Post GST, Q2FY18 Earnings Show Green Shoots

The Q2FY18 results were better than the Q1FY18 results. Neerja Agarwal and Tanay Loya analyse how different sectors fared in their quarterly performance 

The quarterly results for Q2FY18 were overall better than Q1FY18 as the companies experienced restocking and overcame transition-related glitches. We see BSE-100, BSE-200 and BSE-500 saw improvement in the operating profit and PAT increased more than proportionately. The aggregate revenue for the above set of companies increased by mid-single digit, while more than proportionate increase was seen in the PAT, which jumped by ~+60%. 

However, it took longer for small-cap companies to adjust to the new regulations of the GST. The BSE Small-cap companies’ aggregate revenue trickled down by 1.0% and operating profit growth recovered by ~5%. However, the net profit, though declined as compared to the last year quarter, actually turned positive when compared on a QoQ basis. 

S&P Mid-cap also showed flattish revenue growth while operating profit increased by 13%. The operating profit growth showed a positive acceleration from low single digit in Q2FY16 to 10% in Q2FY18. However, the biggest bonus was seen in growth of profit after tax which more than doubled. 

S&P Large-cap fared far better and showed more agility in adjusting to the regime of GST and the revenue growth of ~7.9% was a bit lower than the last quarter’s double digit growth.However, the operating profit increased by 13.8% versus 9.5% in Q1FY18 which also lifted the net profit by 67.3% on an aggregate basis. 

We also analysed a few sectors and how they had performed this quarter. We picked up 6 sectors on the basis of investor interest, expected impact of GST or sector getting impacted by regulatory changes.

Pharma 

The Q2FY18 results across-the-board were far better than Q1FY18 and the underlying tone of the management commentary saw revival from the GST and demonetisation by early FY18. The pharma sector sales overall grew 6% YoY as against decline of 1.8% YoY in Q1FY18. Though pricing pressure was felt in the US and the European markets, the margins came in better ~21.9% due to resilient domestic markets. 

1) Q2FY18 for pharma companies saw decline and pricing pressure in generics as expected. However, the intensity of this was lowered and, on the margin front, the deterioration was less steep. 

2) The USFDA inspection and the resultant plant restructuring did lead to loss of revenue. Biocon was most affected by the same,Divi’sLaboratories recently resolved the issues in record 6months. However, we see Indian companies getting more tuned to the inspections and resolving the same. 

3) The focus of companies has been on ANDAs and creating pipeline for speciality drugs. Though we see the pipeline portfolio for Lupin and SunPharama at a nascent stage and might take longer to reap benefits.Aurobindo’s Unit 7 has 50 ANDA’s pending and has most matured product pipeline.

FMCG 

sector was facing the brunt of competition, rise in raw material prices and transition to GST. We see that most of the companies reported decent numbers driven by volume growth and restocking and were able to contain their margins which lifted the net profit. 

1) FMCG surprised positively as this was the sector expected to be most impacted by the GST and was expected to see transition related write-offs. 

2) Nestle and Emami reported better than expected growth in revenue. Emami clearly saw a turnaround by reducing interest rate by 34.6% YoY in Q2FY18. ITC and Britannia results were mixed and the coming quarters are expected to be better as the GST implementation settles down. 

3) Margin pressure was evident due to higher raw material prices. However, we expect that raw material prices will smoothen and might not see similar steep rise as the new produce hits the market by January–February FY18.

Agrochemicals 

1) The two consecutive years of normal monsoon and lean channel inventory benefitted the agrochemical companies. Though erratic and uneven rains impacted the sowing. Overall revenue growth was ~13.3% YoY in Q2FY18, which led to higher operating profit growth of 55% YoY. The revenue growth was somewhat slower compared to two quarters growth of over 20% on a YoY basis.Most companies maintained their guidance, except DhanukaAgritech which lowered its guidance to 10% versus 15% earlier for FY18. 

2) Domestic agrochem industries grew in high single digit, though it was mixed for the leading players. However, PI Industries registered decline in revenues and PAT, but maintained its guidance of 10% YoY revenue growth in FY18E. 

3) Excel Crop Care reported splendid results driven by new launches in herbicides and fungicides. Bayer Crop Science also reported low teens revenue growth. 

4) We expect revenue to continue to grow in low teens, however, margins may remain range bound

Metals and Mining 

1) We see that metals and mining companies, especially aluminium, copper and steel, benefitted the most from the high international prices.

2) Nalco, Hindustan Copper, Gravita, Hindustan Zinc and Sandur Manganese & Ironperformance benefitted the most from the spike in metal prices. 

3) We see operating profit due to better realisation jumped by 47% YoY.However, due to high debt plaguing the sector, the losses for most of the companies narrowed. Tata Steel has turned PAT positive for the last two quarters. 

4) We expect the sector to benefit from high global prices. Also, due to various initiatives by the Indian government to protect the Indian metal industry, like anti-dumping duty and Make in India campaign, we see demand also to continue to see an upward trend

Auto Ancillary 

Auto ancillaries were expected to benefit the most from the GST. However, the revenue growth for the set of companies taken together witnessed lower growth of 22% YoY in Q2FY18 as against 28% YoYin Q1FY18. However, margins improved 900 bps on QoQ basis, but declined by 800bps on YoY basis. 

1) Wabco reported better than expected financial performance. This was due to revival in commercial vehicles segment which was subdued for last three quarters. Some of the other outperformers were Minda Industries, Sharda Motor Industries, Motherson Sumi, Rane Ltd. 

2) However,tyre and battery stocks performed below expectations due to elevated rubber prices and higher lead prices. Also, for battery companies, the lower demand for UPS and inverters also led to dependence on automotive and industrial segments. 

3) Samkrg Pistons & Rings Ltd., LG Balakrishnan & Brothers Ltd., Subros and Fiem Industries also saw strong revival in revenue on QoQ and YoY basis. 

4) Two-wheelers also saw uptick in rural demand, while tractors post the normal monsoon showed good traction.

Consumer durables 

Consumer durables segment was expected to be the most impacted by the higher differential of the GST. We see that large-cap companies and organized players like Symphony, TTK prestige, Butterfly Gandhimati and IFB Industries benefitted the most from the channel disruptions. Sectors like white goods and lighting did much better, while electrical segment gave lacklustre performance. 

1) Overall, the sales declined 17.3% YoY, accelerating its decline from 7.7% seen in last quarter. 

2) However, unlike like last quarter, companies which had pricing power choose to pass on partially the rising cost of raw materials, leading to slower decline in operating profit of 22% YoY versus 42.4% seen in the last quarter. 

3) Due to lower erosion in pricing and channel restocking,companies were able to sustain margins in the range of 8.5% in Q2FY18 as against 7.5% in Q1FY18. 

4) Symphony reported better financial performance due to its better business model and higher orders from railways. 

5) However, net profit for the sector was pulled down due to mounting losses of Videocon Industries. Excluding Videocon, the net profit almost doubled for the sector. 

6) We expect impact of GST to smoothen by early FY18 and the demand from rural India and infrastructure to keep the momentum for the sector upbeat. 

Going ahead, we believe pharma stocks to see revenue growth due to slacked revenue in last two years leading to low base effect. Also, we see auto and auto ancillary growth will be in the same range for the next quarters; however, auto companies might outperform auto ancillaries. Also, consumer durables are expected to be a mixed bag where new products and distributor strength might benefit few companies. Also, metals and mining to continue to benefit from reforms by the government and infra push, along with tailwinds of higher metal prices.