Turbulence ahead

India Inc’s earnings for the third quarter of FY19 are far from comforting and could weigh on stock prices in the coming months. The disappointing growth in profit, after a good run in the June and September quarters, could be a harbinger of challenging times ahead for equity investors. A BusinessLine analysis of the latest results of about 2,800 companies shows that their reported profits have dropped by 30 per cent year-on-year, as against a growth of 34 per cent and 18 per cent respectively in the first and second quarters. That profits fell despite a sturdy revenue growth of 18.5 per cent, indicates weak operating level performance by companies. Although prices of raw materials including crude oil cooled off during the quarter, the lag effect of the earlier high prices proved to be a dampener.

The silver lining is that banks seem to be turning around in the October–December period. This is unlike the previous two quarters where the banking sector was a drag on the bottom line. But even as banks recovered, other sectors which did well in the past such as auto and finance lost their spring, recording drop in aggregate profits. The liquidity crisis among finance companies has led to their aggregate bottom-line shrinking this quarter, after robust growth in the earlier quarters. The ripple effect of this is visible in the auto sector, where lack of adequate financing pulled down sales volumes for auto manufacturers, who in turn had to resort to heavy discounting to clear inventory. Many commodity producers witnessed profit decline, given declining metal prices.

The big worry now is that this trend of falling profits may continue for some time. For one, the low base of the demonetisation or the GST transition are things of the past, and domestic demand will have to grow on a high base. Low inflation and the budget dole-outs to farmers and the middle class may at best boost consumption of only small-ticket items. Besides, sectors such as power, infrastructure and telecom are still not out of the woods. Despite good order flows, lack of financial closure and funding issues continue to dog companies in the road infrastructure space. Falling tariffs and high debt are still a burden for telecom companies. Downward revisions to global growth in 2019 by entities such as the IMF or the US Federal Reserve mean that export-led growth is also not going to be easy, not to mention the impact of event–based risks such as Brexit or the US–China trade war. Thus top-line growth may not be as easy to come in the next few quarters. On the operating front, how commodity prices move will be the key. The rupee is another wild card factor which may impact the margins. With the liquidity crisis continuing, foreign portfolio investments drying up and governance issues cropping up with some companies, the stock market is already on tenterhooks this year. A weak earnings scorecard, a not-so-rosy outlook and an upcoming general election are not making things any better for investors. It is best for investors to err on the side of caution in the medium term.

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