· Indian apparel exporters are passing through testing times, with several challenges lurking internally as well as externally
· Scaling up of operations, while maintaining strict delivery schedules and meeting stringent compliance requirements of buyers in a short span of time, crucial to seize market opportunities
ICRA expects the Indian apparel exporters to report a moderation in profitability in FY2020, with pressures likely to sustain at least in the near term, and the turnover growth to be subdued, except for a few larger players with an established client base. The industry is facing increased challenges like increased bargaining power of buyers amid intense competition, cost-side pressures emanating from disruptions in procurement of materials and consumables (such as colours, chemicals, accessories/ trims etc.) from China and write-backs of export incentives booked previously – all of which are expected to adversely impact profitability.
Commenting on this, Mr. Jayanta Roy, Senior Vice-President and Group Head, Corporate Sector Ratings, ICRA, said: “In addition to sustained pressures on liquidity owing to delays witnessed in clearance of the Government dues, we expect a correction of around 100-150 bps in the operating profitability of Indian apparel exporters in FY2020, which is expected to result in a moderation in debt coverage metrics. The impact is likely to be more pronounced for leveraged and smaller companies, with limited bargaining power with customers, modest liquidity cushion and/or less financial flexibility to absorb the impact.”
The Indian apparel exporters are passing through testing times, with several internal and external challenges. The external issues primarily stem from an unfavourable demand-supply scenario. Demand in the key markets has remained subdued, with impact heightened by the rapid spread of the COVID-19 across regions in the recent weeks. While demand from the EU has remained weak, recent trends in the US apparel imports have also been discouraging, corroborated by a volumetric decline of ~12% Y-o-Y in apparel imports by the US in Q3 FY2020 and an overall decline of ~0.3% Y-o-Y in 9M FY2020. This follows an ~17% and ~5% Y-o-Y decline in domestic retail sales of clothing and clothing accessories (in value terms) in the US in Q3 FY2020 and 9M FY2020 respectively. Besides affecting order flows, this could potentially result in renegotiation of realisations as well as an elongated receivables cycle for the exporters. Further, the competition from peer nations is intensifying with increasing penetration of free trade agreements (for instance, Bangladesh has duty-free access to the EU markets under the Everything but Arms scheme, while the EU-Vietnam Free Trade Agreement is in advanced stages of execution) tilting the market in their favour.
While the external challenges are proving to be growth headwinds for companies, internal challenges are constraining profitability and liquidity of players across the spectrum. These pertain to recent retrospective revision in and continued uncertainty on structure of export incentives as well as delays witnessed in clearance of previous dues and input credit refunds.
As per a recent ICRA report, correction in profitability follows a clarification issued by the Government of India (GoI) in January 2020 on the structure of export incentives available to exporters in the current fiscal, which resulted in material change with retrospective effect. While the exporters factored in the export incentive benefits under the Rebate of State and Central Taxes and Levies (RoSCTL) scheme and the Merchandise Exports from India Scheme (MEIS) for the period March 2019 to December 2019, the MEIS scheme was discontinued with retrospective effect from March 2019 onwards. This has necessitated a write-back of export incentives already booked in the orders shipped during the current fiscal, affecting profitability. Although, for exporters facing a decline in incentives, the Government announced an additional one-time ad hoc incentive of up to 1%, this would only partially compensate for the loss and some impact on profitability is still likely. Further, the overall incentives are likely to reduce from the next fiscal when the ad hoc benefit gets extinguished.
Significant delays in clearances have also constrained liquidity of the exporters during much of the current fiscal. Having said that, the liquidity pressures seem to be easing with disbursals having commenced in the recent weeks, after the Government issued detailed procedural guidelines for filing the claims of RoSCTL and ad-hoc incentives. While sustainability of the timely releases remains to be seen, the uncertainty on structure/ rate of export incentives remains as the details of the new export incentive scheme are yet to be announced. The Cabinet Committee on Economic Affairs (CCEA) approved the scheme for Remission of Duties or Taxes on Export Products (RoDTEP) on March 13, 2020. However, the segment-wise rates and effective dates are yet to be announced, which is expected to take another six to eight months. Under the scheme, reimbursement will be provided for taxes/ duties/ levies, at the Central, state and the local level, which are currently not being refunded under any other mechanism, but are incurred in the process of manufacture and distribution of the exported products, thereby attempting to make the exports zero-rated. With peer nations enjoying duty-free access in some of the key markets, export incentives have played a crucial role in supporting competitiveness of domestic apparel exporters in the international markets. Accordingly, this remains a key monitorable for the sector, as the recent coronavirus outbreak is likely to encourage major international buyers to diversify their sourcing base, to reduce dependence on China, which accounts for over 30% of the global apparel trade. Key countries that stand to benefit from this shift include Bangladesh, Vietnam, India and Turkey. This comes at a time when China has already been shedding its share in the global apparel trade (share down from ~42% in CY2015 to ~32% in CY2019) focusing more on higher value-added sectors, and the US-China trade war has escalated the pace of shift away from Chinese suppliers in the past one year. This is corroborated from the fact that while the US’ apparel imports from China declined by ~32% Y-o-Y in Q3 FY2020, following a tariff hike in September 2019, other leading peer nations – including Cambodia, Bangladesh, Vietnam and India – reported ~12%, 9%, 6% and 1% Y-o-Y increase respectively. Having said that, the shift in the sourcing base is likely to be gradual as there are exit barriers for large buyers in terms of compliance requirements and establishing a reliable supplier base for large quantities.
Concluded Mr. Roy, “Apparel exporters from India, particularly the larger ones, are well positioned to benefit from the market opportunity in the medium term. Nevertheless, it would require companies to scale up their operations, maintain strict delivery schedules and meet stringent compliance requirements of buyers in a short span of time, to fill the supply-side gap left by the Chinese exporters.”
