Domestic tractor sales volume growth is seen halving to 4-6% in fiscal 2024 from a high base — created by a compound average growth rate of 10% since fiscal 2020 on the back of successive normal monsoons.

However, softening prices of inputs such as steel and pig iron will provide a 100-200 basis points (bps) respite to the operating margin¹ of tractor makers.

Further, net cash-positive balance sheets will continue to support strong credit profiles.

In fiscal 2023, tractor sales volume will hit a record as farm sentiment remains healthy after another good monsoon — the key driver of farm incomes — and increase in Minimum Support Price (MSP) for the 2022-23 market season.

Says Naveen Vaidyanathan, Director, CRISIL Ratings, “Riding on a high base, tractor volume growth next fiscal will be driven by both, the farm and commercial segments. The 5% increase in MSP for wheat for the ongoing rabi crop — the highest in the last four fiscals — will improve farm incomes, while the government’s infrastructure push and higher construction activity will drive commercial demand.”

Replacement demand, which accounts for ~60% of volume, will also support tractor volume. Tractors typically have a lifecycle of 6-8 years. Record sales in fiscals 2017 and 2018 foretell healthy replacement demand next fiscal.

To be sure, there are downside risks to this expectation. Unusually high temperatures followed by unseasonal rainfall in parts of northern and central India in the past month have raised concerns of a weaker rabi harvest this year.

Weather agencies have also flagged the rising probability of an El Niño event in July-August this year, which could lead to below-normal rainfall. While above-average reservoir levels would provide some respite, uncertainties could persist.

The El Niño effect had led to a shortfall in monsoon during fiscal 2015 and 2016 impacting farm incomes and leading to tractor volume declines of 13% and 10%, respectively.

While a clearer picture on the monsoon will emerge in the coming months, easing commodity prices should provide respite on the profitability front.

Says Nitin Bansal, Associate Director, CRISIL Ratings, “High input prices had led to operating margin falling for the last two fiscals from a decadal high of ~22% in fiscal 2021 to ~15% in fiscal 2023, despite successive price hikes. However, prices of steel and pig iron, which together account for ~90% of the total raw material cost of tractors, have eased in the past few months and may decline by 6-12% next fiscal, driven by softer coal prices. This should help improve operating margin to 16-17%.”

Apart from improving profitability, robust balance sheets (with low gearing of 0.3 time) and limited capital expenditure, given the capacity utilisation of ~76%, will support credit profiles of tractor makers.

The progression of monsoon and the risk of El Niño and its consequent impact on farm income will bear watching.

¹ Operating margin is defined as earnings before interest and taxes