India Inc’s long winter
Corporate profits lag nominal GDP growth over a decade
The compound annual growth rate, or CAGR, of nominal gross domestic product (GDP) over the past 10 years stands at 12.9 per cent. While this is not low, there are of course periods in Indian history that have seen higher GDP growth. What is of note, however, is that both the CAGR of corporate profits and of returns to investing in the stock market over the same period significantly underperform the CAGR of nominal GDP. As this newspaper reported on Monday, the CAGR of market capitalisation for listed companies grew at a shade under 11 per cent a year, while their profits grew at merely 4.1 per cent a year, far below the CAGR of nominal GDP. Even if the Indian economy is booming, India Inc is not. This is a revealing statistic since it partially explains the investment slowdown, which is bedevilling Indian growth. Without robust corporate profits, there is little incentive to invest. In addition, given the lacunae in India’s financial system, reinvested profits were historically a significant contributor to fixed investment — and thus low profit growth contributes to low investment. Growth momentum without a healthy private corporate sector is unsustainable over time.
What could be the reasons underlying the failure of corporate profits to keep up with nominal GDP growth? Part of it surely is that growth in the past was driven by sectors that served as the engines of the economy and which underwent robust profit growth as a consequence. Telecommunications served this purpose in the early part of this century; financial services and information technology have also had their moments in the sun. What is clear is that there are few such sectors today. Much investment has gone, for example, into e-commerce. Yet, many of the high-profile players in that sector are not, in fact, profitable. Aviation is another such sector that has been growing swiftly — it has logged double- digit passenger growth for 50 months. But, individual companies are doing quite poorly. Jet Airways is failing to pay its debts. SpiceJet is also losing money. And even industry leader IndiGo made a loss of over ~6.5 billion in the quarter that ended in September 2018. Meanwhile, a combination of high debt, high spectrum prices and aggressive pricing by the well-funded entrant Jio means that telecom companies are also in the red.
It is hard to see, therefore, which sectors will be the source of investment and growth. Many manufacturing sectors are still struggling with adverse cost structures caused by the difficulty of doing business in India, and, in any case, the over-capacity problem has not yet gone away. Infrastructure is under a cloud, and construction has financial problems. It is plain to see that what the Indian private sector is enduring is more than a business cycle downturn. Growth has returned to the broader economy, but it is still difficult to detect boom-like conditions in the corporate sector. The implications for growth as well as policy are worth considering. The government must listen more carefully to India Inc, and seek to remove impediments to growth in value added and profits.