The onset of business growth in FY24 was notably favourable, buoyed by a low base in FY23. This upswing was propelled by a sharp decline in global inflation.
A muted Q4 FY24 preview…
Over the past three years, Indian corporate earnings growth has maintained a solid momentum, achieving a CAGR of 24%, for Nifty50. Throughout this period of sustained expansion, there have been fluctuations. Following the challenges posed by the COVID-19 pandemic, businesses exhibited a remarkable recovery, as evidenced by a 40% growth in Profit After Tax (PAT) during FY22. However, this momentum moderated, resulting in subnormal growth of 8% in FY23, with projections indicating a healthy rebound to 23.5% growth in FY24E.
The onset of business growth in FY24 was notably favourable, buoyed by a low base in FY23. This upswing was propelled by a sharp decline in global inflation. Given India’s status as a net importer of crucial industrial raw materials such as Oil & Gas, Metals, Chemical and Electronics, which significantly contribute to the cost of goods, fluctuations in global inflation directly impact corporate margins. As world inflation collapsed, like US CPI, from 9% in June 2022 to 3.4% in Dec 2023, it led to a sea expansion in operation margin.
Simultaneously the substantial growth in profits was underpinned by India’s robust economy, which stood in stark contrast to the slowing growth witnessed elsewhere in the world. This dynamic led to a consistent upward adjustment of GDP growth forecasts. Stepwise, the RBI increased the FY24 GDP growth forecast from 6.4% in Feb 2023 to 7.6% in April 2024. Basically, India benefited a lot from strong external demand. Consequently, India experienced above-average growth in profits, driven by heightened volume growth.
Typically, when production and service costs decrease, sales should also decrease. Therefore, the total sales growth of Nifty50 constituent companies remained at a normal rate of 12% in the last nine months of December FY24. However, the growth in PAT is above average due to the combination effect of high volume and expansion in operating margin, which led to a 25% gain in PAT growth in 9 months FY24.
However, Q4FY24 is different; here, the earnings growth is forecast to reduce from 25% in the last 9 months to 6-8% on a YoY basis. This is because the opposite direction of the same factors- contraction in the expansion of operating margin and slowdown in sales growth- is affecting.
A year ago, crude oil was priced at $84 per barrel; today, it’s surpassed $89, elevating manufacturing and logistic expenses for businesses. However, other raw material costs like steel and coal have decreased due to a global economic slowdown and increased post-COVID supply. For example, cement prices are down by 4% YoY, and Active Pharmaceutical Ingredient (API), the key raw material used to manufacture formulae and medicine, is down in an average of 50%. As a result, the price of selling is reducing, lowering sales growth, and inflation has been sticky for a long time. Like the US CPI, it has stick at a rate of 3 to 3.7% in the last 10months, reaching 3.5% in March 2024.
The market expects the overall sales growth of Nifty5o to contract from 12% in the last 9months to 7% in Q4, though the volume growth is still stable in India, led by external demand and new capex. But the side effect of the slowdown in PAT is visible across the sector. The most noticeable are Metals, IT and Cement. And good performing sectors are domestic consumption, like auto, discretionary, retail, then healthcare and Oil & Gas.
The upcoming IT results this weekend mark the beginning of the Q4 earnings season on a subdued note. Aggregate data on the top 30 leading IT stocks, ranked by market capitalization, is anticipated to experience a sales YoY growth of 2%. Concurrently, it is projected that EBIT will exhibit a growth of 3.5% YoY, attributed largely to strategic margin optimization initiatives. This improvement is expected to enhance the margin by a small 30bps to 19.5%. Average PAT margin is anticipated at 15.3% and EPS is expected to see an advancement of 8.7%.
Our long-term view of the Indian IT sector remains optimistic, and we advise a strategy of accumulation over the next 2-3 quarters. Amidst the prevailing slow business conditions, industry stocks can underperform in the short-term. However, there are optimistic signs, such as new deal acquisitions and demand from AI & Gen AI, cloud, and cybersecurity. Management’s guidance for FY25, along with the conclusion of the rate tightening cycle in the U.S., will be crucial in determining the sector’s growth trajectory in CY25.
First published in Mint