One Quart Will Miss The Pint

Call us profit party poopers if you will. But if the only other alternative is to join the ranks of those who are too eager to uncork the bubbly after looking at the seemingly fantastic quarterly results announced recently by most corporates, give us the spoilsport tag any day. For, a detailed analysis of the various financial parameters reveals that while there are definite signs of good times ahead for India Inc, a revival per se is still some way off.

Don't get us wrong. We are aware the corporate results in the first quarter of 2003-04 have been quite noteworthy. Our own analysis of 665 companies shows net profits have grown by 36 per cent, compared to the same period last year. We are also aware that several companies have shown more than a ten-time rise in net profits—from Maruti to Gillette to Essar Shipping—and others have turned around their fortunes (like Steel Authority of India, Shipping Corporation, and Jindal Vijaynagar). Sales of the sample firms too were up 11.2 per cent.

But look closely, and you will find that the financials of most companies have not improved on account of any meaningful rise in local demand. In fact, the index of industrial production (IIP) rose just 4.4 per cent in April this year and 5.7 per cent in May. The figure for 2002-03 was 5.8 per cent. Non-food credit rose a measly Rs 2,250 crore between April 1 and July 11. In the same period last year, the rise was over Rs 16,000 crore. This indicates that corporates are not borrowing too much this year.

So, how does one explain the growth in sales and net profits? It seems to have more to do with an overall rise in commodity prices, higher exports, growing "other income", and lower interest charges. To be fair, some surge in domestic demand has been witnessed in select sectors due to government spending in infrastructure areas like roads. There has also been higher consumer spending induced by cheap retail credit.

For example, in one of the best-performing sectors like auto and auto components, sales have risen by 16 per cent, largely due to higher exports. Bharat Forge, an auto ancillary company, showed a 79 per cent rise in exports, while Maruti's exports too went up. The rise in the steel sector's sales—20 per cent—is explained by no less than six rounds of price hikes in the past 12 months. Don't forget, a mere Rs 1,000 per tonne increase in prices of hot-rolled coils can improve Essar Steel's bottomline by Rs 240 crore every year at full capacity utilisation. Similarly, 60 per cent of bses' meagre 5 per cent topline growth came due to rise in tariffs.

In some cases, the increase in sales has been due to a mere change in product mix. Take the case of Bajaj Auto, where volumes were down 6.7 per cent, but revenues (in value terms) still rose 1.7 per cent. The explanation is that the company sold more motorcycles, but lost out in the scooter and step-through segments. Now, scooters cost two-thirds less than most bikes and, moreover, earn wafer-thin margins. So, Bajaj gained because its mix changed in favour of bikes. Says Sanjeev Bajaj, vice-president (finance), Bajaj Auto: "The quarter is always down for two-wheelers. People don't like to buy during the monsoons."

Software too has gained because of the booming bpo segment, which grew by 60 per cent, rather than its main business. Still, IT registered a 38 per cent growth in sales, which is impressive but still way below the past average. Says Hughes Software CEO Arun Kumar: "The overall growth in the industry has come down in the traditional services segment. It'll be a year or two before we get out of the slowdown." And, let's not forget that the small- and mid-size software firms have been hit quite badly. Thanks to the rising rupee, Polaris Software showed a minor revenue increase in dollar terms.But, in rupee terms, its quarter sales actually declined by 1.4 per cent.

Other driving forces that explain the soaring profits, compared to more reasonable increase in sales, are a steep rise (46 per cent for the entire sample of 665 firms) in "Other Income", and a decline (5.4 per cent) in interest costs. "Other Income" is up due to several reasons, some of them resulting in just one-time earnings. For instance, some firms grappling with restructuring have sold assets and booked profits. Others have invested their surplus cash in financial assets, rather than machinery. This helped them earn dividends, like in the case of m&m, which earned a dividend income of Rs 14.5 crore compared to its quarterly net profit of Rs 42.49 crore.

Interest charges are down, thanks mainly to dramatic restructuring of their debt portfolio by companies. A number of them took advantage of low rates in the international market and the rising rupee to substitute high-cost foreign debts with low-cost ones. To cite an example, ipcl has repaid foreign loans totalling nearly Rs 950 crore in the recent past. According to industry watchers, many firms are also opting for foreign loans to retire the high-cost domestic debt.

This trend may explain why the rise in operating margins—from 21.7 per cent in Q1 2002-03 to 22.5 per cent in Q1 this fiscal—is lower than what has happened in the case of net margins (which showed an increase of over two percentage points at 11.7 per cent). Even in cases where the operating margins have gone up, the reasons were not really higher sales. itc is a case in point. Its core cigarette business grew by just 3.91 per cent, of which volumes contributed for half the increase. Its revenues in the low-margin agri-business too fell dramatically. And yet, the operating margins registered an increase of 2.5 per cent.

The Q1 corporate results do not indicate that a demand revival is under way. In addition, the sectoral comparisons show a mismatch: while some have delivered outstanding results, others have performed below par. So, if the shipping firms showed a whopping 778 per cent increase in net profits, the figure for consumer goods (durables and non-durables) was only 17 per cent. If sales of trucks and cars were reasonable, those of two-wheelers were modest.

There is, however, the proverbial silver lining in consumer buying. This is a trifle tricky to establish since a host of mncs are unlisted and need not publicly declare their results. Based on the IIP, Saumitra Chaudhuri of icra points out that consumer non-durables have grown by 9 and 14 per cent, respectively, in April and May this year. Durables too have returned to positive territory with a 7 per cent growth. Given that the monsoons have been good this year, the worst may be over for India Inc.

So, there! Still dressing up for that party? We say, hang on, at least for another quarter.