India’s macroeconomic fundamentals have been weak for some time now as reflected in the gross domestic product growth data and high-frequency indicators. Absence of adequate liquidity in the banking system and muted demand from companies have slowed credit flows. Consumption demand has been lacklustre in the absence of adequate job opportunities and because the rise in salaries and wages has not kept pace with inflation in the prices of goods and services. India Inc’s disappointing performance for the December 2024 quarter with many more misses than hits is thus understandable.
The top line growth for a universe of 2,826 companies, banks, and financials grew at an underwhelming 5.4% year-on-year (y-o-y), the slowest in at least four quarters and just about in line with retail inflation. The 13.6% y-o-y rise in operating profits and the net profit growth of 12.5% y-o-y are undoubtedly impressive. However, these are more the result of some serious belt-tightening. For instance, total expenditure was up a little over 3% y-o-y while expenses on employees went up by a shade under 6% y-o-y. The Nifty 50 set of companies has managed only a 4% rise in net profits in the nine months to December 2024, which is way below the compounded 20%-plus during FY20-24.
The question is to what extent costs can be squeezed to eke out profits. Ultimately companies must demonstrate the ability to grow sales and for that we need to see a revival in demand. Manufacturers have been fortunate in that prices of most inputs — notably crude oil — have been relatively benign. Also, there are some signs of a revival in consumption both in urban and rural India, but prices in general could stay elevated due to the weakening rupee and the consequent imported inflation. It doesn’t help that companies are cutting down on employee costs and that their hiring is limited. Unless there is a proportionate and broad-based rise in wages and salaries, real incomes would fall limiting purchasing power of households. To be sure, the income tax break available for individuals will make some difference but a fair bit could go towards repaying loans or even towards savings. Also, the real estate space — a key catalyst for the economy — is holding up well. However, the unfriendly global environment could further hurt exports — a sector that generates employment in big numbers. Again, with no sign of a meaningful pick-up in private capex and government expenditure expected to slow there are no big triggers to boost the economy. Already, the pace of non-food credit growth has moderated to 11-11.5% compared with 15-16% about 18 months ago. Lower interest rates should, however, drive up demand for loans.
Much of this underlying weakness is reflected in the Q3FY25 results and also in the very cautious and circumspect management commentary. According to Motilal Oswal, FY26 earnings estimates for 37 companies in its coverage universe have been upgraded by more than 3%; for the majority 137 companies, earnings estimates have been downgraded by more than 3%. Despite the sharp correction in stock prices, however, valuations remain rich although large-cap stocks are more reasonably valued than mid-caps and small-caps. In fact, while the Nifty is trading at a reasonable 21 times of estimated FY26 earnings, the broader Nifty 500 is trading at a price-earnings multiple of 30x. In this uncertain macro environment, a significant and sustained revival in corporate earnings appears some time away.