Will classical cyclicality risks pull back CV growth rate?
With the uptick in fuel prices and interest rates, surely the classical risks to the automobile sector’s cyclicality may begin to play out
Commercial vehicle (CV) sales are at full-throttle. Monthly sales in May of the top three manufacturers zoomed by about 50% year-on-year (y-o-y) after an equally strong show in April. Even the full-year sales in FY2018 were higher by 25.3%, albeit over the low base of the previous year.
All this euphoria on the Street has masked the classical cyclicality risks such as unabated fuel price rise and hike in interest rates that may challenge the skyrocketing CV growth rates.
Since April 2017, the price of diesel has surged by 20%. It is the foremost risk for transport operators as fuel comprises nearly two-thirds the operating expenses of fleet operators. The ability of operators to pass on the cost hikes to customers hinges on freight volumes and increase in truck rentals.
Indeed, truck rentals have risen by 10-12% in 2018. But this is after a severe contraction in 2017. Also, it has not been commensurate with the rise in the price of fuel.
Add to this the central bank’s move to increase interest rates after about four years, which will increase the cost of borrowing for non-banking financial companies (NBFCs)—the lifeline of finance for CVs. Hence, it will not be long before NBFCs nudge up CV loan rates too.
That said, while transport operators pass on costs to the customer, there is a six-month lag. According to India Ratings & Research, “the lag in pass-through can create near-term margin pressures that will affect CV loan performance and debt servicing ability of the small road transport operators.” Delayed pass-through in costs due to low freight volume and truck rentals will lead to delinquencies. This can trigger a slowdown in CV sales too.
Recall that since FY2012 CV sales fell by 2%, 21% and 3% for three years annually. The reasons were different then, although diesel prices were low after deregulation. Global recession and weak exports along with choked infrastructure and a poor investment climate dragged down industrial production. Poor monsoon also took their toll. The mood is upbeat now. Truck rentals are strong on the back of high agricultural produce movement, acceleration in investment and infrastructure activity and higher activity at ports due to increased exports. Add to this a double-digit growth in cement and steel despatches, which is giving a leg up to truck rentals.
The question though is: how long will this trend sustain? With the monsoon in full swing, infrastructure, construction and mining activity will slow down. The movement of farm produce may be slower, albeit temporarily.
Meanwhile, extraneous factors such as compliance to new emission norms and the overloading ban that fuelled sales in the previous three quarters, will slowly wane.
The Reserve Bank of India’s monetary policy statement has been cautious. Its Industrial Outlook Survey points to a moderation in manufacturing sectors’ activity in Q2: 2018-19 (September 2018) on account of “deterioration in overall business situation and order book”.
Any pressure on truck rentals for a longer duration may soften CV sales growth. No doubt, a cyclical turn is a fall out of many factors acting together. But, with the uptick in fuel prices and interest rates, surely the classical risks to the automobile sector’s cyclicality may begin to play out.
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