The brokerage suggests that telecom, cement and PSU oil & gas firms should see a decline in profits compared to the second quarter. Going ahead, seasonality, strong commodity prices and interest costs will hurt

CLSA, an independent investment and brokerage institution, expects Sensex earnings growth to slow from 28% in the second quarter of the current fiscal to 22% year-on-year in Q3. It believes that the best growth in the third quarter will come from autos, pharma, and private oil & gas, but telecom and cement and public sector oil & gas companies should see a decline in profits. The base effect will start to wear off for domestic cyclicals such as auto and banks, as well as global cyclicals such as metals and oil and gas, and that both these categories should see a sequential dip in topline growth. Seasonality and strong commodity prices will hit at least eight domestic sectors and interest costs will rise more rapidly than they did in the September quarter, the brokerage says.



The operating margins of almost all sectors, except oil & gas and property, are expected to ease in the December quarter. The sharpest fall in margins will come for cement, power, and telecom sectors.

Overall, FY12 will see healthy EPS growth of around 19%, but most of this will come from cyclical metals and energy sectors along with some steady growth from the IT sector. Other sectors will face macro headwinds, the base effect and rising competition. This will limit market returns, with the highest returns coming from metals, IT, energy and industrials. CLSA's top picks are Bharat Heavy Electricals, Dr Reddy's Laboratories, Hindalco Industries, IDFC and Mahindra & Mahindra.



While the auto and metals sectors and private oil & gas firms will see the strongest growth, they will also see a significant easing in year-on-year growth momentum compared to the September quarter. In fact, pharma, cement and telecom sectors will see their losses narrowing and stronger growth. Autos, private oil & gas and banks would contribute more than 65% incremental profits in Q3FY11.

Sales growth is expected to be the highest for auto, media, private oil & gas, power, property, software, and telecom sectors and the decline is expected to be the worst for the cement sector. Pharma, telecom, and auto sectors will see forex losses. Net profit growth is expected to be the best for auto, private oil and gas, pharma, software, and capital goods sectors and the worst decline will be seen by telecom, state-run oil & gas and cement sectors.

"The biggest positive swings in stocks will be in Cairn, Oil & Natural Gas Corp and Ambuja Cement. Tata Motors, Ranbaxy Laboratories and Sesa Goa will see significant deceleration in growth," CLSA says.

Strong volume growth will prop up earnings of auto companies (except Maruti Suzuki and Ashok Leyland). Maruti's results will be lower due to poor margins, while Ashok Leyland will be impacted by weaker volumes.

The banks that CLSA tracks are likely to report a 29% year-on-year growth in core pre-provision profit, but net profit growth will be only 13% because of lower treasury gains and higher loan loss provisions. While loan growth and NIMs (net interest margins) will be higher year-on-year, there could be some pressure on a quarter-on-quarter (q-o-q) basis. Fee growth will be good with an uptick in lending activity. Some banks may take a mark-to-market hit on the available-for-sale part of their bond portfolio due to the 20-50 basis points rise in medium-term bond yields. PSU slippages, which were high in Q2 will be keenly watched.

Cement demand has remained weak, but prices improved in the southern and western regions. Operating profit contraction should continue for most companies, except Ambuja Cement. Media companies may report strong revenues due to the festival season. Metals will do well mainly due to higher product prices, and in some cases even higher volumes. Best performers in steel would be Jindal Steel and Power and Tata Steel, while JSW Steel and SAIL will see a drop in net profits. Base metal companies will report strong q-o-q numbers on higher prices, CLSA says.

In oil & gas, "higher crude price will be offset by a higher subsidy burden, which should keep reported profit of OIL and ONGC largely flat on a q-o-q basis." In the case of Reliance Industries, lower KGD6 production would be more than offset by higher refining margins (CLSA assumes $8.9 per barrel, which is about a dollar higher q-o-q) and petrochem margins. Cairn India will benefit from higher volumes from Rajasthan and higher crude prices, while Petronet LNG will benefit from higher spot LNG volumes.

In pharmaceuticals, it is generally a strong quarter seasonally for domestic formulations. For IT, CLSA believes that Infosys should beat the upper end of its dollar revenue guidance, while absence of visa costs should drive positive surprise on margins. TCS should continue the momentum shown through 2010 reporting an 8% q-o-q growth in dollar revenues.

In telecom, October and November mobile net additions were strong. An improvement in network traffic will be keenly watched. Competitive intensity could ease a bit.

(This article is based on secondary research. The report is for information only. None of the stock information, data and company information presented herein constitutes a recommendation or solicitation of any offer to buy or sell any securities. Investors must do their own research and due diligence before acting on any security. Some of the opinions expressed in this article are the author's own and may not necessarily represent those of Moneylife.) — Munira Dongre