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4 macro-economic factors that can affect corporate profits in FY18-19
The Indian economy has seen a lot of turbulence in the last 15 months. However, experts were confident of a revival in the economy. There were high expectations of an increase in profit growth for Indian companies during the March quarter of 2018.
Unfortunately, the results were not very encouraging across many sectors in the economy. Plus, many analysts have downgraded earnings estimates for not only FY2019 but also FY2020.
So, what has gone wrong? Let’s discuss some of the macro-economic factors that could have an adverse impact on corporate profits.
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Rise in input prices:
Regardless of a company’s size, one of the key factors that influence profit margin is input prices.
Lower the input prices, higher the profit margins and higher the input prices, lower the profits. For example, imagine the selling price of a car is Rs 5 lakh. Now, if the cost of making the car is Rs 4 lakh, the company makes a profit of Rs 1 lakh per car. But if the input costs rise to Rs 4.5 lakh, the profit margin decreases.
Lower input costs were one of the major drivers of growth for manufacturing firms between the FY 2014-2017, according to a report by Livemint. However, rising input prices over the past year have weighed down on profit margins for many companies. The price of crude oil, for example, has risen by 16% during the first five months of 2018. (Read how the rising crude oil prices affects Indian economy) -
Rise in interest rates:
Most corporate companies in the country depend on debt for financing growth and expansion. A rise in interest rate means that banks charge companies more for business loans. Higher the rate of interest on a loan, costlier it becomes for companies to commit funds to these projects. This leads to a reduction in the company’s profitability. Interest rates have an impact on stock markets too. Click here to read how it affects.
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Inflationary pressures:
Anything in moderation is good. The same can be said about inflation. A rise in inflation can be a sign of rising demand in the economy. Consumers have an incentive to make purchases and companies to make investments. However, it can be a problem if inflation goes beyond a certain limit, especially if the cost of production rises or if inflation in the country is higher than that of global competitors. Companies would face higher costs and an uncertainty about future investments and projects, which results in falling profitability. (Did you know, rural and urban inflation tend to vary? Read why)
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Uncertain politics:
Politics and the economy go hand in hand. Any change in governmental policies could have a great impact on the profitability of a company. For example, if the government increases corporate tax, it is possible for a company to see its profits go down by crores of rupees. This is because a rise in corporate tax has a similar effect of rise in costs for companies. With the general election less than a year away, the politics in the country are quite uncertain. This has a big impact on corporate profits.
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17.68
As of 4 June, 2018, BSE Sensex was trading 17.68 times its expected earnings for this fiscal year, according to a report by Livemint. In comparison, the MSCI Emerging Markets Index trades only at 11.64 times. This makes means the Indian market has one of the highest valuation among its peers in the market. As a result, there seems to be a huge disconnect between market valuations and weak macro-economic outlook. according to Kotak Institutional Equities.
