The coronavirus pandemic has been tough but rewarding for India Inc. Amid lockdowns, supply-chain issues, raw-material shortages and demand destruction, listed corporates are in a much better shape than they were in March 2020.
More than 400 of NSE500 companies have reported for FY21 and earnings reports show a marked improvement in margins, cash generation and leverage.
RoEs expanded back into double digits after years of decline. How did this happen in a work-from-home year in which GDP contracted by more than 7 percent? An element of both—survivorship bias and expert crises management.
The listed universe represents some of the strongest businesses (survivors) that have used the pandemic to improve distribution, gain market share, improve pricing power, save overheads and reduce the cost of debt.
In a year when nominal GDP declined by 3 percent, revenue for these companies (ex-financials) also declined by 6 percent. What is so special about that? Gross margins have expanded by 5 percentage points year on year which indicates an improvement in pricing power and market share gains.
Qualitative checks indicate that companies have gained at the expense of the unorganised space, something that India has been awaiting since demonetisation, GST implementation and corporate tax cuts.
Combined with some thrifty behaviour on costs, EBITDA grew at an impressive 19 percent during the year. The cherry on top was the lower interest rates that pushed profit before tax growth by 31 percent.
Even more impressive is the cash flow generated and subsequent deleveraging of the average balance sheet. Free cash flow margins were among at their highest levels in recent history led by strong margins, lower investment in working capital and limited capital expenditure growth.
Companies used this cash and more raised through an accommodative stock market to pare debt. Debt by equity now is at its lowest in recent history.
Corporate India shed upwards of Rs 1.8 trillion in debt and conserved more than that in cash over the previous year. Typically, capital intensive sectors such as metals, oil and gas, chemicals and capital goods witnessed deleveraging. This not only bodes well for them but also for banks that have been trapped in a long corporate NPA cycle.
However, it is not all kittens and rainbows. Some recurrent and new problems lie in the 4QFY21 results, masked by a low base of the previous year. Revenue growth in 4QFY21 is a strong 18 percent year over year but a meagre 9 percent over 4QFY19–a single-digit CAGR.
One could argue that the second wave may have impacted growth but that wouldn’t explain the figure fully. Moreover, with raw material prices on the up, unorganised segment slowly coming back and overhead savings maximised, there seems to be little room to control margins bar further deleveraging.
The reality of the anaemic growth is even starker when seen outside the commodity sectors. Most frontline sectors like IT and FMCG are struggling to break double-digit growth.
FY22 and FY23 will be the true test of earnings sustainability. Cash accumulation with corporates may kick-start a long-awaited capital investment cycle.
Boosting reinvestment rates, generation of employment and rising income levels would be the cleanest way for sustainable top-line growth across India Inc. Return of these “animal instincts” will be the key.
Valuations have already, maybe pre-maturely, increased over the last year in expectation. For us as investment managers, amid all the noise, the formulae stays broadly the same. Parsing for companies that can deliver sustainable revenue and earnings growth with strong cash generation but unlike the same time last year, to acquire them at reasonable valuations is is the holy grail.
Source: ACE Equity, Edelweiss AMC
(The author is Fund Manager-Alternative Business, Edelweiss Asset Management Limited)
Disclaimer: The views and investment tips expressed by experts on Moneycontrol.com are their own and not those of the website or its management. Moneycontrol.com advises users to check with certified experts before taking any investment decisions.
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