Crisil Ratings expects revenue growth of Indian readymade garment (RMG) makers to accelerate ~300 basis points (bps) to ~10% in calendar year (CY) 2019, compared with ~7% in CY2018, riding on healthy domestic demand and a spurt in exports.

Higher revenue growth will render benefit of operating leverage and will help improve profitability. Further, profitability of exporters is also aided by favourable exchange rate and restoration of incentives, resulting in better cash generation, which will improve the credit profiles of Crisil-rated RMG firms this fiscal. Credit profiles had moderated in the previous two fiscals owing to relatively lower depreciation in the rupee against the dollar and a reduction in export incentives.

Domestic sales logged a compound annual growth rate of 9.6% in the five years through CY2018 to Rs 4.83 lakh crore, which was 80% of the sector’s revenue. That pace is set to increase to 10-10.5% this year for two reasons: increasing penetration of both organised retail and brands in Tier II and III cities, and rising growth of value apparel retail segment.

Complementing healthy domestic growth will be a rebound in exports growth to 7-8% this year after two years of de-growth (1% in CY2017 and 2% in CY2018). In the first 6 months of CY2019, RMG exports are already up over 10% on-year.

Exports growth will benefit from a likely depreciation in the rupee against the dollar, a partial restoration of export incentives recently, and a pick-up in growth in the United Arab Emirates, the third-largest exports destination after the United States (US) and the European Union for Indian RMG. Exports to UAE (12% of total Indian RMG exports), are slated to recover in CY 2019 after a significant drop seen in last two calendar years.

The export incentives restored include an increase in Rebate of State and Central Taxes and Levies in March 2019 by almost 200 bps, addition of merchant exporters in the interest equalisation scheme (IES) for pre- and post-shipment export credit, and a 200 bps increase in the rebate offered to micro, small and medium enterprises under IES.

Says Anuj Sethi, Senior Director, Crisil Ratings, “Operating profitability of domestic-focussed RMG firms is expected to remain stable at 10-11%, whereas that of exporters should improve another 50-100 bps this fiscal, on top of the 100-120 bps increase seen last fiscal. Exporters will benefit from the higher export incentives.”

Crisil rates 345 RMG makers. The credit ratio (or upgrades to downgrades) of these firms was under 1 time in the last 2 fiscals on account of stretched working capital stemming from inventory build-up after demonetisation, rupee appreciation and delayed Goods and Services Tax refunds. However, credit profiles of RMG makers should strengthen this fiscal on better revenue growth and profitability.

“Higher cash accrual, along with stable working capital requirement and prudent capital spending, will lead to a gradual recovery in credit metrics this year,” said Gautam Shahi, Director, Crisil Ratings. “For instance, the debt/ EBITDA (earnings before interest, tax, depreciation and amortisation) ratio of RMG firms should improve to below 2.5 times this fiscal from 3-3.5 times in the past three fiscals.”

Going forward, currency volatility and government policy on export incentives will be key monitorables.