Focus on profitability

The fare hike adequately compensates for the ATF cost increase in recent months.

The Jet Airways stock, which was languishing near its IPO issue price of Rs 1100 at the beginning of this week, got a boost on news that the company would increase fares on all its domestic routes by 10 per cent. The stock now trades at Rs 1235, about 11 per cent higher than week-ago levels.

To start with, the 10 per cent increase in domestic fares adequately compensates for the increase in the cost of aviation turbine fuel (ATF) in recent months. In the June quarter, Jet Airways had an EBITDAR (earnings before interest, tax, depreciation, amortisation and aircraft lease rentals) margin of 27.8 per cent.

Even if fuel expenses in the December quarter increase by about 27 per cent compared to the June quarter, the EBITDAR margin would continue to be at the June quarter levels thanks to the increase in fares.

Of course, since the price increase is effective only for tickets issued on or after October 14, 2005, the full impact of the increase will not be visible in the December quarter.

What's more important is that Jet and other players have decided to go ahead with the price increase despite the intense competition in the airline industry.

The hike in fares follows one in April by Jet, and cumulatively the two hikes amount to over 23 per cent. This, to a large extent, puts to rest the concern that Jet would not be able to hike rates because of the entry of a host of low cost carriers.

The fact that most carriers (as of now Jet Airways, Indian Airlines, Air Sahara and Air Deccan) have announced price hikes means that amidst all the competition, carriers continue to keep an eye on profitability. This is obviously a good sign from an investor's point of view.

Steel: Signs of melting

Steel companies are expected to report lackluster results for the September quarter, because of lower steel prices on one hand and rising input costs on the other.

As a result, Business Standard's Steel Index has under-performed the Sensex over the past fortnight, gaining a mere 1.9 per cent, compared to a 3.7 per cent rise in the Sensex. Hot rolled coil (HRC) prices were about 10 to 12 per cent lower on a year-on-year basis last quarter.

China's growing steel exports, thanks to the 27 per cent increase in its production between January to August this year, were mainly responsible for the pressure on steel prices.

To combat the pressure on prices, some players like Tisco have been increasing sales to auto manufacturers where prices have not been subject to such intense pressure thanks to long term contracts.

The company's saleable steel has grown 14 per cent to 1.18 million tonnes in the September quarter, helped by a 221 per cent growth in galvanised product sales to the auto sector.

Apart from lower prices, another cause for worry (especially for players like SAIL) is the impact on EBITDA margins due to higher coal prices. According to analysts, SAIL could see EBITDA margin falling as much as 650 basis points because of the twin impact of lower prices and higher costs.

This could lead to a profit decline of over 30 per cent. Tisco, however, is expected to manage its input costs better thanks to the recent commissioning of the G blast furnace.

Its EBITDA margins are expected to decline only about 100 basis points, and as a result earning before tax and exceptional items is estimated to increase by about 15 per cent in Q2FY06.

Banks: Mixed bag

Results from the banking sector for the quarter ended September are likely to be a mixed bag. While some banks are likely to turn in strong profit growth, some others are expected to face pressure on their bottomlines.

Banks, which had large treasury profit in the year-ago September quarter, are likely to see pressure on profit growth.Overall, the operating environment in Q2FY06 has been good: non-food loan growth (excluding IDBI) has been in the region of 29 per cent y-o-y and interest rates have remained stable.

The credit-deposit ratio has been on the rise, touching 65 per cent, which indicates that credit has been growing faster than deposits. Deposits have risen by around 16 per cent y-o-y.

Therefore, both the core interest income from loans and fee income should see good growth. Analysts expect the average net interest income to rise by about 15-16 per cent on an average, though it could be double that number for some of the larger private sector banks.

However, there could be a fall in treasury income unless banks have booked gains through sales of equities. In other words, the pressure on banks' bottomlines would be felt more because of a fall in investment yields than from asset yields.

Also, while there should not be any significant depreciation in investment portfolios, provisions from HTM amortisation could be larger. Profit growth is largely expected to be driven by strong loan growth, lower growth in operating expenses and lower provisioning.

While margins are expected to remain stable on a quarter-on-quarter basis, there could be some fall y-o-y, given the high base of FY05. Banking stocks have outperformed in recent months and currently trade in a range of 1.1-5.1 times FY06 book value.

However, given the strong operating environment some banks could continue to post good numbers for FY06 and FY07.

Additional contributions from Amriteshwar Mathur and Shobhana Subramanian