Led by weak demand across market segments and low consumer sentiments due to pandemic: ICRA
Domestic auto component sector’s revenues are estimated to decline by 14-18% in FY2021, driven by weak demand across domestic OEM, replacement market, and exports. The industry has been affected by the pandemic and continuing lockdowns which is directly impacting the economic environment and consumer sentiments. The exceptions are mission-critical replacement components like batteries and tyres will be less impacted. ICRA Research expects the recovery to be gradual and slow-paced, with the industry pinning hopes on revival in rural income to support growth in the festive season and thereafter.
Automobile volumes are expected to decline by ~15-16% in FY2021; within this passenger, vehicle demand will decline by 22% to 25%. The year will be tough for commercial vehicles too, given the slowing economic growth, current overcapacity in the CV space, and tight financing environment amidst price increases due to transition to BS-VI emission norms. However, two-wheeler sales could benefit as people prefer personal transport and are wary of public transport, easy retail credit availability; and expectations of better demand in rural and semi-urban markets, which were relatively less impacted by the Covid-19 pandemic and resulting restrictions.
Commenting on the industry scenario, Mr. Subrata Ray, Senior Group Vice-President, ICRA, says, “Domestic automotive production declined by ~14.7% in FY2020 and is expected to witness a double-digit decline in FY2021 as well. The aftermarket component demand which accounts for 18% of the industry turnover, is also expected to be subdued in the near term, the exception being components like batteries. The global light vehicle outlook too is expected to remain negative in the next 12-18 months with steep decline anticipated in CY2020 because of extensive spreading of the pandemic and its impact on demand, and consumer income levels. All these will have a serious bearing on the auto component industry’s prospects. Though auto and auto component production has partly restarted across various zones in India since early May 2020, production levels continue to be sub 30%. Also, lockdown in auto component clusters, like the current one in Chennai and the ensuing supply chain disruption will keep the industry’s recovery on a slow footing. Shortage of labor and productivity loss because of social distancing will also impact output.”
ICRA notes that the aftermarket performance during FY2020 was impacted due to continued credit crunch across the channel inventory, tight financing environment, and overall economic slowdown leading to lower vehicle movement. Further, nearly 45 days of sales were lost in Q1 FY2021 because of lockdown; the weakness was felt for the rest of Q1 FY2021. The liquidity in the market is tight and consolidation in the aftermarket space, with some smaller retailers facing insolvency, is expected. Overall, FY2021 is expected to be sluggish for the aftermarket.
Exports too will be affected due to a fall in European PV sales in CY2020 as a result of demand squeeze caused by weakening macro-economic scenario; and partly due to the pandemic. The European HCV demand too will remain subdued in the near term due to the on-going global slowdown. Vehicle sales in the USA are also expected to decline in CY2020 due to pandemic, in addition to several incumbent factors. The sales of North American Class 8 truck orders plummeted in the last three months, hitting the lowest monthly order levels since 2010.
On a positive note, accommodative commodity prices will buffer the impact of negative operating leverage to an extent. Commodity prices across all commodities are expected to remain soft in FY2021. The factors that will negatively impact commodity prices are domestic demand uncertainty, with weak auto and infrastructure outlook and pandemic effect. The big case in point is the unprecedented 68.5% drop in steel demand on Y-o-Y basis in Apr-May 2020 which is expected to contract by 20-25% in full-year, FY2021.
Coming to financials, the revenue of ICRA’s auto component sample set (ex-Tyres) declined by 19.9% in Q4 FY2020, the steepest quarterly Y-o-Y decline in the last several years. For FY2020, revenues declined by 12.3% Y-o-Y. The slowdown was far steeper than that during FY2008. However, auto ancillaries with a focus on exports were less impacted. Prevailing conditions in Q1 FY2021 is expected to lead to a sharp decline in the quarter. Despite weak demand, a decline in OPMs was capped at 130 bps, from 14.4% in Q4 FY2019 to 13.1% in Q4 FY2020, supported by accommodative commodity prices, cost reduction initiatives taken by companies and largely favorable forex movements (for net importers). The FY2020 OPMs were down 70 bps Y-o-Y to 13.2%. In Q1 and Q2 of FY2021, soft commodity prices and various cost-saving initiatives like temporary pay cuts and consolidation of operations are likely to cap the margin compression.
In the past few years, strong cash accruals and low leverage for auto ancillaries, despite the sizeable CAPEX has kept the interest coverage metrics in a healthy state. However, lower operating profits have weakened the interest cover in FY2020. Interest coverage is likely to be weaker in Q1 FY2021 and Q2 FY2021, as the industry battles against the pandemic induced demand slowdown. Overall, credit metrics of component manufacturers have been impacted in FY2021, the pressure is visible across the value chain. The smaller tier -II and IIIs are more impacted, given their limited financial flexibility.
Given steep pressure on profitability and cash flows, incremental CAPEX has come to standstill with the focus being only on absolutely necessary CAPEX i.e. maintenance and confirmed order related investments. The industry is likely to witness an ~40% Y-o-Y decline in CAPEX/investment during FY2021, with CAPEX for auto ancillaries expected to fall below 5% of revenues for the first time in last 10 years.
On the outlook for FY2021, Mr. Ray adds, “Our FY2021 revenue estimates for the industry, especially the first two quarters, remains highly uncertain. Further downward revision linked to pandemic related impact and consumer demand in both domestic and international markets is possible. Having said that, we expect a revenue decline of 14%-18% in FY2021, over and above the sharp 13-15% decline in FY2020. Tyre manufacturers will be relatively better off. The revenues of the rest of the industry are expected to decline by 16%-20% in FY2021. After witnessing 80-100 bps decline in OPMs in FY2020, the same is expected to further witness a decline of over 150 bps to 11.7% ± 40 bps in FY2021. ICRA maintains its negative outlook on the auto component industry, given that the pandemic will be a supply-chain and demand disruptor in the near term, aggravating the slowdown.”
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