Bucking the trend: Oil & gas, metal firms see surge in capacity utilisation

In contrast to the subdued demand environment which has left many companies with low utilisation of their production capacities, a handful of companies have seen a good increase in this metric. About 10 companies, according to Edelweiss Securities’ data available to Business Standard, have seen an increase of 250 to 2,050 basis point in their capacity utilisation. Capacity utilisation indicates the extent to which a company uses its installed productive capacity. 

Continued subdued demand has led to low capacity utilisation levels for most private sector companies in recent years. Low growth in demand and, consequently, subdued capacity use means that companies have virtually frozen their capital expenditure, adding to the growth pressures in the economy in addition to pulling down the overall credit growth to multi-year low levels. Improvement in this metric is crucial for a revival in the economy as well as in credit growth, say experts.

In addition to the 10 companies, another four have witnessed an increase of 80 to 250 basis points in their capacity utilisation in 2016-17 compared to 2015-16.

GAIL, Vesuvius India, NMDC, Hindalco and Somany Tiles (Somany) are the top five companies in this list of 14 with gains of 900 to 2,030 basis points in their capacity utilisation levels. In fact, there are six companies in these 14 that have seen improvement in capacity utilisation for two years in a row — FY16 as well as FY17 (according to the latest data available). These six companies are Petronet, Maruti Suzuki, Fortis Healthcare (Fortis), Mahindra and Mahindra (M&M), Hindustan Petroleum Corporation (HPCL) and Ashok Leyland.

Clearly, these companies have bucked the trend of slowdown seen over the past 2-3 years. While the jury is still out on when there will be an all-round improvement in capacity utilisation, experts believe this metric should be around 80-85 per cent levels to push private investments.

"Most private companies’ capacity utilisation is still at about 70-72 per cent levels. Unless this metric goes to 80-85 per cent, corporate capex (capital expenditure) will not pick up," says Tirthankar Patnaik, India Strategist at Mizuho Bank. Interestingly, five companies in our list enjoy capacity utilisation in excess of 80 per cent (see table). Within these, three companies are operating at over 100 per cent capacity utilisation. The list is arrived at by looking at 100-odd top manufacturing and services companies covered by domestic brokerage Edelweiss Securities.

A deeper look at the list reveals some interesting trends. Resources companies in the oil and gas and metals sectors dominate this list, followed by auto and pharma. Easing prices of global liquefied natural gas (LNG) have aided volumes as well as capacity utilisation of Petronet LNG and GAIL in the past few months. Pick up in industrial demand for gas-based fuels will also augur well for these companies going forward. Ramp up of greenfield smelters in the past two years have boosted the domestic capacity utilisation of Hindalco. As the company steps up focus on value-added products, this trend is likely to continue for Hindalco, believe analysts. It is not surprising then that most analysts are positive on Hindalco. India's largest iron ore producer, NMDC, too witnessed a healthy improvement in its capacity utilisation on the back of higher domestic steel production. Favourable cost economics towards pellet will aid domestic iron ore demand, thereby boosting NMDC's prospects. Somany stands to gain from both demonetisation as well as the goods and services tax roll out as it will create a level playing field between organised and unorganised players. This will enable organised players like Somany to take away some market share from their unorganised counterparts. As the company ramps up its presence in the faucets and sanitary-ware segments, its capacity utilisation levels are likely to improve further and lend higher growth visibility, believe analysts.

Overall, the increase in capacity utilisation for these companies is mainly due to improved demand scenario and market share gains. Most of these companies enjoy a space in the top three companies (by market share) in their respective sectors and hence are well poised to gain from an improvement in the economy. Going forward, experts believe, this trend of improving capacity utilisation should continue.

Nischal Maheshwari, head of Institutional Equities at Edelweiss Securities, says, “Improvement in exports in the last 3-6 months due to improving external demand is a key positive. Given the high linkages of India’s manufacturing sector to exports, we believe that we should see an improvement in capacity utilisation by the second half of FY18 or the first half of FY19.” His top picks in this list are India Cements, Max India and Somany. While the former two have scope to improve operational leverage further, reducing debt burden will also aid their earnings, he says.

Interestingly, rising capacity utilisation has also aided operating profit margin expansion for most of these companies. Since fixed costs like employee wages, rents, administrative and marketing, etc more or less don’t change with an increase or decrease in capacity use, high output (hence increased capacity utilisation) leads to better margins.

Overall, the growth outlook and visibility remain strong for most of these companies.


E: Estimated
* Latest available
** Utilisations for the UV business
# Follows calendar year; ranking in list assuming 65 per cent capacity utilisation
## Domestic aluminium capacity only
The list here is sorted in descending order by increase in capacity utilisation in FY17
Source: Edelweiss Securities, brokerage reports

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