To what extent do increased costs erode the profitability of the components of the Crobex10 index?

Despite sporadic spikes in COVID-19 cases, it can be said that economic activities in Croatia in 2022 are finally taking place without the impact of the pandemic that broke out worldwide two and a half years ago.

This is confirmed by the data from the Croatian National Bank (HNB) regarding the value of domestic GDP at current prices. After amounting to 412 billion kuna in pre-crisis 2019, and falling to 378 billion at the end of the pandemic-affected 2020, in 2021, GDP returned to its pre-pandemic level after a real increase of 10.2 percent, amounting to 430 billion kuna.

The growing economic trend continued into 2022. In the first quarter, GDP was 7 percent higher in real terms year-on-year, and the latest analyses and research by economists suggest similar growth in the second quarter.

Such positive economic conditions have also reflected on the corporate sector’s performance in Croatia and, more importantly for investors on the Zagreb Stock Exchange, on the components of the blue-chip index Crobex10. Data from the latest published financial reports of the ten most important companies on the Stock Exchange for the first six months are presented in two tables below.

Table 1: Business results of Crobex10 components compared to 2021.

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Source: Zagreb Stock Exchange; Fima-vrijednosnice

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Table 2: Change in sales revenue and expenses compared to 2021.

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Source: Zagreb Stock Exchange; Fima-vrijednosnice

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A double-digit increase in sales revenue in the first half of the year was recorded by 5 out of 10 components. Among them, the recovery of the tourism sector stands out, given the easing of measures that led to a significant increase in demand for accommodation in hotels, resorts, and camps. Thus, hoteliers Arena and Valamar achieved sales growth of 307 percent and 166 percent, respectively, compared to the first half of 2021, while the Adris group, whose results partially include the tourism segment, had a growth of 20 percent.

Additionally, impressive business growth was achieved in other sectors. Namely, high freight rates favored the operations of the largest domestic shipping company, Atlantska plovidba, which realized a 57 percent increase in sales. With attractive business results in 2022, Končar also stands out. This group had a sales jump of 37 percent, but growth without the consolidation of the recently acquired Dalekovod indicates a positive result, as sales grew by 20 percent without it.  

On the other hand, the geopolitical situation caused by the Russia-Ukraine crisis and the previously existing shortage of semiconductors and disruptions in supply chains negatively affected the revenue decline of the leading domestic manufacturer of automotive components, AD Plastika. Thus, AD Plastik recorded a sales decline of as much as 30 percent under these unfavorable conditions.    

However, this revenue growth was accompanied by an increase in expenses, which was contributed to by inflation present in almost all EU member states and beyond. For instance, in June of this year, Croatia recorded an inflation rate of 12 percent year-on-year (measured by the consumer price index), which is a record in recent history, while the annual rate of the producer price index in the same month reached 24 percent due to a pronounced increase in energy prices.

In this regard, it is important to observe the dynamics of expense movements in these reports. In the same tables, it is evident that a double-digit increase in business expenses was recorded by 8 out of 10 components during the first half of the year. Additionally, a negative indicator is that three components (Atlantic group, Ericsson Nikola Tesla, and Podravka) recorded a higher increase in costs than the increase in sales, while in the case of AD Plastika, the decline in costs was smaller than the decline in sales revenue. Analyzing expenses in Table 3 shows that the equal impact was due to the increase in material costs as well as the pressure from increased labor costs.

Table 3: Change in material and personnel costs compared to 2021.

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Source: Zagreb Stock Exchange; Fima-vrijednosnice

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For the observed companies, material costs increased on average by 37 percent while personnel costs grew by 45 percent. In the case of predominantly food companies, Atlantic group and Podravka, a noticeable doubling of the increase in material costs compared to sales growth indicates that the majority of the increased costs of these companies could not be passed on to their customers. At the same time, Ericsson Nikola Tesla had a pronounced increase in personnel costs, which, in addition to wage increases, was also related to an increase in the workforce by 130 employees in the Group during the first six months.

In terms of the growth of these costs, hoteliers led the way, with Valamar’s case tipping the balance towards labor costs. This company emphasized in its semi-annual report that besides increased costs, primarily for electricity, there was also an increase due to higher labor costs, and that salaries for professional occupations increased on average by 14 percent.

The most optimal ratio of sales revenue growth to costs was noticeable in the shipping company Atlantska plovidba, whose operating costs grew by about twenty percent, almost three times less than the growth of sales revenue.

Related to all of the above, as seen in Table 1, a higher net profit among the observed companies was recorded by five components (Adris group, Atlantska plovidba, HT, Končar, and Podravka), while Arena reduced its loss. Under the influence of higher costs, Atlantic group and Ericsson Nikola Tesla achieved lower profits in the first half of the year, while Valamar increased its loss. These results are also reflected in the profit margins shown in Table 4.

Table 4: Net profit margins of Crobex 10 components

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Source: Zagreb Stock Exchange; Fima-vrijednosnice

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When it comes to profitability, Atlantska plovidba again stands out, having operated in the first half of the year with the highest net profit margin of 41.6 percent, almost double that of the previous year. A double better result was also achieved by Adris group (increase from 2.4 percent to 5.8 percent), HT (increase from 4.5 percent to 8.9 percent), and Končar (increase from 4.7 to 10.3 percent). On the other hand, Podravka’s net profit margin slightly decreased from 9.1 percent to 8.4 percent, Atlantic group’s from 8.1 percent to 5.6 percent, and Ericsson’s from 10 percent to 6.4 percent.

The impact of historically high inflation on profitability that all companies, especially those in Europe, are facing this year is already visible in the results for 2022. For this reason, it is appropriate for informational purposes to compare the profitability of these companies over the last five years, which included key events in the recent past, with their respective impacts on profitability. For example, the first half of 2017 was marked by the crisis of the Agrokor group, 2019 was the year before the pandemic began, and the unforgettable year 2020 was when the pandemic started.

Table 5: Net profit margins of Crobex 10 components for the first six months over the last 5 years

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Source: Zagreb Stock Exchange; Fima-vrijednosnice

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From Table 5, it is evident that Atlantska plovidba and Končar operate with the highest profit margins over the past 5 years. Podravka’s net profit margin continues to maintain the highest levels since 2017, while in the case of Ericsson Nikola Tesla, it is at the average level. Companies related to tourism activities, Valamar, Arena, and Adris show signs of progress compared to the last two years, but are still below pre-pandemic levels. And despite the challenges in 2017, during the Agrokor crisis, and in 2020, during the pandemic, Atlantic group and AD Plastik showed the weakest results precisely this year.

With the aforementioned information from the past and not-so-positive expectations for the second half of the year, which suggest macroeconomic uncertainty due to rising energy costs, it is realistic to expect that these data will not improve. This is also indicated by investor sentiment, as the stock prices of these companies have gradually slid since the beginning of the year. The Crobex 10 index has lost 5 percent since the beginning of the year and currently records weaker performance than the main Crobex index, which includes 22 components, and which has fallen by 3 percent.

DISCLAIMER:

The content of this article does not constitute investment advice nor should it be interpreted as a recommendation to buy or sell or a call to buy or sell a financial instrument or group of instruments mentioned herein. All information presented in this article is provided solely for informational purposes. Before trading any financial instrument, it is important to consider the risks associated with investing in them. Trading in stocks, ETFs, and other financial instruments involves high risk, and there is a possibility of losing part or all of the invested amount. Past returns of financial instruments are not a guarantee of future returns.