Spinners pin hopes on healthy cotton crop and demand restoration: ICRA

As per a recent report by ICRA, domestic spinners are likely to witness a gradual recovery in performance from Q4 FY2018 onwards, after facing multiple headwinds over past several quarters which resulted in their profitability touching six-year lows in the second and third quarters of current fiscal.

Says Mr. Jayanta Roy, Senior Vice-President and Group Head, Corporate Sector Ratings, ICRA, “The improvement in performance of domestic spinners is likely to be aided by a downward bias in cotton prices amid healthy cotton crop and an upward bias in yarn realisations due to demand restoration. While there has been an uptick in cotton prices in the recent weeks, ICRA believes the same to be an aberration in light of slower-than-usual arrivals in the leading cotton producing state of Gujarat owing to elections and concerns emanating from reports of pest attacks.”

ICRA believes that the crop quantity and quality is unlikely to be impacted considerably because of the aforesaid concerns and the arrivals are likely to pick up in Q4 FY2018. Accordingly, domestic prices are likely to remain ~10-12% lower than average cotton price during the twelve month period ending Sep 2017, close to the price floor of Rs. 105/Kg which factors in increased minimum support price as well as bonus declared in the state of Gujarat.

“The scenario on demand front is also likely to be more conducive, supported by improved clarity on export incentives for textile goods during recent weeks, which in-turn is likely to support India’s overall textile exports from Q4 FY2018 onwards. With improved demand scenario, the yarn realisations are likely to witness some upward bias, though the increase will be limited due to low cotton price.”, Mr. Roy added.

The clarity on export incentives, which had been revised downwards post-GST implementation creating a transitory impact, augurs well for cotton yarn demand from export-oriented textile players in the downstream segments and hence is likely to support demand restoration to an extent. In addition, the cotton yarn demand is also expected to gather strength from restoration of domestic demand following the temporary disruption caused by the transition to the GST regime, and higher exports to one of India’s key export markets – China, before re-launch of its cotton auctions in March 2018. Similar to past few years, India’s yarn exports remained under pressure during much of the current fiscal as well, with the exception of recent months and another brief window between December 2016 and February 2017 due to sizeable liquidation of cotton in Chinese auctions, which has been facilitating an improvement in mill usage there.

Domestic spinners have been witnessing challenges on multiple fronts over the past few quarters. Besides tepid production volumes and subdued realisations in light of sustained demand-side pressures, cotton prices had remained firm keeping the domestic spinners on the edge over the past one year. As a result, Q2 FY2018 turned out to be the weakest quarter for domestic spinners in the past six years. The demand-side pressures sustained during Q3 FY2018 as well, which resulted in a sharper decline in cotton-yarn realizations vis-à-vis cotton prices post commencement of this year’s harvest season. As a result, contribution margins of domestic spinners shrunk to Rs. 71/kg in Q3 FY2018 from Rs. 75/ kg in H1 FY2018 and FY2017. ICRA, therefore, expects Q3 FY2018 to turn out to be another weak quarter for domestic spinners in terms of profitability. Nonetheless, credit profiles of spinners remain stable despite the weak performance in recent quarters in the backdrop of secular amortization of term debt and lower borrowing costs.