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India Equity Strategy:Dec10 preview
Low-base effect fading out
Tailwind of low base no longer available
Our analysts expect Sensex earnings growth to moderate to 19% yoy in 3QFY11from 26% yoy in 2QFY11. This implies an almost 22% yoy growth in Sensex’
earnings (29% on free float basis) for 9MFY11. In an inflationary environment, high
raw material prices have started to exert pressure on margins. However, as
aggregate demand remains strong, companies have been able to broadly pass on
raw material price hikes (for e.g. auto and steel companies) to the end consumer -
thus containing EBITDA margin compression in 3QFY11 to a moderate 30 bps yoy.
Auto, Oil & Gas and Metals should lead in Dec-qtr
We expect following sectors to lead the 3QFY11 earnings season: (a) Autos
(+51% yoy) – driven by Tata Motors (strong volume growth and cost
rationalization at JLR leading to a 210bps expansion in margins) and Mahindra &
Mahindra, which continues to benefit from strong tractor demand. However,
Maruti’s PAT should decline 22% yoy, as a combination of higher raw material
prices and rising competitive intensity should drive its EBITDA margin down by
500bps. (b) Oil & Gas (PAT +50% yoy) – mainly as ONGC (PAT +80%yoy) should
benefit from doubling of APM gas prices and lower base - even though its growth
should be muted on qoq basis. RIL’s earnings should grow by 28% yoy, due to an
increase in GRM to US$9.2/bbl and yoy growth in KG-D6 volumes. (c) Metals
(+46%yoy) – as Tata Steel should continue to benefit from a turnaround at its
European operations (although sequentially we expect a PAT decline of 40%),
while Sterlite’s PAT should grow by 36% yoy on the back of higher income
contribution from Hindustan Zinc and its captive power operations.
Key laggards: Cement/Construction, Telecom and Pharma
Following sectors will likely demonstrate negative yoy PAT growth: (a)
Cement/construction (-45%) as Jaiprakash Associates should witness lower
cement realization and contraction in construction margin. (b) Telecom (-41%) –
even as minutes growth remains strong, falling tariffs and consolidation of Zain’s
losses in Bharti’s financials are expected to pull down earnings growth. Despite
the weak yoy trend, our Telecom team notes that sequentially the incumbents
should benefit on account of easing competitive intensity. (c) Pharmaceuticals (-
8% yoy) – due to higher base and commercialization of a new large plant in
1HFY11 driving higher fixed costs for Cipla.
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