Corporate performance shows a clear trend of demand destruction

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Last week the Reserve Bank of India (RBI) released the data on the performance of non-financial private corporate business sector during the second quarter of 2015-16 (July- September 2015). This data makes for a very interesting reading.

The data aggregates the financial results of 2,711 listed nongovernment non-financial companies during the period July to September 2015. Take a look at the following table which summarises the performance of the companies. Also, please keep in mind that “to compute the growth rates in any quarter, a common set of companies for the current and previous period is considered.” This has had to be done because the number of companies across quarters does not match. So while 2863 companies have been taken into account for July to September 2014 results. Only 2,711 companies have been considered for the period July to September 2015.

Indicator July to September 2014 April to June 2015 July to September 2015
Amount in Rs billion Year on year growth in Per cent Amount in Rs billion Year on year growth in Per cent Amount in Rs billion Year on year growth in Per cent
No. of Companies 2,863 2,723 2,711
Sales 8,107 4.2 7,639 -2.4 7,517 -4.6
Value of Production 8,148 4.2 7,694 -2.4 7,479 -5.6
Expenditure, of which 7,076 3.6 6,534 -3.5 6,330 -7.8
  Raw Material 3,760 3.4 3,199 -11.8 2,994 -18.7
  Staff Cost 649 7.7 681 10.2 689 9.0
  Power & fuel 297 3.7 284 -3.0 276 -4.2
Operating Profits (EBITDA) 1,073 8.3 1,160 3.7 1,149 8.9
Other Income 275 26.1 215 1.8 250 -5.8
Depreciation 297 3.5 304 3.6 301 4.0
Gross Profits (EBIT) 1,051 14.1 1,070 3.4 1,099 6.5
Interest 326 -0.6 342 9.5 333 8.4
EBT (before NOP) 725 22.1 729 0.7 766 5.6
Tax Provision 204 29.0 211 6.0 219 9.6
Net Profits 537 25.6 514 -9.5 577 9.9

The table clearly shows that the sales of the companies during the period July to September 2015 fell by 4.6%, in comparison to the same period last year. Despite falling sales the net profits went up by 9.9%. There are a couple of important points that need to be made here.

Falling sales show that businesses lack pricing power. This is because the consumer as well as industrial demand for products hasn’t been going up at the same pace as it was in the past. Nevertheless, despite falling sales, the net profit went up by close to 10%. What is happening here? The raw material costs of businesses fell by 18.7% during the three month period in comparison to a year earlier.

As CARE Ratings pointed out in a recent research note: “The negative growth in net sales is largely attributed to weakness in demand and pricing power. Despite negative producer’s inflation as measured by the wholesale price index signalling also lower raw material costs, growth in profits do not appear to be satisfactory.” 

The raw material cost during the period stood at a total of Rs 2,99,400 crore. This was Rs 76,600 crore lower. Profit on the other hand jumped by around Rs 3,900 crore during the quarter. Hence, the entire jump in profits has come from lower raw material costs.

Raw material costs have fallen largely due to falling global commodity prices. Power and fuel costs have also eased by Rs 2,100 crore. This has helped businesses bring down total expenditure by Rs 74,500 crore during the quarter and in turn, help report greater profits.

Now let’s dig a little deeper and look at how manufacturing and services companies have done.

Indicator Manufacturing
July to September 2014 April to June 2015 July to September 2015
Amount in Rs billion Year on year growth
in Per cent
Amount in Rs billion Year on year growth
in Per cent
Amount in Rs billion Year on year growth
in Per cent
No. of companies 1,910 1,828 1,828
Sales 5,896 3.9 5,414 -4.8 5,275 -7.8
Expenditure, of which 5,270 3.5 4,732 -6.2 4,534 -11.3
  Raw Material 3,374 3.0 2,882 -13.0 2,697 -19.1
  Staff Cost 293 11.3 311 10.8 309 9.4
  Power & fuel 168 10.5 164 2.8 158 -2.5
Operating Profits (EBITDA) 649 7.9 717 4.0 699 11.0
Other Income 127 20.1 119 -3.9 140 12.5
Depreciation 184 3.0 187 4.1 181 2.4
Gross Profits (EBIT) 592 12.0 649 2.4 658 13.9
Interest 188 3.2 196 9.4 182 4.2
EBT (before NOP) 404 16.7 453 -0.4 476 18.1
Tax Provision 131 30.1 135 6.9 137 6.2
Net Profits 281 21.6 310 -14.3 333 19.8

The manufacturing sector includes companies operating in Iron & Steel, Cement & Cement products, Machinery & Machine Tools, Motor Vehicles, Rubber, Paper, Food products etc. The sales of these companies have fallen by 7.8% during the three month period between July and September 2015. This shows a slowdown in industrial as well as consumer demand.

The profits on the other hand, tell a completely different story jumping by 19.8%. This was primarily on account of raw material costs falling by 19.1%, during the period. It needs to be mentioned here that for profits to continue to grow raw material costs will have to continue to fall, so that expenditure can be controlled or brought down.

For raw material prices to continue to fall, commodity prices need to continue to fall. Commodity prices have already fallen quite a lot. Hence, for profits to grow in the next financial year sales of companies need to start growing as well.

Let’s take a look at the performance of services sector which includes companies operating in Real Estate, Wholesale & Retail Trade, Hotel & Restaurants, Transport, Storage and Communication industries.

Indicator Services
July to September 2014 April to June 2015 July to September 2015
Amount in Rs billion Year on year growth
in Per cent
Amount in Rs billion Year on year growth
in Per cent
Amount in Rs billion Year on year growth
in Per cent
No. of companies 465 454 450
Sales 701 8.8 816 6.8 799 7.2
Expenditure, of which 583 6.4 655 4.8 646 3.3
  Raw Material 49 12.9 47 6.8 44 -13.6
  Staff Cost 50 11.9 55 8.0 56 8.4
  Power & fuel 40 3.4 31 -21.7 30 -25.9
Operating Profits (EBITDA) 129 28.3 164 16.4 157 19.4
Other Income 64 61.7 24 2.9 43 -33.3
Depreciation 60 6.4 68 6.6 69 11.2
Gross Profits (EBIT) 133 59.0 120 19.5 131 -2.2
Interest 45 -8.0 50 6.0 56 20.8
EBT (before NOP) 88 @* 70 31.5 75 -14.3
Tax Provision 17 -9.3 23 16.7 23 35.4
Net Profits 71 @* 48 6.6 47 -33.9

* The ratio / growth rate for which denominator is negative or negligible
is not calculated, and is indicated as ‘$’ and ‘@’ respectively.

The sales of companies operating in the services sector have risen by around 7.2% but net profit has fallen by 33.9%. This despite the fact that raw material cost as well as cost of power and fuel has crashed. Nevertheless, this did not prevent overall expenditure from going up. This again shows that companies operating in this sector are going through tough times and lack pricing power. The consumption has still not picked up despite the RBI cutting the repo rate by close to 125 basis points since the beginning of this year.

The column originally appeared on The Daily Reckoning on December 7, 2015

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About vivekkaul
Vivek Kaul is a writer who has worked at senior positions with the Daily News and Analysis(DNA) and The Economic Times, in the past. He is the author of the Easy Money trilogy. Easy Money: The Greatest Ponzi Scheme Ever and How It Is Set to Destroy the Global Financial System , the latest book in the trilogy has just been published. The first two books in the trilogy were published in November 2013 and July 2014 respectively. Both the books were bestsellers on Amazon.com and Amazon.in. Currently he works as an economic commentator and writes regular columns for www.firstpost.com. He is also the India editor of The Daily Reckoning newsletter published by www.equitymaster.com. His writing has appeared across various other publications in India. These include The Times of India, Business Standard,Business Today, Business World, The Hindu, The Hindu Business Line, Indian Management, The Asian Age, Deccan Chronicle, Forbes India, Mutual Fund Insight, The Free Press Journal, Quartz.com, DailyO.in, Business World, Huffington Post and Wealth Insight. In the past he has also been a regular columnist for www.rediff.com. He has lectured at IIM Bangalore, IIM Indore, TA PAI Institute of Management and the Alliance University (Bangalore). He has also taught a course titled Indian Economy to the PGPMX batch of IIM Indore. His areas of interest are the intersection between politics and economics, the international financial crisis, personal finance, marketing and branding, and anything to do with cinema and music. He can be reached at vivek.kaul@gmail.com

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