A rally that's taken India's stock market to record highs faces a reality check as profits at some blue chips have been bolstered by non-operating items such as tax credits and investments, rather than by a revival in demand.
The reliance on "other income" to pad profits in January-March quarter results reported thus far indicates that an anticipated economic recovery has yet to take hold, and that the current rally may be running ahead of fundamentals.
Investors have been betting on improving profits. Earnings at 170 large and midcap Indian companies tracked by Thomson Reuters StarMine currently are expected to surge by an average of 17.8 percent in the fiscal year that started in April, more than double the 7.7 percent a year earlier.
"Markets would increasingly start looking expensive if earnings don't keep pace with it," said Aneesh Srivastava, chief investment officer at IDBI Federal Life Insurance in Mumbai.
Recent share-price gains "would be futile unless operating margins and profits follow," he added.
Both the NSE index, the country's biggest stock exchange, and the BSE, the oldest, have hit record highs since February.
A market rally for the NSE this year has been driven by bets that the opposition Bharatiya Janata Party will handily win elections concluding this month, and by hopes that India's economy is on the mend after hitting a decade-low growth pace.
At this year's peak - on April 23 - the index was up 8.5 percent. As of Friday, it was 6.2 percent ahead in 2014.
Analysts had widely expected core earnings to recover after an analysis of 128 companies in the BSE 200 index showed operating margins fell to 14.7 percent in the October-December quarter, the lowest since December 2008.
But those hopes have taken a knock from recent company results.
NO SIGN OF REVIVED DEMAND
One example is Maruti Suzuki Ltd, India's biggest auto maker. It disappointed investors last month by posting a bigger-than-expected 36 percent decline in quarterly net profit to 8 billion rupees ($132.64 million).
Making it worse, half of the entire net profit came from treasury income including investments such as mutual funds. Meanwhile, its sales in April were down 11.4 percent on a unit basis from a year earlier, hardly a sign of revived demand.
Maruti Suzuki's reliance on non-operating items was much higher than over its previous two fiscal years, when other income accounted for a median of 32 percent of earnings.
Shares of the auto maker - which