December 10, 2019
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That Recession Bogey...

Half-yearly results indicate an industrial slowdown, but it may be too early to panic

That Recession Bogey...

SLOWDOWN? Yes. Recession? No. Not yet, that is. Belying all soothsayers of doom, India Inc. has done better than expected. If the half-yearly results of fiscal year (FY) 1997 trickling out of the financial laboratories of corporate India are to be believed, the growth rate has been positive on all fronts. Even margins have gone up.

Consider some cold statistics: sales are up 16.9 per cent, operating margins are up 0.7 percentage points to 25.6 per cent, operating profits are up 20.4 per cent, and the bottomline has flattened out—but is up nonetheless—at 2.3 per cent. Interest costs, which were supposed to have drained the corporate coffers dry, have only risen in tandem with the rest of the company’s costs. In fact—and this may come as something of a surprise—the growth of financial charges on companies has actually declined if you compare this year’s performance with that of the previous year’s. Against a growth of 51.5 per cent in interest costs in the first half of FY 1996, the figure for this year actually stood at a much more moderate 34.8 per cent.

Sombre slowdown: Barring the bottomline, the numbers above only show an economy that’s just about beginning to get tired. Of course, the heady growth rates of the previous year—sales: 34.1 per cent, operating profits: 43.9 per cent, net profits: 40.0 per cent—could not have been sustainable in the long run. Even so, the fall has been rather dramatic. While the growth trajectory of sales and operating profits are down by 17 percentage points and 24 percentage points respectively, that of net profits has plummeted by 38 percentage points.

Another unexpected development has come in "other income". Since the stock-markets have been reeling under the much-maligned "liquidity crisis", income from the treasury ought to have taken a dive. It was expected that corporate bottomlines would be shaved off of this income. The fact, however, is that the corporate sector is more dependent on other income to sustain its bottomline: while other income expressed as a percentage of net profits stood at 23.7 per cent in the first half of FY 1996, it was up 1.8 percentage points to 25.5 per cent this year. Only a deeper analysis will truly reveal the sources of other income this year. Income from the capital market appears unlikely; the roots of other income this year may be far-reaching and even dangerous: sale of assets and/or land.

Sectoral symptoms: A sector-wise analysis of 11 industries reveals that the fertilisers and the sugar industries are leading the slowdown. While fertiliser sales grew by only 3.2 per cent, those of sugar actually fell by 14.4 per cent. This duo also leads in the sluggishness in operating profits: sugar’s are down 6.5 per cent and fertilisers’ by a fifth.

The poor showing by the fertiliser companies is understandable: it is a controlled industry where India is a net importer, and where payment of government dues of Rs 900 crore is imperative to avert a financial crisis by the units. But the state of the sugar industry is startling, for sugar is perhaps one of the few industries where India has a global competitive edge in terms of raw materials, consumption and economies.

On the brighter side of things, the infotech and the hotel industries have delivered the best performances. Growth in operating profits for infotech stood at 39 per cent, while net profits were up 19 per cent. This growth comes largely from the software companies. Hotels exuded the warmth of welcome: operating margins, at 35.2 per cent, were the highest. This sector should keep growing. Reasons: increased foreign business, greater domestic demand and long gestation periods for new capacities to fructify.

Taxing times: The finance minister’s parting kick to the corporate sector in Budget 1996—the minimum alternate tax (MAT)—seems to be hurting. We compared the performances of the companies which did not pay any taxes in FY 1996 with those that did. The results were predictable. While the slowdown for tax-paying companies was across-the-board, the zero tax companies’ fall was sharpest in its profits. We suspect, however, that much of this fall is misleading. Quite like the paper profits many of these companies had made earlier. But lack of data prevents us from probing deeper.

Our hypothesis is that in the days of the capital market boom, a large number of companies—it’s largely a crop of fly-by-night operators, but there are some respected names as well—had converted their finance departments into their production centres. The product: EPS (earnings per share). And the clause of zero tax was misused to unbelievable extents. There were only paper profits which generated paper EPS that in turn got translated into cash only after investors subscribed to the shares. It was a win-win situation for corporates and merchant bankers alike. The suckers: small investors. Today, with the MAT in force, there is no way that companies can show an EPS, leave aside a high EPS, without paying taxes. The way out: show losses. In fact, better still, show the tax provisions only at the end of the year (maybe, some new clause could be exploited by then). The bottomline: while the tax-payers’ effective tax rate worked out to 22.2 percent, that of the zero tax companies stood at 4.4 per cent.

The strength of size: We finally looked at the companies with a market capitalisation of more than Rs 500 crore. These, obviously, are companies where the stakes are higher. And so is investor interest. With such higher stakes, we believe that these companies would be more careful in their reporting standards, the ITC fiasco notwithstanding. Moreover, these companies are relatively more institutionalised in their systems. In this sample, we saw that sales rose by 19.9 per cent but net profits were flat with a growth of just 1.1 per cent. Here too, the interest costs had flared up significantly by 33 per cent. Despite this, the tax provisions were higher by 17.7 per cent. 

The most disappointing performance has come from the Ruia-owned Essar Steel. Despite a 216 per cent rise in sales, up to Rs 937 crore now, it plunged into the red. The other company whose fortunes have undergone a dramatic change is the state-controlled National Fertilisers which declared a loss of Rs 13.3 crore—a steep fall from a net profit of Rs 20.86 crore in the first half of FY 1996. Other let-downs were the Rs 509-crore, state-owned Fertilisers and Chemicals Travancore which saw a 16 per cent fall in sales and a whopping 79.6 per cent fall in its bottomline, and Bajaj Tempo which, on flattened sales growth of merely 5.3 per cent, saw its net profits sawed off by half.

The leaders: On the brighter side, Telco’s results leave a lot to get excited about: sales are up 38 per cent and profits by 46 per cent. Ironically, post-results, the Telco scrip fell to an attractive 52-week low. Thermax was another solid performer with sales and net profits growth of 30 and 31 per cent respectively.

The inference: Yes, the slowdown has begun. But is it there to stay? It’s unlikely: interest rates are easing and the artificial money supply constraint is on its way out. Of course, you will still have to live with inflation. So, is the Indian economy reeling into recession? Again, unlikely: auto sales are up and so is consumer spending. But the real picture will emerge only after six months when India Inc. showcases its annual results. Will it reflect the first half? Well, wait and watch.

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