As far as results seasons go, the three months to December 2010 left much to be desired as higher raw material costs dented margins, with most companies unable to pass on the rising costs.
The pressure on operating profit margins was seen across the board. As Morgan Stanley observed in a recent report, earnings growth was the slowest in five quarters. This was the first time in seven quarters that broad markets lagged the narrow market, for the companies under its coverage, at 26% year -on-year and 29% year-on-year, respectively. Ex-energy, earnings growth was at 14% for both categories.
In the December 2010 quarter, the average increase in the raw materials bill of 21% year-on-year and interest costs of 26% year-on-year hurt profits, with both operating and net profit margins of companies compressing.
The fall in margins has been steeper for the larger lot. This trend is likely to continue given that commodity prices, especially those of crude oil and copper, continue to rise even after a spike of 12% and 36%, respectively so far in 2011.
In the three months to December 2010, prices of these commodities had jumped by 12% and 16%, respectively.
As Nandan Chakraborty, MD-institutional research at Enam Securities, points out, the sectors that have been worst hit are engineering and FMCG, because of higher input costs. ?Earnings for the broad market could moderate going ahead unless the capex cycle picks up,? observes Chakraborty.
Companies have also paid out more as interest, after banks have hiked their lending rates. Companies could end up paying more with rates unlikely to come down in a hurry.
The higher cost of money hurts smaller companies more than big ones and if they?re forced to hold onto inventories even for a few days more than necessary, their margins get squeezed. Says Piyush Garg, CIO, ICICI Securities, ?In a scenario where the liquidity is tight, it may be difficult for smaller firms to borrow at affordable rates.?
IIFL observes that this was the third consecutive quarter of sluggish profit growth. ?Headline earnings growth for our universe was a strong 22% year-on-year versus revenue growth of 20%. However, excluding commodity sectors, earnings growth was only 14% year-on-year. In the nine months to December 2010 profits for our universe have grown 18% and 13% ex-commodities.?