Run down on 'capex-led' growth!
So far... The turnaround in corporate investment, which began in FY03, peaked in FY06 and if the RBI projections are to be believed, will sustain in the current fiscal. The total project cost as well as the average cost of projects was significantly higher in FY06 as compared to the previous fiscal - reflecting increased investment opportunities. The sharp increase in production of capital goods, import of capital goods and other non-oil imports, improved corporate profitability and robust GDP growth in manufacturing over the quarters of FY06 continued the momentum in fixed capital investment.
Not to be left behind, the aggregate capital expenditure of services industry also multiplied by nearly 3 times due to the initiation of large projects pertaining to airlines, shipping and entertainment industries. Improved capacity utilisation and conducive investment climate (backed by adequate liquidity) accelerated capital spending, particularly in industries such as infrastructure, construction, textiles and iron & steel. It may also be noteworthy to point out that while investments in greenfield projects grew by 102% YoY in FY06, growth in brownfield projects was a mere 7% YoY. It thus reveals the mindset of companies to explore opportunities in new areas and capitalise on the prospects lying therein.
| FY05 | FY06 | |||||
| No. of | Project cost | No. of | Project cost | |||
| projects | Rs bn | % of total capex | projects | Rs bn | % of total capex | |
| Greenfield projects | 343 | 395 | 42.1 | 396 | 796 | 59.3 |
| Brownfield projects | 285 | 456 | 48.5 | 364 | 486 | 36.2 |
| Modernisation | 45 | 633 | 6.7 | 15 | 9 | 0.7 |
| Total | 673 | 1,484 | 97.3 | 775 | 1,291 | 96.2 |
Where to spot it? For investors, the easiest way to reckon how much a company had incurred on capital spending during the fiscal is to scan a component of its cash flow statement. 'Cash flow from investing activities' lists all the cash used by the company for purchase of assets or investment in subsidiaries and that garnered through the sale of assets. A comparison of the same with the 'cash flow from financing activities' will also enlighten the investor as to whether the capex was funded by additional debt or equity or neither (internal accruals).
How to evaluate it? Since cash returns on capital spending often do not make an appearance in the company's financials until many years after they are executed, investors often do not get a justification for these outlays - beyond the guidance offered by management. One method that attempts to estimate the 'required level' of capital expenditures over a period - thus asserting by way of hindsight as to what was the 'discretionary' portion of the spending - is the comparison between the growth rate in cost of goods sold (COGS) and the growth rate of capital expenditure. The logic is clear. Absence of any physical measure of output can be matched with a growth in cost of inputs. Also, cost of sales can serve as a proxy because it constitutes all the necessary components needed to capture fluctuating product costs.
It is also pertinent to evaluate the impact of the capex funding on the company's balance sheet and bottomline going forward. While infusion of additional equity will lead to capital dilution, the debt funding must be necessarily accessed at feasible rates. While most textile companies embarked on capex plans over the last couple of years, it was only those, which availed of the benefit of TUF (Technology Upgradation Fund - offering 6% interest subsidy) that have accessed the funds at attractive rates.
What lies ahead? Going forward, we expect the momentum of capacity expansion (in terms of growth) to get moderated on account of the uncertainties about oil prices and primary commodities prices, which have risen significantly in recent years. Global interest rates have also firmed up along with the rise in domestic interest rates, thus chocking the liquidity flow. Nevertheless, the prevailing interest rates levels being relatively lower than the historical highs - are yet to have an impact on corporate borrowing. While the higher capacities may give Indian corporates the scale required to compete with global peers, investors must keep in mind that the capex must be 'well timed'. Else, overcapacity may adversely impact realisations. Not to mention the execution risks involved!
Source: EM
Export optimism For those worried about the sustainability of the current bull run, a quick check on fundamentals should help. Especially export fundamentals, since that’s where firm-level competitiveness is most tested. The rearview window is extremely reassuring, with India’s exports surging 34% in April-July, 2006, over the same four-month period in 2005.
Details from the first quarter (April-June), which contain more disaggregated figures, show that engineering goods have been among the best performing sectors. The share of engineering goods in the total export basket has risen to 20.9% in 2005-06 from 15.8% in 2000-01. Within this group, project goods logged 79% growth during the first quarter and transport equipment 61%. Other star performers include petroleum products, basic chemicals, pharmaceuticals and cosmetics, coffee, oil meals, processed food, carpets, raw cotton, textiles and spices.
The vibrant export performance is testimony to the growing competitiveness of Indian industry, thanks to serious firm-level restructuring initiatives. This is remarkable given the fact that most of the recent export growth - barring the last one year - has happened with an appreciating rupee.
The question is: can this sustain? There are worries about the slowing of the world economy, especially the United States, India’s biggest export market, which accounts for a 16.7% share of the total. The US takes in 15% (the biggest chunk) of engineering goods exports.
A lot will then depend on how quickly India diversifies the direction of its exports. The proposed free trade agreement with Asean will offer one pointer. Textiles, gems and jewellery and electronics goods form the bulk of Indian exports to the region. Depending on how the negotiations progress, the prospects might brighten for these sectors.
Additional Readings:
- Sugar Sector - Brics
- Ferrous Metals - EC
- Oil R&M - MF
- Occasional outbreaks of those two super-contagious diseases, fear and greed, will forever occur in the investment community. The timing of these epidemics is equally unpredictable, both as to duration and degree. Therefore we never try to anticipate the arrival or departure of either. We simply attempt to be fearful when others are greedy and to be greedy only when others are fearful. - Warren Buffett
I agree with the gist of what Andy Xie says. But I'm not sure India can be equated with the rest of ex-Japan asian economies. Our exports account for 10% of GDP of which contributation by US is around 35-40%. So roughly only 3-4% of GDP is directly influenced by US economy.
Even in the last US recession in 200-2002 we only slowed down moderately from 5.8-6% to 4%. And most of that was acounted by our own internal domestic business cycles. The industrial sector was bogged by huge overcapacities since 1997-98 when the capex cycle ended . Things are very different right now with industry utilization rates @84% and very nominal & judicious capex planned for yrs ahead.
Posted by
Anonymous |
2:50 PM
Andy's view are way too myopic on economies of Asia as a whole does not relate much for a growing economy like India. Generalization of India with other Asain economies is incorrect in my view.
Posted by
toughiee |
3:10 PM