Corporate Tax

The complete import of shrinking corporate margins

Industry gross profit margins have narrowed as the corporate sector struggles with soaring commodity prices and sluggish consumer demand. Mint explains what that means.

What does gross profit margin squeeze mean?

Gross profit margin is the percentage of sales that remain after subtracting the cost of goods sold. It is derived by subtracting these costs from the net sales and dividing the result of the subtraction by the net sales. The production costs of the goods sold include the direct costs incurred in the production, such as wages and raw material costs. A decrease in sales volume and an increase in raw material prices and labor costs could be some of the factors negatively affecting the gross profit margin. The corporate sector has recently seen a decrease in gross profit margin due to rising production costs.

What is putting pressure on margins?

International commodity prices have risen, according to the July 2021 financial stability report. The commodity markets have broken records and the price pressure on commodities such as raw and base metals has been high. This has led to increased raw material prices, which has led to an increase in input costs. Thus, the cost of production per unit of companies has increased, which has led to a decrease in gross profit margins. Chemicals, capital goods and the automotive sectors were hit by higher raw material and freight costs, while the technology sector was hit by attrition-driven supply pressures on profit margins.

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Rising prices

What is the trend in corporate margins?

Prices for commodities such as copper, steel, aluminum and polypropylene rose 44%, 38%, 22% and 29%, respectively, which caused the consumer staples sector margins to decline 2-5% in the 2HFY21. The automotive sector was negatively impacted in the first quarter of FY22 due to rising raw material costs and reported an impact on raw material costs of 3-4 pp. Qoq.

What is at stake for the general public?

Companies can be forced to bear high production costs. But with the start of the festival season and the onset of vaccinations, which lead to a pickup in demand, sales volumes would increase. This would give companies the confidence to shift the burden of increased production costs on to consumers, which would result in higher production costs and higher prices for consumers. Inflation, viewed as “temporary”, has forced companies to run out of room for raw material costs and it is only a matter of time before the price shift takes place.

Who are the other stakeholders?

Corporate tax collection is hampered, which has negative effects on welfare systems and development activities. It will also continue to weigh on the budget deficit. For companies, too, the balancing act between protecting tight margins and pursuing a sluggish demand strategy could result in shareholder dividend earnings being negatively impacted. In addition, companies’ reinvestment plans are likely to hit with lower profit margins, resulting in lower levels of private sector investment.

Jagadish Shettigar and Pooja Misra are faculty members at BIMTECH.

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