The BSE Capital Goods index has gained 30% since January. And, in the last 10 days alone, it jumped 14%, clocking double the gain registered by the broader Sensex. These stocks have been major beneficiaries of the government’s recent reform measures, coupled with the central bank’s marginal easing of the monetary stance.
But note that the rise in the capital goods index is led only by a few stocks such as Larsen and Toubro Ltd (L&T), Voltas Ltd and Crompton Greaves Ltd.
More importantly, ground realities have not changed— the slowdown in the investment cycle persists, order inflows are still subdued and pressures on operating margins haunt the engineering and capital goods sector.
A report by Emkay Global Financial Services Ltd highlights that the number of published tenders in August declined 10% month-on-month, registering the second consecutive monthly decline. Further, the production trend in high-value capital goods such as power transformers and construction equipment is decelerating.
One could infer the same from the fact that road projects (which are not equipment intensive) comprised nearly 40% of the tenders published.
Any increase seen in order inflows over the last two quarters has been a reflection of orders bagged mainly by L&T and Bharat Heavy Electricals Ltd. Moreover, the falling rate of financial closure for projects awarded signals project delays, too. While this portends a prolonged slowdown for engineering and capital goods, the flat trend in steel consumption and decline in the growth rate of commercial vehicle sales only ratify the same.
Analysts seem to concede that the slowdown is akin to, or more severe than that seen between 1997 and 2002. A report by Kotak Institutional Equities points out that corporate spending had declined from 10% to 6% of gross domestic product (GDP) between fiscal 1997 and 2003—a 40% drop that lasted six years. This time round it has declined by around 35% in four years. “The downturn may last another two years, over which private corporate spending as share of GDP may remain flat,” it said.
To add to all this, the high interest rate regime will also drag down profitability. For now, therefore, the policy announcements may not be enough to remedy the industry’s various problems. Going by the previous cycles, there may well be an unpredictable time lag between policy announcements and economic reversal.