After recording the highest-ever monthly equity flows of Rs 20,362 crores, mutual fund industry as a whole will find it difficult to find stocks at reasonable valuations.
After recording the highest-ever monthly equity flows of Rs 20,362 crores, mutual fund industry as a whole will find it difficult to find stocks at reasonable valuations as there has been a massive drop in overall profitability of the companies says Nilesh Shah of Kotak Mutual Fund. In conversation with CNBC TV18, Nilesh Shah explained his hypothesis on profitability. “In 2008 profit as a percent of GDP was 7.2%, today it is roughly around 3%. So, there is a massive drop in profitability.”
Pointing out to the reason for such a drastic drop, he said, “Partly it is driven by cleanup in PSU banks, competition in telecom sector, and slowdown in IT companies, slowdown in generic export companies, and partly it is driven by contraction in margin across various sectors.” Examining the reasons for the contraction of margins he said, “One of the reasons this has happened is because there has been a drop in capacity utilisation. Companies expanded their projects through efficiency and brownfield expansions. But the demand hasn’t kept pace and capacity utilisation is dropped.”
Looking into the industry cost patterns, Nilesh Shah noted,” Salaries and wages as a percentage of total sales has moved from 11% to 14%.” Decoding what it means for the future Nilesh Shah observed, “Either the entrepreneurs are sure of the demand recovery going forward and hence are willing to pay higher salaries today. So, they are taking a hit on short term profitability for long term business prospects. Or, if needed they will retrench employees, bring down salaries cost and restore profitability.” The expert believes that in the next 18 months if there is an improvement in capacity utilisation, the profitability might recover, thereby restoring valuations.
Further, he believes that the cash balances with the funds are likely to increase marginally due to this massive inflow. In the current financial year, equity funds have seen net inflows of over Rs 61,421 crore, suggests the data from Amfi. For want of opportunities to deploy excess cash, industry players such as BlackRock Inc’s Indian unit in February shut its DSP BlackRock Micro Cap Fund to new investors.