The March quarter of 2018 earnings season exhibited a mixed picture, with a healthy performance from the consumption and commodity oriented sectors marred by a drag from corporate banks and capital goods. Meanwhile, the hopes for a long-awaited earnings recovery in financial year 2019 stay intact.
Key trends of Q4FY18:
1] Good pick-up in consumption, especially rural, with improved commentaries on rural consumption trends from corporates in auto, FMCG and durables.
2] A sharp deterioration in profitability of PSU Banks led by higher slippages and provisions, exacerbated by the recent RBI guidelines on NPA dispensations. The value migration in favor of private banks continues unabated.
3] Lackluster performance of capex-driven sectors.
4] Cyclicals continue leading from the front, with metals and oil & gas outperforming expectations.
5] After a strong out-performance by the IT sector over the past six months, we have downgraded the ratings of four companies in our IT universe this quarter.
Earnings downgrade/upgrade ratio moderated on sequential basis. 78 companies saw earnings cut of more than 3% (against 72 in the third quarter of 2018) and 53 companies saw earnings upgrades of more than 3% (against 39 in the third quarter). The upgrade/downgrade ratio improved from 0.54x to 0.68x.
We expect Nifty EPS to grow 27.4% to Rs 579 in FY19 and 19.6% to Rs 693 in FY20.
Ten focus stocks from Q4FY18 earning season:
State Bank of India's (SBI) watchlist declined to Rs 25,800 crore, which includes stressed SMA1 exposure (Rs 2,990 crore) and entire SMA2 exposure (Rs 2,500 crore). Management guided for 2% credit cost for FY19, and we estimate earnings to recover smartly, further aided by NCLT resolutions.
Healthy PCR, strong capitalisation levels and a strong liability franchise enables SBI to capitalise on any improvement in the macro environment. SBI's subsidiaries – SBI MF, SBI Life Insurance, SBI Cards and SBICap Securities – have been reporting strong growth, and the bank plans to list SBI Cards and SBI MF by FY20, which would drive further value unlocking.
A stable performance in the core business and a successive decline in the size of watchlist/stressed assets provide confidence on the long-awaited turnaround. Near-term loan growth would be driven by the retail business, and the share of high-yielding products like credit cards, personal loans and business banking is likely to inch up.
The retail business matrix remains healthy with a) robust liability franchise and b) retail contribution to fees at more than 70%. With a sharp decline in credit cost and a pick-up in revenue growth, we expect ICICI Bank to report around 1.4 percent return on assets (RoA) over FY20E.
We expect growth in the consumer finance division to show a continued revival, with broad-based growth in the vehicle finance division. IIB has significantly strengthened its liability franchise and is making strong progress in winning government business.
Bharat Financial merger will drive sharp expansion in margins, complement fee income opportunities and help deliver a steady decline in cost-ratios. Capitalisation remains one of the best in the industry at 14.6% tier 1 ratio.
M&M is the best bet on a rural recovery, as it would improve visibility of volumes in the tractor and utility vehicle (UV) businesses. Rural market contributes around 56% of revenues and 72% of S/A PAT. Several levers are available to margin improvement – such as mix (higher tractor and pick-up volumes), lower commercial vehicle (CV) and 2-wheeler business losses, lower marketing spend, and positive operating leverage.
While the tractor business will continue benefiting from rural resurgence, the UV business will benefit from three new launches in FY19. A sharp beat in the fourth quarter performance was driven by an improvement in the auto business mix and EBITDA breakeven in the CV business.
We estimate around 60 basis point margin improvement to 15.4% over FY18-20, driving around 14% core EPS CAGR over FY18-20.
Bajaj Finance is the most diversified NBFC in the country, with a suite of over 30 products across different segments – ranging from consumer finance to commercial finance to rural finance. The company laid its foundation on robust analytical technology, due to which it has been able to identify early warning signals and avoid any asset quality issues.
With increasing geographical penetration and new product introduction, the company has delivered more than 35% AUM growth over the past five years, with RoA/RoE consistently at 3%+/20%+. Asset quality has been best-in-class, with a gross non-performing loans ratio of around 1.5%.
While jewellery sales momentum was healthy despite a high base, what stood out the most about the results was the margin outperformance, the margin guidance and the jewellery segment growth guidance for FY19.
Management's confidence on margin has increased remarkably over the past one year – moving from the talk about sacrificing margins for high growth last year to talking about sacrificing margin growth in the quest for growth toward the middle of FY18 and finally stating that if high growth sustains, margins will improve.
This confidence is coming from high growth (25% guidance for FY19 on top of 25% growth in jewellery in FY18) and a high proportion of same-store-sales growth (SSSG) fuelling growth.
The key highlights of the results were (1) volume growth of 11% (despite a positive base of 4%) at a time when even smaller peers were struggling to grow in high-single-digits despite a weak base, (2) every key segment reporting double-digit sales growth, indicating remarkably broad-based growth and (3) continuing outperformance relative to expectations on margins, despite increased adspend year-on-year.
Page results surprised on all three fronts – sales, EBITDA and PAT – but particularly noteworthy was strong 22% sales growth and the sharp margin improvement led by robust sales growth and increased pace of outsourcing (30% of sales in fourth quarter, nearly doubling in proportion over the past year).
While men’s innerwear volumes were muted due to a short-term supply chain constraint, the other segments performed very well.
Larsen & Toubro
With the operating performance broadly in line, the key highlight from the fourth quarter result has been a revival in domestic execution with GST impact subsiding.
Domestic engineering & construction execution seems to be picking up (+19% year-on-year), supported by the infrastructure segment (+25% YoY) and Heavy Engineering(+27% YoY). We remain positive on the stock with an SOTP target price of Rs 1,650.
The company posted a sequential improvement in profitability (margin beat), led by higher realisation and a lower cost curve (reduction in staff cost and other expenses).
UltraTech is likely to witness strong growth in EBITDA in FY19, led by the full impact of ramp-up of acquired capacity and growth in underlying markets.
The company is likely to be the biggest beneficiary of a likely upturn in the Indian cement cycle over FY18-20, as it commands around 20% market share. We value UltraTech at 14.5x FY20 EV/EBITDA to arrive at a TP of Rs 4,818.
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