Earnings look up, no let-up in stress though PDF Print E-mail
Tuesday, 21 November 2017 04:03
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Shobhana edit

The share of debt with companies that have an interest cover of less than one is 40%, down only a bit from Q1


After several quarters of downgrades, corporate earnings are seeing an upgrade following the reasonably good results posted by companies in Q2FY18. Earnings for the Nifty set of companies are now expected to grow by just about 4-5% in FY18. However, many analysts believe the earnings cycle may have bottomed out and that FY19 should see a big jump in earnings, of 20% plus. That is quite possible. For one, the generally depressed profits of India Inc in the last couple of years—in a sluggish economy disrupted by demonetisation and GST—make for a low base on which even a modest growth would appear remarkable. This would be particularly true for the banking sector. After a very rough period FY16-18, during which they had to set aside large amounts as provisions for loan losses and when demand for credit was muted, state-owned banks as also some private sector lenders should report better numbers in the next couple of years. Indeed, banks are likely to account for a chunky 35% of the incremental profits in FY19.

The other space that will contribute meaningfully to profits will be commodities, given prices are expected to hold firm. Unless there is a sharp reversal in prices, producers of both oil and metals will make money even if volumes don’t rise substantially. A weaker rupee and better demand due to the global recovery will boost IT. Again, while FMCG companies may have fared well, purely thanks to the restocking post the rollout of the GST coupled with benefits from input tax credit as also the absence of local taxes, these gains could well sustain. Moreover, increasingly affordable prices for a range of products could stimulate demand.

But, while there are pockets of promise, there also are plenty of pressure points. With the macro environment now not as friendly as it has been in the last couple of years—given oil prices have started to rise—business will start to feel the pain. Interest rates could rise and inflation could be higher resulting in higher costs. With much of corporate India still quite indebted, any increase in costs would crimp ebitda, reducing the ability to repay loans. As analysts at Credit Suisse point out, the share of debt with companies that have an interest cover of less than one saw little change during the September quarter at 40%, only slightly better than the 42% in Q1FY18.

This improvement too is the result of Tata Motors having exited the sample. The share of chronically stressed debt—firms that have had an interest cover of less than one for the last four quarters—actually increased 100 bps q-o-q, to 38%. The short point is that despite some very favourable trends—such as the sharp and sustained rebound in prices of steel—aggregate debt remains elevated, while the ability of companies to repay their loans doesn’t seem to have improved significantly. In the case of steel producers for instance, the share of debt where the interest cover is less than one remains at a very high 55%. Also, disturbingly, the share of debt with loss-making companies remained at a high 29%. As long as the macro-fundamentals don’t deteriorate and the economy gains momentum, companies should be able to turn out reasonable good profits. Else, banks will once again be staring at loan losses.


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