The last week saw some of India's largest companies announce their December quarter results. As such, we now have some sense on how this last quarter has been for India Inc. As the chart below shows, it is turning out to be the best quarter in terms of profits since the financial crisis started eight quarters back. A large part of this improvement in profits has been brought about by cost cutting measures of companies across sectors. Lower interest costs have also helped matters. And the lag effect of lower commodity prices has been seen amongst companies from sectors like engineering, energy, and power.
* Performance of results announced till last week; Source: Equitymaster Research
So where do we go from here on?
One thing is clear. The profit growth numbers, as we have seen this quarter, are not sustainable in their current form. First, these have come on a low base of a weak last year. Second, a large part of this growth is due to cost cutting by companies, not growing topline sales.
You can see how, in the short run factors like cost-cutting can lead to increased profits. But this can't go on for long. The more businesses cut costs (like by firing employees or freezing pays) the more their sales go down, because consumers (who are also their employees) have less money to spend. We are already seen pay hikes coming back to IT companies.
What Indian companies would have to do to sustain a high growth in profits in the future would be to grow their sales. And we see a tremendous scope there, especially in the long run. With the rural market still untapped for so many fast growing sectors like retail, healthcare, and financial services, we see a tremendous scope for Indian companies to sustain a robust growth in sales over the next 10 to 15 years. This is however notwithstanding the temporary hiccups that will come their way in terms of the usual business cycles.
For you as an investor in the Indian growth story, it will make sense to invest in companies that are growing without much need for incremental capital infusion. While one might get tempted to buy into the hyped growth stories across fast growing sectors, intelligent investing would require having a margin of safety before making any investment decision.