As industrial houses continue to hold their cash, the capital goods sector, whose fortunes depend on capital expenditure, is out in the cold. As spending on infrastructure is at its lowest, capital goods companies are facing a famine of orders. And the year to come might be even tougher.
The Pune-based engineering company, Thermax Ltd, believes the “slow streak” could continue for three years. “We are sliding by the day and there is no substantial recovery in sight. It will be a long journey for India Inc to reverse the negative trend. We need to be repairing far too many components of the Indian economy,” said M S Unnikrishnan, managing director of the company.
A number of top infrastructure companies, most of them, under net debt, have announced a bidding holiday. Adding to that, banks are also becoming increasingly tightfisted while lending to projects which are already awarded.
Sailesh Kanani, a research analyst at Violet Arch Securities, believes the slowdown will surely remain as it is, for the next six-to-eight months. “Capital goods is a cyclical industry. But this time around, it is more of a structural issue. Both demand and supply are there,” he said. Uncertainty in coal supply and losses of state electricity boards (SEBs) are some of structural issues of the sector, which have made banks weary of lending to the sector.
Back to 2005
The last quarter of 2011-12 recorded the lowest project loan sanctions since 2005-06 at Rs 25,500 crore. The projects which were added for a year since June stood at a total project cost value of Rs 8,900 crore, down 55 per cent.
All this is not good news for the capital goods sector, which flourishes only when more projects come in, leading to more ordering. The reverse of this would mean slower order, and this trend has already started affecting the revenues of these companies, especially in the industrial products business, which is the worst hit.
“The impact of the slowdown has been building up over the last three to four quarters, with the trailing 12 months sales growth declining from 20 per cent in second quarter of 2011-12 to two per cent in first quarter of the current financial year,” said a report by Motilal Oswal on the sector. The sales figures were calculated for 14 companies in the sector. As projects are few and far between, increased competition added to volatile raw material prices has crunched profit margins in the sector.
Among others, the fortunes of the capital goods sector is linked to the power sector, which has been in trouble on various fronts. The latest is the Comptroller and Auditor General of India (CAG) questioning coal blocks allocations since 2006, putting many projects which are already in the construction phase, under scrutiny. As uncertainty increase, fewer orders could make it to capital goods companies.
“A lot of unnecessary things are happening which are not necessarily productive,” commented A M Naik, the chairman of Larsen and Tourbo, over uncertainties in the sector. In spite of the worries, he expects five to six power projects to start tendering for equipment, in the next few months.
State-owned transmission company Power Grid Corp has continued ordering in 400 kva and 765 kva transformer segment. But, as state electricity boards face liquidity crunch, the sub-400kva segment continues to witness volatile demand.
The much-expected move by the government to levy duty on imported power equipment had turned out to be a dampener for domestic equipment companies. The much-awaited move came recently when the government levied new import duty of 22 per cent on mega power project equipment imports. However, projects accounting for 167 gigawatts (Gw) across 111 project have been exempted from this duty. These also included projects which have not been ordered as yet, and an opportunity of around 106 Gw worth project opportunity has been lost to domestic manufacturers.
“We were surprised that government not only grandfathered orders placed by power producers for the 12th Five-Year Plan, but also included 36 Gw of projects of 13th Plan as these projects have not even ordered equipment so can’t start by 2016-17. Hence, we fear that benefit to domestic majors will only be visible for new orders likely from 2014-15, which shall be commissioned beyond 2017-18-2020,” said Bharat Parekh, research analyst, Bank of America Merrill Lynch, in a report.
A number of companies that have set up manufacturing capacities for power equipment in India might have to wait for a very long time. “In the prevailing macro economic scenario, achieving growth in capital goods industry is not an easy task,” summed up Unnikrishnan.
This is the first of a five-part series on the slowdown that companies are facing