Q4 Results: A Low-Spirited Performance

After a brisk upward move since the year began until mid-February, the Sensex has only declined in the volatile marketthat we have had been witness to. Investors have been grappling to judge the course that the markets are likely to take. In such a situation, the corporate results for the quarter ended March 2012 were seen to be a major trigger. The March quarter results are also traditionally followed keenly by investors, as companies provide guidance for the year to come. So, how has India Inc. fared during the March quarter of 2012? What can be expected going forward? Here are the answers that should give you a clear perspective on what has happened already and what is likely to happen going forward.

For quite some time now, we have been haunted by rampant inflation, rising interest costs, policy  paralysis, weakening IIP numbers, a rapidly depreciating rupee and – as if all this wasn’t enough – the mighty scare of a Euro zone  breakdown. Viewed collectively, these developments meant that an economic slowdown was imminent.

Though everyone saw it coming, the slowdown certainly wasn’t expected it to be so bad. The GDP growth figure for India came in at a meagre 5.30 per cent in the March 2012 quarter from the much higher level of 9.20 per cent that we saw in March 2011. However, as already stated, with the aforementioned factors at play, there was no reason to believe that there wouldn’t be a slowdown. This is probably why the GDP growth target, which was earlier set at nine per cent for FY12, was revised and reduced to 6.9 per cent by the government.[PAGE BREAK]

All this has meant that India Inc. has had to battle it out on various fronts in the March quarter of 2012. The struggle is visible in the results. The start of the results season itself was not a good one. The IT bellwether, Infosys, which usually sets the tone for the results season, failed to impress investors and its guidance for FY13 was widely hailed as weak. Hence, the sentiments were weak right from the initial stage itself.

With WPI inflation continuously remaining at the higher levels (6.89 per cent in January 2012, 7.36 per cent in February and 6.89 per cent in March), the impact of higher input costs is clear from the results. Rising interest costs have been playing spoilsport for quite a few quarters now. The misery was further aggravated with a new irritant entering the scene – the depreciating rupee that lead to forex losses. These factors have only made matters worse for India Inc., whose bottomline seems to be weakening.

As on date, 2879 companies have announced their March 2012 quarter results, and the data is not very encouraging. The results look good on the superficial level, with the topline going up by 19.61 per cent and the bottomline witnessing a growth of 13.54 per cent. However, this is not the true picture. Adjust these results for those of the oil marketing companies and extraordinary items, and the picture changes drastically.

On such an adjustment, the topline shows an increase of 17.36 per cent and after adjusting for extraordinary income, the bottomline growth comes in at a meagre 4.96 per cent. If we adjust the results further for those of SBI (which had suffered a significant decline in profits in March 2011 due to higher provisioning), the bottomline growth stands at just about 1.20 per cent. This is what happened during the March quarter of 2012 against a topline growth of 22.40 per cent and a bottomline growth of 18 per cent reported during the quarter ended March 2011 – a very poor showing indeed.

[PAGE BREAK]

Boost From Other Income

One conspicuous factor here is that there was a considerable increase in the ‘Other Income’. Adjusted for banks, the aggregate Other Income for the quarter ended March 2012 was up by 48 per cent on a YoY basis to Rs 27556 crore. Similarly, this was up by 35 per cent on a sequential quarter basis too. Reliance Industries had Other Income of Rs 2295 crore (which was as high as 54 per cent of its net profit) for the March 2012 quarter as against Rs 917 crore in the March 2011 quarter. NTPC too was not far behind, with Rs 670 crore as against Rs 205.56 crore previously.

Rising Costs

Raw material costs have increased significantly by 21.45 per cent, impacting the margins severely. During the quarter, commodity prices have remained firm and so have the crude oil prices. What was a cause for worry was the depreciating rupee against the dollar, which made the import of raw materials a much costlier affair. There was no respite on the raw material front either, as coal and minerals prices also remained on the higher side. Companies could not pass on their cost increases to end users, andhence, the operating margins (excluding those of banks) were impacted by more than 100 basis points, standing at 15.93 per cent.

A K Sonthalia, CFO, Greaves Cotton sums up the situation by saying, “The profit margins are under pressure, which is evident from our financial results for this quarter. This is the challenge, and would very much continue to be there. However, the good news is that the interest rates are peaking out, and gradually, a conducive environment should build up”.

Higher Interest Burden

With inflation remaining much above the comfort levels, the RBI maintained the key interest rates on the higher side. It was only in April 2012 that it reduced the repo rate by 50 basis points to eight per cent. However, the damage was already done, with a steep rise in the interest cost for companies. Adjusted for that of banks and financial institutions, the interest cost was up by 45 per cent in the March 2012 quarter. This severely impacted the bottomline, with interest cost as a part of the net profit coming to stand at a huge 36 per cent as compared to just around 27.50 per cent during the March 2011 quarter. Rising interest costs have also impacted the capex cycle, and a decline of five per cent in depreciation clearly indicates the same.

Sailing In The Same Boat

The performance of the Sensex-based companies also shows a similar trend, with the topline up by 17 per cent and the bottomline up by 11 per cent. Within the ‘A’ group too, the performance is akin. After routine adjustments (refineries and SBI), the topline is up by 17 per cent and the bottomline by only seven per cent.

Sectors like banking, FMCG and cement infused some strength in the numbers at the bottomline level. Had the banking and FMCG companies not performed well, the overall performance would have been even worse. “FMCG, pharma, IT and private banks were among the few sectors that managed to deliver reasonably healthy growth in spite of the weak environment”, opines Dinesh Thakkar, CMD, Angel Broking. Excluding SBI, 39 banks have posted bottomline growth of 20 per cent. Of these, 16 private banks posted a growth of 27.50 per cent at the bottomline level.[PAGE BREAK]

All in all, the results for the quarter ended March 2012 suggest that India Inc. has failed to impress on the financial performance front. So, what can be expected in the June 2012 quarter? Well, with inflation staying high even in April 2012 (WPI at 7.23 per cent and CPI at 10.36 per cent), not much can be expected to change in the performance for the June quarter. The rupee has depreciated further to touch a new low of Rs 56 against the dollar after the March quarter. The reforms process is still not picking up. However, the government has taken some positive steps like going ahead with a petrol price hike, and has announced some infrastructure spending. If such positive steps continue to be taken, some betterment can be expected on the economic front. “Corporate earnings will be aided at the revenue level by relatively better growth prospects in FY2013 than in FY2012, at the EBITDA level due to a directionally better inflation scenario and also in terms of lower interest costs”, says Thakkar.

However, mere promises cannot help a sagging economy. The S&P has already announced the country a warning on the rating and the fiscal deficit front. Hence, policy action is the need of the hour. Else, brace for another poor quarter.

Fast Facts

• On a consolidated basis, India Inc.’s topline grew by 17.36 per cent, while the bottomline increased by 4.96 per cent after adjusting for the results of refiners and extraordinary items.
• After adjusting for SBI’s March 2011 results, the bottomline growth for March 2012 stands at a mere 1.20 per cent.
• From a total of 2789 companies, the net profit of 1425 companies increased, that of 1413 companies declined, and that of 41 companies remained stagnant.
• From a total of 2789 companies, the sales of 1779 companies increased, those of 1002 companies declined, and those of 98 companies remained stagnant.
• The interest cost for India Inc., excluding that for banks and financial institutions, has increased by 45 per cent on a YoY basis to Rs 38281 crore, while on a sequential basis, it has increased by 13.72 per cent.
• Banking, Pharmaceuticals, Cement and FMCG put up a brave show, and emerged as stronger players despite the odds.

Automobiles

From the performance of the automobile sector in March 2012, it seems that the sector is far from being out of trouble. The miniscule volume growth on the domestic front and the margin contraction clearly indicates the poor state of the sector. As a result, while the sector as a whole has posted a topline growth of 16.44 per cent on a YoY basis, the bottomline growth has been only 7.80 per cent. The sorry state of affairs is evident from the fact that for FY12, the domestic sales growth of passenger vehicles was a paltry 2.19 per cent.

The impact of consistently higher interest rates, the increase in petrol prices and an overall slowdown in the economy is clearly seen in the single-digit YoY volume growth of a majority of the companies in the sector. There was hardly any improvement on the realisations front, resulting in tremendous margin pressures.

In the March quarter, the sales volume of Maruti Suzuki was up by merely 4.95 per cent on a YoY basis. The company’s overall sales volume growth was driven by exports (up 25.70 per cent) rather than by the domestic market, where it could only manage a meagre growth of 2.90 per cent. This is indicative of the sorry state of the auto sector in India, as Maruti Suzuki represents almost half the market here. On the realisations front, it witnessed a growth of 11 per cent on a YoY basis. However, this was mainly on account of the company passing on the increasing raw material costs to its customers. With the discount per car increasing to Rs 13500/unit in March 2012 from the levels of Rs 10600/unit in March 2011, the EBITDA margins declined to just 7.47 per cent from the levels of 10.24 per cent during the corresponding period last year.

The story is similar with Tata Motors which, despite a good 16.73 per cent increase on the volume front, witnessed a decline of more than 510 basis points at the EBITDA level on a consolidated basis. The EBITDA margins now stand at 14.10 per cent. Even Mahindra & Mahindra, which managed a strong growth of more than 29 per cent in sales volume, witnessed a decline in its margins to 10.33 per cent from the levels of 12.86 per cent in March 2011.

The story is no different in the two-wheelers segment. Both the leading players, Hero MotoCorp (HMCL) and Bajaj Auto, witnessed a marginal decline on the margin front. While these two at least managed to post a volume growth, TVS Motors witnessed a marginal decline on that front too. For Bajaj Auto, it was again the exports that drove the volumes, as they declined marginally on the domestic front.

Going ahead, SIAM is expecting a 10- 12 per cent volume growth in passenger vehicles and 12-14 per cent in the two-wheelers segment. While we believe that growth in this segment is achievable, it would be too optimistic to expect the same in the passenger vehicles segment. The current macroeconomic scenario suggests that recovery in the sector is at least six months away. While some demand may be there for diesel-based cars and the new variants, double-digit growth cannot be expected. On the commercial vehicles front, the softening of interest rates and some thrust on infrastructure development may push up the demand. But again, the margins are expected to remain under pressure. Hence, expect muted earnings from the automobiles sector in the next quarter too.[PAGE BREAK]

Banking

As mentioned in our quarterly review for December 2011, the worst was seen to be almost over for the banking sector. We had expected the sector to regain investors’ confidence and perform well on the bourses. This is exactly what has happened. During the March quarter of 2012, Bankex returned around 28 per cent against the broader market, which appreciated by only 13 per cent.

The reason behind the higher returns seems to be that the issues related to most of the players in the sector were sorted out. In the March quarter of 2012, banks witnessed decent business growth, declining NPAs and a cut in the Cash Reserve Ratio (CRR), which was slashed by 125 basis points to 4.75 per cent, easing liquidity pressures. Further, the much-awaited reduction in repo rates by 50 basis points to eight per cent in April 2012 created hopes that the Net Interest Margin (NIM) for banking companies would improve.

During FY12, deposits grew at a rate of 13 per cent, which was below the RBI’s projected growth rate of 15.5 per cent. This was mainly on account of negative growth in the demand deposits and moderate growth in the time deposits. One of the reasons for the lower growth in time deposits could be investors turning towards other investment options like debentures, infrastructure bonds and tax-free bonds. On the other hand, the advances grew at 16.8 per cent, against the RBI’s projection of 16 per cent for FY12. Credit growth picked up smartly in March, which could be due to the banks meeting their requirements of priority sector lending.

Of the 40 banks that we analysed, the private sector banks (16) continued to perform well as compared to the public sector banks (24). For the March quarter of 2012, the net profit of the private banks showed robust growth of 27.5 per cent, while that of the public sector banks (excluding SBI) grew by 15 per cent on a YoY basis. One should note that SBI had reported a meagre profit of Rs 21 crore last year on the back of higher provisioning, as against Rs 4050 crore reported in the March 2012 quarter.

On a sequential basis, the asset quality of most banks (SBI, Bank of India, ICICI Bank, Axis Bank, etc.) showed an improvement. Central Bank of India turned out to be an exception in that its Net NPAs increased by 244 basis points to 3.09 per cent on a YoY basis, which is among the worst in the industry. Even though most of the banks saw their asset quality improving, we believe that they would face some pressure on the NPAs front going ahead.

The NIM  for most banks remained muted or showed a declining trend on a sequential basis. However, this was not the case with ICICI Bank, Bank of India, IDBI Bank, etc., all of which showed an improvement in their margins. Further, during the March 2012 quarter, the government infused approximately Rs 12000 crore in the public sector banks, which helped their Capital Adequacy Ratio (CAR) to improve further. SBI received a capital infusion of Rs 7900 crore.

Overall, we hold that the sector performed well during the quarter. The players faced some headwinds on the asset quality as well as on the margins front, but this was anticipated by the markets. We believe that the banking sector would perform well in the coming quarter, and one should watch out for the business growth, asset quality and the margins of the banks in the June 2012 quarter results.

[PAGE BREAK]

Cement

The cement industry, which was struggling to maintain sales volumes and hold up prices in the first half of the fiscal, has shown decent improvement in the second half. Starting from the third quarter, the improvement in growth was carried forward in the March 2012 quarter. This is evident from the aggregates of the 37 companies that we have analysed.

For these companies, the net sales have increased by 19.80 per cent to Rs 20906 crore, but the net profit has declined by three per cent on a YoY basis to Rs 1955 crore. This decline in the net profit was due to an increase in the exceptional cost (on account of a change in the method of providing for depreciation), which went up significantly by 1603 per cent to Rs 611 crore. However, if we remove this one-time aberration, the total net profit of the 37 companies has actually gone up by 25.52 per cent on a YoY basis, while their net profit margin improved by 60 basis points to 12.3 per cent. This was despite an increase in the raw material costs, power and fuel costs due to coal shortages and also an increase in the freight charges.

The firm cement demand in the northern and western regions and a hike in the cement prices have resulted in a decent quarter for the industry. The major cement producing companies have witnessed a decent growth in their sales volumes and realisations during the quarter, as can be seen in the following table.

If you look at the different regions, the northern and the western belts have seen the highest jump in demand due to higher infrastructure and construction activity on the back of elections held there. Cement sales increased in Gujarat too, following increased government spending on infrastructure to complete various projects. In the eastern region, comprising Bihar, Odisha and West Bengal, cement prices were hiked by Rs 15-20 per 50 kg bag on an average during the quarter, mainly to take advantage of the supply constraints and the improved demand.

As per the Cement Manufacturing Association (CMA), dispatches for the industry during the March quarter of 2012 grew by 8.7 per cent on a YoY basis to 63.34 million tonnes. For the full year, the dispatches grew by 6.9 per cent on a YoY basis to 253 million tonnes. Moreover, with the improvement in demand, cement companies increased the product prices by an average of Rs 20-25 per 50 kg bag, taking it to Rs 300-310. Both these factors have resulted in decent topline and bottomline growth for cement companies during the quarter.

As we mentioned in our analysis of the results for the sector during the previous quarter (December 2011), the cement companies have done well in the March quarter. Cyclically too, this is the strongest quarter, as infrastructure and construction activities are at their peak. However, with the onset of the monsoon, we will see a decline in demand due to lesser infrastructure activity. This, coupled with a slowing economy, will result in a decline in the dispatches, and subsequently, in the cement prices. Further, an increase in the power and fuel costs and freight charges will hurt the margins, as a weak demand scenario will mean that cement companies are not able to pass on the rise to customers.

Thus, a lower demand, the fall in cement prices and higher freight costs will make the going tough for cement companies, which will, in all probability, report muted results for the June 2012 quarter.

[PAGE BREAK]

FMCG

Fast Moving Consumer Goods (FMCG) companies have always been investors’ favourites during uncertain times. But from the way the March quarter of 2012 started off, everyone expected things to start improving from there. This resulted in investors rushing in to take aggressive bets, ignoring the defensive ones. This is one of the reasons why the BSE FMCG index narrowly missed outperforming the market, as it increased by around 11 per cent during the quarter, even as the broader market inched higher by 13 per cent during the same period. In our December quarter results analysis, we had said that one should hold on to the FMCG company stocks until a clear macro picture emerges. Now, it again seems that the journey going ahead would be rough, and we believe that investors would do well to look at the sector seriously this time too.

The sector had performed extremely well in the December quarter, in which its topline had increased by 21.65 per cent and the bottomline grew by 31.57 per cent on a YoY basis. For the 12 major companies that we have looked at, the topline has increased by 15.5 per cent, while the bottomline was up by 10.6 per cent on a YoY basis during the March quarter of 2012. Though not in sync with what had happened in the December quarter of 2011, the overall results of the FMCG sector for the March quarter can still be considered as good. Due to the slowdown in the economy the sector faced headwinds during the March quarter; yet we believe that the sector did reasonably well by the way it has performed. The growth was a result of a good mix of volume and price hikes. For instance HUL’s, domestic consumer business grew at 20.5 per cent, wherein its volume growth stood at around 10 per cent. Marico’s topline grew by 18 per cent (volume growth of 13 per cent), Dabur India’s topline increased by 22 per cent (volume growth of 12.4 per cent).

Raw material cost increased by around 12 per cent on a YoY basis. However, the raw material to sales ratio showed a declining trend and was down by 142 basis points to 43.41 per cent for the March 2012 quarter. Companies like HUL, Nestle, Britannia, etc. saw a decline in the ratio while players like Godrej Consumer Products, Marico and Bajaj Corp witnessed some pressure on the input side.

Players in the sector continued to focus and lower their advertising and promotion spends and other expenses which helped them to post a decent bottom line growth. The ratio of Advertising expenses to sales increased marginally by 22 basis points to 11.66 per cent and other expense to sales ratio decreased by 494 basis points to 21.18. Marico was an exceptional case, as its advertising to sales ratio increased by 479 basis points to 11.45 per cent. According to the management this was due to the low base effect, coupled with higher advertisement expenditure incurred in the domestic and the international markets. Lower expenses helped improve the EBIDTA margins for companies marginally. Overall, the margin increased by 13 basis points to 14.86 per cent.

For the June quarter of 2012, we believe FMCG players would continue to perform well. The next quarter would probably see more of a price driven growth than a volume driven growth primarily for two reasons. The first one is that a slowing economy might set in a slowdown in the demand and the second the pass on of excise duty and service tax hikes announced in the budget to the consumers which will take up product prices. Further, reports suggest that standardised packaging would be effective from 1st July, 2012, and hence, this could further change the weights and prices of the existing products. At present, investors are avoiding some of the FMCG stocks because of their higher valuations; however we remain bullish on the sector and our favourite scrips would be Godrej Consumer Products, Marico and Dabur which we feel would continue performing better.

[PAGE BREAK]

Infrastructure And Realty

We have seen yet another quarter when factors like the lack of reforms, lower IIP growth, higher inflation leading to higher interest rates, and higher cost of financing leading to a slower capex has severely impacted the performance of companies in the infrastructure sector. What added to the woes was an unfavourable macro-economic situation on the global front as well. With the IIP growth numbers at 1.10 per cent for January 2012, 4.10 per cent for February and -3.50 per cent for March, there is little to wonder as to why the infrastructure sector remained under stress.

The numbers speak for themselves, as the topline growth for March 2012 is just 12.80 per cent. However, with factors like higher raw material costs and rising interest costs, the bottomline witnessed a decline in the growth rate by 7.10 per cent. In fact, if one adjusts for extraordinary items, the bottomline slips into de-growth of 3.60 per cent on a YoY basis.

One may ask that if there has been a slowdown, how has the topline increased? The answer to this is quite simple. In a slowdown, it is the order inflows that are impacted and not the topline. For the quarter ended March 2012, the order inflows of all leading companies have declined. For FY12, L&T witnessed a decline of 12 per cent in order inflows (Rs 70600 crore) as compared to FY11. Similar was the case with IVRCL, which had set the order inflow target at around Rs 14500 crore but could only manage Rs 10500 crore.

If we analyse the results of the leading infrastructure companies further, it becomes very clear that the EBITDA margins were impacted due to a highly competitive scenario. In addition, the sharp rise in the interest cost (up 55 per cent on a YoY basis) also added to the woes. The interest cost as a part of sales stood at 4.40 per cent as compared to 3.20 per cent in March 2011. In case of L&T, the EBITDA margins for the March 2012 quarter declined to 13.90 per cent from the levels of 15.40 per cent in March 2011. A combination of all these factors resulted in marginal growth in the bottomlines. Further, the liquidity situation was so bad that certain players had to opt for a stake sale in their SPVs to raise funds.

With regard to the next quarter, we feel that the situation is yet to improve on the policy front. Further, although the RBI has reduced the repo rate by 50 basis points, the benefits are not yet being passed on to the infrastructure players. Public spending has stalled, and so have private investments. Hence, we do not expect any major improvement in the quarter ending June 2012 too. However, if the government chips with in reforms and progress on the policy front, an improvement could be seen in H2FY12. As for realty, if the March 2012 numbers are anything to go by, it seems that the sector is not yet out of  the woods. Its struggle has continued through the March quarter too.

The higher interest rate regime directly impacted the sales volumes in a majority of areas. Recent data suggests that in Mumbai, the sales registrations for January and February 2012 were down by 25 per cent on a YoY basis. While the volumes were impacted, the realisations also did not improve, resulting in marginal growth of around 1.50 per cent on a YoY basis. With a higher interest outgo (60 per cent), the bottomlines declined by 45.89 per cent YoY.

The debt burden was already higher for realty companies, and to add to their worries, SEBI issued a notification making Rs 1 crore the minimum limit for alternative investments, including realty funds, up from Rs 5 lakh earlier. This resulted in realtors struggling to generate funds. With equity markets already on a decline and stock prices at new lows, the dilution option did not work.

Overall, it was a bad quarter for realty companies. Going ahead, we feel that the scenario is unlikely to improve soon and hence, we expect another poor quarter coming up for real estate companies.

[PAGE BREAK]

IT

The contribution of services to the GDP of the country has consistently risen over a period of time, and it is a no brainer that IT has been leading this pack of services. This is exactly why the results of leading IT companies are followed very closely by all. Tracking the March quarter results of the IT bigwigs becomes all the more important, as companies announce their guidance for the next fiscal at this time of the year.

The results of major IT companies for the quarter ended March 2012 created divergent views among investors over the outlook provided by these companies. However, a closer look at the industry aggregates gives us a clear picture of the dismal performance of these companies during the quarter. This was also reflected in the performance of the IT Index, which fell by 7.28 per cent between March and May end.

Of the total of 123 companies that we have analysed, the aggregate net sales went up by a meagre 0.1 per cent on a QoQ basis, and the net profit grew by only four per cent QoQ. The growth in the net profit was mainly on account of the cost cutting initiatives, including lower spends on personnel. The personnel cost declined by two per cent on a QoQ basis on account of lower employee additions.

The weak performance of the industry can be majorly attributed to two factors. The first would be a weak flow of major deals in CY11. The second was the delay in project ramp-ups. Some of the major IT companies were struggling to maintain the ramp-ups of projects, which got delayed due to company-specific issues. Also, among the major business verticals, the BFSI segment saw a decline of nearly two per cent on a QoQ basis, which impacted the topline of the IT companies. The quarter ended March 2012 was the slowest one since Q4FY09 in terms of dollar revenue growth, which came in at just around 1.2 per cent on a QoQ basis.

The results of the top four IT companies were divided over the performance and the guidance for the coming quarter and FY13 as a whole. TCS and HCL reported decent financial numbers for the March 2012 quarter. On the other hand, Infosys and Wipro disappointed the markets with their weak quarterly performance and subdued guidance for the June quarter, and also projected a tepid dollar revenue growth of eight to 10 per cent for FY13. In contrast, TCS’ management sounded more upbeat on the growth for FY13, and announced that the dollar revenue growth could be higher than NASSCOM’s projection of 13-14 per cent for FY13. However, we remain upbeat on Infosys due to its strong management bandwidth and the highest client additions during the quarter among its peers. The Infosys scrip has been beaten down by 15 per cent after the quarterly results were announced, and is available at a lower valuation. TCS has moved up by eight per cent after the announcement of its result and doesn’t seem to have much of an upside potential ahead.

HCL Technologies delivered the strongest growth of 2.6 per cent on a QoQ basis on the back of a good volume growth of 2.9 per cent and a strong pricing growth of 1.4 per cent. Infosys, the weakest among all the companies, reported a decline in sales by 1.9 per cent on a QoQ basis on the back of a decline in volumes by 0.6 per cent and a decline in constant currency by 2.1 per cent.

With some positive data emanating from the US, which constitutes around  65 per cent of the companies’ revenues, one can see a positive momentum and a recovery in the ramp-ups of the projects in FY13. Recovery is expected to remain slow in the coming quarter, but may gain pace going forward.

In conclusion, on the back of uncertainty in the global markets over the recovery of business sentiment for the IT companies, we believe that the coming quarter will remain modest for them. Declining discretionary spending by corporates will be a major factor that will go against a smart performance. A slowdown in demand will impact volumes, but pricing will remain stable as companies will focus on quality projects. Hence, the June 2012 quarter is likely to remain weak for the IT companies.[PAGE BREAK]

Pharma

When the markets are in the doldrums, people look to the pharma sector for some relief. This time too, the sector has performed in line with our expectations. The fabulous numbers posted by the sector were aided by a weaker rupee as well as by key products launched in the US.

The overall sectoral topline grew by 21 per cent and the bottomline grew by a handsome 33 per cent. This has been the best quarter for the pharma sector in FY12. In fact, for the top 10 companies in the sector, the topline and bottomline growth has been 34 per cent and 42 per cent respectively, which has been hailed as a robust performance by industry leaders. The BSE Healthcare index rose by 13 per cent during the quarter, which also indicates the robustness of the sector. Investor sentiment is very bullish on the pharma stocks.

During the quarter, the domestic and export formulations business performed well. Sun Pharma and Glenmark Pharma put in a good set of numbers, providing a fillip to the overall performance of the sector. Export income recorded a high growth, as companies made bolstering sales on the exclusivity rights received by them. Ranbaxy saw its highest ever quarterly revenues due to the 180-day exclusivity period of generic Lipitor that ran through the quarter. Its net profit also zoomed by 310 per cent. Some other companies like Lupin (Generic Geodon) and DRL (Zyprexa and Seroquel) were also seen enjoying exclusivity benefits. In fact, it was the revenue from exports that helped the sector put up highly impressive numbers during the quarter. Besides the regulated markets, the emerging markets too have proved to be beneficial, and some companies grew by as much as 30 per cent in the emerging markets.

Though a weaker rupee has helped expand the profit margins for companies, some like Lupin, Aurobindo Pharma and Cadila have reported forex losses. On the tax front, companies like Lupin, Aurobindo and Divi’s Laboratories paid higher taxes as some of their manufacturing plants lost their Export-Oriented Unit (EOU) status.

During the quarter, Natco Pharma won the compulsory license to manufacture and sell the generic version of Bayer’s product, Nexavar. This has set in a new trend of a drop in prices of a few anti-cancer products, and we expect the same to continue in the future. Biocon received a shock when its contract with Pfizer to commercialise Biocon’s insulin and insulin analogs was terminated. The company’s share price tanked 13 per cent during the quarter, while on a YTD basis, it is down 20 per cent.

The regulatory filing activity is still in full swing, and many companies have filed for approvals in various markets. As the US markets hold the key for growth, pharma companies have continued to seek regulatory approvals from the USFDA.

Overall, we remain bullish on the sector over new product launches, growth in the specialty segment and rupee depreciation.

[PAGE BREAK]

Power

The recent results of companies in the power sector indicate that the sector is in a deep crisis. Even though the government has taken some steps, the implementation has been very slow. We analysed the results of 22 companies from this sector for the quarter ended March 2012, of which 15 companies have either booked losses or reported a decline in their profits mainly, due to heavy rupee depreciation. In the March quarter, the overall topline of the sector grew by 22 per cent, while the bottomline shrank by 20 per cent.

The stocks of the power companies saw a short-term rally in February 2012, as a delegation met the Prime Minister on behalf of the companies to discuss the issues of coal block allocation and fuel supply agreements. Since its February peak, the Power index has lost 22 per cent over the diminishing profitability of the sector, which is an indication that investors are still bearish on it.

This being the terminal quarter of the 12th Five Year Plan, capacity additions were seen in full swing. According to data on the website of the Central Electricity Authority of India (CEA), 7349 MW of capacity was added during the quarter against the target capacity of 3727 MW. However, even though a total of seven per cent additional capacity was added during the quarter on a sequential basis, power generation rose by only 1.91 per cent, indicating that the sector is still facing chronic problems such as fuel woes. The plant load factors (PLFs) were lower during the quarter across the categories, mainly due to the lower electricity demand, fuel shortages, transmission constraints, etc.

On the fuel front, gas supply has continued to remain very critical. The PLFs of the gas-based stations have come down to 53 per cent in March 2012. Besides, the domestic gas production is expected to go further down, which will increase the problems of the companies like GMR Infra, GVK Power, etc. that have gas-based power stations.

Globally, coal prices have shown some downward trend. However, this has not helped the sector due to the rupee depreciation. Companies like Tata Power and Adani Power reported losses in their books due to costlier imported coal.

JSW Energy impressed with a nine per cent rise in its net profit during the quarter due to increased generating capacity. The state-owned companies like NTPC, NHPC and SJVN have also reported a rise in their net profits.

Though the sector has seen many negatives, there is some respite as some electricity boards have approved tariff  hikes. The Bihar SEB announced a 12.1 per cent hike in the power tariffs, while the Tamil Nadu SEB has also announced a 37 per cent hike. We believe that tariff hikes may also be announced in Kerala and Delhi soon. Kolkata-based power company CESC saw a rise in its net profit after it was allowed to hike tariffs by 13 per cent.

In the next quarter, there may be some surprises due to these tariff hikes. Companies relying on imported coal,  however, will be in trouble due to the record low posted by the rupee. We remain moderately bullish on companies like CESC, PTC India and Power Grid Corporation of India. All the rest are candidates to avoid.

[PAGE BREAK]

Oil & Gas

The 14 companies that we analysed in the oil & gas sector saw a decent aggregate topline growth of 27 per cent and a stupendous bottomline growth of 79 per cent. This performance, which has come as no surprise to us, is primarily on the back of a good performance by domestic oil marketing companies (OMCs) like IOCL, BPCL and HPCL. In fact, if we exclude their performance, the sector seems to have reported a marginal decline in the bottomline on a YoY basis.

Despite the unfavourable business environment, the OMCs have performed better than expected due to a significant jump in budgetary support and increased discounts from the upstream majors like ONGC, Oil India (OIL) and GAIL. In fact, the quarterly results for OMCs have become less relevant, as their financial performance is based mostly on the budgetary support provided by the government and the upstream sharing of the subsidy burden. Though the quarterly results may have seen wide swings based on the interim budgetary support by the government, they are expected to remain profitable at the end of the year. In FY12, as against the total under-recovery of Rs 138500 crore, roughly Rs 83500 crore was provided as budgetary support, while the remaining Rs 55000 crore was chipped in by upstream majors, thus helping the ailing oil refiners to breathe a sigh of relief.

However, the situation for the upstream majors was quite mixed. While ONGC saw its net profit for the March 2012 quarter double on a YoY basis as a result of the sharp rupee depreciation and a rise in the international crude prices, OIL’s financial performance came under pressure, as it was directed to foot a higher portion of the subsidy burden than it normally does. The company also felt pressured by its low production volumes for crude oil and natural gas. GAIL too fell prey to a higher subsidy burden, lower tariff rates and a fall in volumes, and as a result, its net profit for the March 2012 quarter fell by as much as 38 per cent on a YoY basis. Cairn India saw a rise in its production volumes and realisations as the company went on to upgrade its reserves by 12 per cent and indicated that with further investments and approvals, it could achieve a production of 0.3 mbpd, up from its current production of 0.18 mbpd.

As regards the private companies, Reliance Industries (RIL) saw its net profits decline by 21 per cent (YoY) on the back of sluggishness seen in all three business segments, viz. refining, petrochemicals and oil & gas. While the gas output from the KG-D6 basin continues to fall sharply, in its Annual Report for FY12, the company has cut its estimates for proven gas reserves by 6.7 per cent to 3.67 trillion cubic feet. The only positive for RIL has been the sequential improvement in its gross refining margins (GRMs) to USD 7.6 per barrel from USD 6.8 per barrel in the quarter ended December 2011.

On the global front, the Brent crude oil prices have retreated sharply by nearly 20 per cent in recent months from its CY2012 high of USD 124.15 per barrel. However, the Indian crude oil basket has not benefited much from this price fall, as the rupee saw a depreciation of 10 per cent against the US dollar.

At the current rate, we at DSIJ, estimate the under-recoveries for FY13 to be at Rs 140000 crore, more or less similar to that in FY12, as there seems to be no action from the government’s end on de-regulating subsidised fuels like diesel, LPG and kerosene.

Though it was good to see a rare spectacle where the government stepped up its actions and pooled in a larger share of the burden, given the tight fiscal situation, market sources have revealed that the government has already exhausted a major portion of its FY13 subsidy war chest of Rs 43580 crore. Hence, the outlook for FY13 on the subsidy front remains uncertain. This would mean further pressure on the upstream majors, as they would have to continue to foot a substantial chunk of the subsidy bill. Also, the operating level performance of ONGC and OIL would take a further beating as a result of the increased cess payments as laid out by the Union Budget 2012-13.[PAGE BREAK]

Steel

The steel sector went through a rather tough time in FY12, particularly during the first nine months of the year. A slowdown in the economy, higher interest rates, a decline in demand, a rapidly depreciating rupee and higher input costs did not leave much room for the steel companies to put up a better show.

However, the March quarter brought some relief to the ailing steel industry. A marginal improvement in demand, falling coking coal prices in the international markets and a hike in domestic steel prices has helped the sector to report better numbers for the March 2012 quarter.

The performance of companies in the sector can be gauged from the industry aggregate figures. The net sales of the 122 companies that we have analysed grew by 17.9 per cent on a YoY basis However, a hike in freight rates from 20 per cent to 30 per cent in January 2012 and the increasing interest cost (up by 48 per cent YoY) impacted the bottomline, which declined by 7.48 per cent on a YoY basis.

The increase in revenues was mainly on account of the increasing sales volumes and realisations during the quarter. For instance, JSW Steel saw its sales volume jump by 33 per cent on a YoY basis to 2.31 million tonnes, which was partly due to better demand and partly due to an increase in the capacity from 6.8 million tonnes in March 2011 to 10 million tonnes in March 2012. Further, the steel companies hiked the product prices in the range of Rs 1000-1500/tonne, which resulted in better realisations during the quarter.

One major relief for steel companies on the operating side was the declining coking coal prices, which came down from USD 285/tonne in October 2011 to the USD 230/tonne level in March 2012. Raw material consumption as a percentage of sales has come down by 100 basis points to 50.34 per cent. This, coupled with an appreciating rupee in the month of March, helped the steel companies to import raw materials at a lower cost as compared to the December 2011 quarter. Further, companies with foreign currency exposure saw forex gains against losses reported in the December quarter.

This has turned out to be a pretty good quarter for the steel industry. Overall, there was an improvement in the domestic demand on the back of a slight revival in infrastructure activity in the period. As per the Joint Plant Committee report, the consumption in the March quarter grew by 8.8 per cent on a YoY basis. For the fiscal year 2012, it grew by 5.5 per cent to 69.18 million tonne.

However, over the last two months, the situation has changed completely. With the onset of the monsoon, infrastructure and construction activity will reduce, impacting the steel consumption. A major concern seems to be the slowdown in the economy. In fact, the worst is yet to be seen, as the rupee has depreciated to its all-time low against the dollar and could push up import costs, leading to higher forex losses for steel companies that have large foreign currency exposure. Therefore, we expect the steel companies to post muted results for the June 2012 quarter.[PAGE BREAK]

Textiles

In our analysis of the last quarter’s results for the textile sector, we had asked readers to avoid it. The March 2012 quarter results reaffirm what we had said then. Despite a six per cent rise in the topline, the profitability of the sector has declined by 68 per cent. We analysed a total 209 companies, of which only 35 companies have managed to fare better in terms of sales and net profit. The remaining 174 companies have reported losses or a decline in either sales or net profit. The overall profit of the sector for the quarter remained at Rs 418 crore. It has witnessed a consistent loss of profitability over the past four quarters. Even the Union Budget had nothing for this sector. Hence, we believe that the situation may not improve in the first quarter of the new fiscal either.

There are many reasons for the sector’s dismal performance. Prime among these is the European debt crisis, which has resulted in a dull demand from that part, hurting growth badly. Growth of exports to the US region has also been worrisome. Apart from lower demand, companies are also battling high input cost pressures. Many companies have reported a decline in their operating profit margins. The issue of high inventory costs has also continued to haunt the sector, despite cotton prices cooling off a bit over the past one year. The rupee, which remained at lower levels in the whole of the March 2012 quarter, did very little for the sector due to the lower demand.

Amid all this chaos, a few companies have performed slightly better than the overall sector. Alok Industries reported a 77 per cent rise in its net profit. Among others, Arvind, Shri Lakshmi Cotsyn, Nakoda, Mandhana Industries and Rupa & Company reported a rise in their net profits. Bombay Rayon Fashions, on the other hand, reported a 30 per cent decline in its profit. Companies like Page Industries and Aditya Birla Nuvo have reported a growth in their branded apparel business The losses of Welspun Global Brands further widened during the quarter despite a six per cent rise in its topline.

The European debt worries and slower-than-expected growth in the US markets will hamper the sector going forward. The scenario is certainly not expected to improve in the immediate future. The Technology Upgradation Fund Scheme has not been extended, and  hence, the worries are expected to mount. We do not expect much of an improvement from the current scenario of the textile sector.

A pick-up in demand is also difficult, as Europe is sliding further into the recession. The macro-economic problems as well as cost pressures will further impact the margins. We maintain our call to avoid this sector.[PAGE BREAK]

Telecom

Of late, the telecom sector has been in the news for all the wrong reasons. The stocks in the sector were expected to perform weakly on the bourses. This has actually happened, which is evident from the fact that in CY2012, the broader indices moved higher by eight per cent as against the major telecom stocks like Bharti Airtel (down 11 per cent), Idea (down four per cent) and RComm (down by almost five per cent). This was primarily because of the strict regulatory environment, coupled with headwinds faced by the individual companies.

One big blow for the sector during the March 2012 quarter was the Supreme Court’s cancellation of 122 2G telecom licenses allotted on or after January 10, 2008. This shocker came in after the apex court arrived at the view that they had been granted in an arbitrary and unconsolidated manner. Accordingly, the companies that are set to lose their licenses include Uninor, Loop, Sistema, Videocon, Tata, Idea, etc.

The aggregate total income of companies in the sector increased by four per cent, while net profit declined by 14 per cent on a YoY basis. Idea Cellular showed a decent performance as compared to the two other heavyweights, Bharti Airtel and RComm. Idea’s total income increased by 6.74 per cent on a sequential quarter basis to Re 5369 crore, and on the bottomline front, it posted a growth of 19 per cent to Rs 239 crore.

On a sequential basis, all the companies showed an improvement in terms of their customer base, with Bharti Airtel continuing to enjoying its leadership on this front. The average minutes of usage (MOU) per user showed an upward trend for all the companies, registering a growth in the range of 1.3 per cent to three per cent. The average revenue per user (ARPU) moved higher for Airtel and Idea, which increased by 1.07 and 0.63 per cent respectively. On the other hand, the ARPU for RComm moved southwards, declining by one per cent to Rs 99. The average rate per minute (ARPM) for the industry showed a declining trend. Despite a decline of 2.22 per cent to Rs 0.44, RComm continues to enjoy the top position.

During the quarter, RComm paid off its FCCBs worth approximately Rs 5825 crore, and refinanced them by entering into an agreement with the Industrial and Commercial Bank of China, which extended the loan maturity of seven years at an interest rate of five per cent. This is the largest refinancing by any Indian corporate in the history of FCCBs.

According to reports, the New Telecom Policy 2012 will replace the 13 year-old Telecom Policy framed in 1999, and is expected to provide a predictable and stable policy regime for a period of 10 years. It has some major moves like abolishing roaming charges, relaxing internet telephony rules, delinking the telecom license from the spectrum, increasing the broadband speed to a minimum of 2 megabits per second (mbps), etc. We believe that the policy will be helpful for the players and also for customers. However, there may be short-term issues for players, who may face some headwinds.

Overall, we believe that the coming quarter would be a challenging one for telecom players. They may see a growth in their customer base and minutes of usage, but will see muted growth in terms of ARPU and ARPM. Companies like Idea would be affected by the cancellation of their licenses, and the new license would have to be procured at a higher price. We believe that the sector is highly regulated in nature, which affects the growth and profitability of companies.