Almost everybody agrees that corporate results for the September quarter will be miserable for almost all sectors except banks and, perhaps, fast-moving consumer goods. Consider the headwinds that companies had to battle during the quarter: the legacy of high input costs, the credit crunch and high interest rates, and the burden of piled-up inventories.
That is why broking firm Motilal Oswal sees a 6% decline in third quarter net profits for the Sensex companies, compared with a growth of 21% in the second quarter. The question is: Will this be the worst quarter for companies or will the fourth quarter be worse?
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It’s true that the fourth quarter will see the impact of lower interest rates and lower input prices, but then demand destruction is expected to deepen. Also, as Vetri Subramaniam, head, equity funds, Religare Asset Management, points out, there’s plenty of balance sheet risk among companies, in terms of exposure to derivatives and to foreign currency convertible bonds that may show up only at the end of the fiscal when balance sheets are published. It will also take time before the interest rate reductions are passed on to the consumer.
For instance, interest rates on housing loans, even after the recent cuts, are still well above where they were during the depths of the downturn earlier in the decade. Ditto for car loans. As for the fiscal push, Subramaniam points out that India Infrastructure Finance Co. Ltd, the company in charge of the exercise, hardly has the expertise to do the job—rather, the work could have been entrusted to other banks which could have been paid a management fee for ensuring the funds were lent.
In short, it’s unlikely that the economy will be out of the woods before the third quarter of FY10, as Sachidanand Shukla, economist with Enam Securities, underlines. Corporate earnings too, will therefore continue to be weak. Hence, there is no need to rush out and buy equities, particularly since plenty of uncertainty still remains on the global front, and it would be wise to stay on the defensive.
Perhaps the most important point that emerges is that bad times lead to a divergence of earnings even within sectors. Subramaniam points out that it is in these times that the quality of management and the quality of the balance sheet become the most important factors. The Motilal Oswal third quarter results preview points to several of these intra-sectoral divergences: Hero Honda is expected to outperform the sector and Bajaj Auto; HDFC Bank, the sector and ICICI Bank; Sun Pharma, the sector and Ranbaxy; and Bharti Airtel, the sector and Reliance Communications. In short, this is the time when the men are separated from the boys.
Graphics by Ahmed Raza Khan / Mint
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