Higher input costs may crimp profit margins in September quarter

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Mumbai: Profit margins of Indian companies are likely to narrow in the quarter ended 30 September on higher input costs and rise in competitive intensity in sectors such as telecom and demand slowdown in real estate and other industries.

The implementation of the Goods & Services Tax Act (GST) has also pushed up working capital requirements, resulting in higher interest costs, which in turn would squeeze margins.

The appreciation of the rupee against the dollar would hurt exporters.

“Input costs are rising, which in turn is weighing on margins. In specific to input cost, commodity prices (industrial metals, crude oil, base metals) have risen meaningfully. This rise in input cost along with weak demand is resulting in most companies facing margin pressures,” Edelweiss Securities Ltd said in a 6 September note.

The Bloomberg Commodity Index of 22 raw materials, from oil to metals, rose 2.25% to 84.45 in the September quarter, while Brent crude jumped 20% to $ 57.54 a barrel

Prateek Parekh and Akshay Gattani, analysts at Edelweiss Securities,  expect Ebitda (earnings before interest, tax, depreciation and amortization) margins of the companies that the brokerage tracks, excluding commodities companies, to contract by 172 basis points (bps).

A basis point is one-hundredth of a percentage point.

They estimate Ebitda margin of Nifty companies to narrow by 74 bps from a year earlier.

While margins of Coal India Ltd, Tata Steel Ltd and Hindustan Unilever Ltd are estimated to expand between 250-750 bps, those of Sun Pharmaceutical Industries Ltd, Vedanta Ltd, Bharti Airtel Ltd and Adani Ports & Special Economic Zone Ltd are expected to contract the maximum—somewhere between 300-1800 bps on a year-on-year basis.

With inadequate revenue growth, Indian companies face an Ebitda margin contraction of 100-150 bps to 19% in the second quarter of the current fiscal year, according to Crisil Research. The analysis covers 422 companies.

“Pricing pressure and high input costs will impact margins in telecom, pharmaceuticals and IT services sectors the most,” Crisil Research analysts said in a 5 October note.

GST woes

While volumes may improve for some manufacturers, aided by re-stocking in the second half of the quarter as GST settled in, margins are likely to take a knock.

Compliance cost of both manufacturers and service providers is said to have increased after the new tax regime was implemented on 1 July, leading to a spike in working capital needs. A hit on margins is anticipated to be more pronounced for manufacturers.

Among sectors, construction and consumer durable companies are seen as most vulnerable to working capital disruption due to comparatively higher input tax credit blockage, said Niraj Rathi, associate director—large corporates, India Ratings & Research. According to the ratings company, the highest input tax credit blockage is estimated to be in the consumer durables sector.

In the auto industry, working capital needs of dealers, manufacturers and ancillary companies are slated to increase given the higher tax rates on some of the raw materials in the GST era, he added.

According to Rathi, cost of some of their key raw materials is expected to have increase by 3% to 4%, which would result in higher cost of production and more working capital.

Strong rupee

For export-oriented sectors such as pharma and information technology services, a strong rupee and pressure on pricing would add to the woes.

The Indian rupee has appreciated 1.07% to Rs65.28 against the dollar in the September quarter. For IT companies, while Ebitda margin would remain stable sequentially, it is expected to contract by nearly 200 bps from a year earlier because of unfavourable currency fluctuations, according to Crisil Research. And fewer H1B visas granted would mean more hiring in the US and billing pressure, which will add to margin woes, it said.

For pharmaceutical companies, it foresees an Ebitda margin contraction of 700-800 bps to 18-19%.

In the last one year (Q2FY17-Q2FY18), the Indian currency has appreciated by 2.05%.

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