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RAPAPORT... India's gems and jewelry sector is not the industry that is most vulnerable to the economic issues plaguing the country, according to CRISIL's ''State of the Nation'' report. CRISIL defined the sources of economic stress as including demand pressures, liquidity and working capital challenges, indebtedness, the ability to service debt and foreign currency volatility.
By sector, 24 percent of the gems and jewelry firms CRISIL interviewed for its report were facing two or more of those stress factors and 29 percent were facing at least one degree of stress. However, 48 percent of the gem sector's firms were experiencing no stress, according to the report.
In contrast with the gemstone sector, India's real estate industry has come under great pressure this year with 36 percent of those firms monitored by CRISIL experiencing two or more forms of economic stress, followed by the infrastructure sector, automotive industry, transportation and capital goods. CRISIL found that the industries that were least impacted by economic stress were education (the lowest at 3 percent), healthcare, packaging and paper products, software and services, chemicals and textiles.
CRISIL analyzed granular data on 2,481 companies, 80 of which were from the gems and jewelry sector, that it defined to be investment grade, or those firms rated ''BBB-'' or higher. The analysis included source information from the firms' vendors, distributors, industry associations and lenders. Lastly, CRISIL incorporated its own macroeconomic research and risk evaluation to create a comprehensive portrait of India's economic future for the current fiscal year that ends in March 2014.
By and large, stretched working capital cycles are aggravating liquidity pressures on India's companies with 16 percent claiming this problem is a great source of stress. Larger firms, with operating incomes exceeding Rs 10 billion, are impacted more acutely by tight liquidity, according to the report.
Contrary to belief, however, CRISIL concluded that foreign-exchange (forex) volatility is a source of material vulnerability for only 6 percent of the firms that account for 32 percent of banks' corporate lending and 82 percent of debt rated by CRISIL.
The greatest stress factor across all sectors was a slowdown in product/service demand. Those most impacted from falling demand included cement, steel, power, construction and automobiles. And yet, the falling rupee was ''manna from heaven'' for many other export firms as a weak rupee reduces the cost of products and services abroad -- for the information technology industry, business process outsourcing, pharmaceuticals and textiles, according to the group.
But the cost of imports are rising as the rupee falls and pressuring inflation, leading CRISIL to revise its wholesale inflation forecast higher to 6.2 percent this year from 5.3 percent due in large part to surging oil prices.
In addition, liquidity tightening measures undertaken by the Reserve Bank of India to limit the rupee's fall and contain its volatility have led to an increase in lending rates. ''As of September 2, 2013 private sector banks such as HDFC, ICICI, Axis, YES, DCB, Lakshmi Vilas and Kotak Mahindra had raised their base lending rates by 20 to 35 basis points. In view of the already depressed investment climate, higher interest rates will only serve to inhibit the revival of investment,'' according to CRISIL.
India's fiscal deficit in its first quarter (April through June) was almost 50 percent of its budgeted level for the entire year. But CRISIL noted that ''the government is making all the right noises on containing it to the targeted 4.8 percent levels. This commitment to fiscal consolidation implies that some cutback on government expenditures, especially capital expenditure, from the budgeted level is likely for the year as a whole. However, the weak rupee is expected to increase under-recoveries, which will raise the petroleum subsidy burden of the government (Rs 770 billion compared with the earlier estimate of Rs 550 billion), while tax revenues may fall short of budgeted levels due to slowing growth.''
CRISIL advised the government to take all steps to ensure that fiscal deficit as a percentage of gross domestic product (GDP) will not breach the 5.2 percent mark. ''If revenue collection is adversely affected due to lower growth, the government is likely to curtail its expenditure significantly from budgeted levels rather than allow the fiscal deficit to slip.'' Nonetheless, the agency lowered its GDP forecast to a growth rate of 4.8 percent, the lowest since 2003, as it expects industrial growth to remain tepid or flat.
CRISIL added that a large part of the rupee's problems in the past year arose from structural issues and until those are resolved, the currency will be weak and highly volatile. CRISIL predicted that the rupee would rebound to INR 60 to $1 by March 2014 from its current level of around INR 65 to INR 66, as a result of the current account deficit falling to 3.9 percent of the GDP, compared with 4.8 percent in 2013. India's deficit is expected to correct significantly in the second half of the government's fiscal year (September through March) due to a decline in non-oil imports, including a 28 percent to 30 percent drop in gold imports. Gold imports are likely to ease on the back of restrictions on the sale of gold bars and coins as well as a hike in customs duty on gold imports to 10 percent.
''We also expect capital and consumption goods imports to continue to moderate due to weak domestic demand. Although the deficit is now expected to be around $71 billion to $72 billion, total foreign capital inflows this year will be insufficient to cover. As a result, the rupee will, on an average, be 12 percent to 14 percent weaker compared with the 2013 fiscal year,'' CRISIL stated.
In addition, the rupee is expected to reflect high volatility when the U.S. Federal Reserve begins to taper its quantitative easing program. On the flip side, there could be some recovery in the currency.
''This will be supported by higher foreign capital inflows in the second half of the year if the steps announced by the government to attract $11 billion in capital inflows, via foreign borrowings by state-owned financial institutions and public sector oil companies, and measures to attract non-resident deposits, begin to yield. In addition, the $50 billion bilateral swap agreement with Japan will also provide support to the rupee in times of stress,'' CRISIL noted.
CRISIL believes that India's industry and services sectors, which account for 86 percent of the GDP, will slow this year due to weaker demand. However, following a timely and well-distributed monsoon, agriculture should help rescue India as CRISIL believes agricultural output will soar and, as a result, it revised the sector's growth forecast to 4.5 percent, up from 3.5 percent, which has the potential to boost GDP growth to 5.2 percent in a best-case scenario.
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