROICs and ROEs.