Public sector banks spoil Q3 earnings party on D-Street

Stock market investors who were expecting strong overall third-quarter earnings performance have a reason to feel disappointed.

While the earnings 'recovery' theme stays intact, the Q3 report card shows that markets, which have been betting on strong corporate profits, may be barking up the wrong tree. Top brokerages have already started informing their retail and institutional clients about the 'miss' and have generally blamed public sector banks (PSBs) for being a drag.

After beginning on a strong note, the third quarter earnings season lost sheen towards the end. This was led by disappointment from heavy-weights like State Bank of India, Tata Motors, Lupin and Oil and Natural Gas Corp.

While the earnings picture is probably getting brighter, with the recovery expected to gather pace next fiscal, Dalal Street had bet big on Q3 delivering a rollicking quarter. That did not happen.

"Aggregate profit after tax (PAT) of MOSL universe was up 6.7% year on year (our estimate: +15.8%). The performance was disproportionately impacted by PSU banks, which are grappling with continued elevated provisioning requirements and trading losses in the bond portfolio. Metals and mid-caps universe posted profits ahead of expectations, while auto, cement, PSU banks and utilities posted profits below expectations," said Gautam Duggad, head of research, Motilal Oswal Securities Ltd (MOSL) in a report.

In the third quarter, Nifty PAT was up 7% YoY (almost half) the 13.6% rate at which Motilal Oswal had estimated it to grow.

"Major earnings surprises were from Tata Steel, HUL, Tech Mahindra, IOC and Dr Reddy's. Major disappointments in earnings were from Tata Motors, Ultratech Cement, Lupin, ONGC and SBI," the MOSL report said.

The brokerage has now revised FY18E Nifty earnings per share (EPS) downward by 3.2% to Rs 471 and FY19E Nifty EPS by 0.6% to Rs 595, while building in 13%/26% EPS growth for Nifty for FY18/19E.

Earnings disappointments could trickle down to market movements, given the heightened expectations of profit growth. Some have already started taking action.

Sahil Kapoor, chief market strategist, Edelweiss, said that he expects Nifty EPS of FY18/19/20 to be Rs 500/600/700. "We are revising our Nifty target price for FY19 to Rs 11,500 (from Rs 12,000 earlier) giving it a PE multiple of 16.5 times one-year forward multiple at an EPS of Rs 700 for FY20," Kapoor said.

Kotak Institutional Equities said that third quarter net profits of its coverage universe (i.e., stocks it covers) increased 9.3% YoY on an overall basis compared to expectation of 12% YoY growth from a low base in the year-ago period.

Importantly, in its coverage universe, 65 stocks beat earnings forecast by over 5%, 57 reported adjusted net income in the -5% and +5% range of estimates and 75 missed estimates by more than 5%.

"3QFY18 results did miss our expectations but that was largely due to a large loss in SBI on higher provisions," said Sanjeev Prasad, co-head and managing director at Kotak Institutional Equities in a report.

Net profits of cement, energy, infrastructure and metals & mining exceeded expectations while automobiles, banking, pharmaceuticals and utilities disappointed. According to Kotak, net profits of the BSE-30 Index and Nifty-50 Index grew 9.7% and 12.7%, respectively, 4.8% and 2.2% below its estimates.

The recent small correction in the market notwithstanding, valuations of the Indian market are still quite stiff. The Nifty-50 Index trades at 17.9 times FY2019E 'EPS' (free-float basis) after top brokerages build in 20-25% growth in the net profits of the Nifty-50 Index in the next fiscal.

Source: DNA Money