Indian corporate results season off to good start; here is what is critical for better margins

Some part due to post-GST restocking and with input costs firm, higher volume growth critical for better margins. (Image: Reuters)

The September quarter was always expected to be a difficult one for corporate India given the rollout of the GST on July 1. Although a fair amount of re-stocking had been pencilled in post the de-stocking in May and June, supply chains were not really expected to function smoothly for a few months. At the same time, the early arrival of the festival season, it was anticipated, would boost demand for certain products. The disruption in business, due to the GST, is apparent in the results of some companies. At Colgate Palmolive, for instance, profits fell 2% y-o-y in Q2FY18, suggesting a slower-than-expected recovery in the supply chain. Others like Bajaj Corp, where volumes rose 5% y-o-y, seem to have coped better. Due to the changes in tax rates, retailers such as Avenue Supermarkets saw their selling prices change and, consequently, the 26% y-o-y rise in sales posted by the company in Q2 was below estimates.

Given these are early days, it is hard to draw any definite conclusions from the results announced so far. What may be inferred is that sectors such as IT continue to find the environment overseas difficult and, back home, the competition in some segments such as two-wheelers remains keen. Tata Consultancy Services (TCS), for instance, turned in a very ordinary set of results; the IT major reported a rise in operating margins, but constant-currency revenue growth of a modest 1.7% was weak for a seasonally strong quarter. Commentary from TCS, however, sounded a tad more cheerful than from rival Wipro which toned down revenue guidance for Q3FY18 to 0-2%. Analysts believe that while demand for IT services may be growing, it is becoming harder to win projects and pricing is under pressure.

In aggregate, for a sample of 57 companies (excluding banks and financials), net sales have risen 13.7% y-o-y. However, this increase needs to be judged against the background of the re-stocking that took place and the early festive season. As such, the smart 20% rise in operating profits may not sustain in subsequent quarters since raw material prices remain firm. Net profits for the sample have risen just 5.3% y-o-y, thanks to a sharp jump in depreciation, of 37% y-o-y. The big increase in depreciation could be thanks to the presence of heavyweights such as Reliance Industries Limited (RIL), Ultratech and ACC in the sample. But there is no doubt that fierce competition in segments such as two-wheelers is also curbing companies of pricing power.

At Bajaj Auto, for instance, while revenues rose 9% y-o-y, operating profits stayed flat. Indeed, a very early festive season this year would have helped makers of consumer durables post stronger revenues. Kansai Nerolac Paints reported high double-digit volume of around 18% y-o-y driven by strong sales of decorative paints. Indeed, the smart rise in the assets during the quarter, at Bajaj Finance which increased 38% y-o-y, indicate consumers are willing to borrow to fund purchases.

It is a sign consumption demand may be holding up. In fact, good performances by Ultratech and ACC would suggest demand is creeping up. Indeed, earnings season has got off to a good start, if not a great one. However, with input costs remaining firm, margins are unlikely to expand meaningfully unless companies can push through volumes and earn better realisations.