India Inc faces challenges due to fall in commodity prices, consumption

For India Inc, the fourth quarter of 2014/15 turned out to be the worst in the last five years. The total revenue of 4,198 companies whose results BT analysed dropped 5.8 per cent year-on-year, the steepest fall in the last 20 quarters. The top line of these companies had registered double-digit growth between June 2010 and September 2012. Since then, it has been a downhill ride. The aggregate net profit has now shrunk for two quarters in a row - 32 per cent in the third quarter and 15 per cent in the fourth quarter. The net profit margin was 6.8 per cent in the fourth quarter of 2014/15, down from 7.3 per cent in the same period of 2013/14.

The biggest reasons for the pressure on companies are fall in commodity prices as well as rural consumption. "Corporate earnings have been hit by a decline in prices of commodities that hurt their manufacturers as well as a fall in consumption in rural areas due to bad weather (which hit crop output) and slow growth in prices of farm output," says Ajay Srinivasan, Director, CRISIL Research. "A slowdown in investment-related sectors and pressure on export-linked sectors are also impacting India Inc's performance," he says.

Prices of most commodities are expected to keep falling in 2015, according to a report released by the World Bank early this year. Global food prices, which are down 20 per cent since 2011, are projected to fall 4 per cent in 2015. While oil has seen the most dramatic fall in prices, other commodities have also been weakening of late. So, excluding finance and petroleum companies, the total revenue of the sample grew 0.6 per cent year-on-year to Rs 8,24,033 crore. Profits, though, fell 28 per cent.

On the consumption side, subdued growth in rural wages and lower realisations from rabi crops have impacted demand in rural areas. Rural wages had risen over 10 per cent a year on average between 2010/11 and 2013/14. Between May 2014 and May 2015, growth was just 5.2 per cent.

Investment sentiment, too, is bearish, with gross capital formation as a percentage of gross domestic product (GDP at current prices) falling nearly six percentage points to 32.3 per cent in three years to 2013/14. Ravi Shenoy, Vice President, Midcap Research, Motilal Oswal Securities, says, "Sectors such as cement, steel and power are sitting on surplus capacity and 10 per cent-plus GDP growth is needed for the next two years for fresh investments to come in. One exception is non-conventional energy, a focus of this government."

The pressure on companies is reflected in their rising expenses too. Total expenses as a percentage of net sales have risen 2.4 percentage points over the last four quarters. Employee cost as a percentage of expenses rose from 7.1 per cent in June 2014 to 8 per cent in March 2015.

Companies in manufacturing and mining sectors were the worst hit, dragging down revenues and profits of the non-finance sector by 10.3 per cent and 29.12, respectively. "The key challenge for manufacturing and mining sectors will be the waning benefit of cheap domestic iron ore, increase in taxes and weakness in Chinese demand," says Kamlesh Bagmar, Senior Research Analyst, Prabhudas Lilladher.

Electricity and construction and real estate sectors also felt the heat with aggregate revenues falling 5.35 per cent and 3.7 per cent, respectively.

Some respite came from the financial services sector, which expanded revenues by 15.1 per cent. Tarun Sisodia, Head of Research, Anand Rathi Financial Services, says, "The main reason was higher treasury gains in 2014/15 and lower income in 2013/14. The treasury income of banks was significantly higher in 2014/15 on account of decline in G-Sec yields." The key thing to watch out for in the short to medium term is the asset quality of banks and non-banking finance companies.

Experts say things are expected to pick up only slowly. "The base effect of third and fourth quarters of 2014/15 will be reflected in third and fourth quarters of 2015/16," says Shenoy. He expects recovery in sales and earnings from the third quarter of 2015/16 and 22 per cent and 30 per cent earnings growth for Sensex companies in third and fourth quarters, respectively, as benefits of lower interest rates are realised.

The road to recovery is not easy and will require the government to take a number of policy initiatives to boost confidence. "Keeping inflation in check and ensuring supply of food products even if the monsoon faces hurdles should be one of the top priorities. Passage of the GST (Goods and Services Tax) Bill in Parliament and a roadmap for the implementation of the tax from April 1, 2016, will be a confidence booster," says Shenoy of Motilal Oswal. Controlling the fall in asset quality of public-sector banks and countering the slowdown in capital expenditure is also the need of the hour.

With results for the first quarter of 2015/16 already trickling in, corporate India needs a lot of luck to turn things around.