Emkay Global has reduced its Nifty target by 4% to 25,000 from 26,000, attributing the cut to disappointing second quarter earnings led by the discretionary and staples sectors, alongside worsening corporate cash flows.
Despite the downgrade, the brokerage reassured investors, stating there is "no cause for panic", as it expects a recovery in consumption growth by FY26, once current headwinds subside.
The brokerage also noted that Operational Cash Flow weakness was likely caused by delayed government payments and expects a recovery in the second half of this fiscal, while a pickup in capital expenditure remains a positive for long-term growth.
However, these factors do present near-term headwinds for the market.
Earnings Underperformance
Consumer companies were the primary drivers of the earnings disappointment, with both staples and discretionary sectors reporting weaker-than-expected revenues. Emkay highlighted that average topline growth for these sectors dropped to 2.19% in the second quarter from 12.35% in the first quarter.
While discretionary consumption grew 6% year-on-year, staples declined by 3.1%, missing projections of a recovery in mass consumption.
Cash Flow Challenges
OCFs also came under pressure, with OCF-to-Ebitda for the BSE-500 (excluding BFSI) falling to 71.4% from 81.8%, sequentially. Free cash flow also took a significant hit, contracting 51.7% year-on-year, with FCF-to-profit after tax declining to 35.9%.
Sectors such as discretionary, materials, and industrials saw the worst of it with a weakened OCF alongside accelerated capital expenditure, exacerbating the strain. However, Emkay attributed some of the OCF weakness to delayed government payments, which it expects to normalise in the second half of the fiscal.
On a positive note, capital expenditure grew 16% year-on-year, signalling optimism for long-term growth despite immediate challenges.
Sector Preferences
The brokerage retained its sector outlook, remaining overweight on telecom, IT, energy, materials, and utilities. It is neutral on consumer discretionary, industrials, healthcare, and real estate, while remaining underweight on financials and staples.
In Emkay's Model Portfolio, 'add' rated Bharti Airtel Ltd., 'add' rated Reliance Industries Ltd. and 'buy' rated Larsen & Toubro Ltd. have the highest weightage.
Top SMID picks include 'buy' rated Escorts Kubota Ltd., Gopal Snacks Ltd. and Saregama India Ltd. and 'add' rated Jubilant FoodWorks Ltd. and One97 Communications Ltd.
Emkay's Market Outlook
The weak earnings season led to a 2.5% cut in Nifty EPS projections during the reporting period, with fiscal 2025's EPS growth estimates now weak at 8%.
While earnings downgrades have been steady rather than alarming, the brokerage flagged a marked reduction in upgrades, with only 2% of companies seeing upward revisions in the third quarter (till date) compared to 24% in the first half of the fiscal.
Emkay rolled over its Nifty target to December 2025 and revised its target price-to-earnings ratio to reflect weaker near-term prospects. However, it maintained a positive long-term view, citing India's improved macro-financial resilience and a projected recovery in consumption by fiscal 2026.
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