Mark-to-market provisioning, soaring interest rates and raw material cost played spoilsport as Corporate India struggled to wriggle out of the global financial mess.

India Inc has posted its worst quarterly show, with net profit dropping 34.2 per cent despite record net sales growth.

Mark-to-market (MTM) provisioning played a big role in the poor performance for the quarter ended September 2008. While 1,589 of the sample companies posted just a 10.9 per cent decline in net profit, the remaining 165 showed a 61.4 per cent decline because of MTM provisions of Rs 9,995 crore for translation losses on overseas borrowings and hedging losses on raw materials and export revenues. These 165 firms had made an MTM loss of Rs 7,550 crore and posted a net profit decline of 11.2 per cent in the first quarter.

If these firms had postponed provisioning for these losses to the date when it would have been actually realised, the net profit of the sample firms would have shown a decline of only 13.8 per cent. In other words, pre-adjusted net profit has declined at a slower pace of 13.8 per cent compared to a 34.2 per cent decline in adjusted net profit.

The profit of the sample size would have dropped to 42 per cent if 27 companies had not postponed provisioning for MTM losses of Rs 4,500 crore. Biggies such as Reliance Industries, Satyam Computer, Bajaj Auto, Reliance Communication, Wipro and Essar Shipping decided to bill exchange translation losses to their annual accounts and, accordingly, no provision was made in their quarterly accounts.

MTM losses on account of exchange rate fluctuations on commercial borrowings and interest on the unrealised portion of FCCBs are notional, which can be written back once the situation improves. However, losses on account of exotic derivative products and hedging of export revenues against fixed rupee-dollar rate are realised and, hence, cannot be reverted.

The quarterly data of the sample companies show that various other factors also contributed to the poor show by the corporate sector. These factors include high raw material cost, inventory loss, under-recoveries for refineries and sharp increase in the cost of fund for companies with huge overseas borrowings.

The profit decline is also because of losses suffered by oil marketing companies and airlines, and MTM losses from loan revaluations. Real estate, cement, capital goods, telecom and auto companies generally disappointed, while software services, banks, FMCG, engineering and construction sectors met expectations.
 

The fact that the cost of raw materials moved up at a higher pace of 54.8 per cent compared to net sales growth of 38 per cent, hurt corporate profitability in the quarter under review. The increase in raw material cost accounted for 54.2 per cent of the total rise in cost of production in the second quarter compared 49.8 per cent in the first quarter.

Had these companies maintained the first quarter ratio, their profit would have gone up by around Rs 10,000 crore. The impact of the rise in cost of raw materials was substantially high on sectors such as refineries, capital goods, cement, metals, construction and cables.

The cost of funds, which almost doubled, also affected the profitability of the corporate sector. Refineries, steel, fertilisers, power, automobiles, telecom, pharmaceuticals, engineering and construction companies were severely affected by the rise in interest cost.

The net sales growth for the corporate sector, however, remained strong at 38 per cent led by refineries, steel, telecom, construction and engineering. This growth is largely attributed to better realisation on account of price hikes and effects of high inflation being passed on to the end user.

However, in sectors such as cement, auto, metal, hotels, housing construction and computer hardware, the net sales growth remained sluggish.

Now, with a weak demand outlook, it will be difficult for companies to pass on the higher cost burden to end users, which would put pressure on sales growth.

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