Synopsis
Capital goods stocks have experienced a remarkable rally ahead of the 2024 elections, but with the changing political winds, can the sector maintain its surge in earnings and order inflows?” Discover the insights of industry analysts on whether this impressive growth can weather the uncertainties of the electoral period and what capex themes may dominate the future of infrastructure investment.
Can the Capital Goods Sector Sustain Its Rally Post-Election Optimism?
Poised at the brink of the 2024 general elections, capital goods stocks have soared, with a stunning 66% surge in the S&P BSE Capital Goods Index for 2023. This bullish trend stems from government initiatives prioritizing infrastructure and associated sectors. But can this upward momentum continue? Its trajectory hinges on how earnings fare and if order inflows persist.
Are Sector Earnings and Order Inflows Still on the Rise?
The sector celebrated a substantial 52% leap in order inflows during FY24’s first half, outperforming year-on-year figures. L&T, an industry titan, reported an impressive 65% uptick, Incred Research Services Pvt. Ltd. reveals. This upward trend, however, faces potential slowdowns with the electoral wave on the horizon, casting a shadow of caution and possibly impacting new orders.
What Do Analysts Predict for Pre-Election Order Activity?
The team at Prabhudas Lilladher projects a rush of orders before the Union Budget emerges. Yet, this flurry might dwindle as the focus shifts to the impending elections. Current robust order backlogs underwrite future revenue upswings for capital goods and infrastructure enterprises. Nonetheless, there’s potential for a slight dip in the order book from February to May due to the pre-electoral hesitation in new order commitments,” explains Amit Anwani, a market analyst.
What’s Next for Infrastructure Investment Trends?
Persistent government investment in infrastructure, notably in avenues such as roads, railways, water, and power transmission, underlines ongoing sector support. Additionally, speculation is rife that renewable energy, electric vehicles, advanced battery solutions, data centers, and hydrogen tech will lead the charge in capex themes shortly.
How Will Infra and Industrial Capex Fare in the Coming Years?
Estimates from analysts at Jefferies India point toward a dynamic period ahead. “Infra and industrial capex could potentially climb at a 16% CAGR between FY23-26E, a stark contrast to the 6% from FY11-20. Power and railways, along with industrial investments, are poised to command the highest visibility,” noted a Jefferies India report as of late November.
Maintaining a close watch on these developments could be crucial for investors and industry observers gauging the capital goods sector’s robustness in navigating the post-election landscape.
Government-Led Capital Expenditure Boosts Infrastructure Sector
Despite private capital expenditure (capex) showing less vigour, the government’s considerable capex investments continue to drive growth in the infrastructure domain. The introduction of the production-linked incentive scheme promises to bolster private sector capex, further supporting industry players.
Revenue Outlook for Infrastructure Firms
Short-term revenue prospects for the sector present reasons for optimism. Ankita Shah, VP of Institutional Equity Research at Elara Securities (India), projects a robust earnings trajectory for infrastructure companies, including industry giant L&T. She anticipates earnings growth of 12% in FY24E, a notable jump to 21% for FY25E, and a steady 13% for FY26E.
Diversified Companies to Gain
Businesses with multi-sector operations are likely to see particular benefits. Healthy balance sheets characterized by low debt levels, coupled with the strategic release of capital from long-term projects, are poised to fuel future expansion opportunities.
Margins Expected to Improve Amid Raw Material Price Drops
The cooling of raw material costs could mean improved margins, especially for firms with predominantly fixed-price contracts. Thermax is taking steps to avoid low-margin orders, aiming to bolster profitability. Meanwhile, KEC International forecasts a jump in its Ebitda margin to 7% in FY24, up from 4.8% in FY23. For L&T, the completion of legacy orders by Q3FY24 is anticipated to resolve margin pressures.
EPC Firms Face Competitive Headwinds
For engineering, procurement, and construction (EPC) companies, mounting competition and the need to invest in new capabilities may temporarily hold back margin enhancements.
Market Optimism Reflects in Capital Goods Stocks Surge
The significant uptrend in key capital goods stocks reflects market expectations of solid order inflow, revenue growth, and margin enhancement. This sentiment has triggered a re-rating in valuations for some companies in anticipation of long-term growth and better margins.
Investor Caution over Potential Risks
Yet investors remain cautious, keeping a vigilant eye on potential risks. Concerns include a possible deceleration in order inflows, spikes in raw material costs, under performing exports, and lackluster international revenue growth. The upcoming general elections stand as a pivotal factor, with consumption recovery dynamics, geopolitical tensions, and global interest rates also playing vital roles in shaping the sector’s outlook.
