New Delhi: Swift recovery in the domestic automobile industry, robust exports coupled with pass-through of inflationary trend in commodity prices will aid revenue growth by 20%-23% in FY22, rating agency ICRA said on Thursday. ICRA’s sample of 50 auto component suppliers witnessed a strong revenue growth of 140% Y-o-Y, albeit on a low base of Q1 FY2021, the agency said in a release.
Despite the Covid 2.0 restrictions, the overall decline in Q1 FY22 was restricted to 19% on a QoQ basis, in contrast to ICRA’s earlier estimate of QoQ decline of 30%-35%.
The revenue decline for aftermarket-dependent components like tyres and batteries was capped at 13%, as against a steeper 19% decline for the broader sample, ICRA noted. Most domestic automobile sub-segments, especially passenger-vehicle (PV) and tractors continue to witness strong demand and are almost at pre-covid levels. The M&HCV segment, which was impacted during Q1 FY2022, is also now showing signs of recovery. ICRA expects the PV, 2W and CV segments to report healthy double-digit growth in FY22.
“The industry gross margins improved sequentially in Q1 FY2022, but remain lower than the historical trend. The shortage of semiconductor and increase in commodity prices remain key challenges for the industry in the near-term,” Ashish Modani, sector head and vice president – corporate ratings, ICRA, said.
Area of concern
ICRA underlined that the elevated prices of key commodities and the shortage of semiconductors remain key concerns for the industry. Auto component suppliers usually pass on the impact of commodity price increases to OEMs with a lag of 1-2 quarters. ICRA mentioned that the recent trend also suggests that auto component suppliers have gradually passed on the hike in commodity prices to their customers, as reflected in the sequential improvement in gross margin.
However, it added, the gross margin remains lower than the normal levels (which were prevalent in FY20) by 100 bps. Further, given the average inventory holding period of 30-45 days, some companies would have also had the benefit of lower priced inventory.
The shortage of semiconductors remains another key concern for the industry. The automotive industry accounts for 11% of global semiconductor demand. Stronger-than-expected recovery along with supply disruption at some semiconductor manufacturing facilities, has aggravated chip shortage issues globally.
It takes about six months from chip production to car production, with several tiers of suppliers in between, which has resulted in this global demand-supply mismatch. In India, many PV OEMs have acknowledged the impact on production volume due to semi-conductor shortage, with volume loss of 100,000 units in Q2 FY22 (~3% of annual production) itself.
The supply bottleneck poses a major challenge to the industry with waiting periods for few models/variants exceeding four months, though underlying demand remains strong. ICRA’s interaction with industry participants indicates that supply shortage is likely to continue at least till the end of CY2021, which will remain an overhang on industry’s revenue growth prospects.
While most auto component suppliers witnessed sequential decline in operating margin due to impact of Covid 2.0 on overall revenues, over 85% entities in ICRA’s sample witnessed QoQ reduction in raw material cost proportion during Q1 FY22 which partially supported profit margins. Select auto component suppliers registered Q-o-Q improvement in revenue, supported by healthy exports and improved demand in the key end user industries, ICRA highlighted.
In this regard, Vinutaa S, assistant vice president and sector head – corporate ratings, ICRA, said, “Operating margins are likely to witness sequential improvement in Q2 FY22. Most auto component suppliers lost 1-2 week of revenue during Q1FY22 due to Covid 2.0 related localized lockdowns. Consequently, negative operating leverage dented operating profits despite some comfort in pass through of commodity prices. ICRA expects industry’s margin (non-tyre sample) to improve by 100-125bps to 13.0% ± 25bps during Q2 FY22.”
According to the agency, the industry’s coverage indicators continue to remain comfortable. The disruption in the working capital cycle due to the second wave of the pandemic resulted in somewhat higher reliance on short-term debt, and hence the increase in interest expenses in Q1 FY22.
Moreover, ICRA noted, increase in commodity prices and stocking up of inventory to avoid any further supply shock has also necessitated a relatively higher level of working capital as compared to the earlier level. Despite increase in interest expense and impact on operating profits, overall interest cover continues to remain comfortable for most auto component suppliers with ICRA at 11 times in Q1 FY22 vis-à-vis 10.7 times in FY21.
It is expected that the overall credit metrics such as TD/OPBDIT for the sector will remain comfortable below 1.5 times in FY22 aided by healthy accruals and modest capex plans, ICRA said.