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Business News/ Market / Mark-to-market/  March quarter corporate results | The gap between reality and expectations
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March quarter corporate results | The gap between reality and expectations

Indian firms turned in their worst financial performance in 14 years in the quarter to March. Worse, they fell far short of Street estimates. What lies ahead?

Illustration: Yatish Asthana/MintPremium
Illustration: Yatish Asthana/Mint

Mumbai: The performance of Indian companies in the recently concluded March quarter was not just bad, it was the worst in at least the past 14 years.

The aggregate earnings of members of the BSE Sensex fell by 10.9% in the quarter ended 31 March, according to data collated by Kotak Institutional Equities. This makes it worse than even the performance during the peak of the financial crisis in the March quarter of FY09, when earnings had dropped by 10.6%.

Earnings for the full year also declined marginally, compared with analysts’ estimates of double-digit earnings growth till as late as early 2015.

One way to look at this is that the decline in earnings in the December and March quarters came as a surprise. But the difference between the analysts’ estimates and actual numbers reflects a tendency among market participants to be overly sanguine about growth prospects.

While last year’s disappointment has led to cuts in earnings estimates for the next two fiscals, investors and analysts, it appears, remain hopeful. Analysts at most brokerages still expect earnings to grow 18-19% annually in the next two fiscals.

And, as if that wasn’t enough, it turns out that the valuation multiples of a number of stocks have got re-rated in the past year.

Analysts at Kotak wrote in a 2 June note to clients that the most remarkable feature of fiscal 2015 was not the disappointment in earnings, but the astonishing re-rating of multiples in several sectors, despite consistent earnings disappointments and downgrades. The valuations of capital goods stocks such as Larsen and Toubro Ltd and top pharmaceuticals stocks such as Cipla Ltd have risen by 50% in the past year, despite reporting a decline in earnings in FY15. Supported by easy global liquidity, a number of valuation bubbles appear to have formed around Indian stocks.

As far as the performance in the March quarter goes, while there are a few bright spots, the overall showing was glum. Kotak’s analysts say in the note that banks’ slippages and non-performing loans remained high, volume growth was weak across all the major domestic sectors and that the growth rate of order booking among industrial firms showed a decline. The information technology sector, which isn’t dependent on the domestic economy, too, disappointed on revenue growth. The results of telecom firms suggested that pricing pressure could remain a recurring theme, thereby derailing hopes of earnings upgrades on the back of tariff increases.

The few bright spots included a recovery (albeit small) in automobile sales and some continued growth in sales of some discretionary goods such as durables and paints. But, on the whole, things aren’t expected to improve in a hurry. The HSBC India Composite Purchasing Managers’ Index (PMI) Output index fell to a seven-month low in May, reflecting consecutive drops in the rate of private-sector output growth in the past few months. Analysts at CLSA Research pointed out in a 3 June note to clients that growth in the core Index of Industrial Production, or IIP, has fallen to nearly zero, a 10-year low, and a quick revival appears unlikely.

The recent weakness in the markets suggests investors are gradually factoring in the bleak news that has emerged on business fundamentals. But with Sensex valuations still at over 20 times trailing earnings, there could be a lot more pain, unless things improve dramatically.

AGRICULTURAL INPUT | Poor demand hits sales

Untimely rain and crop damage further dulled the March quarter for agriculture input firms. The fiscal fourth quarter is usually a muted period for these firms as the winter crop season draws to an end and there is limited requirement for seeds, fertilizers or agrochemicals. Add to this the adverse weather conditions, and expectations were really subdued this time.

Still, many agriculture inputs providers were not even able to meet the low expectations. Sales of noteworthy agrochemical firms Rallis India Ltd, Dhanuka Agritech Ltd and Excel Crop Care Ltd fell in the range of 1% to 7%.

UPL Ltd, Insecticides India Ltd and PI Industries Ltd registered healthy growth rates of between 8% and 48%. But that provides little comfort as UPL’s sales growth was significantly lower than what it saw in the year-ago quarter. Insecticides’ revenue growth also missed analysts’ estimates.

PI Industries did well, though it pared its revenue growth forecast to 18-19% for the new fiscal, mindful of the challenges in the global agrochemicals market and the high base, analysts said. In the previous two fiscals, revenue rose 22% and 39%, respectively.

Both UPL and PI Industries derive a majority of their revenue from overseas. With firms guiding to grow revenue at double-digit rates, analysts upgraded their earnings estimates. While estimates of Rallis India, Dhanuka Agritech and Excel Crop Care have been cut, fertilizer firms had an unexciting quarter.

The profitability of fertilizer firms was hit due to sub-par production and high input costs. Coromandel International Ltd, for instance, saw its revenue jump 37%. But its operating profit dropped almost 11% on high input costs. The Ebitda of Chambal Fertilisers and Chemicals Ltd fell 22% on low output. Predictably, the shares of fertilizer firms have fallen sharply. Ebitda, or earnings before interest taxes, depreciation and amortization, is a measure of profitability.

Nevertheless, this performance will not have a lasting impact on the stocks. What will determine the future direction of the stocks of agriculture inputs providers are rain and government policies. The timely onset and spatial distribution of rain is important. If the monsoon ends up as erratic as last year or finishes with a huge deficit, as feared, then it will likely aggravate the agrarian crisis. “The rainfall is good even if it is 93% (of long-term average)—consumption will take place. It is not that consumption is going to dry up. There is hardly any opening stock of DAP (diammonium phosphate) in the market. So the requirement will have to be met by various firms," Chambal Fertilisers told analysts. “There may be a marginal reduction of 5-10% of consumption but nothing more than that. It all depends on the rainfall. If the rainfall is 70%, then we have had it."

Another important factor is policy action. Follow-up action on gas pooling and new urea policy are lacking. The delay in implementation is raising opportunity cost as firms cannot plan on future investments. R. Sreeram

AUTOMOBILES | Benign input costs boost profit margins

Modest revenue growth, with profit gains coming from a drop in input costs, was the main feature of the March-quarter results of auto and auto component firms.

Apart from the medium and heavy commercial vehicle (MHCV) manufacturers who posted strong growth in sales volume on a low base, cars, utility vehicles and two-wheelers clocked subdued sales growth. Weak demand from the rural areas because of a poor monsoon and subdued urban consumption—with economic revival yet to gain momentum—hurt growth. An average 4% growth in net revenue came from higher realizations as most firms raised prices on the back of a higher excise duty. In some cases such as Maruti Suzuki India Ltd (MSIL), the product mix, too, helped better realizations.

Fortunately, auto firms benefited from soft commodity prices. Gross margin (revenue, less raw material cost) expanded by nearly 150-200 basis points in many cases. At MSIL, even foreign exchange movements worked in favour of profitability as imported raw material became cheaper. One basis point is one-hundredth of a percentage point.

Analysts say Hero Motocorp Ltd, Bajaj Auto Ltd, TVS Motor Co. Ltd and Ashok Leyland Ltd gained from excise duty rationalization. In the first nine months of the year to March, excise duty on components was higher than that on vehicles.

However, dull demand and stiff competition across vehicle segments, along with increased advertising and marketing expenses, dragged operating margins down.

That said, two-wheelers and tractors were the worst performers as sales were hurt significantly by poor rural affordability. MSIL reigned supreme, gaining from a healthy product mix, lower net discounts and currency gains. Tata Motors Ltd, which was the star performer for long, posted a steep drop in net profit, as Jaguar Land Rover Plc, its UK unit, was hit by falling sales in China, its best-performing region. On the whole, unless sales volume picks up, gains from lower input costs may not enthuse investors. The managements at most firms say that while benign commodity prices may continue for another couple of quarters, it would take a similarly long time for demand to revive. Vatsala Kamat

AVIATION | Companies benefit from softer crude

One factor that made a world of difference in the aviation industry last year was the sharp drop in crude oil prices. Given that fuel costs form a big chunk of costs for airlines, the lower crude prices came as a relief to Indian airlines—Jet Airways (India) Ltd and SpiceJet Ltdin the last quarter. Both firms saw operating losses reduce sharply on a year-on-year basis.

For perspective, Jet’s fuel costs as a percentage of revenue dropped to 28.8% for the March quarter from 45.4% a year ago and 36.3% in the December quarter. The same measure for SpiceJet stood at 36.5% last quarter, compared with 54.7% and 43.3% in the March 2014 and December quarters, respectively.

SpiceJet also saw other components of costs such as airport charges, aircraft maintenance, staff costs and other expenses fall sharply, restricting operating losses to that extent. SpiceJet’s net profit was further boosted by robust other income growth and a one-time item, which eventually led the airline to report a net profit of 22.5 crore against losses in last year’s quarter as well as in the December quarter.

Jet had no such luck for the March quarter. Other operating costs were fairly high for Jet. As ICICI Securities Ltd puts it in its earnings review report, “While this quarter saw healthy gain in the market share, rise in the load factor along with the benefit of a fall in ATF (aviation turbine fuel) prices, the margins in this quarter remain subdued due to higher other costs, which remain a concern in the medium term."

Sure, Jet’s net loss narrowed from a year ago, but it still reported a huge loss at 1,729 crore, primarily because of a one-time item. Jet’s international business grew faster than its domestic segment at the revenue and the earnings before interest and tax level, similar to the trend seen in the December quarter.

In the days to come, crude oil price will, of course, be one variable to watch out for. While the domestic environment will remain challenging because of the entry of new firms, a sharp reduction in fuel prices is a key trigger for cost reduction, pointed out ICICI Securities. Meanwhile, the number of passengers carried by domestic airlines rose 21% in January to April from a year ago, and that is encouraging. Pallavi Pengonda

BANKING | Waiting for growth

For the all the talk about the number of stalled projects coming down and the new gross domestic product (GDP) numbers showing miraculous growth, bank balance sheets are dirtier now than a year ago, especially the state-owned lenders.

At the end of March, total stressed assets (bad loans plus recast loans) amounted to 11% of outstanding banking system credit, according to numbers compiled by Barclays Research. That is one percentage point higher than the year-ago number.

Indeed, slippages have come down a bit, but we are still talking huge numbers. The top five state-owned banks by assets reported combined slippages of 17,904 crore in the March quarter against 19,660 crore in the three months to December.

Restructured assets numbers are worse. This same set of banks recast 29,655 crore of loans, almost equal to what they had in the previous three quarters combined. That, though, was somewhat expected as the central bank has slapped a higher rate of provisioning on fresh loan recasts starting this fiscal. Yet, these numbers were enough to spook investors. The CNX PSU Bank index is almost at the same level now as it was at the time of the new government coming to power.

Despite the bright picture painted by the new GDP numbers, industries such as construction, iron and steel, cement and power are plagued with overcapacity and lack of buyers, leading to stressed cash flows. Most of these lack liquidity and are sitting on a pile of receivables with stretched working capital cycles. Only a bounce in demand can relieve the pressure on these firms. This high level of stressed assets and consequent provisioning for them has dented earnings. All the state-owned banks put together have reported a 20% decline in profits. What’s worse, interest income is not rising fast enough because of lacklustre credit growth.

Credit growth at the end of March was 12.6%, year-on-year, but that was because of an almighty push in the last fortnight of the fiscal. Before that, credit growth was lagging at 9.5% and, in the current quarter, it is not much better at 10.2%. Numbers for state-owned banks are far worse and private banks have managed to do better by focusing on consumer financing. Slack demand and forecasts of a deficient monsoon threaten any revival in credit growth and put earnings growth under pressure. They also heighten asset quality fears. A growth pickup is the only hope to reverse these trends. Ravi Krishnan

CAPITAL GOODS | Still a long way to go

Consider this: on 2 June, Bharat Heavy Electricals Ltd (Bhel) said it had secured an order worth 17,950 crore. A single order that amounts to nearly 60% of its whole-year orders in the last fiscal. Yet, investors chose to shrug it off, driving the stock down 1.3%, admittedly in a market which was disappointed with the 25 basis points rate cut. That one fact shows how much the capital goods industry has lost favour with investors.

One basis point is one-hundredth of a percentage point.

Capital goods stocks were some of the swiftest to rise once the new government took charge, but with the hopes of a quick economic recovery dissipating, they are losing ground. In the past three months, the BSE Capital Goods index has lost nearly 9%, worse than the broader market.

This is happening despite some signs of a pickup in order inflows. For the top seven capital goods makers, domestic order inflows increased 36% from a year ago in the March quarter, according to Kotak Institutional Equities. But this is primarily owing to the base effect; inflows fell steeply in the year ago. Moreover, this growth shows a decelerating trend following 77% growth in the three months to September and a 50% growth in the December quarter.

A sustainable recovery in private investment demand just got delayed further. Demand is slack, a deficient monsoon threatens to dampen it further, and who will want to order machinery when there is excess capacity?

A Reserve Bank of India survey showed capacity utilization was at a four-year low at the end of December.

State sector orders like the one Bhel got from Telangana utility are one-offs. Even if order inflows continue to come through, there is no guarantee revenue and profit are going to boom in the coming quarters. In the March quarter, the 20 firms that make up the BSE Capital Goods index reported a combined revenue decline of 4% and a profit contraction of 44%.

Execution problems persist, not least because of the weak financials of client firms or because money is stuck in projects facing land acquisition or resource non-availability.

A pile-up of receivables, along with still high interest rates, has led to stretched working capital costs. Despite the recent decline, valuations of these firms are high. While there is long-term promise, earnings are likely to be weak for the next few quarters. Ravi Krishnan

CEMENT | The struggle to expand

There were expectations that the cement sector would see a quick turnaround as infrastructure investments would rise, but the hopes were belied and cement makers were roiled by poor demand in the March quarter.

Analysts are expecting cement volume growth to remain almost unchanged at around 6% in the current fiscal from the 5.7% growth in 2014-15, as the economy is unlikely to recover swiftly. The aggregate net sales growth for the top 10 cement firms slowed to 1% from a year ago in the three months to March, the lowest in over a year, reflecting sluggish construction activity.

The top 10 cement firms by market value include UltraTech Cement Ltd, Shree Cement Ltd, Ambuja Cements Ltd, ACC Ltd, Ramco Cements Ltd, Prism Cement Ltd, JK Cement Ltd, JK Lakshmi Cement Ltd, Birla Corp. Ltd and OCL India Ltd.

Cement firms have struggled to grow as volume growth declined around 2% to a decade’s low in the March quarter, according to a 3 June CLSA Research note.

Government spending on infrastructure has not really taken off and housing demand has fallen in response to the prolonged slowdown and low property price appreciation. “Unseasonal rains resulted in a heavy loss of rabi crop, which affected rural demand for cement," said Rajnish Kapur, business head-grey cement division at JK Cement.

Because of tepid demand, cement prices have not increased in April and May—the months when demand is strong. In fact, the prices have fallen by 15% in the quarter ended March in north India from a year ago, said Shailendra Chouksey, whole-time director-JK Lakshmi Cement and vice-president of the Cement Manufacturers Association. Prices have also declined 5-7% in the first two months of the current fiscal in the west and have increased in the south, helped by pricing discipline, said dealers.

JK Cement’s Kapur expects freight costs to rise by 8-10% in 2015-16 as railway freight and diesel prices have increased in the past few months. Weak demand, along with elevated freight costs, dragged down operating profit margins for cement companies in the March quarter to 15.9% from 16.3% in the year earlier. As a result, March-quarter profit for cement companies plunged 27% from a year ago.

While a demand recovery remains elusive, the markets’ faith in cement companies remains unshaken as major cement companies have rallied sharply in the past one year and are trading at expensive valuations of around 10-11 times Ebitda (earnings before interest, taxes. depreciation and amortization) per tonne on average, according to Kotak Institutional Equities estimates.

The stocks are factoring in a sharp improvement in profitability over the next two years. Unless volume growth rebounds, led by economic recovery, cement stocks may remain under pressure in the near term, said analysts. Krishna Merchant

FMCG | Where have all the consumers gone?

Fiscal 2015 ended on a rather dull note for the fast-moving consumer goods (FMCG) sector, straying far from the script. Falling input costs and a relatively strong rupee were expected to lower costs, which did happen. But several other boxes did not get ticked. Consumer demand was dull, especially in urban areas, while rural markets were better. Lower inflation meant price hikes could not boost sales growth. And, other costs such as salaries and other expenses rose substantially, eroding the savings from lower material costs.

The sector’s sales growth in the March quarter rose 6.2% over a year ago, a tad lower than the 7.4% seen in the December quarter. The two main contributors to this were ITC Ltd and Tata Global Beverages Ltd. ITC’s sales were hit by a decline in cigarette sales due to the price hikes necessitated by higher excise duties. Tata Global suffered due to a decline in black tea prices and foreign currency fluctuations.

Market leader Hindustan Unilever Ltd saw volume growth rise 6%, which was on expected lines, and also partly helped by a low base effect. Though it dropped prices on products such as soaps and detergents, sales growth of these products did not show a jump in volumes that one would associate with price cuts. Most firms admitted consumer demand was soft, and rural markets continued to do better than urban markets.

If sales growth was low, material costs rose just 0.7%. But firms saw sharp hikes in salaries, advertising and promotion and on other expenses. That pulled down operating profit growth to just 8.9%, and net profit rose by a mere 9.7%. That uninspiring performance reflected on FMCG shares, too, with the BSE FMCG index slipping by 9.8% in the past three months.

The outlook for the sector has turned a tad worse. Predictions of a bad monsoon put a question mark on whether rural demand can continue to hold up. If rural demand for FMCG products does get affected, it will be up to consumers in urban markets to pick up the slack. Till the March quarter, there was no sign of that. Whether that changes in this fiscal is likely to play a big part in determining the health of FMCG stocks. Ravi Ananthanarayanan

INFRASTRUCTURE | Stable order book places firms in the comfort zone

In the March quarter, infrastructure construction firms seemed more sure-footed than in the recent past. A mix of revenue growth and tight cost control helped widen operating profit margin.

The average revenue and operating profit of the listed universe of 52 construction firms (from the Capitaline database) contracted from a year ago. But, if one separates the wheat from the chaff, those with a higher exposure to completed road projects seem well placed.

Higher traffic on toll roads translated into robust revenue growth for firms such as IRB Infrastructure Ltd, Sadbhav Engineering Ltd, Ashok Buildcon Ltd and IL&FS Transportation Networks Ltd. These firms also saw better operating margin when compared with a year ago and the December quarter, as the profitability of road projects consistently improves once tolling starts.

This is particularly true of the build-operate-transfer (BOT) projects.

The prospects for infra firms have turned more positive, given the noticeably robust order inflows in the recent quarter after a prolonged lull. According a report by Emkay Global Financial Services Ltd, “construction order book of the road developers provides two-year plus revenue visibility. Given that the tendering and order awarding activity has increased for roads from the National Highways Authority of India and the ministry of road transport and highways, growth in order book is likely to continue."

Analysts say financial bids of projects worth about 25,000 crore will open in the next three months. Most large orders have been in the roads segment, though there is some activity in areas such as railways, ports and power.

A robust order book assures investors of a revenue growth in the quarters ahead. Meanwhile, concerns of policy hurdles that put project completion in a jam are easing with government action. Clearances of policy hurdles are on a better footing than in the past. But the problem that comes in the way of profit growth is the high interest burden and legacy orders caught in a rut.

Recall that the infra firms were shunned over the last few years as project delays and cost overruns had seen interest costs eat into profits. Consequently, the Nifty infra index has underperformed the broader Nifty index in the last one year.

The much-needed solution is strong revenue growth over several quarters through a bump up in execution. This will help churn out cash flows, important to lower interest burden and improve profit. Vatsala Kamat

INFORMATION TECHNOLOGY: Investors cling to hope as reality disappoints

The recently concluded quarter was one of the worst for India’s information technology (IT) services sector. The growth of the top five firms listed in India was just under 1% quarter-on-quarter in constant currency.

The only firm to buck the trend convincingly was Cognizant Technology Solutions Corp., which grew revenue by 4.1% in constant currency terms.

While companies cited different reasons for the pressure on revenue growth, one common theme was weakness in the energy and telecom sectors. According to analysts at JP Morgan India Pvt. Ltd, about 80% of the underperformance of India’s big four IT firms was on account of these sectors. Since Cognizant has minimal exposure to these segments, its growth wasn’t hit.

It’s important to note here that much of the troubles in these sectors were already in the public domain, and analysts had factored in this weakness while putting out their estimates. The fact that the reported results turned out to be far lower than these toned-down expectations is a worry. After all, IT stocks have been fairly resilient, even when the broader markets have been under pressure. In the past year, the National Stock Exchange’s CNX IT index is up over 25%, while the Nifty has risen at about half that rate. But, as pointed earlier, the latest results hardly inspire confidence. Tata Consultancy Services Ltd (TCS), the largest firm in the sector, reported below-par numbers for the third successive quarter, with the miss in the March quarter being the biggest. Infosys Ltd’s shares took a beating after it reported an unexpected drop in revenue in constant currency terms, putting to question its turnaround story under a new management. Wipro Ltd did slightly better on revenue, although its guidance for the June quarter came as a big disappointment. While HCL Technologies Ltd reported a decent revenue growth of 2.7%, it fell far short of expectations on the margins front. Tech Mahindra Ltd’s results were the worst—apart from a decline in revenue, profit margin narrowed 500 basis points, resulting in a 20% sequential drop in operating profit. One basis point is one-hundredth of a percentage point.

All told, the results season gave every reason for investors to reconsider their exposure to the sector. However, given the woes in the domestic economy, it appears that investors have few alternatives and, as a result, IT stocks have remained buoyant.

TCS shares, for instance, had fallen nearly 10% soon after its results announcement, but have recovered most of those losses. Infosys has recouped about three-fifths of its losses as well. For some strange reason, investors seem to be dismissing the concerns the results have raised. Mobis Philipose

METALS | On the long road to recovery

It’s a tough time for metal firms. The results show the scars of weak demand leading to lower prices. Despite material costs not increasing much, margins tumbled. Most global metal firms find themselves in difficulties, but a few additional factors affect Indian companies more.

India has become an attractive destination for imports, especially of steel, due to the rupee’s relative strength versus the dollar. That puts more pressure on prices, especially visible in steel. Companies’ expansion plans are entering the production stage, adding to supply.

Lastly, an increase in royalty rates and the introduction of new charges such as the contribution to the district mineral foundation fund have added to costs. Firms have started providing for this, with the final rates to be notified by the states.

In the March quarter, sales at metal firms declined 1% over the December quarter. The steel firms were the main reason for slower growth as steel prices have been under particular pressure due to falling steel prices and rising competition from imported steel. Non-ferrous metal firms fared better as volume growth, from new capacity coming online, helped them balance the effect of lower realizations.

But material costs rose 2.3% and inflation in staff costs, power and other expenses was much higher than sales growth. That affected profitability as well, and the sector’s adjusted net profit was down by 64.5% over the preceding quarter. Since investors have anyway not been bullish on the sector’s prospects, these results did not surprise much. The BSE Metal Index has declined by only 5.8% in the past three months.

There are no visible signs of any improvement. China is the main factor influencing supply-demand conditions and, at present, surplus metal from the country is entering global markets. That, or the lack of appetite in China for metal, has kept a lid on prices. That remains the big worry. A revival in domestic demand really depends on when major user sectors such as real estate, automobiles and infrastructure see a revival. The road to recovery promises to be a long one. Ravi Ananthanarayanan

OIL | Refiners get a boost from strong margins

The refining environment was robust last quarter. Gross refining margins (GRMs) were strong during the March quarter, thanks to refining outages (or planned or unplanned shutdowns of refinery units), and a faster decline in crude prices than that of products. Naturally, Indian refiners benefited from this scenario. Reliance Industries Ltd (RIL) earned a refining margin of $10.1 a barrel in the March quarter, well above the $7.3 per barrel in the December quarter. According to the company, lower fuel costs and firm gasoline, gasoil and naphtha cracks boosted its last quarter’s GRM. In fact, thanks to higher margins, RIL’s refining segment posted its “highest ever quarterly" consolidated earnings before interest and tax (ebit) for the quarter. In keeping with the trend seen in the earlier quarters, RIL’s refining business compensated for the lacklustre show in the petrochemicals and the oil and gas segments. A decline in finance costs, too, helped RIL’s numbers.

GRMs for other firms—Essar Oil Ltd and oil marketing companies (OMCs) such as Bharat Petroleum Corp. Ltd (BPCL), Hindustan Petroleum Corp. Ltd (HPCL) and Indian Oil Corp. Ltd (IOCL)—were stronger, too. Meanwhile, even though crude oil prices were lower, the fact that state-run upstream oil firms Oil and Natural Gas Corp. Ltd (ONGC) and Oil India Ltd did not extend discounts to oil marketing firms for the March quarter helped their net price realizations. The measure for both firms hovered around $53-55.6 per barrel last quarter, better sequentially as well as on a year-on-year basis. But higher than anticipated costs led to an unexciting financial performance.

Falling crude prices meant that Cairn India Ltd’s results were adversely affected. Its price realization dropped during the quarter. Moreover, a one-time item related to an impairment loss of Cairn India’s Sri Lanka asset affected profitability further. Cairn India reported a consolidated net loss of 241 crore, though, adjusting for the one-time item, the reported numbers weren’t drastically different from the consensus estimates. The company has withdrawn its production growth guidance, cut its capex by about 50% and expects production to be flat in FY16, pointed out Motilal Oswal Securities Ltd in its earnings review report.

It goes without saying that tracking crude prices will be critical for investors considering the impact on price realizations in the days to come. Investors would welcome clarity on the subsidy-sharing mechanism as well. The good news is refining margins continue to be strong, and that should augur well for refining companies. Pallavi Pengonda

PHARMA | Growth allergy

Indian generic drug makers sell in many countries but none of them matter more than the US. That point is coming to the fore in recent quarterly earnings as some large firms are experiencing slower growth in the US. Competition is driving down prices, with a consolidation in the distribution channel further adding to price pressures, while a frustratingly slow pace of new generic approvals is denying companies the benefit of sales from launches.

Currency volatility, too, has played havoc with performance as some major emerging markets have seen their currency depreciate against the dollar, whereas the rupee has been relatively steady.

In the March quarter, the pharmaceutical sector’s sales rose 7.6% from a year ago. Two big companies, Lupin Ltd and Sun Pharmaceutical Industries Ltd (including Ranbaxy Laboratories Ltd’s performance, post-merger) pulled down overall growth. Both firms saw US market sales growth get affected because of the reasons mentioned earlier. But some such as Dr Reddy’s Laboratories Ltd, Cadila Healthcare Ltd and Cipla Ltd managed to report much better growth rates.

The pressure on US market growth also affected margins as this is the most profitable market. The industry’s overall operating profit margin fell to 17.4% from 21.9% a year ago, and 23.1% in the preceding quarter. Some of this was also due to the costs incurred by Sun Pharma that were attributed to merger-related charges. Also, most firms have reported an increase in their research and development expenditure as a percentage of sales towards the end of the fiscal. They expect this elevated level to be maintained in FY16 as companies shift their research team’s focus to more complex generic products, which may require more investments.

The BSE Healthcare index has fallen by 12.3% in the past three months and is a reflection of jittery investors. The sector has been known to deliver a consistently good performance. And, India’s pharmaceutical market sales growth has turned healthy, settling into a rhythm after the dust has settled on the new drug pricing policy.

But the US market’s woes are not showing signs of going away soon. While the structural changes may take time to settle, what may make investors more cheerful is if the US Food and Drug Administration (FDA) steps up the pace of new generic product approvals. Several firms are also facing supply issues due to US FDA action against their plants, which are taking a long time to resolve. A successful resolution of these issues, too, could signal a return to better days for the industry. Ravi Ananthanarayanan

POWER | Better plant availability, low fuel costs benefit producers

Electricity producers ended FY15 on an upbeat note. These firms, hit by cost under-recoveries on selling electricity below cost due to contractual obligations and a change in the incentive structure, benefited from low fuel costs and better availability of generation assets. NTPC Ltd’s profit fell almost 5%. But the reported profit is better than Street estimates. With coal supplies improving, the firm reported higher plant availability (PAF). This helped it recover fixed costs better. “The back-ended recovery in fixed costs and incentive recognition in H2FY15 has driven the earnings beat for NTPC for two consecutive quarters," Religare Capital Markets Ltd said in a note.

Reliance Power Ltd also benefited from strong operating performance. Butibori power plant in Maharashtra and Rosa in Uttar Pradesh saw significant improvement in plant availability, lifting the return ratios and operating profit. “Operational performance of both Rosa and Butibori improved in the quarter, with Rosa reporting a PAF of 93% (vs 91% in 3QFY14) and Butibori reporting PAF of 103% (vs 75% in 3QFY14)," Emkay Global Financial Services Ltd said in a note.

Tata Power Co. Ltd reported a profit of 159 crore against a loss of 145 crore a year ago. Low global coal prices reduced losses at the troubled Mundra plant. Adani Power Ltd also reported profit, but the numbers did not impress everybody. The profit was boosted by the sale of a transmission line. Excluding the one-off adjustments, the performance was weighed down by low utilization.

Overall, there were no nasty surprises.

While the performance of the stocks was mixed, two factors can determine the future direction of the stocks and the earnings.

One is regulatory actions. The power plants of Tata and Adani are waiting for favourable regulator orders, without which the companies can continue to be hurt by low realizations. “The financial performance of IPPs (independent power projects) is dependent on favourable regulatory judgements, which increases risk on the investment thesis," Antique Stock Broking Ltd said in a note.

The second factor is demand. Despite the improvement in fuel supplies, utilization levels of the thermal power sector remain low. True, industry capacity has increased. But one reason why the utilization levels are falling is because of low demand. That can be addressed by the distribution sector reforms reduction of leakages, upgrading transmission lines and revival of state electricity boards. R. Sree Ram

REAL ESTATE | Drop in new launches weighs down sector

The BSE Realty index has gone downhill, losing 30% in one year. Compare this with the 10% return from the broader Sensex. And this is in spite of talks of economic revival and retail interest rates trending down.

The ground reality shows demand weakness in key markets of the National Capital Region (NCR), Mumbai and even Bengaluru and some semi-urban areas. Of course, the March quarter saw higher pre-sales of residential projects by DLF Ltd, Sobha Developers Ltd and Prestige Estates Projects Ltd. But this would translate into revenue growth only a few quarters later, on completion of the projects. For the March quarter, the average revenue of 13 realty firms showed a paltry 5.5% increase from a year ago.

On the whole, new launches in the residential segment have been few and far between and the customer collection trend has been mixed. A recent report by consulting firm Cushman and Wakefield highlighted that new residential project launches were the lowest in two years. The decline was almost 50% and, unsurprisingly, the highest decline came in the affordable segment. Most developers were channelizing their cash flows to complete existing projects. Some are awaiting clarity on new norms under the new Real Estate Bill and new development plans to be rolled out by some cities. The only positive during the quarter was the gradually improving commercial property segment. But even as the metros show over-capacity, the micro-markets in the peripheral regions showed lower vacancies in commercial property.

Indeed, the new regulations may bring in greater transparency over the long term. But for now, cash-flow constraints continue to haunt the firms. The average operating margin of listed entities were dragged down by 100-150 basis points (bps) on weak revenue growth, thereby limiting their ability to service their huge debt. This will cap upside in realty stocks for some quarters. One basis point is one-hundredth of a percentage point. Vatsala Kamat

RETAIL | Companies yet to see material improvement in demand

The March-quarter financial performance of retail companies Shoppers Stop Ltd, Future Retail Ltd and Titan Co. Ltd was affected by various factors. But a clear theme emerging from the numbers is that a material improvement in demand hasn’t really happened.

Yes, it is true that like-to-like sales growth for Shoppers Stop department stores in the March quarter increased by 4%, which is reassuring coming after a disappointing 0.8% increase in the yardstick in the December quarter. To an extent, like-to-like sales were helped by the discount sale period during the quarter. Nevertheless, despite an improvement last quarter, like-to-like sales growth appears rather pale in comparison with the smart 11% increase seen in the September quarter. Robust other income and strong operating profit performance helped Shoppers Stop clock a nice 27% increase in its standalone net profit to 10.3 crore.

For Titan, both businesses—watch and jewellery—delivered an unsatisfactory performance in the March quarter, registering a decrease in volume in each segment. Watch volume fell 6% in the March quarter, a shade worse than the 4% seen in the December quarter and jewellery volume declined by 11%. The jewellery business, responsible for the bulk of Titan’s revenue, saw considerable impact on demand as consumers shied away from purchases in January and February, awaiting clarity on customs duty in the national budget. The lack of redemptions from the Golden Harvest scheme, under which consumers deposit a fixed amount every month to get a discount at the end of one year, also affected Titan’s jewellery business revenue. As a result, Titan’s total revenue declined 11% in the March quarter on a year-on-year basis to 2,496 crore. However, considering that the tax outgo nearly halved, compared with last year’s quarter, Titan’s net profit increased by 4% to 215 crore.

As far as Future Retail is concerned, while same-store sales growth for home retailing and consumer durables chains Home Town and eZone is 16%, the same for the value business that primarily operates Big Bazaar is 7.6%. Sure, the company saw a decent 18% revenue growth, but its profit felt the heat of higher depreciation and finance costs. Unless the company manages to reduce its debt and thereby interest costs, profitability will continue to be under pressure.

Shares of Shoppers Stop and Future Retail declined during the quarter, while those of Titan increased by 2.8%, marginally surpassing the benchmark Sensex, which increased by 1.7%. Investors will see sentiment improving for these shares as and when the consumers start to loosen their purse strings. Pallavi Pengonda

TELECOM | A reality check on pricing expectations

Telecom companies continued to impress with strong growth in core earnings in their India mobile operations.

Bharti Airtel Ltd reported a 22.7% growth in earnings before interest, taxes, depreciation and amortization (Ebitda) in its India mobile operations, and in Idea Cellular Ltd’s case, it jumped by over 40%.

With competitive intensity having reduced considerably, large incumbents have been able to easily step up performance.

Perhaps that’s why investors weren’t too worried initially about the high bids made by these companies in the recent spectrum auctions.

It was believed that devoid of strong competition, the incumbents can easily raise tariffs and grow earnings at a brisk pace to make up for the large outgo on the auctions.

But this theory got discredited, to a large extent, after the March-quarter results.

Bharti and Idea reported a decline of 2.7% and 7.1%, respectively, on a year-on-year basis in average price realizations in the voice segment.

Idea Cellular, it appears, is willing to be competitive on pricing in order to gain market share.

Besides, raising tariffs can’t be taken as a given, even if the competitive intensity reduces further.

After all, it can result in a drop in volume, or least a drop in growth rates.

It is little wonder that Idea’s shares have corrected by about 13% since it announced the results for the March quarter.

Bharti’s shares have been largely unaffected, given its far stronger balance sheet and relatively lower sensitivity to tariff changes.

Besides, Idea’s bloated balance sheet may limit its ability to make additional investments and enhance its network and roll out new technologies.

Of course, the results in the just concluded quarter showed no signs of strain. Apart from the impressive growth in voice traffic, data revenue, too, continued to grow strongly—70% in the case of Bharti and over 100% in the case of Idea.

Finally, as the chart alongside shows, both Bharti and Idea seem to be gaining share at the expense of Vodafone in the past few quarters.

With the incumbents staring at fresh competition from Reliance Jio Infocomm Ltd, these gains are more than welcome from an investor’s perspective. Mobis Philipose

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Published: 12 Jun 2015, 12:54 AM IST
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