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Affinity for earnings
4QFY2011 results ex-SBI, ONGC were largely in-line
The 4QFY2011 Sensex profits came in below our estimates, on account of negative
surprises in Sensex heavyweights such as SBI and ONGC, due to cleaning up of
balance sheet in case of the former and higher subsidy burden in case of the latter.
Adjusting for these numbers, Sensex numbers were as per our expectations with the
top line growing at a healthy rate of 22.4% yoy and adjusted bottom line increasing
by 10.2% yoy.
The positive for the quarter came in from the metals pack, which benefited from
high global metal prices. These companies reported high realisations; this coupled
with stable volumes translated into results that were above expectations. On the
other hand, there were companies such as RIL and Infosys, which posted a decline
in operating performance. RIL reported lower-than-expected KG basin gas
production as well as lower refining margins, while Infosys was affected by constraints
on clients' budget during the quarter. Notably, the Sensex OPM declined as per our
expectations, as companies were hit by inflationary pressures. As a result, despite
strong top-line growth, the bottom line did not grow at the same rate
Inflation overhang to subside from 2HFY12
However, having assimilated 4QFY2011 numbers, it is time that the markets should
once again shift their focus on the long-term corporate earnings visibility. On the
macro front, inflation is the key issue that is marring the horizon. However, as far as
inflation goes, in our view, the RBI and the government have taken most of the
policy actions that they could to contain demand-side inflation, with the RBI increasing
repo and reverse repo rates as well as savings rate by 50bp in the recent monetary
policy. We expect policy rates to peak at lower levels in this cycle compared to the
previous one, as inadequate forex inflows are likely to contribute to weaker demand
than in the previous cycle.
The government, on its part, has exercised discipline on the fiscal
side by increasing its tax revenue in FY2012E, which would offset
last year's receipts from 3G auctions. On the expenditure side
also, the government has avoided any populist measures, leading
to a decline in total non-plan expenditure and a relatively small
increase in plan expenditure, managing to bring down the
targeted fiscal deficit to 4.6% in FY2012. Even though on some
counts, such as subsidy estimates, targets are likely to be overshot,
but any overshooting of the fiscal deficit is likely to be contained,
and even with the spillover of subsidies, we estimate the actual
fiscal deficit would come in at 4.8-4.9% of GDP
Moreover, supply-side inflation from global commodity prices,
as well as prices of coal and food items, is already captured in
headline inflation numbers. Also, markets in our view have
already built in expectations of a rise in petrol and diesel prices
as well as a further 50bp increase in key policy rates. We believe
the high rate of inflation will start coming down in the second
half of the current fiscal year, as policy measures start taking
effect. This would also help reverse the pressure on corporate
margins, which have taken a toll on Sensex profitability in the
recent past as well as set the stage for some moderation in interest
burden that has gone up in the past few months.
Sensex earnings to grow at a healthy pace
With easing margin pressures, we expect Sensex profit growth to
increase strongly at an 18.2% CAGR over FY2011-13E. In
FY2011, Sensex EPS grew by 24.9%, mainly as a large chunk of
this growth came from Tata Motors and Tata Steel, which have
witnessed a significant turnaround in fortunes in this year.
Adjusting for extraordinary growth in these companies, Sensex
EPS has grown by modest 9.1%, indicative of the headwinds for
earnings that the corporate sector has faced during the year.
However, over FY2011-13E, these headwinds are expected to
ease, resulting in stronger Sensex earnings growth.
BFSI large-caps have good earnings visibility
Going ahead, the increase in Sensex profits is expected to be
driven by sectors such as BFSI, metals, pharma and construction.
We estimate the BFSI sector to be the most significant contributor
to Sensex earnings growth, with a 32.2% share of the overall
increase in Sensex profits over FY2011-13E. Index BFSI stocks
are expected to deliver a 29.6% CAGR in earnings over the
same period, aided by moderate credit growth, better margin
performance and lower provisioning burden compared to
smaller banks going ahead. Accordingly, we are overweight
on the sector.
Metals space is also likely to outperform
The metals sector, which is the other sector that we expect would
have a major positive impact on Sensex earnings, is estimated
to grow at a 18.1% CAGR over the next two years, contributing
~14.1% of overall Sensex profits growth. Metal companies are
aggressively expanding capacities and their growth would be
driven by volume. A case in point is Tata Steel, which is adding
2.9mn tonnes (MT) of capacity by FY2012E, which is ~44% of
its Indian capacity and ~10% of its overall capacity. Similarly,
Hindalco is planning to grow its capacity by around three folds
over the next 2-4 years. Given the positive outlook for the sector,
we have an overweight stance on it.
IT, pharma and construction earnings outlook also healthy
Besides, sectors such as IT, pharma and construction are also
expected to post strong numbers over the next two years, further
boosting Sensex EPS growth. Growth in the IT sector would be
volume-driven, with strengthening of the deal pipeline as
contracts come up for renewals. However, IT companies are
trading at rich valuations, especially compared to the Sensex,
prompting us to be underweight on the sector. Construction
companies are expected to report high growth in profits in
FY2013, as we expect industrial capex to bounce back, structural
issues to be resolved in the next six months and interest rates to
peak out in 1HFY2012. Pharma companies, including Sensex
member Cipla, would benefit from healthy exports as well as
domestic growth. Given the favourable prospects for the
construction and pharma sectors, we maintain our overweight
stand on both the sectors.
Oil & Gas and Auto to be laggards
Sectors such as auto and oil and gas are expected to weigh
down index earnings growth. These sectors are estimated to grow
at CAGRs of 8.6% and 13.2%, respectively, over FY2011-13E. A
moderation of volume growth owing to higher cost of financing
and high fuel cost coupled with a high base effect is expected to
result in auto companies contributing only 6.5% of Sensex EPS
growth. On the other hand, growth in the oil and gas sector is
expected to be impacted by higher subsidy burden on ONGC
and expectations of flat crude oil prices in FY2013E. Given the
challenging times for both these sectors that lie ahead, we are
underweight on them.
Overall outlook: earnings visibility to drive Sensex above
its current range
Overall, we are bullish on sectors that have high earnings visibility
and are reasonably valued, such as BFSI, metals, construction
and pharma. On the other hand, there are sectors that lack
clear visibility on earnings growth, such as auto and oil and gas,
or are trading at relatively high valuations, such as the IT sector,
on which we are underweight. In the mid-cap space, there are a
number of counters that are trading at a deep discount to largecap
companies. As earnings for large-cap companies increase,
it is only a matter of time before these mid-cap companies also
start witnessing strong growth and once the market improves
this space is likely to be strong outperformer. Having said that,
investors have to be selective in their stock picking. We prefer
mid-caps that are trading at beaten-down valuations, such as
tyres, or where a significant opportunity is unfolding, as in mining,
or where the business model is strong, like in companies with
branded productsIn view of the easing headwinds to growth, especially in FY2013,
we estimate Sensex earnings to post an 18.2% CAGR over
FY2011-13E, which is a reasonably healthy rate of growth. In
our view, a target multiple of 15x is justified on FY2013E EPS.
Besides, the Sensex yield is 153bp below bond yield, which is
similar to the long-term average discount of 143bp. A multiple
of 15x FY2013E EPS yields a Sensex target of 21,033, giving a
reasonable ~14% upside from current levels. Hence, we remain
positive on the Indian markets.
India Equity Research Reports, IPO and Stock News
Visit http://indiaer.blogspot.com/ for complete details �� ��
Affinity for earnings
4QFY2011 results ex-SBI, ONGC were largely in-line
The 4QFY2011 Sensex profits came in below our estimates, on account of negative
surprises in Sensex heavyweights such as SBI and ONGC, due to cleaning up of
balance sheet in case of the former and higher subsidy burden in case of the latter.
Adjusting for these numbers, Sensex numbers were as per our expectations with the
top line growing at a healthy rate of 22.4% yoy and adjusted bottom line increasing
by 10.2% yoy.
The positive for the quarter came in from the metals pack, which benefited from
high global metal prices. These companies reported high realisations; this coupled
with stable volumes translated into results that were above expectations. On the
other hand, there were companies such as RIL and Infosys, which posted a decline
in operating performance. RIL reported lower-than-expected KG basin gas
production as well as lower refining margins, while Infosys was affected by constraints
on clients' budget during the quarter. Notably, the Sensex OPM declined as per our
expectations, as companies were hit by inflationary pressures. As a result, despite
strong top-line growth, the bottom line did not grow at the same rate
Inflation overhang to subside from 2HFY12
However, having assimilated 4QFY2011 numbers, it is time that the markets should
once again shift their focus on the long-term corporate earnings visibility. On the
macro front, inflation is the key issue that is marring the horizon. However, as far as
inflation goes, in our view, the RBI and the government have taken most of the
policy actions that they could to contain demand-side inflation, with the RBI increasing
repo and reverse repo rates as well as savings rate by 50bp in the recent monetary
policy. We expect policy rates to peak at lower levels in this cycle compared to the
previous one, as inadequate forex inflows are likely to contribute to weaker demand
than in the previous cycle.
The government, on its part, has exercised discipline on the fiscal
side by increasing its tax revenue in FY2012E, which would offset
last year's receipts from 3G auctions. On the expenditure side
also, the government has avoided any populist measures, leading
to a decline in total non-plan expenditure and a relatively small
increase in plan expenditure, managing to bring down the
targeted fiscal deficit to 4.6% in FY2012. Even though on some
counts, such as subsidy estimates, targets are likely to be overshot,
but any overshooting of the fiscal deficit is likely to be contained,
and even with the spillover of subsidies, we estimate the actual
fiscal deficit would come in at 4.8-4.9% of GDP
Moreover, supply-side inflation from global commodity prices,
as well as prices of coal and food items, is already captured in
headline inflation numbers. Also, markets in our view have
already built in expectations of a rise in petrol and diesel prices
as well as a further 50bp increase in key policy rates. We believe
the high rate of inflation will start coming down in the second
half of the current fiscal year, as policy measures start taking
effect. This would also help reverse the pressure on corporate
margins, which have taken a toll on Sensex profitability in the
recent past as well as set the stage for some moderation in interest
burden that has gone up in the past few months.
Sensex earnings to grow at a healthy pace
With easing margin pressures, we expect Sensex profit growth to
increase strongly at an 18.2% CAGR over FY2011-13E. In
FY2011, Sensex EPS grew by 24.9%, mainly as a large chunk of
this growth came from Tata Motors and Tata Steel, which have
witnessed a significant turnaround in fortunes in this year.
Adjusting for extraordinary growth in these companies, Sensex
EPS has grown by modest 9.1%, indicative of the headwinds for
earnings that the corporate sector has faced during the year.
However, over FY2011-13E, these headwinds are expected to
ease, resulting in stronger Sensex earnings growth.
BFSI large-caps have good earnings visibility
Going ahead, the increase in Sensex profits is expected to be
driven by sectors such as BFSI, metals, pharma and construction.
We estimate the BFSI sector to be the most significant contributor
to Sensex earnings growth, with a 32.2% share of the overall
increase in Sensex profits over FY2011-13E. Index BFSI stocks
are expected to deliver a 29.6% CAGR in earnings over the
same period, aided by moderate credit growth, better margin
performance and lower provisioning burden compared to
smaller banks going ahead. Accordingly, we are overweight
on the sector.
Metals space is also likely to outperform
The metals sector, which is the other sector that we expect would
have a major positive impact on Sensex earnings, is estimated
to grow at a 18.1% CAGR over the next two years, contributing
~14.1% of overall Sensex profits growth. Metal companies are
aggressively expanding capacities and their growth would be
driven by volume. A case in point is Tata Steel, which is adding
2.9mn tonnes (MT) of capacity by FY2012E, which is ~44% of
its Indian capacity and ~10% of its overall capacity. Similarly,
Hindalco is planning to grow its capacity by around three folds
over the next 2-4 years. Given the positive outlook for the sector,
we have an overweight stance on it.
IT, pharma and construction earnings outlook also healthy
Besides, sectors such as IT, pharma and construction are also
expected to post strong numbers over the next two years, further
boosting Sensex EPS growth. Growth in the IT sector would be
volume-driven, with strengthening of the deal pipeline as
contracts come up for renewals. However, IT companies are
trading at rich valuations, especially compared to the Sensex,
prompting us to be underweight on the sector. Construction
companies are expected to report high growth in profits in
FY2013, as we expect industrial capex to bounce back, structural
issues to be resolved in the next six months and interest rates to
peak out in 1HFY2012. Pharma companies, including Sensex
member Cipla, would benefit from healthy exports as well as
domestic growth. Given the favourable prospects for the
construction and pharma sectors, we maintain our overweight
stand on both the sectors.
Oil & Gas and Auto to be laggards
Sectors such as auto and oil and gas are expected to weigh
down index earnings growth. These sectors are estimated to grow
at CAGRs of 8.6% and 13.2%, respectively, over FY2011-13E. A
moderation of volume growth owing to higher cost of financing
and high fuel cost coupled with a high base effect is expected to
result in auto companies contributing only 6.5% of Sensex EPS
growth. On the other hand, growth in the oil and gas sector is
expected to be impacted by higher subsidy burden on ONGC
and expectations of flat crude oil prices in FY2013E. Given the
challenging times for both these sectors that lie ahead, we are
underweight on them.
Overall outlook: earnings visibility to drive Sensex above
its current range
Overall, we are bullish on sectors that have high earnings visibility
and are reasonably valued, such as BFSI, metals, construction
and pharma. On the other hand, there are sectors that lack
clear visibility on earnings growth, such as auto and oil and gas,
or are trading at relatively high valuations, such as the IT sector,
on which we are underweight. In the mid-cap space, there are a
number of counters that are trading at a deep discount to largecap
companies. As earnings for large-cap companies increase,
it is only a matter of time before these mid-cap companies also
start witnessing strong growth and once the market improves
this space is likely to be strong outperformer. Having said that,
investors have to be selective in their stock picking. We prefer
mid-caps that are trading at beaten-down valuations, such as
tyres, or where a significant opportunity is unfolding, as in mining,
or where the business model is strong, like in companies with
branded productsIn view of the easing headwinds to growth, especially in FY2013,
we estimate Sensex earnings to post an 18.2% CAGR over
FY2011-13E, which is a reasonably healthy rate of growth. In
our view, a target multiple of 15x is justified on FY2013E EPS.
Besides, the Sensex yield is 153bp below bond yield, which is
similar to the long-term average discount of 143bp. A multiple
of 15x FY2013E EPS yields a Sensex target of 21,033, giving a
reasonable ~14% upside from current levels. Hence, we remain
positive on the Indian markets.
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