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Q3FY11 Result Preview - twilight saga: Earnings expected to moderate in Q3FY11
n Growth trajectory moderates
Y-o-Y, Q3FY11E earnings growth for the Sensex is expected to come in at 18.5%, which is below the 24.2% Y-o-Y growth rate clocked in Q2FY11. For companies in our coverage universe (ex OMCs), earnings are expected to grow by 20.2% Y-o-Y. Metals & mining and consumer facing sectors such as media, retail and hotels & hospitality are expected to post robust earnings growth. Earnings are most likely to be under pressure in cement (e -28.8%) and telecom (e -32.1%). A large tailwind to the earnings growth comes from oil & gas sector, wherein earnings growth for the sector (ex OMCs) is expected to be strong.
n Margins paint a mixed picture
Although overall EBITDA margins (ex BFSI) are expected to expand Y-o-Y by 73 bps for the Sensex and 74 bps for the coverage universe (ex OMCs), the inter-sectoral data remains quite skewed. In fact, a major part of the margin improvement may be driven by oil & gas (ex OMCs), wherein margins are set to expand by as much as 388 bps on a Y-o-Y basis. Apart from oil & gas (ex OMCs), only a few sectors such as power, real estate, hotels & hospitality and media are expected to show margin expansion. Most other sectors, such as autos, cement, construction and telecom, however, could report a contraction in margins on a Y-o-Y basis.
n Commodity driven sectors to post healthy growth rates
Commodity sectors such as oil & gas and metals are expected to post healthy top-line and bottom-line growth. We believe that the outlook for these sectors also remains healthy given the demand pickup on the back of improving traction in global economy.
Metals and mining sector is expected to clock ~15.0% Y-o-Y earnings growth and 12.0% Y-o-Y revenue growth. Growth is expected to be strong both on the ferrous as well as non-ferrous side on the back of firming prices (long products prices up by INR 1000/t in December and aluminum up by 17% on Y-o-Y basis). Oil & gas sector (ex OMCs) is expected to post a robust Y-o-Y growth rate in earnings driven by strong results from Cairn India and GAIL, among others. For Reliance, we expect GRMs to expand to USD 9.25/bbl on back of improvement in diesel and gasoline cracks.
n Headwinds emerge, FY11E and FY12E earnings downgraded
We are downgrading our earnings estimate for the Sensex from INR 1,070 to INR 1,048 and from INR 1,282 to INR 1,271 for FY11E and FY12E respectively. This implies an earnings growth for ~21% for FY12E, which we believe could come under pressure. As we head into FY12E, headwinds in form of higher raw material costs, increasing wages and rising borrowing costs could intensify thereby increasing the risk of downgrades to estimates.
Results Preview
�� Revenue growth healthy across sectors
Revenue growth is expected to be healthy Y-o-Y for Sensex (16.8%) as well as
Edelweiss coverage companies (19.4%). For the latter, growth is expected to be
strong in tech, pharma, oil & gas, power, retail, construction, and hospitality, among
others. While a strong demand environment is expected to drive growth in IT topline,
within pharma sector we expect the strong growth momentum to continue on the back of
robust growth in US generics from launch of key products during the quarter.
Growth rates for consumption-driven sectors are expected to be strong. Media, for
example, is expected to post a strong ~17% growth as revenue growth for broadcasters
and print players is expected to be strong in Q3FY11 due to festive season related ad
spends and a lower base of Q3 last year. Retail is also expected to register a high growth
rate of ~31% on back of strong sales in Q3FY11 as the festive season in FY11 was in Q3
versus Q2 in FY10. Premiumisation, space addition and higher same store sales were
also major contributing factors.
Sensex revenues are likely to rise 16.8% Y-o-Y in Q3FY11 with contribution across
companies.
�� EBITDA margins paint a mixed picture
Although EBITDA margins are set to expand Y-o-Y and Q-o-Q both for coverage companies
(ex OMCs) as well as Sensex companies, inter-sectoral trends paint a mixed picture. Only a
few sectors such as oil & gas (ex-OMCs), power, hospitality, and media are expected to
post margin expansions. Margins in the hotels & hospitality sector are expected to improve
as occupancy rates rise on the back of healthy ORs of 75-80% and 10-15% Y-o-Y rise in
ARRs.
Y-o-Y, margin headwinds, however, continue to mar most sectors. For example, with in
auto, margin contraction is expected on the back of rising commodity costs. In the
construction space, margins are expected to contract because of rising input costs while in
IT higher wage costs and currency appreciation are expected to drag down margins
~170bps. Telecom margins are set to decline on back of higher network expansion costs
and rapidly falling tariffs. Cement companies’ EBITDA margins are expected to slip due to
increased costs and lower realisations.
Margins of Sensex companies are expected to expand 73 bps Y-o-Y and 25 bps Q-o-Q.
Some stocks which are expected to post margin expansion on a Y-o-Y basis include Tata
Power and Reliance Industries.
Y-o-Y core earnings growth is expected to come in at 18.5% for the Sensex and 20.2%
(ex OMCs) for our coverage universe. This is in comparison to 24.2% and 21.4%,
respectively for Q2FY11. Growth is expected to be robust for metals & mining and
consumer-facing sectors such as media, retail, and hotels & hospitality. Oil & gas (ex-
OMCs) is also expected to post robust earnings growth rate. Cement and telecom are
expected to register Y-o-Y declines. For Sensex, core earnings growth is expected at
18.5% Y-o-Y.
�� Commodity driven sectors to post healthy growth rates
Commodity-driven sectors such as metals and oil & gas are expected to post robust
bottom lines. Earnings with in the metals & mining sector could expand by as much as
18.9% while those of oil & gas (ex-OMCs) sector could catapult by as much as 60%.
Metals & mining: Although production volumes are likely to remain flat for most
ferrous as well as non-ferrous companies, margins could benefit Q-o-Q as costs are likely
to be stable or lower and steel prices have increased INR 700/t on an average Q-o-Q.
Global HRC prices also remained firm during the quarter and towards the end rose
between USD 25/t and 125/t across regions while coking coal contract prices for Q3FY11
dipped ~7% to USD 210/t. The Q-o-Q jump in copper and aluminum prices was 18.8%
and 12% respectively.
Oil & Gas: Ex-OMCs, the oil & gas sector’s earnings are expecetd to expand ~60%. For
RIL, we expect the GRMs to imrpove to USD 9.25/bbl on the back of improvement in
diesel and gasoline cracks. Petrochemical margins are also expected to benefit from
expansion in polyester intermediate margins. Other refiners are also likely to benefit
from an uptick in refining margins. Strong growth in petrochemical and LPG transmission
segments is expecetd to benefit GAIL while Cairn is also set to deliver a strong set of
results because of scale up in Mangala crude production.
�� Headwinds emerge, FY11E and FY12E earnings downgraded
We are downgrading our earnings estimate for the Sensex from INR 1,070 to INR 1,048
and from INR 1,282 to INR 1,271 for FY11E and FY12E respectively. This implies an
earnings growth for ~21% for FY12E, which we believe could come under pressure. As we
head into FY12E, headwinds in form of higher raw material costs, increasing wages and
rising borrowing costs could intensify.
We believe that increasing headwinds to earnings is reflected in earnings revisions cycle
for the Sensex as well. There have been no significant revisions to FY11E earnings since
April 2011 and earnings upgrades have virtually hit a roadblock. FY12E earnings
estimates too have remained largely unchanged.
Market Review
Overall, Q3FY11 was a mixed quarter for equities across the globe. DM equities outperformed
EM equities. Some markets such as Russia and Mexico were up in excess of 15% while for
India and Brazil, the performance was more subdued. In fact, contrary to Q2FY11, the
performance of Indian markets was much softer.
�� FII and DII net flows remain positive
For CY10, net FII inflows were a record USD 29.3 bn making India one of the highest
recipients of FII flows in EM Asia for CY10. FIIs were net buyers of ~USD 10.1 bn during
Q3FY11 vis-à-vis net buyers of USD 12.6 bn in Q2FY11.
DIIs have been net sellers of USD 2.0 bn in Q3FY11 against net sellers of USD 5.5 bn in
Q2FY11.
Overall, institutional investors continued to remain net buyers of USD 7.8 bn in Q3FY11
vis-à-vis USD 7.4 bn in Q2FY11.
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