Amid Covid, capital goods sector sees signs of hope

Indications of demand expansion for manufacturing companies, stronger balance sheets are some positives

In the past 12 months, the stock market has done very well despite economic contraction. The second half of 2020-21 was good with strong earnings gains across many sectors and de-leveraging in many companies as a result. So, balance sheets are in better shape.

Is it time for corporates to start investing in capacity expansion again? If corporates regain some confidence in demand revival, we would see signs of that in the capital goods sector. Indeed, Q4 results were encouraging. Against that, Q1 of FY22 was a slow quarter with the second Covid wave impacting demand, and this could somewhat dent corporate confidence.

In Q4FY21, 32 listed firms in the electrical capital goods sector saw operating revenues rise by 32 per cent YoY to Rs 32,969 crore from Rs 24,966 crore. PBDIT was up 55 per cent to Rs 1,546 crore from Rs 998 crore and PAT moved to Rs 913 crore versus aggregated losses of Rs 1,165 crore a year ago. In the non-electrical capital goods sector, 68 listed corporates registered 32 per cent rise in operating revenues to Rs 86,346 crore with PBDIT moving up 83 per cent to Rs 6,188 crore (from Rs 3,387 crore a year ago), and PAT rising to Rs 3,370 crore from aggregated losses of Rs 1,598 crore a year ago.

The big gainers in the electrical sector included Kalpataru Power, Siemens, Havells, Apar Industries, ABB, Crompton Greaves, and CG Power. All of these businesses saw strong revenue increase coupled to excellent profit expansion or turnarounds. 

In the non-electrical sector, Thermax, Kirloskar Brothers, Grindwell Norton, Ion Exchange, Praj Industries, Kirloskar Pneumatic, Va Tech Wabag and Elgi Equipment are among the list of well-known mid-sized firms that saw profit expansion (or turnarounds) coupled to rising revenues. In both sets, corporates have a similar pattern of lower finance costs and better cash flows.

Some of this capex could come from a change in the long-term cycle. Corporates have not invested in capex meaningfully for several fiscal years. Even though the economy is still operating well under-capacity, manufacturing companies now see signs of hope of demand expansion. However, it must be noted that banking credit did not expand much in Q4FY21 and is running in single digits. Whatever capex has been incurred so far, has been largely via internal accruals.

Going forward, the drivers for the capital goods industry could include additions in captive power generation capacity, the infrastructure thrust, which is seeing investments flowing into mining, road projects, energy sector and downstream petrochemicals. In addition, there could be opportunities in replacing ageing equipment on the power transmission grid.  

The sector could also benefit, if rerating leads to higher valuations. The BSE Capital Goods Index has returned around 80 per cent in the past 12 months, which is far more than the BSE Sensex which is up 48 per cent in the same time period.