Automobile component makers are set for better times. Better-than-expected auto sales in the past few months augur well for component suppliers who, for a little over two years, have seen their performance hit by falling sales, lower capacity utilization and high fixed costs.

The tide began to turn in their favour a couple of quarters ago, when the revival in the automobile sector in the US and Europe translated to better demand. Their revenues rose since exports form a sizeable part of the total. Data from Automotive Component Manufacturers Association of India (ACMA) shows that around two-thirds of India’s component exports are to North America and Europe.

Meanwhile, auto component makers too are hoping for higher orders from firms such as Maruti Suzuki India Ltd that are committed to increasing sourcing of parts in their home market. Some component makers are slated to become Asian hubs for exports due to cost-effective operations and skilled manpower. This, along with a revival in auto sales, is expected to improve auto component revenue growth rates.

Signs of this are already visible. Icra Ltd’s analysis of 69 auto component firms shows that revenue growth, which fell from 22% in fiscal year 2012 to 2% in the following year has recovered to 5% in fiscal year 2014. Icra also says that near-term demand triggers may not be visible, but positive factors exist— such as higher localization, and buoyant replacement and export markets. Moreover, the increasing sophistication of vehicles is also contributing to better prices for value-added parts. All these factors should translate into better revenue growth and capacity utilization in the medium term, it adds.

Higher utilization may give a leg-up to profitability too, which had slipped for some companies in the past two years. Soft commodity prices would also help the cause. This is visible already in tyre firms, where falling rubber prices can help sustain profitability, which analysts had thought may have peaked due to the impact of investments to expand capacity.

That said, valuations have run up ahead of earnings, with most component makers’ stocks gaining by more than 50% since April. What holds promise in spite of this rally is the 12-15% compounded sales growth rate expected in both two-wheeler and four-wheeler passenger vehicle sales over the next two-three years.

Surjit Arora, an analyst at Prabhudas Lilladher Pvt. Ltd, says that during this period, companies with better business models (leaders in their segments), strong balance sheets and earnings growth of 20% can stand to gain from the auto sector revival.

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