Rising Costs Shrink India Inc.'s Margins

The costs of materials, fuel, wages, and other expenditures were much higher in the quarter ended March, 2008, than in the previous three quarters

As the results season reaches its fag end, it is interesting to see how India Inc has fared in March 2008 quarter. The aggregate sales of more than 1,700 companies, which have announced their results, grew at a rate higher than the

previous three quarters of FY08. This lends credence to the fact that the aggregate demand growth in quite a number of sectors is yet to show any slowdown.

What is worrying for India Inc is the rising costs. The year-on-year growth in the operational expenditure, which includes materials, power and fuel, salaries and wages and other overheads, is much higher in the March 2008 quarter than the previous three quarters. This clearly shows that the Corporate India is feeling the heat of rising inflation. Obviously, this has taken a toll on the operating margins of the companies.

We considered 13 sectors—auto, banks, capital goods, cement, consumer durable, construction, NBFCs, FMCG, IT, metals and mining, oil and gas, pharmaceuticals and telecom for the current analysis. It is surprising to note that nine of these sectors could not register higher revenue growth than the aggregate. Only three sectors—banking, IT, and oil and gas—outperformed the growth at a broad level. However, IT and oil and gas have both fared poorly on the parameter of net profit growth.

While rising rupee has compressed the margins of IT companies, the price of crude oil pushed up the revenue growth of oil and gas firms. This becomes evident from the results of Indian Oil Corp and Hindustan Petroleum Corporation. Both the companies registered more than 40% growth in revenue in Q4 FY08, but the profit fell as they were forced to absorb a significant portion of recent spurt in crude oil prices. In IT sector, the effect of rising rupee was more broad-based as all major companies like Wipro, TCS, Infosys and Satyam witnessed much lower growth in their profits than revenue.

The topline of banks, as measured by the sum of interest earned on advances and non-interest income, has grown 27% in March 2008 quarter, which is only marginally lower than the average of the previous three quarters. The net profit growth also remains strong at more than 30%. This is primarily because most of the private sector banks have improved their spreads in FY08 by reducing the cost of deposits. And, most of the public sector banks have rationalised their expenses.

The surprise of the results season came in the form of FMCG companies. The FMCG companies posted a revenue growth of 21%, which is much higher than the average of the previous three quarters. It was expected that rising cost of inputs will hit the margins of such companies. Well, the numbers tell a different story as net profit expanded at a higher rate than previous quarters. Among the biggies, Nestle India and GlaxoSmithKline Consumers Healthcare witnessed higher growth in their profits in the fourth quarter than previous quarters.

Metals and mining was the other sector which ended the fourth quarter of FY08 on a healthy note as its revenue and profits both grew at a higher rate than previous quarters. The metal prices continue to rise due to rapidly rising demand for metals both in the domestic market and internationally. This bodes well for the sales growth and margins of the metal and mining companies.

Auto and cement sectors continue to be weak. The tightening interest rate scenario has affected the demand for automobiles. Also, auto players have found it difficult to transfer the rising input prices, thereby squeezing the margins.

The revenue and profit growth of cement companies have come down due to government pressure to keep the prices low. The fourth quarter has ended on a positive note only for a few sectors like FMCG, banks and metals. The rest of India Inc has felt the heat of rising prices with the full effect of inflation waiting to be seen in the first quarter results of FY09.