First quarter thrills for stock markets

Indian Equity markets, which have been struggling to find positive cues since May, finally have reason to cheer. India Inc's first quarter report card held several positive surprises and has put growth worries of a jittery market to rest, at least for now.

In April, optimism was rampant and it was difficult to find a realist in Dalal Street. The indices were routinely recording new highs and the Sensex was trading very comfortably in the 11,000 plus region. Halfway through the quarter, however, global emerging markets witnessed a major sell out and worries about liquidity became pronounced with interest rate increases in most markets.

While the results announced have been a mixed bag, overall, India Inc has affirmed its growth trajectory. Markets are witnessing buying interest and investors are beginning to take positions in anticipation of robust results for the next quarter as well.

A snapshot

Among the Sensex companies, total turnover has increased 32.5 per cent from the corresponding quarter last year. The Sensex 30 have clocked 29.5 per cent growth in net profit from the previous year. Dr. Reddy's, Hindalco and ICICI Bank have the largest percentage growth in sales among the Sensex companies while Dr. Reddy's, ACC and Gujarat Ambuja lead in net profit.

Four-wheeler auto companies were also big winners this quarter. While Tata Motors' net profit grew 40.04 per cent, Mahindra & Mahindra posted 41 per cent growth and Maruti's net profit jumped by over 63 per cent.

The positive surprises

Most banks posted unexpected results. "Banking sector has posted very good results at the operating level. In fact, we feel that post Q1 results also there is a lot of steam left in banking stocks," says Amitabh Chakraborti, head privilege clients group, BRICs Securities.

Cement companies managed to surpass the already high expectations. (See box: Cementing Ties). Construction and capital goods continued on their growth path riding on high demand for housing and infrastructure development projects.

Concerns about a slowdown in the real estate sector and fall in property prices towards the end of the quarter pulled down prices in a few pockets, but so far, these have been the exceptions and not the rule. Nagarjuna Constructions saw 82 per cent growth in turnover, ABB 48 per cent and Siemens registered over 70 per cent.

Infrastructure companies remain strong favourites. The fact that many stocks in this sector have corrected by nearly 50 per cent in the last three months have made them more attractive, says Shahina Mukadam, head of research, IDBI Capital Markets.

The hotel sector is also buzzing with companies managing to improve their bottomlines. "We believe that the hotel industry may show the maximum rate of growth this year," says R Sreeshankar, head of research, IL&FS Investsmart. Indian Hotels registered a 127 per cent bottomline growth and Royal Orchid Hotels posted 82 per cent increase in net profits.

The IT sector continues its success story aided by devaluation of the rupee. Infosys, TCS, Satyam, Hexaware, have all been upgraded by several brokerages.

The disappointments

Oil marketing companies like Hindustan Petroleum Corp and Bharat Petroleum Corp were affected by the increase in global crude prices and the non issuance of oil bonds.

The sector is dependent on unpredictable factors and politics, therefore analysts do not see an upside for this sector in the near term.

Textiles companies, especially denim manufacturers, also published muted results. Brokerage Motilal Oswal has downgraded Welspun India and has kept its forecast unchanged for Arvind Mills, Alok Industries and Raymonds.

Margins of these companies have come under severe pressure and the outlook for the next quarter is not very optimistic. Sugar companies have also disappointed the markets. "The writing was on the wall. This quarter sugar has become bitter and cement has become sweet," says Sreeshankar.

Margin pressure also dampened several FMCG companies' results. With rural growth figures hinging on the monsoons, it is difficult to predict whether companies in this sector will be able to maintain their projected growth for the year.

Hindustan Lever and Nestle, with tepid top line growth of 8.7 per cent and 7.8 per cent respectively, are not strong buys, according to broking houses. ITC and Marico are viewed more favourably as their turnover has grown 25.7 per cent and 36.6 per cent, respectively.

Close calls

Hardening interest rates had analysts worried that cost of projects would be hit. Borrowing costs were expected to eat into profits and the lack of easy liquidity could have been a dampener on top lines of most companies.

"But," says Mukadam, "most funding had been done before the rate hike. Banks have not actively renegotiated rates, especially for the A and B grade companies. The rate hike has had an immediate impact on some small and medium enterprises, but is yet to touch larger corporates."

For instance, Gujarat Ambuja's interest costs have shrunk to Rs 12 crore, down 48 per cent from the corresponding period last year, while Grasim's has reduced 11 per cent.

The effect of the interest rate hikes could pop up in balance sheets later during the year. Indications are that balance sheets presented in the third and fourth quarters would show an upward revision in interest costs for companies. Bank loans' growth has considerably slowed down since April 2006, down to nearly 10 per cent from the previous quarter.

The other fear was on margins. With input costs going up, analysts feared a serious squeeze on margins of most companies. While some sectors have demonstrated this, says Mukadam, most have been able to maintain their margins despite an increase in input costs.

Now what?

The question now is, whether the current rate of growth is sustainable and how will the next quarter results be. The gray area in this analysis is interest rates. The impact of rising interest rates would be more visible in subsequent quarters.

With the reverse repo rate quoting at 6 per cent and repo rates at 7 per cent, borrowing costs would drain corporate resources. A 30-50 per cent increase in interest costs is expected in the third and fourth quarter balance sheets. Input costs are also causing worries.

Already, companies that have steel as a raw material, or are high consumers of oil are seeing input costs rise significantly. "We believe that the second quarter results would be good. There could be an impact of these factors on third and fourth quarter results. But the projected annual growth rate of 24 per cent could still be achieved," said A Balasubramanium, chief investment officer, Birla Sun Life AMC.

Market experts also caution that liquidity would continue to drive the markets, whether growth figures are sustained or not. While there would be some build up in positions as investors anticipate an equally strong second quarter, the sentimental change would be brought in only if inflows from foreign institutional investors pick up, says Rahul Rege, senior vice president, SSKI Securities.

Geopolitical tensions, oil prices, hardening global interest rates, and various other factors could impact the markets. But the India story is affirmed - domestic demand is robust, well run Indian companies are value for their investors' money - that is the lesson we learnt this July.