Escorts earnings only show that calling a rural recovery right now would be pompous⁠— all eyes will now be on M&M

• The 25% fall in first-quarter revenue, and a small 5.3% growth in profit, for Escorts— shows that the bottomline needs more than optimism.
• Mahindra and Mahindra, the other major player in the tractors segment, is yet to declare its earnings but the stock took a dive right after Escorts released its earnings.
• The fact of the matter is auto sales in India were sharply down even before COVID-19 struck. So, a recovery back to the levels seen before the lockdown will hardly be a solace.

The 16% rally in India’s benchmark stock index Sensex since May-end relied heavily on the supposed strength of India’s rural economy. The optimism was reinforced when tractor sales in June jumped over 22% compared to last year.

However, the 25% fall in first-quarter revenue, and a small 5.3% growth in profit, for Escorts— a nearly $2 billion firm that primarily makes tractors⁠— shows that the bottomline needs more than optimism.

Mahindra and Mahindra, the other major player in the tractors segment, is yet to declare its earnings but the stock took a dive right after Escorts released its earnings.

It is true that rural India has, so far, seen fewer COVID-19 infections and farming has continued largely unabated. Fertiliser sales spiked while every other industry dawdled.

However, that’s not enough. “Agriculture has certainly done well, but it constitutes only around 25-30% of total income of a rural household. The rest usually comes from the services sector,” Benjamin Mathew, Partner & Head of Strategy, MART Global Financial Solutions, reportedly said in a recent conference held by the broking firm Nirmal Bang. What this means is, agriculture alone can’t sustain the rural economy and consumption in those parts.

A farmer from Sirsa Mohan in Amroha district of western Uttar Pradesh told The Indian Express that for the first time in summer the milk prices fell, despite the buffaloes producing less milk. He said from August onwards buffalo’s calving season would begin and production will go up, peaking in the winter and remaining high till March-April. And if the situation continues like this, he said the festival demand isn’t also going to be good either.

While the rural consumption in India is being loosely described as ‘strong’ or as ‘pent-up demand’, Nomura showed that it was still 64% of pre-pandemic level in June. This was reflected in the volume growth clocked by Hindustan Unilever, India’s largest consumer products maker, in the last three months.

The weakness in consumption can be explained by the return of unemployment in rural India. Factories in industrial areas are not able to resume work fully because migrant workers have gone back to the villages, while farms have no more space to employ the migrants who have returned home.

The general assumption is that if the rural economy is doing well, then the sale of two-wheelers will spike. But, unlike tractors, two-wheeler sales fell over 40% in June 2020 compared to a year earlier. It should have been a warning sign for the optimists.

Similarly, Escorts too paid the price as other business segments came to a grinding halt. “While we have witnessed faster revival in our agriculture business this quarter, our construction and railway business have been impacted because of lockdown and related issues across geographies,” Chairman and Managing Director Nikhil Nanda said in a statement to the exchanges.

Railway traffic shrunk, both in terms of passengers and freight.

The slowdown in railway wagons and construction equipment was so sharp that agricultural equipment (including tractors) now make for 90% of Escorts revenue compared to 76% just three months ago.

While Nanda is going with hopes of a rural recovery, another company Mahindra and Mahindra Financial Services ⁠— a company that makes over a sixth of its revenue from tractor loans⁠— is siding with caution. The lender is shoring capital via a ₹3,000 crore rights issue, preparing for the worst and hoping for the best. If its rural borrowers aren’t able to repay the money, the proceeds will keep the company solvent, and if they do, the additional capital can be used for growth, Vice Chairman and Managing Director Ramesh Iyer explained in an interview with Business Insider.

Not everyone is sure of better times in the near future

There is a lot of doubt over the much-celebrated surge in demand during the festive season in India that begins in August and peaks during Diwali in October-November. “..firstly, Covid-19 is expected to peak in India around Sept-Oct. Secondly, the economy is weak and hence its impacts like job losses and pay cuts will be visible going forward,” the Nirmal Bang report said.

The fact of the matter is auto sales in India were sharply down even before COVID-19 struck. So, a recovery back to the levels seen before the lockdown will hardly be a solace.

While it will require more data ⁠— including earnings from the likes of M&M, Marico, Hero Moto, Jain Irrigation, and UPL to name a few ⁠— to get a clear picture of the rural economy, any further delay in economic recovery would bring the recent stock market rally to question.

As of now, Nomura expects four straight quarters of economic contraction.

As M&M Financial Services’ Iyer explained, “to expect any growth this year would be out of the question. I think if you look at March volumes, it will be at 50-60% of the previous year. I mean you have already lost a quarter without doing much in the market. And, July and August are not going to be kind of very aggressive. Anything that will happen will happen post-October. Any growth anyone is taking is I guess 2021, 2022, 2023 kind of a story.”

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