ICRA expects 7-8 percent increase in investment by auto component suppliers in FY2024

Rating agency ICRA anticipates that its sample of 49 auto ancillaries – which have combined annual revenues of close to Rs 3 lakh crore – will have a market growth of 8-10 percent in FY2023, helped by strong demand from the local OEM segment and pent-up aftermarket demand; even though there are still challenges with exports. 

ICRA’s sample for the first half of FY2023 (April-September), on a year-on-year (YoY) basis, recorded an increase of 29 percent.

ICRA anticipates a 50-75 basis points YoY recovery in operating margins in FY2023, helped by the advantages of operating leverage, softening commodity prices, and a reduction in supply chain interruptions.

The margins for the sample (excluding tyre makers) are projected to progressively return to pre-COVID-19 levels of 10.5-11 percent. Despite this, there will still be some challenges, particularly for businesses that rely heavily on imports (because of the depreciation of the rupee against the US dollar) and the higher cost of raw materials associated with crude oil derivatives.

Although the majority of these investments will be mostly supported by internal accruals, ICRA Research anticipates auto component suppliers to steadily increase their CAPEX/investment outlay to 6-6.5 percent of operating income in FY2023 and 7-8 percent in FY2024.

In contrast to earlier investments in capacity expansion, the incremental investments will be focused on capability development, such as new product additions, product development for committed platforms, and development of advanced technology and EV components. Along with investments by new entrants in the EV industry, the recently announced PLI plan will help accelerate CAPEX over the medium term.

Facing inflationary headwinds
ICRA’s interactions with major auto component suppliers point to a cautiously positive outlook for FY2023, at least in terms of CAPEX/investment intentions, said the statement from the agency.

The operating margin for the component makers in ICRA’s sample for H1 FY2023, excluding tyres makers, was 10.1 percent, 30 basis points lower on YoY basis. 

According to Vinutaa S, Vice President and Sector Head, ICRA, over 50 percent of sales for the Indian auto component business come from domestic OEM demand. With double-digit growth anticipated in both the passenger car and commercial vehicle segments, this is projected to continue to be strong in FY2023.

Additionally, it is anticipated that demand for both public and private transportation will continue to be strong as mobility rises, helped in part by the reopening of businesses like schools and offices. This will probably help replacement volumes in the near future, combined with consistent freight transit.

ICRA notes that export orders have slowed down in the last few months, impacted by inflationary pressures, geopolitical tensions, and supply-chain issues.

“While it remains in the positive zone on a YoY basis currently despite the slowdown, partly aided by delivery to some new platforms because of China+1 strategy and the depreciation of the Indian Rupee against the US dollar, this would remain monitorable,” said Vinutaa. 

Ride on premiumisation
Cost inflation, according to ICRA, is still a major challenge for the sector. The commodity and freight prices continue to be high in comparison to their pre-pandemic lows.

Ancillaries are focusing on expanding their product line and adding more value and content to each car. Most of the newly targeted products are either for EVs or EV-agnostic.

Commenting on the impact of rupee depreciation on the industry players, Vinutaa added, “Imports are an integral part of the auto component industry, especially with the increase in electronics and advanced technology components. While a gradual increase in usage of advanced components unavailable in India has contributed to import increases over the years, supply chain disruptions and domestic market recovery contributed to an increase in imports in FY2022.”

She went on to say that, in FY2022, India imported USD 18.3 billion worth of car parts, with China and Germany accounting for 30 percent and 11 percent of the total, respectively.

While the fall in the Indian rupee’s value against the US dollar is concerning for net importers, the risk has been somewhat reduced by the use of alternative local sources and foreign exchange hedging strategies.

In order to reduce future risks associated with foreign exchange and the supply chain, like in the event that components are not accessible in India, ancillaries are looking at alternative materials and localisation options. 

The report emphasised that the liquidity position for auto ancillaries, particularly across Tier-I players, continues to be comfortable.

The majority of auto ancillaries that ICRA rates are of investment grade, demonstrating a sound credit history that is supported by strong cash inflows and a gradual fall in debt levels.

Additionally, equipping cars with better features (higher content per vehicle), as well as OEMs’ push for locally sourced parts, favourably supports the expansion of auto component manufacturers, as this boosts the proportion of expensive and feature-rich automobiles in the overall mix.

Several businesses have already begun to experience a good ramp-up in revenue due to an increasing number of electric vehicles (EVs), where content per car is anticipated to increase significantly.

Over the medium to long term, these developments will result in a wholesome increase for providers of car components.