Monsoon, agriculture, prices (Yes Bank)
The focus for economic agents over the last few weeks was the onset of the SW monsoon, especially as the El Nino risks have been now moved to an “Alert” from “Neutral”. This year, the monsoon had a delayed start as was predicted, and its progress was also initially stalled by the cyclonic conditions that developed over the Arabian Sea. However, monsoons have now covered the whole country. From, a deficit of around 55%-60% in the initial part of June, cumulative rainfall till 3rd July shows a deficit of only 8%. This is good news, but the worry comes from an uneven spread of the monsoon. Southern Peninsula is currently seeing a large deficit of around 43% while the North-West region has a large surplus of 40%. East and North-East India sees a deficit of 16% while the deficit for Central India is 4%. Even as the IMD has predicted a normal monsoon for July, tracking the temporal and spatial progress of the SW monsoon in July and August remains important as these are the most crucial sowing months.
El Nino is forecasted to strengthen over August/September. However, apart from the El Nino, SW monsoons for India critically depends on another weather condition, known as the Indian Ocean Dipole (IOD). Currently, the IOD is neutral, and models predict a positive IOD to develop over the coming months. Only if El Nino is associated with a neutral or negative IOD does precipitation suffer. In the current situation, we are hopeful for a positive IOD developing that can neutralize the negative rainfall impact of El Nino.
As of date, Kharif sowing is 0.4% higher than last year, with rice (-26% YoY), cotton (-14% YoY), jute and mesta (- 12% YoY) and oilseeds (-3.3% YoY) registering a decline. Globally, rice market is facing significant production deficit and lower stocks, putting pressure on prices. Based on fears of lower rice supplies, mandi prices in India has started to rise. In FY23, domestic rice inflation stood at 8% YoY and in September 2022 India had banned exports of broken rice and imposed 20% export duty on non-basmati varieties, except parboiled to keep prices in check. Presently, India has adequate rice buffer stock that gives enough space to the government to intervene and keep prices in check. India has already announced open market sale of rice, even as the quantity is not known. Importantly, the major rice producing states have higher irrigation cover such as Uttar Pradesh, Punjab, Telangana, Tamil Nadu, and Andhra Pradesh.
On the other hand, pulses could be a bigger worry if rains fail as the all-India average area under irrigation is just 23%. In recent months, retail prices of vegetables and pulses have been on the rise. If late onset of rains also leads to late withdrawal of rains, onion crop can also be at risk. Having said, correlation between weak monsoons and food prices is unclear. It is a demand-supply game and food prices remain hugely dependent on global food prices and the ability of the government to draw down on domestic stocks. And domestic stocks of rice seem adequate and comfortably placed vis-a-vis the buffer norms. A recent RBI study indicates that a negative IOD (weak India SW monsoons) is a bigger risk for food prices than El Nino. IOD is currently in the neutral zone, and as indicated earlier, IOD is expected to develop into the positive zone soon.
Overall, we think that Headline CPI inflation will broadly pan out as per the RBI estimates. Our model however indicates a slightly higher average print for Q4FY24 compared to projections made by RBI. In this context and with global central banks remaining hawkish, there appears little chance for any rate cut from the RBI in FY24. The resolve from OPEC+ to keep oil prices at the current levels appear strong. Despite a not-too-robust China story, most commodity price indices appear to be finding a floor.
Crude oil: Hubbert’s peak is here (Goehring & Rozencwajg)
Conventional oil production has now unequivocally rolled over. Unconventional production, the only source of growth in global oil supply over the last 12 years, has also significantly slowed. The only growing non-OPEC basin is the Permian in West Texas. Never before has oil supply growth been so geographically concentrated. Six counties in West Texas are now 100% responsible for all global production growth.
Conventional non-OPEC oil production peaked in 2007 at 46.2 mm b/d and now stands at 44.2 mm b/d – 4% below its peak. Including OPEC, conventional global output peaked in 2016 at 84.5 mm b/d and now stands at 81.3 m b/d – 5% below its peak. Even if OPEC has its alleged 4 mm b/d of unused production capacity (something we do not believe), conventional production would barely regain its 2016 peak.
Non-OPEC oil production between 2006 and 2015 grew by 8.6 mm b/d. Conventional oil supply contracted by 1.4 mm b/d. Unconventional oil supply more than offset these declines, surging by 10 mm b/d and broken down as follows: US shales grew by 6.8 mm b/d (65% of all growth), bio-fuels grew by 1.9 mm b/d (19% of the growth), and Canadian oil sands increased 1.4 mm b/d (14% of the growth). Please note that out of this 10 mm b/d growth figure, the Permian represents only 1.4 mm b/d or 14%.
Between 2016 and 2023, unconventional production surged by another 7.4 mm b/d, representing all non-OPEC supply growth. US shales accounted for 85% of the increase. However, whereas all the major shale basins grew from 2006 to 2015, only the Permian grew afterward. The Bakken and Eagle Ford peaked at 1.5 mm b/d in 2015, and this year are each expected only to be between 900,000 and 1 mm b/d. Significant unconventional growth also came from natural gas liquids production in the liquids-rich Marcellus and Utica, which we estimate each added 1 m b/d. This source of production growth is now set to fade, while the plateauing of the Marcellus will turn into a decline.
Between 2006 and 2015, the Permian represented only 14% of unconventional supply growth. Between 2015 and 2023, the Permian represented almost 75% of this growth.
Conventional production started declining in the non-OPEC world over a decade ago. Conventional oil production has most likely turned negative in the OPEC world as well. Over the last thirty years, global oil supply growth has come from multiple geographic areas, including the North Sea, Mexico, Brazil, West Africa, and the Former Soviet Union. Over the last decade, however, these areas have had slight growth, and specific basins, such as the North Sea, have experienced considerable declines.
Consensus opinion believed global oil demand would peak in 2019 and gradually decline through this decade. Just the opposite has occurred: demand has come roaring back post-COVID. Global demand in 1Q23 surpassed 102 mm barrels per day -- three million barrels above the 1Q19 (pre-COVID) level and almost 2 mm b/d above the International Energy Agency’s (IEA) 1Q23 estimate. Strong demand and faltering supply led OECD countries to release 250 mm barrels of oil from their strategic petroleum reserves to keep prices from surging. Given the seasonality in demand and China’s ongoing reopening, the 4Q23 demand could surpass 104 mm b/d.
From here on out, just six counties in West Texas must meet all global demand growth. Given the strategic importance of the Permian, it’s imperative to understand its underlying health. Using our neural network, we have updated our basin analysis, and the results are shocking. The Permian is likely less than a year from peaking and starting its decline. The only source of non-OPEC supply growth is now primarily tapped out.
After many false starts, Hubbert’s Peak is finally here.
Electronic Manufacturing: India the Next Stop (Morgan Stanley)
Reconfiguration of global supply chains from growing multipolarization is leading to major adjustments in the tech sector. Re & friend-shoring along with India's ongoing structural transformation could see India play a major role in technology-related production, while Apple and its supply chain coming to India would bring in fresh investment. We estimate a 21% CAGR in electronics manufacturing in F22-32.
Global multipolar thematic driving tech supply chain shift: Geopolitical risk, rising costs in China and supply chain diversification has seen a move from Made in China to Made around China (Global Technology: Multipolarization – The New Normal in Tech [1 May 2023]). De-risking in the form of regionalization has gathered pace as China has expanded its move toward localization for higher value-added types of manufacturing. Vietnam has been a key beneficiary but we think India will be next. Apple has made it clear that India will be the destination for fresh new investment, and recent reports have indicated Google and HP aim to boost local production,as they diversify supply chain exposure.
Outlining key implications from this tech manufacturing transition: We look at how a changing perception among multinationals towards India from one of low-cost outsourcing to one of collaboration in advanced technologies, strong supplier ecosystems, and enabling regulatory policies is the necessary path forward to ultimately evolve into a high-tech manufacturing hub. The global tech hardware supply chain is already a growing presence in India, especially in smartphone assembly, e.g., Samsung and Foxconn, though a move up the value chain towards establishing a semiconductor supply chain could take longer to play out given the complexity.
India is uniquely positioned: In our Blue Paper, Why This Is India's Decade, we said India is set to become the world’s third-largest economy and stock market by the end of this decade. One of the key pillars of this transformation is off-shoring driven by transition to a multipolar word. Indian policy makers have taken meaningful steps to boost infrastructure investment, lower corporate tax, improve the ease of doing business and launch production-linked incentive (PLI) schemes with the goal of lifting India’s participation in global supply chains.
India's electronics manufacturing (EM) at an inflexion point: We forecast structural EM growth of 21% CAGR over the next 10 years (F22-32) to US$604bn by F32 driven by: 1) rising disposable income per capita;2) increasing number of households;3) rising urbanization; 4) improving access to electricity;5) easier availability of financing; and 6) the expansion of e-commerce. On the supply side, India has a large, increasing working age population and surplus low-cost labour.
Indian pharma: On a strong footing (ICICI Securities)
Pharma companies under our coverage are likely to report revenue/EBITDA/PAT growth of 15%/33%/28% YoY in Q1FY24E. The growth is likely to be led by new launches, market share expansion in key products and acquisition in US & India. Aggregate gross margin to improve marginally QoQ (+250bps YoY) at 64.8% as higher RM cost and mandated price cut in India may offset the benefit of better margins from niche US launches. However, operating leverage may drive a 90bps QoQ (+300bps YoY) surge in EBITDA margin to 22.4%. Aggregate PAT is expected to surge 28% YoY to Rs86.6bn.
Synopsis of expected quarterly performance: Revenue for coverage universe is likely to grow ~15%/4% YoY/QoQ to Rs641bn in Q1FY24E. Growth is likely to be led by traction across key markets of US and India. Gross margin to expand 250bps YoY (+40bps QoQ) to 64.8% in Q1FY24E. EBITDA is expected to grow 33% YoY (9% QoQ) to Rs144bn, EBITDA margin may improve 300bps YoY (90bp QoQ) to 22.4%. Profit for our coverage universe was up 28% YoY (13% QoQ) to Rs87bn led by improvement in overall operating performance. Alkem, Zydus Lifesciences, Biocon, Glenmark and Dr Reddy’s are likely to grow their profits between 28-115%.
India margins to be under pressure: India business of our coverage companies is expected to grow at ~8% YoY in Q1FY24E to Rs198bn. Better volumes and acquisitions may help companies offset the impact of price cuts on growth, while margins may be under pressure. M&A may elevate the pace of growth in India business of JB Chemicals and Torrent Pharma to 20-24% while Abbott and Ajanta can grow organically at a faster pace of 15-16%. NLEM linked price hike of 12.2% will likely boost domestic growth and profitability Q2FY24 onwards.
Better market share, launches to drive robust performance in US: Aggregate US sales of coverage universe is likely to grow US$2.3bn, up ~6% QoQ and 24% YoY. Lesser price erosion in base business and improved supplies on account of few companies vacating the market may drive sequential growth across all the companies in our coverage universe. Zydus is expected to grow the fastest at 10% QoQ, driven by products like gRevlimid, gTrokendi XR, gChantix and gVascepa. Dr Reddy’s, Zydus, Cipla and Sun are likely to benefit from the launch of gRevlimid, while Aurobindo is expected to launch this product in Oct’23.
Operating leverage to drive improvement in EBITDA: RM cost is expected to remain elevated in Q1FY24E and mandated price cuts in India may further restrict the scope for gross margin expansion. We believe benefit of low-priced inventory may not be seen in Q1FY24 as companies are unlikely to have exhausted their high-priced inventory and full quarter benefit of it will likely be visible from Q2FY24. Better revenue traction in US and India to drive operating leverage and help EBITDA margin soar by 272bps YoY to ~22%. We expect significant recovery in gross and EBITDA margins for companies under our coverage in FY24E. Better traction in US may drive margins for the next couple of quarters beyond which price increase in India and normalization of RM and logistic cost are likely to play a pivotal role in restoring the margin profile.
Key risks: Adverse outcome of USFDA inspections, currency volatility and inclusion of more products under NLEM in India.
India Auto: Volume growth moderates to single-digit (IIFL Securities)
Volume growth across Auto segments came in at low-to-mid single digits in June 2023, confirming our view that FY24 would see sharp deceleration in growth, after the strong cyclical recovery seen in FY22 and FY23. PV industry volumes grew 2% YoY in June. 2W industry volumes grew only 4% YoY and came off 7% MoM, as we entered the seasonally weak period. Tractors grew 6% YoY and 20% MoM in June (seasonal spike). MHCV industry grew 8% YoY; this is an improvement vs recent months. Reversal of pre-buy impact in Jan-Mar (related to BS-VI Phase 2) had led to weak volumes in Apr-May. LCV industry declined 3% YoY, which is a continuation of weak trend in recent months.
Based on these numbers, we believe that risk to FY24 volume projections, if at all, is to the downside.
MHCV industry recovers after “pre-buy reversal” in Apr/May; LCV stays weak: MHCV industry volumes grew 8% YoY in Jun’23. MHCV SAAR, which had collapsed to 340k in Apr/May (due to reversal of pre-buy impact in Mar-2023), normalised to 385k in Jun’23. This is close to our estimate of about 400k volumes in FY24. Ashok and Tata Motors’ MHCV market shares are quite stable, at ~31% and ~47% respectively. LCV industry declined 3% YoY; we see this as a continuation of recent weak trend. We forecast zero growth for LCV in FY24.
PV growth moderates to 2% YoY: We estimate PV industry to have grown 2% YoY in Jun’23. We expect PV volume growth to stay muted in 2QFY24 (Jul-Sep). Maruti’s Jun’23 market share stood at ~41% — lower than May (43%), and is attributable to Maruti’s 1-week production shutdown in June. Tata’s market share stood at ~14% in Jun’23; similar to FY23. M&M’s UV volumes stayed at ~32.6k; volumes are not scaling up, despite high order book (close to 300k).
Tractors grow 6% YoY: Volumes grew 6% YoY in Jun-2023. The 20% MoM jump is seasonal. Sentiment for tractor sales was mixed, as markets with good rainfall saw good momentum, and markets with delayed monsoon saw soft demand. We currently forecast 5% growth for Tractor industry in FY24. If monsoon is impacted due to El Nino effect, there would be downside risk to our estimate.
Domestic 2Ws up 4% YoY; 2W exports see sequential improvement: 2W industry volumes grew ~4% YoY but declined 7% MoM (seasonal). We understand that underlying retails are clocking mid-to-high single-digit growth. Hero continued to underperform the industry with 9% YoY decline in dispatches. Coming to 2W exports, we continue to see YoY decline in volumes (down ~30% YoY). However, on a sequential basis, we saw volumes improve by high single-digit.
Roads: NHAI flags off FY24 awarding in June (nuvama institutional equities)
After a two-month pause, NHAI awarded three projects spanning ~87km in Jun-23 (compared with 303km in Jun-22). During the same period, 262km of roads were also constructed (versus 326km in Jun-22 and 413km in May-23). After Mar-23’s blockbuster awarding, NHAI’s awarding activity came to a grinding halt – no LoAs were issued during the months of Apr-23 and May-23. That said, road awarding in FY23 stood at 6,310km across 179 projects.
Pace of road construction slows down: In Jun-23, the NHAI constructed 262km of roads (compared with 326km in Jun-22; 413km in May-23). YTD FY24 road construction stands at 844km against 863km in the same period last year. In FY23, it constructed ~4,500–4,600km of roads (~4,325km in FY22) at a pace of ~12.5km/day. As per a recent media article, the ministry is looking to increase its road construction target to ~14,000km from 12,500km, at a pace of 38km/day in FY24E (link).
Outlook: A mix of hope and caution: As highlighted in our report Road awards: More speedbumps, While NHAI awarding was disappointing in FY23, higher budgetary outlay for roads provides hope for better awarding going ahead. While commodity prices have softened, high competition remains an issue (with knock-on effect on margins going ahead). RBI’s pause in interest rate hikes, the government’s thrust on roads and the improvement in credit availability from banks are encouraging factors.
Given the backdrop, we argue, road developers must work on segmental diversification since their ability to win adequate road orders at desired margins is now under question.
Specialty Chemicals: One of the worst quarters; A similar to follow (Phillips Capital)
Indian Specialty chemical Industry is all set to face one of the worst quarters in Q1 primarily driven by a broad-based disruption in global chemical demand caused by visible economic slowdown in advanced market of EU/US, ongoing inventory rationalisation and enhanced competition from China post their Covid lock down. Not only the revenue performance, the deteriorating profitability caused by weak spreads as well as negative operating leverage look like a reality. Moreover, the likelihood of the said situation extending into Q2 and early Q3 makes the near-term earnings outlook bleak.
We estimate PC’s Specialty Chemical universe’ is likely to see 33% decline in overall earnings (-21% qoq) as the revenues decline 12% and margins face sequential correction during the quarter.
The key input prices, energy cost, freight cost has certainly moderated sequentially in Q1 but those fail to protect the margin performance of Indian Chemical industry as the final product prices corrected faster led by aggressive Chinese competition and the industry suffered negative operating leverage due to weak demand.
In fact, the average input price for Q1 saw the following trend: - crude price (-29%/-5% yoy/qoq), Benzene (-24%/+5% yoy/qoq), Toluene (-4%/+5% yoy/qoq), Phenol (-10%/+4% yoy/qoq), caprolactum (-18%/+9% yoy/qoq), Indonesian coal (-3%/-13% yoy/qoq), etc.
