India Inc’s deteriorating cash flows signal a bad omen for capex

Market


India Inc.’s aggregate operating cash flows have fallen year-on-year for the half year ended 30 September. This is among the key takeaways from Nuvama Research’s earnings performance analysis of BSE500’s private companies. For perspective, cash flows had risen each year over FY20-FY22. Due to the lumpy nature of their cash flows, public companies were excluded from this study.

The worsening trend of operating cash flows was mainly seen in capital-intensive sectors such as metals, cement, real estate and chemicals. This subdued movement in operating cash flows does not bode well for corporate sentiment and could weigh on their investments/expansion decisions.

Reality check

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Reality check

“In the current backdrop, the old adage, ‘Topline is vanity, the bottom line is sanity and cash flows are reality,’ fits well as far as corporate earnings are concerned,” Prateek Parekh, vice president, institutional equities, Nuvama Wealth Management. In the six months ended 30 September, India Inc. reported strong revenue growth of over 25% from a year earlier; however, profits have been weak, and operating cash flows contracted, showed the Nuvama analysis. “This usually happens during downturns,” he said.

Further, he reckons that the weakening in cash flows from operations points to the piling up of inventory and increased receivables. “The deterioration in cash flows in the capital-intensive sectors could be a precursor to capex slowdown, cost cutting (lower formal sector wages) and consequently a demand slowdown,” he added.

This means if operating cash flows worsen, it would eventually have repercussions on companies’ revenue growth. Also, what makes the situation tricky for companies is that the cost of borrowing has increased.

“In a rising interest rate scenario, companies with poor operating cash flows might have to borrow more, which would hamper their overall earnings growth in FY23,” said Madan Sabnavis, chief economist at Bank of Baroda. For the second half of the fiscal year, he expects the operating cash flows of Indian companies to continue to remain weak. “Unless inflation significantly cools off, companies will see little respite on this front,” he added.

Meanwhile, company commentaries in sectors such as cement, paints and tyres indicate that input cost inflation is easing. However, the benefits on operating margins will reflect over a few quarters. That said, the likelihood of meaningful earnings upgrades for Indian companies is capped, at least for now, given the ongoing worries about a potential global recession.

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