Textile firms set to spin their way to recovery in 2022: A CRISIL analysis

Credit outlook largely stable for cotton yarn and readymade garments players

The domestic textile industry, which had seen demand slump in fiscal 2021 owing to onset of the Covid-19 pandemic, is firmly on course to recover in fiscal 2022 on the back of reopening of businesses, educational institutions and retail outlets with increase in the vaccinated population. Sanctions on Chinese textiles have boosted Indian textile exports as well. Government announcements such as the Production Linked Incentive scheme, setting up of mega textile parks, and extension of the Rebate of State and Central Taxes and Levies scheme are also supporting the sector. However, resurgence of Covid-19 infections will be a key monitorable.

Within the textile space, cotton yarn demand is expected to rebound a sharp 25-30 per cent year-on-year (YoY) in the current fiscal year, post a plunge in fiscal 2021, primarily because of recovery in readymade garment (RMG) demand. Also, spurring growth will be a sharp rise in exports owing to lower prices of Indian yarn compared with competing countries. In fiscal 2023, demand is projected to rise a further 8-13 per cent YoY. Domestic demand as well as exports will contribute to growth. With demand from spinners outpacing cotton production, though, cotton stock levels will dip in fiscal 2023. In fact, depleting stock levels and sharp increase in cotton exports owing to sanctions on Chinese-manufactured cotton will push up S-6 cotton prices 5-10 per cent YoY to Rs 132-142 kg in fiscal 2023. Hence, Ebitda margin of spinners, which is forecast at 15 per cent in fiscal 2022, is expected to shrink 50-100 bps YoY in fiscal 2023.

In the downstream RMG segment as well, after a significant decline in fiscal 2021, the sector is expected to grow 15-20 per cent YoY in the current fiscal year. Apart from the reopening bump, sanctions on China, and price differential between Indian cotton yarn and competitor countries, trade agreements will provide lift; the government is negotiating trade agreements with major garment importers, the UK and the EU, which, once signed, will improve the export competitiveness of Indian manufacturers. But an increase in the goods and services tax (GST) from 5-7 per cent to 12 per cent from January 1 will raise retail prices. In fact, impact of GST increase will be a key monitorable for the RMG segment, along with any surge in Covid-19 infections in India and globally. That said, Ebitda margin of the RMG industry is expected to improve 50-100 bps on-year in fiscal 2023 from 10 per cent in fiscal 2022 owing to better operating leverage.

In the case of credit outlook, while strong demand and healthy operating profitability will translate into better accruals for cotton yarn manufacturers in fiscal 2022, improvement in debt metrics will be more gradual. This is because of increased working capital requirement and capital spending on projects owing to the strong demand. Nevertheless, the interest coverage ratio is expected to improve to over 5 times this fiscal year, from just under 4 times in fiscal 2021. However, in fiscal 2023, the ratio is projected to moderate to 4.0-4.5 times, in-line with lower profitability and higher debt levels. Hence, the credit outlook for cotton yarn players, which was stable-to-moderately positive this fiscal, is likely to be stable next fiscal. To be sure, leverage ratios are expected to remain largely range bound over the medium term.

For RMG players, improving accruals because of recovery in operating performance will lead to better debt metrics in the current fiscal year. For instance, the interest coverage ratio has improved to 2.0-2.2 times this fiscal year, from Rs 1.4 times last fiscal year. This ratio should continue to improve into fiscal 2023, in-line with better operating performance of the sector. Hence, the credit outlook, which was stable this fiscal year, is likely to slightly improve to stable-to-mildly positive next fiscal year.