The Index

The blame should go to increasing competition in the denim market, especially in the Asian region where there has been a sharp increase in capacities in the recent past. In the past 24 months, several new companies have entered the market, while foreign brands have made their dents in the domestic denim market.

Arvind has recorded decent volume growth, but at the cost of lower realisations. Demand has not shown anticipated growth and shown a shift in favour of twills and gaberdines.

While realisations have fallen, costs have not shown a similar decline, on account of higher prices for themain raw material, cotton. As a result, profit margins have suffered badly. During 1997-98, with a 14.7 per cent fall in operating profit to Rs 159.38 crore, operating profits dropped from 21.63 per cent to 17.16 per cent.

Pressure on margins was greater in the second half of 1997-98. Though sales were 18 per cent higher in the second half at Rs 503 crore, operating profit stood at Rs 60.19 crore as compared to Rs 89.19 crore in the first half of the year. Operating margins fell from 20.99 per cent in the first half to 11.95 per cent in the second half.

For the future, although volume sales of denim are expected to remain high, price realisation will continue to be under pressure. However, the impact of the commissioning of the company’s new shirting and knits complex will be fully felt in the current year. The falling value of rupee also augurs well for Arvind Mills.

LML

Although at first glance the 13.55 per cent bottomline growth at LML appears unimpressive, a backdrop of dwindlingtwo-wheeler offtakes helps put the earnings growth in perspective. LML managed to sell 1.56 lakh units, which works out to a 9.65 per cent volume growth over last year. This at a time when market leader Bajaj Auto registered a negative sales growth of 11.48 per cent in scooters, and after a marked shift in two-wheeler demand from scooters to motorcycles. Improved realisation per unit have also helped.

Income from operations at Rs 405.62 crore was up 20.97 per cent. Cost control and a just-in-time approach to inventory management, has helped LML improve operating margins which jumped from 9 per cent to 10.47 per cent.However a burgeoning interest burden of Rs 12.63 crore (Rs 9.71 crore last year), which was a result of LML’s increased borrowings has created a drain on earnings. Last year’s profits were depressed due to an additional expenditure related to an exceptional write-off of Rs 4.35 crore, which pertained to an amount recoverable from Ession Synthetics. Furthermore a marginal hike in the depreciationcharge and a higher effective tax rate of 21.47 per cent (only a provision for MAT was made last year) have all eroded earnings growth at LML. Net profits as a result were up 13.55 per cent to Rs 17.01 crore.

While a doubling of LML’s production capacities to 6 lakh units per annum augurs well for the future, a lot would also depend on LML’s ability to aggressively price its models. Furthermore talks with Piaggio if successful, could well guarantee a buy back of a specified quantity of components, CKD kits or complete two-wheelers. This would then translate into a boost for exports from the current levels of around 650 units per month to about 3,000 units. But this aside, while volume growth could be a key driver of earnings, margins in the interim are likely to be squeezed due to increased ad-spend on new products. Furthermore as the expansion project is being executed on the existing production lines, disruptions and hence drop in output could result in higher cost overheads.

Monetisation

Withrevenues dipping, the government is being forced to borrow through the Ways and Means Advances (WMA) route and is often breaching the targeted 75 per cent of Rs 11,000 crore to meet its short term mismatches. This is forcing it to float securities in the market or privately place securities with the RBI at market rates. This frequent breaching of the WMA will lead to greater monetisation and ultimately a higher rate of inflation.

In the current financial year, the government has privately placed Rs 10,000 crore with the RBI along with another Rs 3,999.5 crore devolving on the apex bank. This means that the net RBI credit to the government is right now pegged at around Rs 14,000 crore. As a result of the rise in the net credit by the RBI to the centre, the reserve money grows and finally leads to an rise in the supply. The growth in the money supply will naturally fuel inflation to double digits, especially at a time when the government has presented a budget which will lead to cost push inflation. The RBIshould resume open market operations (OMO) and sell these securities now as there is liquidity in the system.

M3 growth is now hovering around 17 per cent much higher than the laid down level of 15-15.5 per cent. The RBI will do well to keep it under the 16 per cent level as otherwise it will be difficult to bring down interest rates.

(With contributions from Deepak Singh Tanwar, Percy Dubash and Anirban Nag)