by Mayank Agrawal, Sector Head and Assistant Vice President - Corporate Sector Ratings, ICRA Limited
Post witnessing one of the best quarters in terms of volume during Q4 FY2021, the Indian construction equipment (CE) industry faced headwinds in FY2022. The industry volumes dented due to Covid 2.0 related restrictions, temporary slowdown in road construction activity as well as price hike to offset cost pressure. Increased steel prices apart from elevated charter rates, and rupee depreciation has exerted cost-side pressures amid high import dependence thereby leading to increase in CE prices. This is further exacerbated by new emission norms (CEV-III to CEV-IV from October 1, 2021) for which a 10-15% hike in prices of the new compliant CEs is seen. The overall increase in cost of ownership following rise in prices of equipment’s and stagnant/muted rentals has kept the buyers at bay during last fiscal. Steel is one of the major constituents of CE segment’s raw material cost. Thus, steep increase in steel price impacts the profitability of CE OEMs given their inability to timely pass on the increase in cost due to competitive pressure.
Exhibit: Trend in International HRC Prices and Domestic HRC Prices
Source: Steelmint, ICRA Research
Talking about steel price trends, in FY2021, the prices though increasing, remained in the range of Rs. 36,000/MT to 42,500/MT till October 2020, before increasing steeply from November 2020 to Rs. 46,000/MT and continued northward movement till November 2021.After a hiatus of two months, steel prices again started rising from February 2022 onwards. Prices of Hot Rolled Coil stood at around Rs. 76,800/MT in April 2022 as against Rs.66,500/MT in February 2022-end and Rs.64,500/MT in January 2022-end. Increasing prices of seaborne iron ore and all-time high level of Coking coal prices driven by restocking in ex-China markets and tight seaborne supplies also led to increased prices of steel. This apart, Russia being a key supplier of coal in the sea borne market, disruptions due to Russia-Ukraine conflict, have substantially impacted the international coal prices. Accordingly, the steel mills announced price hikes in February 2022 to pass on these hikes. The steel price is likely to remain at elevated levels till raw material flow normalizes and the average steel prices for FY2023 is expected to remain higher than FY2022 driven by increased coking coal prices.~45% of the steel production from Russia and ~75% of the steel production from Ukraine are exported; disruption in steel supplies from Russia (due to sanctions) and Ukraine (due to Russian invasion) to other countries could lead to regional steel supply shortages, in turn keeping the steel prices buoyant.
The commodity headwinds and increased freight rates are expected to dent profitability of CE OEMs by 200 bps to multi-year lows during FY2022e. While cost pressure persists due to elevated commodity prices, the improved operating leverage benefits in the backdrop of expected 12-15% volume growth in FY2023 should partially offset cost pressure. Many OEMs have already taken sequential price hikes in last twelve months (in the range of around 5%-10%) and a further periodical hike is warranted to fully neutralise this impact. Though, with periodical price increase, the margins are expected to sequentially improve in FY2023e but will remain below pre-Covid levels and may take another 2 years for industry to reach normalcy in terms of operating profitability.
