Companies may try to go slow on their spending programme as the high interest rates could ultimately affect project internal rate of return (IRR), feels Ms Srividhya Rajesh, Fund Manager – Equity, Sundaram BNP Paribas Mutual. Srividhya manages Sundaram CAPEX Opportunities, one of the top performing theme funds during the bull run witnessed by infrastructure and engineering stocks during 2005-2007. In an interview with Business Line, she shares her views on the capital expenditure and infrastructure spending trend in the country. She also explains why the fund is approaching commodity stocks with caution.

Excerpts from the interview:

Is there a clear slowdown in capex spending and order flows?

We have been seeing a slowdown in order flows from corporate capex as well as from the infrastructure side. Projects are getting delayed; credit may be one of the reasons apart from the macro environment pertaining to that sector. The Government was supposed to be one of the spenders not affected by this credit crisis. But I think their borrowing programme and the subsidy bill, be it on crude or fertiliser, has been ballooning. They would also want to probably space out their infrastructure spending. Companies, too, may try to go slow on spending programme because ultimately the IRRs of the projects are affected at such high levels of interest rates. Further, as commodity prices have also moved up, the payback could get stretched. Barring orders here and there, we are not seeing the same pace of order flows seen earlier. Maybe some companies with international presence, especially those with businesses in West Asia, may be slightly better off. But domestic orders are likely to get hit in terms of the pace.

Companies that are already committed or are half way through may continue if they have had good cash flows in the past. They would go ahead and complete the projects unlike last time around when demand supply was an issue and companies had to abandon projects midway as they had either over-planned or budgeted for much higher scale. Right now that is not the case.

Further, the political situation is also uncertain. There is normally a slowdown in spending by the Government in sectors such as roads during a year of transition. The road orders have also seen a slowdown because of the change in regulations governing bidding criteria. But the slowdown may ease out with the interest rates softening.

Would the change in bidding regulations in the road sector lead to consolidation?

The condition of only five-six players qualifying for financial bids has been done away with for future orders. The projects that have already been bid for are still contested.

The smaller players will have to go through the sub-contracting route because the sizes of projects are getting larger. The length of the roads being awarded and complexity of projects have increased. So it will be the larger companies with a good track record and qualifying net worth criteria that could probably qualify for these projects. But the capacity of companies to handle larger projects is also not high. So they have to necessarily sub-contract. If you look at the real-estate segment within the construction space, the opportunity is very significant. The millions of square feet planned out are humungous. However the availability of skills and labour is limited. Hence they will have to be contracted out — wherefrom smaller companies will get their share of business. Or they will have to form consortium with larger players and get a smaller stake.

Which segments in the power-related industry are likely to benefit most from the nuclear deal?

Companies may not have much business potential on the equipment side. But Indian companies will have a significant role to play in transmission and distribution and in the construction. Companies such as L&T have even designed reactors. While there will be opportunities, since it will be a quid pro quo, the international players will have to get a fair share of orders.

One of the threats you talked about was the commodity prices. With the current cool off, which sectors can benefit the most?

Commodities have come off their highs. But the crude’s direction is still not clear. A lot will also depend on the dollar movement. If the dollar weakens (some of them are calling for a weaker dollar) then crude prices can jump. But some of the other commodities such as base metals and ferrous metals have come off from the peaks. They are again driven by what is happening in China, where there has been a post-Olympic slowdown. There has also been an inventory build-up situation. While the latter will get corrected after some time, excess capacities getting created in a situation of their (China) own internal slowdown and a global slowdown can cause a demand-supply mismatch. In that case, commodities could probably continue to remain weak.

While it is very hard to take a call, assuming that whatever has happened will stay for sometime, I think the users such as auto, capital goods could benefit. In general, interest-sensitive sectors such as banks are bound to benefit because commodities such as crude has been one of the main reasons for our fiscal situation going out of control and inflation going up. Apart from that, FMCGs can stand to gain from any softening in agri commodities.

Do the commodity stocks that have corrected now hold decent prospects?

Commodities are very sensitive to prices. If there is a small drop in prices then earnings can get impacted in a disproportionate manner. So to that extent the P/E which you are looking at may not be the right P/E. And typically commodities are not bought when the valuations are cheap. We buy them when they are expensive and the cycle turns. In that sense, we are not so excited about commodities.

In funds such as Select Focus could this be a time to buy good blue chip stocks rather than hold cash?

Select Focus has been a large-cap fund and bets on different themes — with focus on three themes at a time. Even the large companies have their fair share of problems. Reliance is having headwinds in the form of refining/petrochemical cycle turning down. Sectors such as cement have their cyclical downturns; others such as IT face pressure from the US. So their valuations have also contracted. So, there is not a lot of room to manoeuvre even with large companies. That is why we are holding cash. And we are not seeing sectors that are so attractive that we can go overweight on them significantly. Typically we have to focus on defensives in this kind of an environment, which is what we have tried to do. And cash is also a form of defensive. Defensive stocks such as those in the pharma space also don’t come cheap and the growth is not so exciting.

However, in an inflationary environment, companies that are less leveraged and with high return ratios, good cash flows and dividend payouts are the ones that we need to focus on. And larger companies are probably better positioned to weather a slowdown either in terms of cost management or managing top line or being consistent with their guidance.

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