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Q2 FY16

Results Preview

This report is published by IIFL ‘India Private Clients’ research desk. IIFL has other business units with independent research teams separated by 'Chinese walls' catering to different sets of customers having varying objectives, risk profiles, investment horizon, etc. The views and opinions expressed in this document may at times be contrary in terms of rating, target

prices, estimates and views on sectors and markets.

October 09, 2016

Automobiles

During Q2 FY16, volume performance for the automobile manufacturers was weak at most counts with only M&HCVs seeing strong growth. Passenger car segment saw a decent growth but other segments particularly the LCV and tractors saw sharp falls. The key driver for the surge in M&HCV demand has been the replacement demand. Capacity additions have not yet commenced in a big way. Additional boost came in from the pre‐buying as ABS becomes mandatory from October 2015. With commencement of interest rate cuts, lower fuel prices, expected recovery in infrastructure investments and a revival in industrial activity, demand for M&HCVs is expected to remain strong. Rural demand continues to be weak as lower than expected increase in MSPs and a weaker than expected monsoons have impacted the sentiment. This particularly impacts the consumer segments of two‐wheelers and passenger cars. However, the launch of new models will continue to provide support to company specific volumes.

Product mix is expected to have a big impact on the realizations for most companies under our coverage. For Maruti, while contribution of compact segment declined, contribution of Midsize (Ciaz) and Vans UV (launch of S‐Cross) segment saw an increase. This would translate into better realizations for Maruti. Rupee depreciation is expected to aide realizations for Bajaj Auto as contribution of exports has increased on a sequential basis. This will be partially offset by change in mix towards lower end two wheelers in the domestic markets. For Tata Motors, contribution of M&HCVs has increased from 23.1% in Q2 FY15 and 27.8% in Q1 FY16 to 31.5% in Q2 FY16. This should translate into substantial jump in standalone realizations.

Margins for most companies under our coverage are expected to improve on a yoy basis due to soft commodity prices and favorable currency movements for few companies. Depreciation of yen is expected to benefit both Maruti and Hero Motocorp substantially. Biggest benefits of operating leverage are likely to be the CV players. For Tata Motors, however, its JLR business will continue to see pressure on margins bringing down the overall consolidated margins on a yoy basis.

Auto component players are expected to see another quarter of decent growth as revenues rise on the back of decent OEM demand and margins expand as a result of benefits of operating leverage. Benign commodity prices (rubber for tyre companies) are also likely to be margin accretive.

Our top picks in the sector are 1) Maruti 2) Tata Motors and 3) Greaves Cotton. Q2 FY16 volumes

Q2 FY16 Q2 FY15 yoy (%) Q1 FY16 qoq (%)

Hero Motocorp 1,574,861 1,698,471 (7.3) 1,645,543 (4.3)

Bajaj Auto 1,056,596 1,055,582 0.1 1,013,029 4.3

TVS Motors 678,749 681,404 (0.4) 638,115 6.4

Maruti 353,335 321,898 9.8 341,329 3.5

M&M ‐ Auto 113,134 115,658 (2.2) 109,567 3.3

M&M ‐ Tractors 45,246 61,152 (26.0) 62,358 (27.4)

Tata Motors 126,059 126,621 (0.4) 116,510 8.2

Ashok Leyland 37,337 25,365 47.2 28,190 32.4

Eicher ‐ RE 127,611 81,977 55.7 106,613 19.7

Eicher ‐ VECV 11,611 9,815 18.3 11,861 (2.1) Source: Company, India Infoline Research

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Q2 FY16 Results Preview

Q2 FY16 estimates

Company

Sales (Rs cr) OPM (%) PAT (Rs cr)

Q2 FY16E yoy (%) qoq (%) Q2 FY16E yoy (bps) qoq (bps) Q2 FY16E yoy (%) qoq (%)

Automobiles

Ashok Leyland 5,240 62.9 36.4 12.1 482 198 335 177.4 110.1

Bajaj Auto 6,023 1.0 7.3 21.2 117 90 895 51.5 (11.8)

Hero Motocorp 6,657 (3.7) (4.3) 14.5 98 (57) 687 (10.1) (8.5)

Maruti 13,888 12.9 3.5 15.8 344 (51) 1,232 42.8 3.2

M&M# 8,699 (5.2) (7.8) 13.6 166 (69) 930 (4.5) 11.9

Tata Motors* 55,326 (8.6) (9.3) 14.7 (232) (138) 1,807 (45.1) (34.7)

TVS Motors 2,789 3.9 6.4 6.7 64 46 106 11.4 17.0

Eicher Motors* 3,048 34.0 4.5 15.9 249 111 269 62.9 21.2

Auto Components

Apollo Tyres* 3,137 (5.4) 10.2 17.3 239 (38) 297 15.3 2.3

Bharat Forge 1,170 1.9 1.7 29.5 121 (58) 193 10.5 (1.3)

Exide 1,887 7.0 4.8 14.1 232 (68) 159 26.1 2.2

Amara Raja 1,172 10.0 2.4 18.4 101 23 129 28.9 5.9

Motherson Sumi* 9,018 12.5 (3.9) 9.3 23 39 266 154.6 0.0

Swaraj Engines 145 (12.6) (4.7) 14.3 (51) (34) 15 (17.6) (6.6)

Bosch 2,497 (2.3) (2.4) 18.5 135 (50) 310 1.0 (10.0)

Greaves Cotton 425 (3.7) 11.6 17.2 446 85 45 66.6 4.9

Kirloskar Oil Engines 577 (8.1) (0.8) 9.2 (96) 16 32 (9.0) (10.6)

LG Balakrishnan 253 (5.0) 2.6 10.8 (270) 95 11 (49.3) 21.0

MM Forgings 129 3.0 4.1 0.0 0 0 14 6.5 8.3

Source: Company, India Infoline Research, #M&M is inclusive of MVML, * Consolidated

Cement Despite weak monsoon, construction activity particularly in housing segment remained dull during the

quarter.

Demand for cement was lower in Southern, Eastern and Western regions, flat in Central region and was robust in Northern region on account of lesser than expected monsoon triggering pick‐up in construction activity. This is likely to translate into revenue growth for our coverage universe in the range of (12%)‐8%+.

Companies like Ambuja and JK Lakshmi Cement, which cater to Northern region are likely to outperform.

Realisations for companies catering to Southern and Western regions are likely to come under pressure. We expect players like Orient Cement to witness a sluggish quarter.

Operating margins for Ambuja Cement and ACC are likely to remain weak.

In a drought year, we see limited scope of infrastructure and construction activity picking pace in Q4 (summers) due to water storages. For FY16, we expect cement dispatches to grow at 5‐6% yoy basis.

Maintain BUY on JK Lakshmi Cement, Orient Cement and Ambuja Cement.

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Q2 FY16 estimates

Company


Q2 FY16 yoy (%) qoq (%) Q2 FY16 yoy (bps) qoq (bps) Q2 FY16 yoy (%) qoq (%)

Cement 12,385 (0.2) (8.4) 15.2 (88) (89) 786 (15.2) (21.9)

ACC# 2,657 (3.1) (10.3) 11.0 (285) (34) 104 (45) (19)

Ambuja Cem# 2,227 1.1 (11.3) 13.7 (422) (164) 166 (31) (27)

Ultratech* 5,437 1.0 (10.0) 17.2 91 (187) 441 8 (25)

India Cement 1,108 (2.1) 3.5 18.3 210 (33) 38 329 (26)

JK Lakshmi Cem. 618 7.9 4.6 15.1 (47) 652 8 (79) (142)

Orient Cement 338 (12.4) (3.2) 17.6 (287) 55 29 (33) 4 Source: Company, India Infoline Research #ACC and Ambuja Cement reporting their Q3 CY15 numbers

Consumer Discretionary Britannia: Rural slowdown led by poor rainfall in Q2 will impact the companies with big exposure in the

rural segment and alongside limited urban demand will play spoilsport for many FMCG companies. However, BRIT being an urban consumption story with focus in the super premium category will be relatively insulated from the rural slowdown. In addition, the raw‐material cost continues to remain soft during Q2FY16 which in turn will boost the gross margin. However, we expect the higher gross margin will somewhat be negated by higher A&P spends so as to increase demand and compete effectively with its peers. We expect BRIT to report a 17% YoY consolidated sales growth to Rs23.1bn in Q2FY16 aided by low base of 12.5% in Q2FY15. In addition, with soft raw‐material costs mainly wheat and sugar prices, we expect gross margin to improve 270bps and EBITDA by 326bps YoY to 14.5% (in support with continuous cost rationalization). Consolidated EBITDA to increase by 51% to Rs335cr and PAT before extraordinary items to grow by 49.6% to Rs219cr in Q2FY16.

CCL Products: On a high base of 48.9% in Q2FY15, we expect consolidated sales growth of 3% to

Rs254.7cr. Despite a high base in Q2FY15, Vietnam unit will report a healthy revenue growth of 29.4% to Rs67.1cr. The company formulates a significant part of contracts as per kg basis rather than as percentage to sales, the operating margin is likely to be higher by 400bps to 25.2% because of lower growth in revenue and also higher capacity utilization. As the Indian plant is already running at optimum capacity utilization and following capacity constraints, the volume growth will be negatively impacted plus the decline in coffee prices, we expect on the back of high base of 26.3% in Q2FY15, Indian operations to report a decline of 4% sales growth to Rs187.5cr and a flat operating profit at Rs37.3cr. Once CCL commissions its expanded capacity of 5,000tn in December 2015, we can witness a healthy volume growth in its Indian operations. We expect consolidated operating margin to improve by 171bps to 21.3% and operating profit to grow 12% to Rs54.2cr. With lower interest costs because of a healthy cash flow and nil income‐tax at Vietnam plant, net profit is likely to grow 20.7% to Rs31.6cr.

Greenply Industries: Greenply continues to face challenges in the form of weak demand on the ground

level with no signs of pick‐up and slower replacement demand. We expect a 7% decline in the plywood segment to Rs290.2cr. However, with the increase in the usage of MDF (medium density fibreboard) on the back of shift in consumers’ preference from cheap plywood to MDF and higher capacity utilization of

90% as against 79% in Q2FY15, we expect MDF to register a growth of 15% YoY to Rs113.6cr. Hence, total sales to remain flat to Rs411cr. The MDF segment had reported an operating margin of 30% in Q1FY16 on the account of lower raw‐material costs because of lower moisture content in wood. This margin is not sustainable as the moisture content will increase during monsoon period. Hence, we expect margin of

MDF in Q2FY16 to 27% as against 23.2% in Q2FY15. Further Plywood margin is expected to report ~9% as against 9.5% in Q2FY15 on the back of poor demand. Total operating margin to improve 128bps YoY to

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14.2% in Q2FY16 and will decline by 61bps QoQ. We expect EBITDA growth of 9.8% to Rs58cr. However, because of a higher tax rate of 24.5% against 16.8% YoY, net profit would grow by 5.9% to Rs28.4cr.

Q2 FY16 estimates

Company



Britannia* 2,310 17.0 14.4 14.5 326 21 219 49.6 15.6

CCL Products* 254.7 3.0 16.0 21.3 171 (85) 31.6 20.7 4.4

Greenply 411.0 0.1 7.9 14.1 128 (61) 28.4 5.9 6.5 Source: Company, India Infoline Research, *Consolidated

Financials The system credit expansion remained tepid during Q2 FY16 as the headline loan growth continued to be

modest at ~9‐10% yoy. Corporate credit activity was muted with no visible revival in private capex given anemic demand and weak consumption trends. The infrastructure investment drive has been led by the government with private participation remaining low. The only bright spot in the banking system has been resilient retail loan growth which has received support from strong momentum in mortgages and revival in auto loan demand.

Q2 FY16 will also reflect continued disparity in loan growth between the private and public banks. The former is estimated to report impressive loan growth that could range 15‐35% yoy (for our covered set). An established and sizeable retail lending franchise, high capital base and prudent aggression has been enabling private banks to grow much ahead of the system thus gaining market share. On the other hand, most PSU Banks are expected to report lack luster credit growth of 7‐10% yoy due to their high reliance on corporate loans, weak capital position and a guarded approach underpinned by prevailing asset quality issues

In the first nine months of 2015 (particularly till Sept 29), most large private and public banks have reduced their Base Rate by 20‐30bps manifesting partial transmission against 75 bps reduction in the policy rate by RBI. During the aforesaid period, while banks have announced deposits rates cuts, it has been for specific maturities and the extent has been limited. This has exposed margins especially for those banks having a large portion of corporate book which is typically linked to Base Rate. With negligible share of wholesale funding, the public banks are more vulnerable than private corporate lenders like Yes Bank, ICICI Bank and Axis Bank. Most public banks could witness their NIM contracting by 10‐15 bps qoq in Q2 FY16.

Asset quality pressure will persist for the industry given much slower‐than‐expected recovery in economic activity. The dichotomy of high duress in corporate, agri and SME portfolios and relative resilience of the retail portfolio would also continue. Therefore, banks like HDFC Bank and IndusInd Bank would report benign stress whereas other private banks and host of public banks face the risk of reporting significant slippages (partially from the restructured book). Pubic Banks is particular could report elevated delinquency ratio of 2‐4% and thus a further deterioration in their NPL levels in the absence of significant sale or write‐offs. Given the sharp easing in bond yields, sizeable MTM gains on the fixed income portfolio could partially offset the burden of credit cost.

Within NBFCs, we see HFCs reporting good earnings growth on the back of strong loan growth and spread expansion. The latter will be driven by the lower incremental cost of bond borrowings and marginal benefit from Base Rate reduction by commercial banks. Subdued asset growth is likely to continue for vehicle financing companies (Mahindra Finance, STFC, Magma, etc) and MSME financiers (SCUF) due to absence of any tangible improvement in product demand. With no improvement in borrower’s cash flows, the pressure on asset quality will also stay. Bajaj Finance, due to its diversified and urban centric portfolio,

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would be an outlier once again delivering much superior (30%+ yoy) asset growth and resilient asset quality.

We expect IndusInd Bank, Yes Bank, Bajaj Finance, Shriram Transport, Can Fin Homes, DHFL and PFS to deliver robust earnings performance in Q2 FY16.

Q2 FY16 estimates

Financials

NII (Rs cr) NIM (%) PAT (Rs cr)


Banks

Axis Bank 3,762 6.7 (7.2) 3.7 (26) (10) 1,922 19.3 (2.9)

Bank of Baroda 3,351 (1.5) (3.1) 2.2 (24) (10) 1,014 (8.2) (3.7)

DCB 141 19.7 0.7 3.7 0 (10) 38 (7.3) (18.9)

Federal Bank 649 7.1 7.3 3.0 (33) (15) 265 10.2 87.2

HDFC Bank 6,439 16.8 0.8 4.3 (20) 0 2,832 18.9 5.0

ICICI Bank 4,989 7.1 (2.5) 3.5 7 (5) 3,102 14.5 4.2

IndusInd Bank 1,010 21.2 3.0 3.8 15 10 555 29.0 5.7

Punjab National Bank 4,004 (3.5) (2.4) 2.0 (38) (10) 794 38.1 10.2

SBI^ 13,306 0.2 (3.1) 2.9 (22) (10) 3,550 14.5 (3.8)

Yes Bank 1,117 30.4 5.4 3.3 10 0 615 27.5 11.6

NBFCs#

Bajaj Finance 923 34.3 (4.7) 10.7 20 (120) 261 32.5 (5.2)

Can Fin Home 73 48.7 5.2 2.2 10 10 35 92.2 10.5

DHFL 437 18.1 4.6 3.0 20 0 183 20.2 5.6

Indiabulls Hsg Fin 765 35.9 10.9 ‐ ‐ ‐ 551 22.8 7.7

LIC Housing Finance 714 26.7 3.8 2.4 20 0 405 17.3 6.1

Magma* 314 18.8 4.0 6.5 60 10 58 37.5 23.3

Mahindra Finance 787 6.8 9.9 8.0 (25) 50 170 (17.8) 91.3

Manappuram 331 14.5 9.2 12.3 (150) (5) 86 12.0 43.1

PFC 2,872 15.3 2.9 5.1 10 0 1,748 24.0 10.8

PFS 113 12.2 11.4 6.5 0 0 63 65.1 2.6

REC 2,532 24.6 7.4 5.1 0 0 1,656 10.4 12.0

SCUF 595 16.6 3.8 13.4 10 0 158 14.5 6.9

Shriram Transport Fin 1,204 18.2 4.0 7.0 35 20 365 20.7 13.6

TFCIL 25 1.1 2.0 ‐ ‐ ‐ 15 9.0 (6.0)

Source: Company, India Infoline Research, ^ Cumulative NIM; # Used NIM/Spread reported or computed for NBFCs, *Consolidated

Information Technology The second quarter of a fiscal year has traditionally been the strongest period for India IT companies

characterized by robust volume growth and significant margin expansion. However, the pervasiveness of this pattern would be challenged this time around due to prevalence of client, vertical or service line specific challenges for few industry players. So, the growth delivery could significantly vary across companies. A non‐operational growth headwind would be the adverse cross currency movement that is likely to have an impact of 0.4‐0.8% on reported numbers.

We expect TCS and Mindtree (both typically have a very strong H1) to register a solid revenue growth of 5%+ qoq in constant currency (cc) terms. For them, a strong and sizeable digital business and sustained impressive client mining will drive growth. Infosys and Tech Mahindra are expected to deliver healthy cc dollar revenue growth of 3.5‐4% qoq. Infosys will likely carry the growth momentum of Q1 FY16 (delivered 5%+ qoq volume growth) underpinned by execution on deal wins and incremental progress on client mining. The company is expected to reiterate its annual dollar revenue growth guidance of 7.2‐9.2% yoy.

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For Tech M, Q2 FY16 would be a much better quarter with abatement of the seasonal issues faced in the previous quarter.

In case of Wipro, delivering above the mid‐point of the guided cc growth band of 1.5‐3.5% qoq is critical to re‐build street’s confidence in the management strategy. A miss again would further hit stock sentiment and valuation. HCL Tech has already indicated a tepid growth in its pre‐earnings commentary on account of project‐specific issue and revenue skewness in IMS. We estimate company to deliver a muted 0.8% qoq cc revenue growth in Q2 FY16.

Individual trends in revenue growth and at the operating level will reflect upon the operating margin performance of the companies. Companies such as TCS, Infosys, Tech M and Cyient where cc revenue growth would be upwards of 3‐4% qoq will report substantial margin expansion of 150bps+ qoq aided by absence of elevated visa cost and rupee depreciation. The rest of our coverage except for HCL Tech would witnesses a relatively modest expansion of 50‐70bps. HCL Tech could see it margin contracting by 50 bps qoq.

Overall, Q2 FY16 would be a mixed quarter wherein TCS, Infosys, Mindtree and Cyient are estimated to deliver robust sequential earnings uptick. We have a Neutral view on the sector with risk‐reward currently in balance. Significant rupee depreciation could be a positive earnings catalyst in the near‐to‐medium term. Our preferred picks in the sector are Infosys, HCL Tech and Mindtree.

Q2 FY16 estimates

Company


Q2 FY16 yoy (%) qoq (%) Q2 FY16 yoy (bps) qoq (bps) Q2 FY16 yoy (%) qoq (%) TCS 27,560 15.7 7.4 29.6 102 155 6439 21.8 12.1

Infosys 15,212 14.0 6.0 27.7 (53) 155 3323 7.3 9.7

Wipro 12,899 10.4 5.4 21.5 26 64 2285 9.6 4.5

HCL Tech 10,095 15.6 3.3 21.0 (412) (50) 1785 (4.8) 0.2

Tech Mahindra 6,645 21.1 5.6 17.0 (299) 214 727 1.1 7.6

Mindtree 1,127 26.8 14.8 18.3 (145) 69 150 9.0 8.4

Cyient Ltd. 827 23.0 13.8 14.1 (193) 150 93 3.2 24.4 Source: Company, India Infoline Research

Industrials

Q2 FY16 was an extension of Q1 FY16, as execution in the infrastructure sector remained weak due to sluggish demand and regulatory bottlenecks (land acquisition). However, orders from power generation and transmission and distribution (T&D) segments picked up during the quarter. In the Power generation space, orders were limited to government companies as private sector capex was tepid. T&D space was a bright spot in the infrastructure space as ordering from Power Grid and State SEBs remained high. Execution too picked up pace in the T&D space with the government’s focus of power to all.

Higher spending by PSUs and pickup in execution in the T&D space would lead to 5.9% growth in topline for our coverage universe. Led by strong ordering in power generation and T&D sectors, order intake (except L&T) is expected to be strong in Q1 FY16. Margins too are expected to expand on the back of cost rationalisation and completion of low margin orders in FY15. Interest costs too are expected to decline due to the cut in lending rates and marginal easing of working capital requirements.

The pace of decline in revenue for BHEL is expected to be lower due to weak base and stabilisation of order book. We expect topline to decline by 4% yoy to Rs. 5,898cr; however, margins would remain under pressure from slower execution and high fixed costs. Order inflow for the company would be higher with the finalisation of orders wherein the company was L1. The company has been forced to suspend installation of equipment at the 1,320MW Ennore thermal power in Tamil Nadu following an order by a division bench of Madras HC that cancelled the company’s contract, estimated to be worth Rs. 9,000cr, on

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the ground that the PSU may not have been the lowest bidder. The company’s large orders received currently from Telangana do not have environmental clearance, raising doubt over the company’s large order book.

Order inflow for LT during the quarter is expected to be lower by 22% yoy to Rs. 31,000cr as the company has so far reported orders worth Rs. 11,400cr. The company has indicated that most of the ordering would be witnessed in H2 and H1 would continue to remain weak in terms of new orders. Consolidated revenue is expected to increase by 7.4% yoy on the back of strong order backlog and marginal acceleration in domestic infrastructure execution. Losses in Hydrocarbon segment is expected to reduce drastically as the company has made large provisions over the last one year. Execution pickup in the infrastructure segment is expected to drive topline growth during the quarter.

Power Grid is expected to report strong capitalisation during the quarter on the back of commissioning the longest HVDC power transmission corridor connecting northern states with north eastern region. Topline is expected to increase by 19.9% yoy due to strong commissioning over the last one year. The commissioning of large projects in FY16 would boost the company’s earnings over the next two years.

LT, KEC and Power Grid are our top picks in the sector. Q2 FY16 estimates

Company



BHEL 5,898 (4.0) 35.2 3.1 (165) 790 95 (24.1) 179.4

Havells 1,352 (1.0) 6.7 13.2 (2) 52 119 (0.8) 10.4

LT* 22,760 7.4 12.4 11.7 71 41 970 12.6 60.1

Power Grid 5,010 19.9 6.2 86.4 43 (135) 1,437 18.6 5.2

KEC* 2,223 2.3 18.4 6.8 124 (69) 43 110.8 40.8

Kalpataru Power 1,118 (2.0) (4.4) 10.1 100 (37) 42 (1.4) (13.0)

Indian Hume Pipe 299 19.0 40.7 10.4 (31) (52) 11 (5.9) 76.2

Voltas* 984 (0.0) (38.4) 5.8 (206) (237) 51 2.4 (53.8)

Source: Company, India Infoline Research, * Consolidated

Metals & Mining

The stress in the metals sector worsened in Q2 FY16 as metal prices continued to slide. Metal prices remained under pressure due to subdued demand and no signs of production cuts. Exports from China remained strong during the quarter leading to a supply glut as demand was weak across markets. The improvement in demand from the developed nations has been quite slow and Chinese demand was weak due to lower infrastructure and real estate spending. Due to the sharp fall in prices, all the steel companies in our coverage universe would continue to report loss and most of the non‐ferrous companies would report a decline in earnings. Chinese export HRC prices have dropped below the US$300/ton level as input costs have come down and demand in the region was weak. Average steel prices are down by 14.1% qoq and 39.6% yoy. The decline in steel prices for the domestic players would be lower than fall in global prices as they had shown a sharp dip in Q1 FY16 and the fall in domestic prices was lower compared to global prices on anticipation of safeguard duty and depreciation of Rupee.

The Directorate General (DG) of Safeguards recommended a provisional 20% safeguard duty for a period of 200 days on the common variety of hot rolled coil. A safeguard duty will apply to imports from all countries, as the government tries to protect domestic industries. Steel consumption in India grew 5% yoy to 6.2mn tons in September 2015 as production registered a growth of 2.4% yoy at 7.3mn tons. Imports during the month declined 7.7% mom to 0.85mn tons, on the back of imposition of the safeguard duty. On YTD basis, production declined marginally to 45.65mn tons, while consumption registered a growth of

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4.1%. Imports during the same time jumped sharply by 41.4% yoy and exports declined ~26.2% yoy to 2.03mn tons.

Volumes for most of the players would be flat or lower on a yoy basis due to subdued demand and pressure from imports. Prices too are expected to decline by 4‐5% qoq for the players depending on their product profile. Some companies would continue to report an increase in inventory levels as domestic market was flooded with imports and companies were not ready to sell at such lower prices. Coal India is expected to report strong volumes on the back of higher production and some inventory liquidation. Coal India’s blended realisation would be lower due to a decline in e‐auction and washed coal prices NMDC is expected to report weak volumes as demand for the iron ore was weak and domestic private players were selling at a discount to NMDC prices.

The non‐ferrous space was also under pressure this quarter, declining by an average of 12% qoq. Amongst the non‐ferrous space, zinc declined the most with 15.41% qoq, followed by copper 12.9%, lead 11.4% and aluminium 9.3% qoq. Most of the base metal prices are at levels wherein 1/3rd of the global capacities are making losses. Product premiums continued to remain low for the companies. This impact was somewhat offset by the depreciation of the Rupee against the US Dollar.

For the non‐ferrous space, volumes for most of the players would be higher on a yoy basis. Hindalco’s aluminium volumes would be strong on the back of higher output from new capacities. Vedanta’s aluminium volumes too would be higher on the back of higher output from BALCO’s new projects. HZL is expected to report strong volume growth on a yoy basis. NALCO’s external alumina sales volume would be lower due to maintenance shutdown of its refinery and higher internal consumption. Margins for most of the players would be impacted due to lower realisations. The impact of lower product premiums would be somewhat offset by a decline in coal prices.

All the steel manufacturing companies in our coverage universe are expected to report loss during the quarter. Provisions related to DMF would impact earnings of SAIL with captive mining resources during the quarter. Tata Steel and HZL would witness a reversal in provisions as it at provided at higher rate. NMDC too would be impacted by this.

Coal India and JSW Steel are our top picks in the sector. Q2 FY16 estimates

Company



Coal India 17,112 9.1 (12.3) 17.4 424 (789) 2,783 26.9 (26.1)

Hindalco 7,871 (8.0) (8.2) 6.7 (379) (353) (181) ‐ ‐

HZL 3,476 (8.6) (4.3) 50.0 428 (257) 1,760 (19.4) (8.4)

JSPL* 4,840 (5.9) 9.3 25.3 (654) 228 (254) ‐ (25.0)

JSW* 11,341 (18.4) (2.0) 14.5 (558) 45 (63) ‐ (40.8)

MOIL 157 (35.4) 8.0 28.9 (1,302) (2,772) 48 (56.5) (46.3)

NALCO 1,531 (23.3) 2.7 12.1 (1,162) (286) 152 (55.5) ‐

NMDC 1,602 (48.4) (11.3) 56.6 (798) (439) 775 (50.5) (23.2)

SAIL 9,187 (21.3) (3.3) (0.9) (1,237) (7) (543) ‐ 68.8

Sesa Sterlite* 15,745 (19.5) (7.5) 23.6 (872) 19 401 (75.2) (53.9)

Tata Steel* 28,610 (20.0) (5.6) 9.0 (115) (12) 1,394 11.2 82.7

Source: Company, India Infoline Research, * Consolidated

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Oil & Gas Crude oil prices declined on a sequential basis from US$62.1/bbl in Q1 FY16 to US$50.2/bbl in Q2 FY16

(average for Brent) while rupee depreciated against the US$ by 7.2% yoy and 2.4% qoq. Gross under recoveries are expected to be lower substantially on a yoy basis and we expect this to be compensated by government and upstream companies.

Product spreads have weakened on a sequential basis as fall in petroleum product prices was steeper than increase in crude oil prices on back of weakening demand. Resultantly, benchmark GRMs declined on a qoq basis. We expect Reliance Industries to report a GRM of US$8.8/bbl as compared to US$10.4/bbl reported in Q1 FY16. Petrochemical prices too have seen a correction in line with the crude oil prices but we expect the spreads to remain flattish. Crude oil production from MA‐1 field and gas production from KG‐D6 field are likely to see flat trends during the quarter on a qoq basis.

After a strong couple of quarters, we expect OMCs to see some weakness on the back of 1) lower GRMs and 2) inventory losses driven by fall in crude oil prices. While interest costs will continue to decline as working capital requirements continued to trend down providing support to sequential declines in profit.

For Cairn India, we see weak set of numbers on yoy basis owing to 1) a flattish production profile at Rajasthan field, 2) fall in crude oil prices and 3) higher profit sharing with the government. For ONGC and Oil India, we expect net realizations to improve. Sales volume for crude oil and gas is likely to remain flat on sequential basis.

GAIL should witness a weak set of numbers on yoy basis but an improvement on a qoq basis. Yoy weakness is on the back of poor profitability for the petchem segment which will see some pressure as the end product prices have fallen but GAIL’s feedstock prices (natural gas prices) have seen commensurate declines. Volumes for transmission and petrochemicals business should improve. For GSPL, we expect moderate increase in transmission volumes on a qoq basis. Petronet is expected to see a decent yoy growth in revenues driven by higher volumes and higher regas tariffs. However, depreciation and interest expenses of Kochi Terminal will impact profitability. IGL margins are expected to improve owing to lower spot LNG prices.

Our top picks in the sector are Reliance Industries and BPCL. Q2 FY16 estimates

Company Sales (Rs cr) OPM (%) PAT (Rs cr)

Q2 FY16E yoy (%) qoq (%) Q2 FY16E yoy (bps) qoq (bps) Q2 FY16E yoy (%) qoq (%)

Upstream

Reliance Ind 60,568 (37.2) (8.0) 13.6 504 (57) 5,521 (3.9) (12.6)

Cairn 2,291 (42.5) (12.8) 44.2 (2582) (802) 659 (71.1) (21.1)

ONGC 20,269 (0.9) (11.2) 49.8 (371) (334) 4,417 (18.9) (19.1)

Oil India 2,664 21.5 (7.6) 38.7 179 (353) 695 14.2 (10.4)

Downstream

HPCL 44,209 (14.5) (14.7) 3.6 49 (232) 738 (13.2) (53.5)

BPCL 44,887 (27.6) (13.6) 3.9 206 (348) 861 85.4 (63.8)

IOC 89,611 (19.7) (11.5) 6.4 674 (355) 2,881 (323.6) (51.7)

Gas utilities

GAIL 12,074 (14.5) (3.9) 7.5 (680) (80) 474 (63.6) 11.7

IGL 914 (3.9) 1.3 22.1 (66) 39 112 (6.1) 10.3

GSPL 263 (25.3) 1.4 87.8 (426) 16 115 (32.2) 1.9

Petronet LNG 8,648 (21.2) 3.2 4.3 (47) (6) 192 (27.0) 9.6

Source: Company, India Infoline Research

10


Pharma Q2 FY16 pharma results would continue to be a mixed bag as currency headwinds and company specific

issues continue to dominate earnings; Cipla and Dr Reddy’s would be better placed as compared to Sun and Lupin. We retain Aurobindo and Strides as top conviction bets in the sector

Cipla is likely to report 9% qoq decline as most of the gNexium boost has been captured in Q1 FY16 and company had indicated that Q1 supplies have been lower (leading to lower PAT in Q2) which along with higher R&D spends would impact margin by ~400bps qoq to 23%; reported PAT likely to decline ~25% qoq

Dr Reddy’s is likely to extend the momentum seen in Q1 with 2.8% qoq growth in revenues which would be driven by India (+5% qoq on full quarter UCB portfolio integration) and 3% qoq US generics growth; emerging markets expected to fall 30% on currency headwinds. Both margins and PAT would show healthy uptrend at +27bps qoq and +5% qoq

Sun Pharma Q2 revenues would be mostly flat as robust traction in India (+4% qoq) would be offset by lackluster US and emerging market sales; margins would be largely stable qoq while pre exceptional PAT would drop 2.7% qoq

Lupin is set to report a subdued quarter as strength in domestic business (+4% qoq) would be countered by flat growth in other geographies especially US; margins would be flat at 25.8% and PAT up 4.7% qoq

Glenmark Pharma revenues to rise 3.2% qoq as US business ramps up and domestic growth remains strong at 5.7% qoq. Lat Am sales would decline 4% qoq on back of currency depreciation in Venezuela while European revenues would rebound on sequential basis. Margin would be mostly flat qoq while PAT to witness rise of 5.7% qoq

Cadila would report another strong quarter with 21% yoy increase in revenues driven by strong underlying in traction across segments; domestic growth would accelerate to mid teens yoy as was indicated in Q1 earnings while US revenues would jump ~28% yoy driven by HCQS supplies; injectables CRAMs business would continue to drive JV income. Margins would dip 65bps qoq but PAT would increase 13.5% qoq on lower expected tax rate

Aurobindo would report amongst the best set of earnings in our coverage universe with 20% yoy topline growth driven by 26.8% yoy rise in US sales while margins would climb at steady clip to 22.1%; healthy EBIDTA performance would translate into a 28.4% yoy rise in reported PAT

Torrent Q2 revenues would decline 2.5% as gAbilify momentum wears off especially with entry of additional player in July; India branded sales would rise ~15% yoy. Margins would decline ~80bps qoq while PAT would remain flat qoq

IPCA would report 2.3% qoq rise in revenues as institutional business supplies expected to resume from September onwards. Margins would jump 245bps qoq as Q1 included Rs. 30cr in onetime cost

Alembic Pharma would benefit from gAbilify supply with ~11.7ppts qoq rise in margin and 155% qoq surge in PAT on back of ~40% growth in revenues

Granules too would witness strong revenue traction at +17.2% yoy, steady uptick in margin (+23bps qoq) and 11.3% qoq rise in PAT

11


Q2 FY16 estimates



Alembic Pharma* 815 49.0 39.8 29.2 957 1,175 177 131.1 154.7

Aurobindo Pharma* 3,458 20.0 4.1 22.1 (2) 28 478 28.4 10.5

Biocon* 812 7.2 (2.5) 24.3 146 (116) 108 6.1 (14.2)

Cadila* 2,550 21.0 2.0 23.4 343 (65) 401 44.2 13.5

Cipla* 3,505 26.7 (9.0) 23.0 282 (397) 491 64.3 (24.5)

Dr Reddys'* 3,863 7.7 2.8 26.5 376 27 657 14.4 5.0

Glenmark Pharma* 1,709 1.7 3.2 21.9 195 18 202 22.3 5.7

Granules India* 360 17.2 4.2 18.1 108 23 30 36.7 11.3

Indoco Remedies* 224 (2.1) 0.2 18.6 (269) (43) 18 (21.8) (12.8)

IPCA* 776 (0.6) 2.3 13.3 (397) 245 46 (24.5) 141.5

Lupin* 3,129 (1.4) (0.7) 25.8 (43) (12) 550 (12.7) 4.7

Strides Arcolab 284 30.9 5.2 14.2 (51) 46 46 (86.3) 9.3

Sun Pharma* 6,819 43.0 0.9 27.2 (1,851) (18) 1,133 (28.0) 136.3

Torrent Pharma* 1,898 56.0 (2.5) 45.9 2,347 (79) 450 127.4 0.3

Source: Company, India Infoline Research, *Consolidated

Telecom Q2 FY16 would carry the full quarter impact of hike in service tax rate (wef from June 1, 2015) and

lowered ceiling of roaming tariffs; we would also watch out for Bharti and Idea management commentary on recent reported hike in post paid data charges in select circles and overall trajectory of data pricing. We retain Tata Communications, Bharti and Idea as top bets in the sector

Bharti Q2 revenues to be up 0.6% qoq driven by ~1.5% qoq rise in India revenues and 1% drop in Africa topline. Domestic total MOUs are typically the weakest in Q2 and accordingly we budget in 2.5% qoq decline in total traffic while RPMs would broadly remain stable. Africa currency weakness would lead to 1% decline in US$ revenues though constant currency revenues could rise 2% qoq. Consolidated margins would be virtually flat at 35% while PAT would decline ~14% qoq as we note Q1 included Rs. 1,400cr in one off gain from tower sale in Africa

Idea being a pure wireless play has usually seen sharper seasonality impact and Q2 is likely to be no different with total MOUs expected to fall 4% qoq while RPM would remain flat. Margins estimated to fall 70bps qoq on negative operating leverage while PAT would fall 5.7% qoq.

Rcom topline is expected to be lackluster at ‐1.5% qoq on back of decline in mobile traffic while margins too would be lower by 46bps qoq; expect PAT decline of 4% qoq

Bharti Infratel would report a steady quarter with 1.8% qoq revenue growth driven by 0.03x rise in tenancies while margins would improve ~80bps qoq; fuel reimbursements had narrowed to +5.3% in Q1 vs average of +8.4% in the previous four quarters and we expect the reimbursement margin to climb on sequential basis which would also boost PAT (+2.8% qoq)

Tata Comm voice margin would recover from the lows of 6.3% seen in Q1 along with some revival in voice revenues; data margin would also remain flat qoq along with some moderation in data revenues (Q1 saw 8.7% qoq surge in gross data revenues). We expect margin to recover to ~15% and PAT to turn positive.

12


Q2 FY16 estimates



Bharti Airtel* 23,811 4.2 0.6 35.0 116 14 1,332 (3.7) (14.3)

Idea* 8,694 14.8 (1.2) 36.0 310 (69) 878 16.2 (5.7)

Rcom* 5,411 2.3 (1.5) 32.8 43 (46) 170 10.8 (4.0)

Bharti Infratel* 3,070 4.8 1.8 43.8 230 79 592 27.2 2.8

Tata Comm* 5,336 5.2 2.5 15.1 10 47 32 (65.5) ‐

Source: Company, India Infoline Research, *Consolidated

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