S&P downgrade overweighs markets

Sat, 28 Apr RoundUp

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It was a mixed week for the world stock markets. The developed markets excluding Japan closed the week on a positive note. However, emerging markets closed in the red. The US stock markets were up 1.5% during the week despite weak GDP data. In the first quarter of 2012, the US GDP grew by 2.2%, down from the 3% growth registered in the previous quarter. However, the consumer spending picked up to 2.9% during the quarter, up from 2.1% in the previous quarter. Even the consumer sentiment unexpectedly rose in April which supported the markets.

The Indian stock markets closed the week on a negative note. S&P downgrade, weak earnings outlook and rising worries over widening current and fiscal deficit took a toll on markets. Further, it may be noted that the prevailing confusion over General Anti Avoidance Rules (GAAR) for a long time is impacting the FII flows. Thus, the foreign sentiment has also remained sluggish due to policy ambiguity.

Amongst, the other world markets France was the biggest gainer (up by 2.4%), followed by US (up by 1.5%). India and Brazil displayed weak performance during the week and were down by 1.4% and 1.3% respectively.

Source: Yahoo Finance

Barring Information Technology (up 2.0%) most of the indices closed the week on a negative note. Realty was the biggest loser during the week followed by Capital Goods. Both the indices were down by 6.1% and 4.9% respectively. Even power stocks were down by 4.8% during the week.

Source: BSE

Let us now take a look at key developments during the week. The Telecom Regulatory Authority of India (TRAI) has proposed a steep hike in the minimum price for the 2G license auction. As per the regulator's proposal, the 2G license auction would fetch the government nearly Rs 7,000 bn of revenues. This is nearly 13 times the amount that was collected in the previous round of granting 2G licenses in 2008. The price is also nearly 1.08 times the price of the 3G spectrum, which is considered to be more valuable. The proposal has caused an outrage amongst all the telecom operators. The incumbents Bharti Airtel, Vodafone, Idea Cellular and even Reliance Communications have all united to voice their dissent for this pricing. Though the regulator's proposal will help the government's coffers and help it to meet its fiscal deficit targets. But the move will have a negative impact on health of the telecom sector.

The power companies have refused to sign the fuel supply agreements (FSA) with Coal India Ltd (CIL). Power manufacturers including National Thermal Power Corporation (NTPC) have called the agreements biased and claim that it absolves CIL of all obligations. As per NTPC, the agreement does not provide much in terms of coal supply commitments. A big reason for this is the FSA stipulates that if CIL fails to meet its obligation, the penalty imposed on it would be 0.01% of the value of the shortfall. The FSA also gives CIL the discretion to terminate the agreement whenever it wants to. As per the power producers this would create uncertainty in the long term supply of the fuel. CIL was given a presidential directive to sign FSAs with all the power producers but the penalty was to be decided by the company itself.

Now, let us take a look at few results that were announced during the week. Reliance Industries announced results for the fourth quarter and full year ended March 2012 (4QFY12 and FY12). Net sales increased by 17.2% YoY during the quarter. For FY12, the sales were up 32.9% YoY. During FY12, segment wise sales from refining (73% of revenues) and petrochemicals (22.3% of revenues) registered an increase of 36.8% YoY and 27.7% YoY respectively, both on account of better volumes and higher realizations. Despite higher realizations, revenues from the Oil and Gas segment's (4% of revenues) were down by 25.2% YoY due to fall in volumes and transfer of participatory interests in KG D6 basin which was to some extent compensated by higher oil and gas production from Panna Mukta fields. On the margins front, the EBIT (Earnings before interest and tax) margins for Refining, Petrochemicals and Oil and Gas came at 3.3% (4.3% last year), 11.1% (14.7% last year) and 40.7% (38.8% last year) respectively. Despite higher gross refining margins (GRMs) at US$ 8.6 per barrel, the refining and petrochemicals margins were down due to base effect. The other income for FY12 more than doubled thus offsetting the decline at operating profit level to some extent. Despite a gain at pretax profit level, the net profits declined by 1.2% YoY due to higher effective tax rate in FY12.

Nestle India also announced its financial results for the first quarter of the calendar year 2012 (1QCY12). The company reported sales of about Rs 20.5 bn during the quarter ended March 2012, a rise of 13.1% year-on-year (YoY). Lower consumer confidence and a deteriorating economic environment were the main reasons for the lukewarm growth. Operating costs as a percentage of net sales reduced marginally by 0.8%. While other income grew by 6.6% YoY during the quarter, interest expenses shot up from Rs 0.7 m in 1QCY11 to Rs 22.7 m in 1QCY12. The effective tax rate was also higher by 2.9% during the period. As a result of lackluster performance at both operating and non-operating levels, net profits increased at a tepid rate of 7.8% YoY. Net margins dropped marginally from 14.1% in 1QCY11 to 13.5% in 1QCY12. For its capital expenditure requirements, the company has drawn down US$ 21 m from Nestle SA during the quarter for a period of five years under the External Commercial Borrowing approval from Reserve Bank of India (RBI).

Software major Tata Consultancy Services (TCS) announced the fourth quarter results of financial year 2011-2012 (4QFY12) during the week. The company has reported a 0.4% quarter-on-quarter (QoQ) growth in its sales and a 1.6% QoQ increase in its net profits. The growth in net sales was largely driven by a good growth in volumes which was 3.3% QoQ during the quarter. For the year ended March 2012 (FY12), sales grew by 31.0% Year-0n-Year (YoY). This came on the back of a 23% YoY growth in volumes and 1.3% YoY increase in average realization during the year. The growth in revenues was 2.3% QoQ on constant currency basis. In terms of US dollar revenues, the growth in sales was 2.4% QoQ during the quarter.

Operating margins declined by 1.6% QoQ to 27.7% during the quarter as compared to 29.2% seen during the previous quarter (ending December 2011). This was mainly due to higher selling, general and administrative expenses (as a percentage of sales). For FY12, margin at operating level was slightly lower at 27.6% as compared to 28.1% in the same period last year. TCS added a net of 11,832 employees during 4QFY12 and 39,969 employees during the fiscal. The attrition rate stood at 11.1% in IT services segment, lower than the 11.7% seen during the previous quarter (3QFY12). In the BPO segment, attrition came down to 21.6% as compared to 22.6% seen during 3QFY12.

Movers and shakers during the week

Company	20-Apr-12	27-Apr-12	Change	52-wk High/Low
Top gainers during the week (BSE-A Group)
TCS	1,100	1,205	9.6%	1275/923
Indiabulls Financial Services	218	234	7.4%	241/120
Asian Paints	3,321	3,516	5.9%	3474/2580
United Spirits	752	773	2.8%	1109/492
Glenmark Pharma	320	329	2.6%	341/271
Top losers during the week (BSE-A Group)
Lanco Infratech	18	13	-28.6%	44/9
Koutons Retail	10	8	-20.7%	37/8
HCC	25	20	-18.8%	38/17
India Infoline	64	53	-17.0%	90/43
GVK Power & Infra	19	15	-16.5%	25/10

Source: Equitymaster
We will now discuss the other important corporate/economic events that took place over the week. Securities and Exchange Board of India (SEBI) has indicated that the deadline to meet the minimum public shareholding norm will not be extended. It may be noted that SEBI had earlier stipulated that all companies (except PSUs) should have a minimum free float of 25% by June 2013. But considering that many firms have large promoter shareholding and the market conditions are also not conducive it was believed that the deadline might get extended. But if all the companies were to meet the deadline it could result in issuances of approximately Rs 400 bn. And taking into consideration the current market conditions it would be difficult to absorb the same. Thus, it remains to be seen whether SEBI continues its stubborn stance into the future or provides an extension to the deadline.

The India growth story took a setback during the week after S&P downgraded its sovereign rating on the country. Fiscal profligacy and weak growth prospects prompted the rating major to downgrade India. However, off late these rating agencies have lost credibility. Take the case of US sovereign rating or its sub-prime debt. In both the cases either the rating agencies were behind the curve (US sovereign rating) or were grossly over-wrong (US sub-prime debt) in assigning the ratings. So, we believe that the investors should not be unduly worried about the India downgrade. India growth story is likely to continue into the future as well. Thus, investing in companies with sound fundamentals can help investors earn high returns over the long term.