Private sector investments yet to gather pace despite finmin optimism

Private sector prefers to be in wait-and-watch to see sustainability of demand and how markets play out as tapering sets in with most central banks

While the finance ministry is upbeat about the revival of investments in the economy, one has to wait a bit to see the private sector pump in big money.  

In its latest monthly review, the department of economic affairs under the ministry said the stage is set for India’s investment cycle to kick-start, which would catalyse its recovery towards becoming the world's fastest-growing large economy. The department was optimistic due to the rapid pace of Covid vaccinations.

Let us look at some facts. The gross fixed capital formation (GFCF) rose 55 per cent in the first quarter (Q1) of FY22, following a 46.6 per cent contraction a year ago, to give an overestimated figure. When compared to the pre-Covid period of Q1 of 2019-20, GFCF was down 9.3 per cent in Q1FY22. It again rose by 11 per cent YoY in Q2 of FY22, but this again followed an 8.6 per cent contraction a year ago, leading to a low-base effect. When compared to Q2 of FY20, the investments rose just 1.1 per cent in Q2 of FY22.

Now, let's come to GFCF as per cent of GDP. It declined to 27.2 per cent during the first quarter of the current financial year from 31.2 per cent in the fourth quarter of the previous financial year. However, it rose a bit to 28.4 per cent in the second quarter of FY22, but it was still less than 30 per cent.

As for capital goods output, as soon as the base normalised a bit, the growth here declined to 1.3 per cent in September from close to 20 per cent the previous month, according to the index of industrial production (IIP) data. It should be noted that capital goods output shrank 1.2 per cent in September last year and hence the base was still low.

However, SBI Research quoted data from Project Today to say that after almost flat new announcements reported in FY21, the current financial year looks optimistic with about Rs 7.99 trillion investment announcements made so far in the first seven months.

Share of private investment 

Around 64 per cent of new project investments are coming from the private sector and 36 per cent, or Rs 2.8 trillion, from the government, it said.

Notably, the share of the government in total has been 40 per cent or more during the last three months ended October.

New project announcements have declined after reaching a height of 988 projects in July. However, the amount invested in projects has remained above Rs one trillion since. Major sectors reported fresh project announcement included basic chemicals, iron & steel, electronics, non-conventional energy, roadways, real estate etc, according to SBI Research.

Nikhil Gupta, chief economist at Motilal Oswal Financial Services, gave an interesting insight into the investment pattern of India.

He said unlike most other major nations, the corporate sector accounts for only half of the total investments in India, while households contribute another 35–40 per cent to the gross capital formation (GCF).

Within the corporate sector, BSE 500 companies account for less than one-fourth of the corporate investments in the country, while the remaining companies contribute as much as 75 per cent of corporate investments, Gupta said.

BSE 500 companies have come out of Covid-19 stronger. Their profitability has risen to seven-year highs and their debt (vis-à-vis equity and GDP) has fallen markedly. In contrast, the profitability of the remaining corporate sector has fallen and the debt-to-GDP has risen. On an aggregate basis, India’s corporate profitability has declined in FY21.

Furthermore, an analysis of other important metrics, such as fixed asset turnover ratio, capacity utilisation, inventory-to-sales ratio, and order book-to- sales ratio of the Manufacturing sector, does not indicate a high probability that profitable companies would increase their fixed asset investments in the immediate future.

"When we combine the above analysis with the weak financial positions of households and the government, the demand scenario is likely to remain subdued, raising concerns over the need for a sharp rise in corporate investments," he said.

Consequently, he believed that while weak consumption growth would hurt India’s growth potential over the next few years, investments may not grow fast enough to offset the former.

This was evident from the Q2 GDP data for FY22. Private final consumption expenditure, denoting demand from non-government sources in the economy, dipped 3.5 per cent over this period. This also tamed investment growth despite businesses going for inventories in the pre-festive month.

CARE Ratings chief economist Madan Sabnavis said, "We are a bit cautious on investment revival and while there are signs of recovery in segments like steel, cement, pharma, it is not yet generalised," he said.

Quoting data from the Centre for Monitoring Indian Economy (CMIE), he said private investment till September is down. CMIE data showed that capex in new projects declined to Rs 2.07 trillion during the quarter ended September 2021, from Rs 2.63 trillion in the previous quarter.  

Wait-and-watch approach

The central government capex is on course, while state capex is much lower than budgeted as they remain watchful over the flow of revenue which will affect fiscal deficit ratio outcomes.

"For the year, we expect capital formation ratio to be stable at 27.1 per cent as in FY21 and can increase marginally to 27.5 per cent if there is acceleration in Q4," Sabnavis said.

Icra chief economist Aditi Nayar expected the capacity utilisation to have improved to 68 per cent in Q2FY22 from a low of 60 per cent in Q1 of the year, according to the data released by the RBI’s latest OBICUS survey, before rising more gradually over the next two quarters to 72 per cent by Q4 as domestic demand strengthens further.

Robust exports may boost capacity utilisation in export-oriented sectors, and other productivity linked incentive (PLI)-specific sectors such as steel, pharma, etc.

"Nevertheless, aggregate capacity utilisation is unlikely to exceed 75 per cent at the end of FY2022, which we believe is the yardstick for broad-based capacity expansion," she said.

Ranen Banerjee, leader of economic advisory services at PwC India, said the capacity utilisation is still around 70 per cent and many of the industries are actually having lower productivity owing to input shortages.

The cash position of companies is very good as there has been higher profits that have not been gainfully deployed yet and they have also generated reserves through deleveraging, he said.

The private sector would like to be in wait-and-watch mode for some time to see the sustainability of demand and how the markets play out with tapering setting in with most of the central banks and rate increase options being discussed actively, Banerjee said.

"Any shock to the capital market owing to the tapering will have negative implications on consumer sentiment. The high oil prices and the high inflation also makes the private sector nervous about the sustainability and stability of demand," he said.

As such, one has to wait for at least two quarters before the private sector contemplates making investments towards adding capacity, Banerjee said.

Yuvika Singhal, economist at QuantEco Research said for the private sector investment cycle to turn, another quarter (Q4 of FY22) of strong consumption growth is necessary.

Though some of the factors such as low interest rates, reduction in the amount of balance sheet debt of corporates, reduced corporate tax and government measures such as PLI scheme remain in favour to support the turnaround, she said.

To a query whether investments is reviving, India Ratings chief economist Devendra Pant said it depends what are you looking at.

"If you are looking at year-on-year, then there is revival," he said.

There are sectors such as pharma, exports which are seeing traction. However, it is too early to term it as private investment revival, he cautioned.

"Your domestic demand is not picking up. In this situation, only some segments are seeing investments. For instance, the PLI scheme is attracting some investments. But PLI would also attract full blown investments in the medium term-- 3-5 years," he said.

Table 1: Gross fixed capital formation YoY growth (%)

2020-21				2021-22
Q1	Q2	Q3	Q4	Q1
-46.6	-8.6	2.6	10.9	55.3
As % of GDP
2020-21				2021-22
Q1	Q2	Q3	Q4	Q1
20.7	26.9	27.6	31.2	27.2

Source: MoSPI

Table 2: YoY Capital goods growth in IIP (%) 

April	May	June	July	August	September
1,028.57	74.86	27.27	30.46	19.89	1.33