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Results Season Begins; Corporate performance May Show Uptick

Monday, April 11, 2016
By Dominic Rebello

Potential result surprises: Positive: Eicher Motors, HPCL, BPCL, Bajaj Auto, Eclerx and IOCL; Negative: DB Corp, Hindustan Unilever, M&M and Sun TV Network.

Corporate performance during Q4FY16E expected to improve marginally due to low base of last year and 3% average depreciation in INR, says brokerage firm, Emkay on the eve of the opening of the results season. However, Emkay believes that “external concerns continue to remain a drag on the economy as the overall export growth (goods & services combined) has contracted by 11.2% YoY (Apr-Jan’16). Domestic activity in Q4FY16 also remained subdued as indicated by sluggish IIP and soft PMI numbers. Following the budget and the Fed dovish statement there has been upswing in market based on strong FII flows, however Q4 corporate performance are not likely to deliver to these expectations. With government and RBI aligning their policies towards counter-cyclical expansion, consumption oriented sectors expected to benefit in FY17. While there has been a marginal uptick in commodity prices during the quarter, EBITDA margins might compress if this trend continues”.

The Emkay Universe (ex financials and oil & gas) expected to witness an improvement in sales growth to 6.3% YoY in Q4FY16 from a muted growth of 0.1% in Q3FY16, on the back of low base of 0.9% in Q4FY15. Within our Universe, Small caps are likely to see better sales growth of 8.8% YoY followed by 6.3% growth in large caps and 5.1% in midcaps.

EBITDA growth is expected to witness an uptick of 8.8% YoY while APAT estimated to contract by 0.4%.The expected spike in sales growth to be driven by sectors like IT(18%), Pharmaceuticals (17%) and Media & Entertainment (13%). Depreciation in INR aided in benefiting the export-oriented sectors;however overall trade in goods & services remained weak. Including the banking and oil & gas sectors for Emkay Universe, aggregate sales are expected to contract by 3.8%YoY.

It believes that Pharma, Power and Media & Entertainment expect to contribute significantly to EBITDA margin expansion of 210bps. On the other hand, Metals & Mining and Capital goods are likely to reflect a decline in EBITDA margin. Automobiles, Media & Entertainment and Pharma expected to lead in APAT growth while sectors such as Metals & Mining, Capital goods and Oil & gas expected to post a decline in APAT.

For its  banking Universe, it expects NII and pre-provisioning profit growth for our banking universe to remain moderate at 6.6% YoY and 5.7% respectively in 4QFY16. Led by modest business growth and sticky bank deposit rates, NIMs are likely to be flat qoq. We would expect NIMs to remain sluggish for most banks in our coverage universe, as loan growth and banks’ pricing power remain tepid.

Sectoral expectations
Agri inputs and chemicals

A Sudden western disturbance had caused heavy showers and hailstorm during the second week of March in most northern states of India. An Initial assessment of the situation suggests that so far the impact of rains and hailstorm is less than last year when as many as 15 states were affected due to rains. Most domestic as well as foreign weather forecasting agencies have predicted for a normal monsoon this year as the effect of El-Nino is set to start waning off from late March-early April. This should be an encouraging signal for the agri-input companies. Q4FY16 is seasonally a small quarter for agri-input companies.Companies with strong portfolio of branded products are expected to not get significantly impacted by the prevailing sluggish demand environment in the domestic market. Industry sales of complex fertiliser is likely to see healthy rise of 21% after dropping 7% in Q3FY16. For FY16, complex fertiliser volume growth for the entire industry has remained healthy at 11%yoy. Despite this, channel inventory of fertilisers continues to remain at elevated levels. We like UPL (global presence and resilient business model), and Insecticides India (ramp up in the technical segment and healthy pipeline of new innovative products). We like DCM Shriram and Chambal Fertiliser. Coromandel may give a negative surprise while Chambal fertiliser can give a positive surprise.

Emkay expects EIM (+55%), AL (+34%) and BJAUT (+16%) to report the highest revenue growth in our coverage universe. We expect highest EBITDA growth for EIM (+75%), AL (+72%), HMCL (+46%) and MSIL (+45%). Overall volume growth during the quarter was a bit stronger than our initial expectation. Q4 is also likely to be the last quarter to benefit from tailwinds of lower commodity prices. We believe that a strong foundation for revival in auto demand has been laid with lower inflation, lower fuel price, lower interest rate and ample availability of finance. Likelihood of a normal monsoon and higher government allocation towards infrastructure/rural sectors would further catalyse growth. Except Maruti Suzuki which is likely to see Yen appreciation lead cut in consensus estimates, we do not expect any major downgrade in the coverage universe in the quarter ahead. Among the OEMs, we believe that TTMT, EIM, and MSIL can outperform the sector even in a scenario of a slow recovery, as we expect them to gain market share in their respective categories. Among the ancillaries, MSS and AMRJ are solid, compounding growth stories.

Banking and Financial Services
 Led by modest credit offtake, we expect NII and pre-provisioning profit growth for our banking universe to remain moderate at 6.6% yoy and 5.7% respectively in 4QFY16. Reported PAT growth is estimated to grow by a meagre 5.5% yoy (PSU Banks to again report a yoy decline in profits), due to the full impact of the RBI’s AQR exercise, which should be visible this quarter. Asset-quality trends and loan restructuring under SDR would continue to be key monitorables, while Tier-1 capital should see sharp improvement led by recent changes in regulations that account for DTA and revaluation reserves. Given the sharply low levels of internal accruals in PSU banks, we expect lower dividend payout in FY16. Led by modest business growth and sticky bank deposit rates, NIMs are likely to be flat qoq. We would expect NIMs to remain sluggish for most banks in our coverage universe, as loan growth and banks’ pricing power remain tepid. While the expected decline in wholesale borrowing rates in FY17 could benefit banks with a lag, subdued credit demand would result in sluggish asset yields ahead, constraining NIM expansion. We expect asset-quality challenges for the sector to continue. Weak macro-economic environment, will keep provisions for restructured loans and fresh slippages high. A blend of schemes such as 5:25, debt-to-equity conversion of NPAs, Strategic Debt Restructuring and fresh lines of credit availed by stressed companies under the JLF’s corrective action plan is likely to increase the opaqueness of banks’ restructured / stressed assets. Another key monitorable would be loan recoveries, which did not manifest for most banks in FY15. We expect NBFCs’ Net Operating Income to rise 18% yoy, while PAT is estimated to rise 33% yoy (mainly led by high one-off income recorded by HDFC Ltd.). NIMs are likely to expand yoy due to a sharp yoy fall in the cost of funds. Asset quality will be a key monitorable, as NBFCs will have to adopt to stringent RBI norms on NPL recognition in Q4. HDFC Bank and Indusind Bank are top picks from our banking coverage universe. Among NBFCs, Cholamandalam Finance, remains our preferred pick.

Cement demand witnessed improvement and we expect industry production growth of 9% yoy during Q4 against 2.2% yoy growth in Apr-Dec ’15. We estimate demand growth of ~5% in FY16. Though, cement prices started improving from 2nd week of February, we expect average realization to be under pressure for our coverage companies. As per our channel checks, average cement price was down 3.3% yoy in the quarter with 7.8%/5.4%/4.4% yoy decline in West/East/North region. Prices in Delhi, NCR, and Haryana witnessed price decline of ~8% yoy; however, prices in North recovered strongly in the month of Mar’16 by 18% MoM after falling for three consecutive months. Average EBIDTA/t for our coverage universe is expected to decline by Rs78/t to Rs793/t. EBITDA/t of large cement companies (ACC, Ambuja, Shree and UltraTech) is expected to decline 9.5% yoy. We expect Ramco Cement to continue to report strong profits and EBITDA/t is expected to be at Rs1,437 (highest in coverage universe), up 12.5% yoy. With industry production data showing growth of 10.8% yoy in Jan-Feb ‘16, we expect scenario to improve further as demand from infrastructure activities and low-cost housing has started some movement. Additionally, in south region we expect demand from Telangana state and the new capital city Amravati to come. These factors will aid in gradual improvement in utilization rates for the industry leading to better pricing power to manufacturers. We maintain Shree Cement and UltraTech as our top picks.

Infrastructure & Construction:
Revenue growth to edge higher with stable margins for our universe on the back of robust performance by construction players (Ahluwalia Contracts), road asset developers (IRB Infra & ILFS Transportation) whereas we expect muted performance from port players (Adani Ports & Gujarat Pipavav). Profitability to decline on higher capital cost i.e interest cost & depreciation (YoY basis). We have Buy recommendation on Sadbhav Engineering, IRB Infrastructure, NCC, JKumar, Ahluwalia Contracts, KNR Construction & Adani Ports; Accumulate on L&T and Ashoka Buildcon and Hold rating on Gujarat Pipavav, Simplex Infrastructure & IL&FS Transportation.

Consumer Products
Rising onslaught of Ayurveda-based FMCG products along with slow rural income continue to impact volumes of existing incumbents. Channel checks in FMCG depict that distribution expansion in Hindi-speaking belt continues to aid volumes. The tide is gradually turning in favour of urban, but volumes are coming through price cuts/volume offers and promotional activities. Channel checks in building products depict growth is moderate vs earlier quarter, but companies continues to be resilient led by new product segments/categories. Transitionary impetus of 7th pay commission and upcoming state elections could improve volume trend, but with rural income in stress, it is essential for urban markets to step up growth rates.

Engineering & Capital Goods
Expect revenue decline of 5.5%YoY across the capital goods universe during 4QFY16. The EBITDAM are also expected to decline by 300bps YoY to 8.5% as execution of low margins orders taken in the earlier periods come into play. Order inflows to be less benign during 4QFY16. Emkay expectation: (a) Revenue decline of 5.5% YoY to Rs227bn. Ex-BHEL, the revenues are expected to increase by 2.5% YoY to Rs117bn. (b) 300bps YoY decline in EBITDAM to 8.5%. Ex- BHEL the EBITDAM are expected to improve by 40 bps to 9.9%. (c) 30% YoY decline in EBITDA at Rs24bn. Ex-BHEL, the EBITDA is expected to grow by 6.5% YoY to Rs12bn. and (d) Net profit to decline by 32% YoY to Rs11.6bn; Ex-BHEL, net profits are expected to decline by 4.5% YoY to Rs7.7bn. Our stock selection remains driven by visibility, cash flows and ROIC. Preferred picks are ABB, Voltas, TD Power, Triveni Turbine and Cummins India.

 IT Services:
Mar’16 quarter preview for IT Services sector: The trend of moderation in YoY US$ revenue growth for the Tier I players seen through the past 9 consecutive quarters is expected to reverse in Mar’16 quarter largely on account of abating YoY cross currency headwinds with YoY cross currency headwinds reducing to 150-200 bps YoY V/s 500-600 bps in recent quarters. We look forward to more qualitative/quantitative indications on client spending and demand trends amid challenging dynamics in BFSI,Telecom and Energy verticals and moderating growth in Europe. ‘March quarter’ seasonality to reflect in moderate sequential revenue growth while rupee depreciation benefits to aid operating margins; we believe that HCL Tech and eClerx could surprise the street positively. Tech M is our top pick in the large cap IT Services coverage followed by HCL Tech while we have a HOLD rating on all other Tier I players. NIIT Tech, eClerx and Hexaware are our preferred bets in the Tier II coverage universe.

 Media & Entertainment:
For one more quarter, advertisement revenue growth would see divergent trend for companies under coverage. Zee Entertainment would continue to register strong growth while SUN TV would continue to remain under pressure. In print media, Jagran and HMVL are expected to report healthy growth while DB Corp will continue to disappoint with sub-par ad growth. Newsprint prices remained stable while INR depreciation would marginally increase raw material cost for Print companies.Strong content performance and low base of Q4FY15 to drive robust footfall growth and in turn operating performance of multiplex companies. Dish TV is expected to see rebound in net adds, driven by subscriber market share gains. Strong ad revenue and low base will drive EBITDA growth of 35% yoy for Zee Ent. EBITDA for the print universe (Ex-Radio for Jagran) is expected to grow 17% yoy (driven by 69% yoy growth for HT Media on account of low base), with margins at 25.2% vs 18.4% in Q4FY15. EBITDA for Dish TV is expected to grow 4% qoq.

 Metals & Mining:
Q4FY16 is likely to be a mixed bag quarter for the metals and mining sector. Volume growth is likely to be better on seasonality. Steel companies should see better volume also due to lower imports during the quarter. Contrary to the general expectations, realizations for steel companies should just be flat on QoQ. In case of non- ferrous metals while, zinc and lead are likely to see higher LME on QoQ, aluminium companies should witness better volume. Moil should remain as an out-performer. While, regulatory interventions are likely to keep steel prices higher going forward, base metals prices are likely to remain volatile. Prefer, MOIL, Coal India, HZL and Nalco.

Oil & Gas:
A plunge in crude oil price resulted in sharp fall in subsidy on cooking fuels for the quarter. The total under-recovery for OMCs in Q4FY16 stood at Rs.13.8bn lowering 48%qoq. We have factored in entire burden on government as cash compensation and nil burden on OMCs & upstream. Despite of nil subsidy burden, net realization of upstream companies to fall by ~21% due to collapse in crude oil on qoq basis. We assume ONGC and OIL’s net realizations at $34.9/bbl ($44.3/bbl qoq) and $34.9/bbl ($42/bbl qoq), respectively. We expect GRM for OMCs around $6.5-7.5/bbl. For RIL, we expect decrease in GRM at $10.5/bbl ($11.5/bbl qoq) mainly on account of fall in spreads of all the major products. Better margins in Petchem off-sets the impact of weak GRM to some extent. In the Natural Gas universe, we expect decline in GAIL and GSPL’s transmission volume due to fall in production from ONGC and OIL. On the distribution/CGD front, IGL we expect flattish volume while for Gujarat Gas we expect decline in volume on account of reduction in Industrial segment volume during the quarter. Petronet LNG volume is expected to decline marginally to 139.7tbtu in Q4FY16. Our picks: OMCs, GAIL, Reliance Industries, PLNG and GSPL.

We expect our Pharma universe to exhibit revenue growth of c17% YoY and c7%QoQ aided by exclusive launches by Sun Pharma and Lupin, and consolidation of acquired entities by Lupin and Cipla. For the base business (ex one offs), we expect strong operating performance from Aurobindo and Torrent. Within the base business we expect Aurobindo (114 bps QoQ), Cipla (286bps QoQ) to lead the margin expansion. While we expect steady domestic revenue growth for our coverage companies, increased regulatory headwinds in the US continue to plague the sector. Discontinuation of sales to Venezuela coupled with devaluation of the Bolivar currency may adversely impact few companies (DRL, Glenmark).

Expect mix set of numbers for the companies under coverage with companies like Power grid and GIPCL outperforming while one relying of merchant rates like JSW Energy likely to face the heat. While the sector continues to face constraints in terms of 1) fuel availability & pricing, 2) environment clearances and 3) SEB’s financials, recent initiatives taken by the government like UDAY, auctioning of gas etc. may unblock the policy logjam. The coverage under the power segment is under review and will be reinitiated. Hence, the forecasted numbers in the previous reports may undergo significant changes.

 Following a strong festive season and uptick in demand in Q3FY16, we expect demand to sustain in Q4FY16 led by end of sale season (EOSS). Despite Republic day sales by ecommerce players, discounting has become more rational and now their focus is also on better service, genuine and quality products. However, overall discretionary spends remain under pressure, especially categories like watches, jewellery and accessories. The new FDI laws to limit the amount of discounting provided by online players and level the playing field for offline retailers, is a positive development for brick & mortar retailers. We maintain positive outlook on the sector led by the rising urban consumption and likely revival in economic indicators.

Telecom service providers are likely to see some respite from steep decline in voice RPM seen over the last few quarters. Data volumes and revenue growth is expected to further moderate with rising base and benefit of 4G launches would starts reflecting in ensuing quarters. Accelerated network roll out for expanding 3G coverage and launch of 4G services will increase network opex and SG&A cost, restricting EBITDA growth. Further, higher depreciation and interest charge pertaining to spectrum accounting to impact profitability as well. Higher spends to restrict EBITDA growth for service providers to 2.7% qoq. EBITDA margin is estimated at 34.6%, decline of 40bps qoq.

PAT decline is estimated at 5% qoq (we are not estimating any exceptional gains/loss, similar to previous quarters) for Bharti and 40% qoq decline for Idea. Higher interest charge and depreciation pertaining to spectrum purchases to impact profitability.

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