Dear All,
Forwarding you the Market Strategy Report for November 2011.
Inflation taking its toll
Sensex revenue growth remains healthy at 20%+; margins drag bottom-line growth: For 2QFY2012, on a yoy basis, the top line of Sensex companies continued to show healthy (23%) growth, aided by persistence of higher inflation and strong 33% yoy growth in sales of oil and gas companies. Growth in EBITDA and bottom line was lower due to a ~120bp compression each in operating and profit margin. EBITDA growth stood at 16% yoy (ex-ONGC 14%), while PAT growth stood at 15% yoy (ex-ONGC 8%). Adjusting for forex gains/losses, growth on the adjusted PBT level, ex-ONGC, stood moderate at 9% yoy. Overall, quality of earnings was not up to the mark, as higher profits of ONGC (partly driven by the non-core factor of low subsidy-sharing assumption) largely offsetted the lower-than-expected earnings of metals and mining, power and telecom companies.
In our view, the compression in margins over the past few quarters reflects the resource constraints faced by India Inc. both from higher commodity prices and government policy paralysis. Resource constraints have translated into higher inflation, which has dented the EBITDA margin in the form of higher raw-material costs. Also, higher inflation has led to higher interest rates, which have affected the bottom line.
On a sectoral basis performance of banking and FMCG sectors was steady. Earnings growth for banking sector was aided by sequential expansion in NIM for almost all banks, which offsetted asset-quality pressures (especially faced by the public sector banks). Earnings trajectory for FMCG sector continued to be healthy on the back of steady top line growth and cost rationalisation undertaken by the companies. On the flip side, results of metal companies disappointed by reporting a 34% yoy decline in profits. Realizations of metal companies remained strong, but profitability was hampered as they could not fully pass on raw-material cost pressures. Other disappointments from the results season included Maruti Suzuki from the auto pack and Bharti Airtel from the telecom sector.
Sensex earnings growth likely to moderate to ~10% levels in FY2012, expect revival in FY2013: We expect Sensex EPS growth to moderate to ~10% levels in FY2012, as the impact of higher raw-material costs as well as high interest rates affects the profitability of corporates. We have cut our Sensex EPS estimates by ~2% each for FY2012 and FY2013 during the current results season. However, the overhang on FY2013 earnings has reduced, with the RBI hinting at the peaking of interest rates in the current rate cycle at the current levels and moderating commodity prices on the back of slower global growth prospects. Overall, we expect Sensex companies to deliver a 13.6% earnings CAGR over FY2011-13E to `1,308. A fair multiple of 14x FY2013E EPS yields a Sensex target of 18,300, implying a moderate ~9% upside from current levels over the next 6-9 months.
Sovereign debt crisis - No quick fix seen: Recent events such as the late October meeting of Eurozone political leaders indicated the urge to avert a catastrophic event, but the path to a sustainable solution remains challenging and could continue to lead to volatility in the near term. In our view, the long-term choice confronting Eurozone countries is likely to be in the form of either forming of a fiscal union or disintegration of Euro in an orderly manner and subsequent currency devaluation-led export growth driving the economic recovery, highlighting the complexity of the challenges facing the Eurozone countries.
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Market Strategy - November 2011
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Fundamental Advisory Desk
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