Moneycontrol Research Team
India Inc. kept up the revival trend witnessed in the previous quarter. Aggregate sales of the universe of listed companies grew 12 percent, much higher than the year-ago period. While the implementation of GST partially distorted the base and there was pressure from high raw material costs, the growth in operating profit was an impressive 28 percent.
The improvement in topline as seen in recent earnings has been led partially by the base as also by a recovery in rural areas.
While India Inc. is recouping earnings strength, it also witnesses macro factors at the crossroads – interest rate cycle and commodity inflation. This cyclical margin pressure has been so far offset by demand-led recovery for both consumer and industrial sectors, as suggested by aggregate numbers.
While the recovery is gathering steam, the corporate sector is also looking at global trade tension and supply disruption from China with suspicion. With capacity utilisation improving on the back of demand recovery in most consumer-facing businesses, hopes of capex recovery is on the horizon.
While markets have taken cognisance of the same, brace for volatility as global markets digest the news of trade war, as well as rate hikes in advanced economies. At home, markets await the outcome of the General Election in 2019 and the conflicting sound bites that accompany the same.
We expect earnings growth in the twenties for the Nifty aggregate between FY18-FY20e (estimated). However, markets appear to be pricing in the positives and trade at a valuation of 22X FY19e earnings and 17X FY20e earnings. While this is by no means cheap, the shift in savings from physical to financials and the relative insulation of a domestic growth-led Indian economy makes Indian equities an attractive long-term bet. Investors should, therefore, capitalise on any volatility in the coming months to build a portfolio of well-researched ideas.
India Inc. – sales led recovery replaces margin led earnings growth
Auto: Both auto original equipment manufacturers (OEM) and ancillary companies posted strong results for Q1FY19 on the back of robust demand coming in from all categories, especially commercial vehicle (CV). Low base prior to GST also aided, although elevated raw material prices impacted profitability.
Aviation: Airline companies felt the heat of multiple headwinds: passenger yields pressure on the back of fever pitch competition, a significant rise in air turbine fuel (ATF) prices and rupee depreciation.
Agrochemicals: Supply disruptions from China continued to impact margins although many companies are making alternate supply arrangements. DBT (direct benefit transfer) scheme roll out although a long-term positive, impacted working capital and patchy rains impacted volumes, a portion of which is expected to spill over to Q2.
Building materials: Majority of companies in the cement space reported robust volume growth. While cement prices continue to remain stable, the margin erosion due to increase in input costs (petcoke, diesel etc.) appear to have stalled resulting in stable margin sequentially.
Tile and sanitaryware companies reported another weak quarter on account of a weak demand (real estate yet to recover) and increased cost pressures. Unorganised players are still posing a threat due to weak implementation of e-way bills.
Consumer staples: Companies posted steady recovery in volume-led earnings, albeit on a weaker base, riding on a higher growth pace for the rural areas. This might wane going forward. Increased competitive intensity and crude linked raw material price pressure are key factors to monitor.
Consumer durable: Most consumer discretionary stocks, reported a sluggish Q1 owing to a high base of last year (GST implementation from Q2 FY18 led to pre-buying in Q1 FY18) and no apparent festive/wedding season boost. Sales of air conditioner companies were impacted by an unusual summer. However, consumer electronics (fans, appliances etc.) and lights (driven by the LED) bucked the trend. Most companies expect an improved H2FY19.
Chemicals: Topline growth continues to be fueled by end market prospects with recovery in FMCG and pharma and sustenance in metal, oil and gas and the auto industry. Sequentially margins were weighed by higher input cost. Recent moderation in chemical intermediate prices augur well for downstream industries.
In case of dyes and pigments industry, strong margin expansion was witnessed which are partly expected to sustain due to strict environmental compliance (both China and India) and resultant favorable supply demand dynamics.
Construction: Construction companies have seen pick up in execution leading to strong growth in revenues and earnings that was also aided by a reduction in interest costs. While the pace of growth in fresh orders during the quarter was slightly lower, most of them remain hopeful of recovery largely led by the government capex before the general elections next year.
Engineering: Except for railways, T&D, metro and few other segments, companies in the engineering space continues to report slow growth in revenues and order book and also saw an increase in competitive intensity. Margins were under pressure due to lower utilisation and increasing input cost.
Financials: Banks reported better net interest income performance due to lower interest reversals as addition to non-performing assets declined and there were few resolutions in NCLT cases. Incremental provisioning was lower and provision cover improved although bond losses played a spoil sport. With signs of improvement in yield on MCLR (marginal cost based lending) and a decline in the provision, earnings traction may be interesting, going forward.
NBFCs reported robust Q1 earnings as their share in overall credit pie continued to improve at an accelerated pace. Q1 saw all the NBFCs reporting as per IndAS. Despite providing as per expected credit loss (ECL) method prescribed in Ind AS and declaring stage 3 assets (standard but can be potential stress), the increase in provisions was limited.
Information Technology sector’s superlative performance continued in the quarter with commentary on demand outlook remaining stronger than ever, especially on the digital business. Rupee tailwinds was able to offset the margin pressure emanating from wage hike in the quarter.
Logistics sector has seen positive development from the introduction of GST as companies are redesigning their supply chains to focus on location efficient structure vs tax efficient structure earlier. As a result, third party logistic companies (Future Supply Chain, Mahindra Logistics, Transport Corporation of India) are witnessing good traction in demand from corporates and this is getting reflected in their financial performance.
Metals: Companies in both the ferrous and non-ferrous metals have reported a good set of numbers led by strong growth in realisations as a result of strong LME and international prices and improved utilisation. Companies were able to pass on cost pressure.
Oil and Gas: Sustained high levels of crude helped realisation for upstream oil companies. However, the same had an adverse impact on gross refining margins (GRMs) for the downstream refiners. Gas demand remained strong due to high crude prices, bringing in higher volumes for gas downstream players. Gas marketing companies saw margin improvement owing to price hikes taken during the quarter.
Telecommunication incumbents barring continue to face heat and the performance vectors seem to be deteriorating as Reliance-owned Jio continues to aggressively capture market share with price-centric strategy.
Overall, consumer facing businesses continue to show positivity. Early signs of private capex with capacity utilisation improving in selective sectors and banking sector’s turnaround on the back of lower slippage and provision and probable improvement in the margin are our key takeaways from the earnings season. We strongly recommend adding positions capitalising on any volatility ahead.
(Disclaimer: Reliance Industries Ltd. is the sole beneficiary of Independent Media Trust which controls Network18 Media & Investments Ltd.)
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