Multiple headwinds play spoilsport on revenue growth of India Inc. in Q2FY20; enters negative territory: ICRA

India Inc. delivered an expectedly weak performance during Q2 FY2020, reeling under the impact of continued weakness in consumer sentiments and general slowdown in the economy. An ICRA analysis of Q2 FY2020 financial results of 609 companies in the Indian Corporate Sector (excluding financial sector entities) showed a Y-o-Y and sequential contraction in revenues for the first time in almost four years with aggregate revenues contracting by 0.9% on a Y-o-Y basis. During the same period, the EBITDA margin contracted by 32 bps on a Y-o-Y basis, and by 100 bps sequentially to 16.7%. The major impact on revenues came from commodity-linked sectors, revenues from which contracted by 5% on a Y-o-Y as well as sequential basis. Consumer sentiment too continued to remain muted, as reflected in Y-o-Y contraction of 1% in revenues from consumer-oriented sectors. Additionally, demand from the infrastructure segment was down, due to extended monsoons, slow release of funds from the government, cancellation of orders and marginal decline in housing demand. 
Exhibit: Trend in aggregate revenue growth of sample of 609 companies
Source: Ace Equity, ICRA research
Commenting further, Subrata Ray, Senior Group Vice President - Corporate Sector Ratings, ICRA said, “The revenues of the Indian Corporate sector in Q2 FY2020 were primarily hurt by consumer and commodity-linked sectors. Several consumer-linked sectors exhibited continued weakness, with automobiles sales contracting by sharp double-digits, while FMCG volumes also sequentially slowed down on the back of slowing urban demand and subdued rural demand sentiment. On the other hand, tepid realisations driven by softening commodity prices, coupled with subdued volumes in light of the macroeconomic slowdown, resulted in revenue contraction for all major commodity sectors, including oil & gas entities, metals & mining and iron & steel.”
Exhibit: Trend in aggregate PBT margin for sample of 609 companies
Source: Ace Equity, ICRA research
The profitability of India Inc. was impacted adversely due to the subdued demand, high discounting, tepid realizations in commodity sectors, and negative operating leverage. This was visible in the EBITDA margins. Though the EBITDA margins are strictly not comparable with corresponding previous due to the implementation of Ind AS 116, whereby operating leases have been capitalized. The reduction in lease rentals on account of the same has contributed positively to EBITDA, despite which the margin contracted, reflective of the sharp pressure on operating profitability during the quarter.  The PBT margins contracted by 210 bps Y-o-Y and by 140 bps sequentially to 6.5%, the lowest in more than five years.
The interest coverage ratio of ICRA’s sample, adjusted for sectors with low debt levels (IT, FMCG and Pharma) witnessed a decline to 3.2x from 3.5x in Q1 FY2020 and 3.8x in Q2 FY2019. The interest coverage was impacted by the double whammy of rising interest costs in a weakening profit environment. Interest costs increased by a sharp 14% on Y-o-Y basis on account of a) higher interest rates, b) increase in debt levels and c) Ind AS 116 adjustments, on account of which lease rentals have been bifurcated into interest and depreciation costs.  Sectors like oil & gas, telecom and construction saw significant increase in interest costs on a Y-o-Y basis. At the same time, EBITDA de-grew due to negative operating leverage.
Exhibit: Trend in interest coverage ratio for sample of 609 companies
Source: Ace Equity; ICRA research

In terms of sector specific trends, consumer-linked sectors like automobiles and FMCG continued to report Y-o-Y and sequential weakening. Within the automobile sector, the Passenger Vehicle segment, which had started weakening from Q2 FY2019 as ownership costs increased and the macroeconomic environment weakened, continued to remain sluggish. With high inventory levels at dealerships and the impending transition to BS VI emission norms from April 2020, wholesale dispatches of PVs contracted by a sharp 29% during Q2 FY2020. The two-wheeler wholesale dispatches also declined 21% during the quarter, hurt largely by the same factors. Although FMCG companies reported volume growth, there was further sequential slowdown in volume growth in both rural and urban markets.
Cement production volume growth also slowed down significantly to 1% (compared to 13% in FY2019), given continued slowdown in infrastructure, housing and industrial/commercial sectors due to extended monsoons, slow release of funds from the government, cancellation of orders and marginal decline in housing demand. Steel consumption on the other hand, grew by 8% during the quarter on a Y-o-Y basis. Steel consumption on the other hand, grew by 8% during the quarter on a Y-o-Y basis.
Among other sectors, the IT sector reported revenue growth of 9% in Q2 FY2020 (in INR terms) supported by in-organic growth, rupee depreciation on a Y-o-Y basis and traction in digital offerings across verticals, and gems & jewellery grew 22% on the back of increase in gold prices. Additionally, sectors like airlines, pharmaceuticals and telecom helped arrest the extent of revenue contraction.
“Going forward, much of the revival in corporate sectors performance will be dependent on revival of consumer sentiments, a pick-up in infrastructure investments which may help revive demand in the commodity sectors. Though the recent policy measures are welcome, the impact of the same will get reflected after a lag. With half of FY2020 already gone, any significant recovery in performance will be very tough,” adds Mr. Ray.

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