Current rally based on speculations: Thermax

Below is the edited transcript of MS Unnikrishnan interview on CNBC-TV 18

Q: We have seen yet another rally in the capital goods space across stocks. Are things starting to turn around on the ground? Are you seeing any signs of pick up in the overall domestic ordering activity?

A: There is no change at the ground level. It is more of speculation and calculations by the market that investment cycle is going to catch on. One factor could be the forthcoming elections.

Second factor could be -- how long can you postpone investment cycle? Capacity creation is a necessity in a growing market. India is growing in population. Urbanisation is happening. All put together there is a necessity for investment cycle to catch on. So these two positive factors are being considered by the market and market is looking at capital goods sector another time, that is the only answer I can give. Otherwise, on the ground level I have not seen any remarkable changes where the inquiry inflows gone up or shot up suddenly or the order finalisations have improved substantially, none of this is happening on the ground level. At the ground level, it is status quo and no change at all in the country. That is a reality.

Q: You have mentioned that things are largely sticky on ground, but then what are these changes or cues which the market is pricing in?

A: First of all Reserve Bank of India (RBI) governor’s stand of not increasing the rates despite the Wholesale Price Index (WPI) going up and very clearly telling that we need to be balance between inflation and investment cycle is something which is going to be very positive to the entire industry. I am not talking about capital goods industry, I am talking about the industry in general, that there is a governor who has got a longer tenure available, who is absolutely clear that by increasing the interest rates it is going to be harming the investment cycle and on the contrary will not help to contain the inflation.

He does very clearly say that we have to be acting on the supply side. So that is one positive signal which has come to the market in the recent past. Next and most important is -- there is a feeling in the industry today that irrespective of whatever is going to be the outcome of the election, Indian growth story is going to continue and in such a depressed condition if we can have a 4.5-5 percent kind of GDP growth why won’t it pick to 5.5 percent and sits progressively and may move into 7 percent in next 24 month period, so the governments may talk about 8-9 percent, I am talking about 7 percent.

Even 6-7 percent growth of Indian economy is sufficient for capacity building and since most of them refrain from adding on more capacity in last 18 months to 2-year period, all of them are aware of the fact that going forward in FY16, FY17 and FY18 there will be a shortage of capacity being felt and if you vacate the market it will be met up with imported goods to come to the country and that will make many Indian companies lose their market share, because of which there is a likelihood of irrespective of any governance or a government things changing, that is our understanding.

So the current rally in the market that you are seeing is that positive feeling that irrespective of an outcome of the election the investment cycle is going to start picking up, albeit not in a very, very big way.

Q: We recently spoke to the Power Minister and he indicated that the progress plan on UMPPs is on track. Besides these big upcoming orders the general trend is that the order books of companies are still under stress. We are witnessing a decline in carry forward orders consistently. Also there is a serious overcapacity in the system which has been spoken about which obviously will keep pricing under check. What are your thoughts on all of this?

A: When there is no refilling happening certainly the vessel will become empty. So the carry forward orders in capital goods companies’ balance sheets are coming down by the day, because whatever are the orders in existence are getting executed.

But as the refilling of the vessel starts then every vessel will start getting filled, not that only one company will start getting orders, everybody will. So as the orders start picking up my personal conviction is that everybody will have sufficient orders.

India does not have extra capacity in the capital goods sector if Indian economy were to grow at 7-8 percent, certainly you will have to resort to import. So, capacities which are idling today are idling, I do not deny that, but as the ordering starts they will get full also.

Imagine that in maybe a two or three quarters successively there could be a 5,000 MW equivalent of ordering happening every quarter then everybody will be full. Nobody has got such kind of huge capacity created in the country where you can simultaneously execute 10,000 MW. No company has got that kind of a capacity. Imagine that if you were to have 1 UMPP each getting concluded in every quarter, 4 of them in a year, 16,000 MW everybody will be full then. So those are all speculative calculations.

It is true that there is a shortage of orders, bur remember in the larger super-critical area there are only three capacities available in the country, one is Bharat Heavy Electricals (BHEL) second is L&T-MHI joint venture and the third one is Thermax Babcock & Wilcox. These are the only three capacities in existence in the country and nor is anybody intending to be investing and creating a capacity in the foreseeable future. Having seen the difficulties faced by the market I do not think anybody will be forthcoming to put in money in India any further. So in my opinion capacities will be needed more by all three of us.

Q: Will the companies look at aggressive cost rationalisation measures given that topline will remain subdued due to weak ordering?

A: Only way one can do containment of this is having more orders come onto the balance sheet. By cutting costs any further you will be bleeding and that may not be the right solution in an economy which is expected to turnaround. In case if there is a definitiveness about next 3-4 years time nothing is going to change and things are going to be worsening then you have to be resorting to cost cutting and reducing manpower equivalent of that.

That is not the situation that every Indian capital goods company is going to be facing. They are going to have the clarity that this is a temporary phase, albeit may continue for maybe a couple of more quarters, maybe even one year, maybe two years, but removing manpower and reducing capacity is not the right solution, because it is going to be utilised in the future and we have to undergo that pain for some more time, however you can always look forward to international markets wherever they are performing okay to capture a part of the market share from there and utilise existing facility to reduce the pain of the overheads of companies. That is what is being resorted to every company in the country, at least medium and larger sized companies are working in the international markets. Not that things are extremely good everywhere.

With the rupee having depreciated there is a little improvement in the competitive structure of the Indian capital goods industry also. What we have faced in the international market are two issues.

Number one, brand India is not something which everybody is looking forward to buying, even if your price are lower, there are certain markets in the world where they will say sorry I do not want to buy from India. Though the company may be good, an Indian product is not what I am seeking in my factory.

Secondly, many of the competitors for Indian companies like Japanese or Koreans normally come with funding for he projects in larger sizes, which is not available to Indian companies. Though we have got an Exim Bank they will not be able to give a direct credit to a customer, they can only give a sovereign to sovereign credit, that too for the short tenure of 7 years.

International credits are normally for 15 years upwards and given from companies or banking system of each country into companies directly. So these are the two factors which possibly work against the Indian companies in capturing the international market. We are discussing with the Government of India to also look at the international markets slightly differently and follow the practices followed by the rest of the world, so that Indian companies also can be competitive in the market.