Corporate profitability at a standstill

Combined profits of non-financial companies have grown at only 1.7% a year since the Lehman crisis in FY08

The combined net profit of India's biggest non-financial companies has been virtually stagnant after the Lehman crisis.

Companies, excluding the financial sector, reported a combined net profit of Rs 2.71 lakh crore in 2014-15, growing at a compound annual rate (CAGR) of 1.7 per cent since 2007-08. In the past five years, the pace of growth is even slower, with net profit growing at 0.8 per cent each year.

The analysis is based on a sample of 654 non-financial companies belonging to the BSE 500, BSE Midcap and BSE Smallcap indices.

The downward trend in the corporate profitability continues in 2015-16 year as well. The combined net profit of around 2,300 non-financial companies was down five per cent year-on-year during the second quarter, and the sample companies reported a decline in profit in four of the past five quarters. The result is a sharp deceleration in corporate profits from the highs witnessed during 2003-2008.

For the Sensex, the earnings per share (EPS) trajectory has shifted downwards in the past eight years, first, during the Lehman crisis, and once again last year. The Sensex earnings include financial companies.

The underlying EPS of the Sensex companies grew at a compound annual rate of 24 per cent from around Rs 275 per unit of the Index in early 2003 to Rs 800 in early 2008. The pace of growth declined to a nine per cent CAGR during 2008-2015 and the index companies' earnings were down six per cent in the trailing 12 months.

If Corporate India had maintained the earnings momentum of 2003-08, the underlying EPS for the Sensex would have been around Rs 1,800 per index unit, 35 per cent higher than the actual EPS, which is about Rs 1,335. Alternatively, if companies had maintained the pace of growth visible in late 2013 through 2014, the Sensex EPS would have been around Rs 1,500 per index unit, higher by around 12 per cent.

Experts attribute the slower earnings growth to a sharp drop in profitability of companies in sectors such as capital goods, infrastructure, metals and mining, energy and real estate. A poor showing by these companies took away the positive earnings growth of companies in sectors such as information technology services, fast-moving consumer goods (FMCG), pharmaceuticals, consumer durables and automobiles.

"Nearly two-thirds of the incremental profit growth for the companies that form the Nifty is now accounted for by a handful of companies in infotech, pharmaceuticals and FMCG. This has created a dichotomy in the market," says Dhananjay Sinha, head of institutional equity at Emkay Global Financial Services.

Most of the corporate earnings and cash flows are being generated by companies and sectors that account for only a small share of corporate assets and underlying debt.

In 2014-15 companies accounting for 90 per cent of all corporate fixed assets (gross block) contributed only 40 per cent to the sample's combined net profit and 69 per cent of the combined operating profit. This has led to fears of a vicious cycle of lower corporate investment, poor growth, declining profitability and bad loans.