INR depreciation view is based on several imponderables. Here are some positives and negatives for INR over the next 12 months…
Positives for INR
♦ Weak sentiment on Trump – His policies get watered down by the justice system and Congress (presently playing out). More negative USD policies like trade restrictions announced
♦ UP election – Strong mandate for BJP reinforces reform capability through legislative strength down the road
♦ Rapid recovery from Demonetization – GDP data at end Feb is better than expected, healthy progress on remonetization
♦ Hawkish RBI – Softer than expected inflation readings (i.e. low depreciation and flattish oil price) builds rate cut hopes making bonds attractive again
Negatives for INR
♦ Trump’s expansionary budget – is found credible and acceptable to the mainly Republican Congress. Reinstates faith in the ‚doers‛ that fill Trump’s cabinet
♦ Hawkish Fed – More than 2 hikes in 2017 is discussed as inflation concerns rise
♦ Strong US growth – Underlying momentum picks up on the back of rising investment sentiment including from return of investment in O&G and protectionism providing confidence to invest
♦ Frexit – In the horizon due to potential for politics moving far right in the EU. This is a positive dollar scenario with strong home bias for frisky capital
♦ Milestones –India GST (18 Feb), Trump State of the union address (28 Feb), India Dec qtr GDP (28 Feb), Fed policy (15 March), India election (11 March)
♦ In the horizon– French elections &Frexit (April-May), German elections & Merkel continuity (Sept-Oct), China communist party congress & Xi’s continuity/SOE reforms (Oct-Nov)
♦ Bottom line– Negative INR risk is still on the table. But, India is among the few large economies in the world with a strong growth story (the other being the US) and with improving risk perception thanks to prudent policy. This should limit the size of the depreciation on a relative basis
Q3FY17 results thus far in nutshell
Of the 116 companies (ex OMCs) from our universe that have declared results so far, EBITDA growth has been ~150 bps above expectations at 15% YoY and PAT growth has been marginally down ~50 bps at 14% YoY while revenue growth has been in line with expectations at 6% YoY.
Sectors where earnings surprised are Autos, driven by other income whereas rise in commodity prices impacted the margin. Cement earnings were driven on the back of strong demand in south (AP and Telangana) and East region. Engineering posted double digit earnings growth helped by government capex aiding domestic demand and uptick in exports. However, earnings growth for FMCG companies especially the wholesale channel (which constitutes ~40% of FMCG sales) was hurt by demonetization. Pressure in traditional service lines saw IT revenue growth come below expectation. Telecom impacted negatively by higher-than-expected pricing pressure.
Our EPS estimates thus far for FY17 Sensex downgraded by ~1%, while FY18 remains unchanged. EPS growth for FY17 currently stands at 7% (Rs 1,501) and FY18 at 22% (Rs 1,829).
Refer overleaf for analysts’ comments on results summary, key trends and quick insights for each sector.
Result summary, trends and quick insights from analysts on results
Agri-chem companies reported robust double digit revenue growth in domestic market despite (a) cash crunch during Nov-Dec ’16, (b) weaker realizations, and (c) higher industry-wide inventory levels. Managements are upbeat about various government initiatives and believe that just one normal agri-season will eradicate all issues, which has crippled domestic agriculture in the last 2 years. Gross margins typically rose due to weak raw material prices (now inching up), but growth in EBITDA margins was relatively lower due to higher discounting/ credit to dealers (to fend off DeMo).
♦ Impact of demonetization & volume outlook: November/ December sales were weak on all parameters (especially 2Ws). However,sales recovered in January (for PVs, CVs), and expect sales to go back to pre-demonetization levels in February (for 2Ws)
♦ Commodity cost impacts margin: Companies are witnessing further increase in commodity prices, and expect impact in Q4FY17/ Q1FY18. This coupled with increase in prices due to change in emission norms (from BS III to BS IV from April 2017) should put pressure on companies to hike prices
♦ Credit growth was significantly muted this quarter with additional impact from demonetization. However, retail lending was somewhat saved supported by the back to back festive season in October. Polarity in growth trend continued to strengthen, with retail advances growing (though moderated in Q3) and corporate/ overseas loans being run down, as banks consolidate their large industry exposure. On credit growth, private banks/ NBFCs continued to outpace PSU banks. MFIs witnessed sharp decline in disbursements
♦ Treasury income remained the saving grace for most of the PSU banks, otherwise most would have reported losses in Q3
♦ Slippages for most corporate-facing banks remained elevated with GNPA ratios remaining in double digits (mainly PSU banks)
♦ Recoveries and upgrades continued to elude most banks as compared to our earlier expectation of higher recoveries due to repayment in older currency. Guidance remains at improvement in the same; however, it will remain a key monitorable
♦ During the quarter, banks witnessed a surge in CASA share (SA being more significant) due to demonetization. However, most managements guided that only ~30% of these SA deposits will remain in the system
♦ NIM of most banks was under pressure due sudden surge in deposits, interest reversal on stressed assets, decrease in MCLR and increased CRR requirement for an interim period in Q3
♦ Overall demand recovery is slow due to weak demand from housing and commercial segments. While existing projects continue, new project launches have slowed down. Home buyers are waiting for price correction, and thus delaying purchases
♦ Cement demand growth is best in South region followed by East region, while demand in North has de-grown. Cement demand in South region has grown in double digits primarily led by infrastructure/irrigation demand from Andhra Pradesh and Telangana. Demand from Amravati (new state capital of Andhra Pradesh) has not yet picked up
♦ Power costs have escalated due to rise in pet coke prices. However, pet coke is still 20% economical
Results so far indicate that the impact of demonetization has been lower than what the street expected.Volume decline for most FMCG companies has been restricted to low-single digit, which in combination with 2-3% price hike led to a 1-2% sales decline (except for Colgate and Dabur where volumes declined 12% and 5%). The wholesale channel (which constitutes ~40% of FMCG sales) has been impacted by demonetization. There is little role for wholesale in paints, but end consumers pay contractors/ painters in cash; hence, Asian Paints’ volume growth declined to 3% (from low double-digit growth in previous quarters). Given lesser resistance to shift to cashless transactions, urban consumption recovery by December is evident from the strong growth reported by most retail companies (including apparel and F&G and jewellery retailers).
♦ Domestic demand driven by government capex; uptick in exports: Domestic order inflow is picking up driven by increase in government capex on roads and railways as well as increased level of investment in power T&D segment. Private capex in conventional sectors (steel, oil & gas) remains subdued but investment in renewables is picking up. Ease of currency curbs in Africa and Latin America and rising crude/commodities prices is driving some uptick in international orders
♦ Pricing pressure in T&D continues: Competitive pressure in T&D is increasing due to reverse auction process adopted by some state utilities apart from PGCIL. As per the previous bidding system, the lowest bidder (L1) used to get the order. Under the new system of reverse auction, other bidders are allowed to lower their prices after submitting their initial bids to get the order. Even in renewables, prices for EPC/equipment suppliers are challenging due to low tariff bid by the developers
♦ Overall global IT Services spend are expected to grow at ~4.2% in CY17 and ~4.7% in CY18 (CY16: 3.9%)
♦ Automation is being used extensively to save dollars in the run-the-business IT spend areas. Investments in Digital / IoT / Cloud / Cyber Security segments continue to increase
♦ Discretionary IT budgets are channelized towards disruptive technologies and non-discretionary spends are being optimized
♦ However, clients remain cautious due to US regulatory changes and Brexit
♦ Roads – BOT (traffic back to pre-demonetization level): Tolling was suspended on highways in November2016 for 23 days after demonetization. Since resumption of tolling in December2016, daily collection has risen to pre-demonetization level for players like Ashoka, IRB and Sadbhav
♦ Road construction: Companies under coverage (Dilip Buildcon, Ashoka Buildcon) reported steady execution growth. Disruption due to demonetization was short lived to just ~7-10 days
♦ Ports: demonetization had negligible impact. Major Ports’ cargo grew 14% YoY (Dec 16), higher than average 7.7% YoY growth last year. Pipavav cargo was largely unscathed (flat QoQ in Q3). We believe demonetization will have limited impact on ports, as POL/ coal (60% of cargo) are supplied to refineries/ power/ steel plants (organized); for containers (20% of cargo), exports remain unscathed while imports may see some slowdown with a lag if weak domestic demand persists
Oil & Gas
Refiners’ (IOC, MRPL) profits were supported by higher GRM and inventory gains. Singapore complex GRM has remained firm at USD6.5+/bl in Jan ’17 with steady crude, which augurs well for Q4FY17 profitability. Outlook for GRM and petchem margin is strong given supply deficit (for GRM) and rising utilization level (for petchem).
♦ Domestic formulations witnessed modest ~11-12% YoY growth, adversely impacted by demonetization (200-300bps impact). Companies expect growth to rebound to 15% in FY18
♦ Apart from limited competition opportunities, US revenue largely remained flat sequentially given increased pricing pressure (faster ANDA approvals) and lack of meaningful approvals. Expect pricing pressure to continue in the near term
♦ R&D expenditure continued to increase. Expect R&D investments to continue to trend higher over the medium term, as companies invest towards building a complex generic pipeline (biosimilars etc.)
♦ Project execution disappoints (NTPC / PGCIL). NTPC expects 2 GW commercialization in Q4FY17(vs. 0.5 GW in 9M). Additional 1.6 GW commissioning in Q4 to be commercialized in FY18. For PGCIL, 9M capitalization was Rs 160 bn; FY17 guidance of Rs 300 bn implies Rs 140 bn capitalization required in Q4FY17
♦ Generation for NTPC was flat YoY at 61 bn units in Q3FY17 (71% PLF) due to weak domestic power demand
♦ Emission norms: Planned dismantling of 11 GW old plants for NTPC. As of now, NTPC identified 1.46 GW to be replaced with 2.6 GW. Dismantling only post commissioning new facility in the vicinity; construction of new facility contingent on availability of water, fuel, land, clearance and PPA
♦ For NTPC, ambiguity persists on extent of fuel pass through due to change in mode of calculation of GCV of coal (‚as fired‛ earlier to ‚as received‛ from Q3) –process still being stabilized. Q4FY17 to provide clarity. We believe this is an overhang
♦ Demand growth in China coupled with capacity restriction in China is good for the industry. However, rise in coking coal and iron ore prices has increased the prices of steel products. In India, rising import of steel is a concern. In December 2017, import rose by 33% YoY sequentially to pre-MIP levels
♦ Voice: With incoming minutes from Reliance Jio accounting for significant portion of volume growth, realizationtook a hit for incumbents in Q3FY17. This is compounded by tariff cuts as incumbents look to ring-fence customers. Bharti Airtel reported a 9% QoQ decline in realization, leading to a ~440 bps contraction in EBITDA margin
♦ Data: Currency crunch and sustained competitive aggression led to a decline in data subscribers for incumbents in Q3FY17 (down 12% QoQ for Bharti; volumes dipped 3.5% QoQ despite a 10% QoQ decline in pricing)
♦ Incumbent’s focus would remain on revenue market share (vs. subscriber market share) and, it would be critical to protect ARPU decline for better profitability
♦ New launches with attractive offers and value added services to continue.