Smallcap profits surged 37%, outliers account for a big chunk of the gain

Smallcap companies have delivered faster profit growth than largecaps over the past decade, but a closer look at the numbers shows that a meaningful part of the outperformance is driven by a handful of extreme performers, according to a new analysis by DSP Asset Managers.

Smallcap profit after tax (PAT) compounded at 36.8% annually between FY17 and FY26, compared with 21.2% for midcaps and 14% for largecaps, according to DSP’s analysis of historical Nifty 500 constituents.

However, the apparent smallcap advantage narrows considerably when the best and worst 2% of companies by aggregate profits are excluded. Smallcap PAT CAGR falls to 24.8%, from 36.8%, while midcap PAT CAGR drops to 17.1% from 21.2%. Largecap PAT CAGR, in contrast, barely changes, declining to 13.5% from 14%.

“If you remove the best and worst by profits from each market cap pool, the 36.8% PAT growth for Small caps falls to 24.8% while it barely changes for large caps,” said the report.

The findings suggest that while smaller companies have generated stronger aggregate earnings growth over the longer term, investors should be cautious about extrapolating that performance in a straight line.

Margin recovery drove much of SMID earnings growth

DSP’s analysis attributes a substantial portion of the earnings outperformance of midcaps and smallcaps to margin expansion rather than superior revenue growth.

Largecaps recorded a 13.5% revenue CAGR between FY17 and FY26, actually higher than the roughly 11% revenue CAGR for both midcaps and smallcaps. Yet their PAT compounded at only 14%, compared with 21.2% for midcaps and 36.8% for smallcaps.

The difference was largely profitability.

Smallcap PAT margins increased from just 1.3% in FY17 to 8.4% on a trailing 12-month basis through June 2026. Midcap margins rose from 6% to 12.8% over the same period. Largecap margins, meanwhile, moved from 11.9% to 12.4%.

“SMIDs began from a severe profitability problem. As margins normalised, PAT naturally grew much faster than revenues,” DSP said in its analysis.

Change the starting point, and the story changes

The long-term numbers also look very different depending on the starting year.

From FY22 to FY26, midcaps remained the strongest earnings performers, with PAT compounding at 20% annually. Largecap PAT grew at 15.8%, while smallcap PAT grew at just 13.7%.

Smallcap revenue growth over the period was stronger than its profit growth, with revenue compounding at 12.4% compared with 13.7% PAT growth. Its PAT margin barely moved from 8% in FY22 to 8.4% in the trailing 12 months to June 2026.

Midcaps, by contrast, benefited from a sharp improvement in margins, from 8.3% in FY22 to 12.8% in FY26.

The analysis therefore challenges the assumption that smallcaps have consistently delivered superior underlying earnings growth throughout the entire recent cycle.

Smallcaps come with much higher earnings volatility

The stronger long-term growth numbers for smallcaps have also come with substantially greater volatility.

Smallcaps moved from a profit in FY17 to an aggregate loss in FY18, returned to profit in FY19, saw PAT fall 40% in FY20, and then reported a 327.6% increase in FY21, followed by 70% growth in FY22.

Midcaps too slipped into an aggregate loss in FY20 before recovering sharply. Largecaps, in contrast, remained profitable throughout the period, with margins broadly staying between 8% and 13%.

This volatility is particularly relevant after the sharp improvement in profitability seen across smaller companies in recent years, DSP said, cautioning against simply extrapolating recent earnings growth.

Largecaps still dominate the profit pool

Despite being slower growers, largecaps remain far more important in absolute earnings terms.

Largecaps generated about ₹14.7 lakh crore in trailing 12-month PAT through June 2026, compared with ₹3.8 lakh crore for midcaps and ₹1.6 lakh crore for smallcaps. Largecaps therefore account for roughly three-fourths of the combined profit pool across the three segments.

Largecap earnings have also been considerably less volatile, with revenue compounding at 13.5% and PAT at 14% since FY17. In FY26 alone, largecap PAT rose 19.1%, while revenue increased 9.4%, taking PAT to ₹14.5 lakh crore for the year.

Midcaps emerge as the stronger recent performer

Among the three categories, midcaps have delivered the strongest earnings growth from the FY22 base.

Midcap revenue grew from ₹20.9 lakh crore in FY22 to ₹28.3 lakh crore in FY26, while PAT more than doubled from ₹1.7 lakh crore to ₹3.6 lakh crore. PAT rose 33.2% in FY26, compared with 5.2% revenue growth.

Smallcap PAT, meanwhile, increased from ₹0.9 lakh crore in FY22 to ₹1.5 lakh crore in FY26, with FY26 PAT growth of 20.9% despite revenue growth of only 1.5%.

The outlier test reinforces that removing the top and bottom 2% of companies cuts the smallcap earnings CAGR by 12 percentage points, compared with only 0.5 percentage point for largecaps.

The implication is that historical aggregate smallcap earnings growth may not be a reliable template for future returns, particularly after the substantial margin recovery already seen in the segment.