Gross margins will compress more as inflation delays normal, says Sanjeev Prasad of Kotak Equities

Market Outlook

Gross margins for Indian companies will likely compress more in the first half of the coming financial year, Sanjeev Prasad, co-head of institutional equities at Kotak Institutional Equities, told CNBC-TV18 on March 28.

“I think the hope that was there that we will see some normalisation of margins and volumes in FY23, now that seems unlikely,” Prasad said.

Gross margins, the difference between net sales and cost of goods sold, have been squeezed by an unprecedented increase in input costs across the board led by global crude oil.

Global crude oil prices have rallied more than 50 percent in the past six months while several base material prices have surged after Russia’s invasion of Ukraine. In March alone, domestic steel companies have raised product prices twice and analysts expect further hikes.

“The input cost situation is quite serious,” Prasad said. According to Antique Broking, a $ 10 per barrel rise in oil prices shaves 3-4 percent off earnings growth expectations for Nifty 50 companies.

The lofty input prices that companies find hard to pass onto consumers have raised concerns over the market’s assumption that earnings could grow north of 20 percent in 2022-23.

That said, Prasad is hopeful about the financial services space, especially lenders. The veteran equity strategist said that an improvement in credit growth could result in re-rating for lenders while further stagnation could anchor such stocks to current levels.

The Nifty Bank index has fallen more than 10 percent in 2022 so far owing to incessant selling pressure from foreign portfolio investors.

“Financials is the only space where valuations are reasonable,” Prasad said.

He also appeared positive on telecom where he sees further tariff hikes in 12-18 months stemming from Bharti Airtel’s ambition of bumping up average revenue per user and Vodafone Idea’s need to survive.

Prasad expressed concerns over the rural economy where farm incomes have likely stagnated over the past few months, a situation complicated by runaway inflation in consumer staple goods.

He said that growth in farm input prices has been higher than the rise in farm output suggesting a need for government intervention to support rural demand.

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