Impact of softening commodity on earnings of India Inc: IIFL Capital Services

5 Jul 2023 , 10:32 AM

Given the recent softening in commodity prices (many significantly below FY23 avg.), analysts of IIFL Capital Services analyse the impact on earnings if prices were to stay at these levels. They find that keeping aside obvious casualties like Metals, most sectors will have margin benefits. Commodity prices should stay weak, as demand outlook globally is not strong, given sharp rate increases by AE central banks and weak reopening in China; further, there is strong competition in some sectors (e.g. FMEG, though it will still see upgrades). Analysts of IIFL Capital Services expect revenue estimates to be cut during FY24, but its impact offset by margin benefits. They maintain their GARP stance and continue to include Bharti, NTPC, SBI Life, HDFCB, BoB, Sun Pharma and IndiGo in their top picks.

Soft commodities a boost for margins: 

Analysts of IIFL Capital Services analysis suggests that commodity consumer sectors like Cement, Auto, Cap goods, Consumer Electricals, Paints and Telecom will benefit. Metals, Chemicals and Banks (due to a high correlation between system loan growth and commodity prices) will suffer. Sectors like Utilities, Real Estate and Textiles won’t see much impact.

Outlook for commodities soft: 

Considering large policy rate hikes by AE central banks in the last 12 months, analysts of IIFL Capital Services expect soft commodities outlook to continue for the next year; till imperatives such as climat change capex and AE central bank rate cuts create some risk-on sentiment in the medium term.

Strong margins may sustain except in extreme slowdown: 

In extreme environments (like in 2004-2007), commodity prices and margins moved similarly as strong demand buoyed all sectors; else they moved in opposite ways. Analysts of IIFL Capital Services think that unless there is a severe economic collapse in India, higher margins of commodity consumers should sustain in 2024, and that is analysts of IIFL Capital Services base case. Slowdown in AEs will be more pronounced than in India, and the impact should be largely limited to export sectors like IT and Chemicals. But other sectors will also see some revenue growth cuts.