Corporate earnings may have shaken off impact of GST, demonetisation

Operating profit margins, net profit margins in Q3 were at a fivequarter high

MUMBAI: Corporate earnings showed the first signs of recovery in the December quarter as the negative effects of the ban on high-value currency notes and the subsequent goods and services tax (GST) implementation started to reverse, but analysts stopped short of calling it a fullblown turnaround.

A Mint analysis of 2,040 listed companies showed that aggregate net profit, after adjusting for one-time gains and losses, rose 11.1% in the three months ended December, the highest in the past four quarters. This sample excludes banks, financial services firms, and oil and gas firms.

The earnings were a mixed bag with early signs of economic recovery, said Nischal Maheshwari, head, institutional equities, Edelweiss Securities Ltd.

“Consumer staples and cement companies posted double-digit volume growth (on a very low base) after many quarters. Metals continued to post robust topline and profit growth. The key drivers for third-quarter earnings growth are base effects, fading disruptions from GST, demonetisation, the Real Estate (Regulation and Development) Act and higher commodity prices. We think these should be the key factors going ahead as well,” said Maheshwari.

During the quarter, both operating profit margins and net profit margins of these companies were at a five-quarter high, even as raw material costs increased. However, interest coverage ratio, which measures a firm’s ability to cover its interest costs, was at a 15-quarter high, rising to 3.47 times.

Operating profit margin widened to 19.39% from 17.8% in the September quarter. Net profit margin expanded 1.63 percentage points to 7.12%.

In the months ahead, rising Brent crude prices will impact profit margins, said analysts. This will be especially so for com- panies in the paint and aviation sector as oil accounts for a large portion of their expenditure. Brent crude is currently trading at $63.97 per barrel, an increase of 18% since the beginning of the financial year.

“Below $64-65 per barrel is not a risk for corporates but subsequent rise from these levels may be a bigger threat when businesses may not be able to pass it on to consumers, which will hurt margins,”said PVK Mohan, head of equities at Principal PNB Asset Management Co.

Rising commodity prices, a sign of strengthening global growth, are another reason why analysts are wary of predicting a turnaround.

“The business momentum is now getting back to its earlier pace, but higher energy and commodity prices have begun to bite domestic manufacturers, with companies reporting an increase in per unit cost of raw materials and energy,” said Deepak Jasani, head of retail research at HDFC Securities Ltd.

Indeed, the recovery in corporate performance is not translating into a significant earnings upgrade. Bloomberg data shows Sensex companies’ consensus earnings per share forecast for the current fiscal have increased 0.9% since the beginning of the earnings season. For the next fiscal, they have gained just 0.2%.

For the 30 members of the Sensex, adjusted net profit rose to a two-quarter high, rising 6.56% year-on-year. The Sensex currently trades at 18.09 times 12 months forward earnings, making it one of the most expensive benchmark gauges. Analysts said that markets valuations will appear reasonable once there is full recovery in earnings.

Still, analysts expect a full earnings recovery by the second half of the next financial year despite higher crude prices, citing a rebound in the economy.