Despite corporate tax cuts, earnings growth for FY20 is expected at about 10% year-on-year
While earnings for FY21 are likely to grow by 26%, concerns are they could be lower
The coronavirus contagion is likely to curtail India’s earnings growth, triggering concerns about the market’s already high valuations. While the global infection rate of the virus is slowing, the virtual shutdown of the Chinese economy is expected to strike global growth and, with it, India’s earnings expectations.
India is already reeling under an economic downturn and the cut in corporate tax rates has so far failed to boost the earnings growth of Nifty 50 firms in FY20. Analysts expect the Nifty to report earnings growth of only around 10% in FY20.
Still, as markets are forward-looking, to that extent, net profit is expected to grow about 26% in FY21. What is worrisome is that earnings growth rates could be constrained by the impact of the coronavirus outbreak. This puts Nifty’s one-year-forward valuations at risk.
“We expect net profits of the Nifty-50 Index to grow 10% in FY2020 despite the 10-15% boost to profits due to the corporate tax cut. We note that the strong growth in banks’ net profits will be offset by sharp declines in net profits of the global commodity sectors, hurt by weak global prices in 4QFY20 due to the ongoing COVID-19 issue," said analysts at Kotak Institutional Equities in a report.
If the epidemic is prolonged, chances are that growth could trend lower, even to about 18%. Against this expectation, the Nifty 50’s current level looks pricey. “If we assume 18% earnings growth next year, the Nifty is trading at more than 19 times earnings, which is near its peaks. So, some reality check is relevant. Valuations are rich and any negatives will naturally have an impact on the markets," said Rusmik Oza, head of retail research at Kotak Securities Ltd.
The virtual shutdown in China could have ramifications on global growth as well. Although India is considered the least vulnerable among Asian countries, the spillover of a global slowdown is bound to have an impact on it. This has prompted analysts to cut their growth forecasts for India’s gross domestic product (GDP).
“In our base case, we expect weaker global growth owing to the outbreak to reduce India’s GDP growth in Q1 2020 to 4.5% y-o-y from our previous forecast of 4.7%," said analysts at Nomura Financial Advisory and Securities (India) Pvt. Ltd in a note to clients.
Electronics, consumer goods, chemicals, auto components and pharmaceuticals are seen as the most vulnerable sectors. India imports a bulk of its raw materials from China. While companies may have stocks for 45-60 days, a production disruption in the March quarter may not be acute. But if the contagion continues, June quarter production could be hit.
Scarcity of some raw materials will also lead to higher prices. Prices of some bulk drugs have already risen, which could squeeze margins in the coming quarters. Apart from manufacturing supply chains, commodity companies are at risk from the fall in prices of metals and minerals.