Strategy: Weak 1QFY18 direct tax revenues suggest growth pangs - Kotak

Weak 1QFY18 direct tax revenues suggest growth pangs. The modest growth in direct tax revenues in 1QFY18 probably reflects (1) underlying weakness in the economy and/or (2) companies' assessment of a weak FY2018. We were hopeful about an uptick in tax revenues post demonetization from higher declaration of unreported income. However, overall direct taxes grew around 85% (gross basis including refunds), which would suggest that the economic recovery is somewhat weaker versus expectations.

Weak direct tax revenues in 1QFY18

1QFY18 gross direct tax revenues (before refunds) grew around 8.5%, lower than the reported 14.8% growth in tax revenues (net basis after refunds) (see Exhibit 1). We note that government data gives only absolute net tax revenues and press articles typically report growth in net tax revenues, which had suggested a reasonably strong growth in tax revenues for 1QFY18. However, gross tax revenues are probably more relevant to assess the performance of the economy as net tax revenues can be distorted by refunds. We have made certain adjustments to compute absolute gross revenues as government data does not give the breakdown of refunds between corporation and income tax. Nonetheless, overall direct tax growth of around 8.5% (gross basis) for 1QFY18 is on the lower side.

Corporation tax growth of 4.8% probably reflects likely low FY2018 profits in certain sectors

The 4.8% growth in 1QFY18 gross corporation tax revenues versus net revenue growth of 22.4% may reflect (1) companies' assessment of low growth in FY2018 net profits; we expect net profits of KIE Universe to increase 9.5% yoy in FY2018, (2) lingering effects of demonetization on smaller companies and (3) possible slowdown in corporate activity before the implementation of GST. Also, it is possible that there may be timing issues with respect to payment of taxes by companies as they may want to assess pending issues (GST in general and NPL provisioning in the case of banks) that may impact their FY2018 profits and taxes.

Income tax growth of 12.9% is somewhat disappointing

The 12.9% growth in gross income tax (versus reported net revenue growth of 8.5%) is somewhat disappointing versus our expectations of a pick-up in income tax revenues after demonetization. We were hopeful about higher declaration of unreported income after the demonetization exercise but it seems that the short-term negative impact of demonetization was probably bigger and also, economic activity weaker in general.

Overall net numbers are still in line with full year FY2018 estimates of the government

The 14.8% growth in net direct taxes (reported basis post refunds; 22.4% for corporation tax and 8.5% for income tax) for 1QFY18 is moderately lower versus the government's FY2018 estimate of 16% growth in overall direct tax revenues broken down between 9% growth for corporation tax and 25% for income tax. The composition of 1QFY18 direct tax revenues (net basis) is quite different versus FY2018BE figures but that probably reflects the quantity and timing of refunds. We would watch for progress in income tax revenues over the course of the year as the government is quite hopeful about a strong growth in income tax revenues.

Source : Equity Bulls

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