Operating margins of Indian auto component sector is expected to moderate by 100-150 basis points this fiscal from around 12% last year, with the West Asia conflict driving up input prices and freight costs across domestic and overseasmarkets. Revenue growth, however, is expected to remain resilient, helping keep absolute operating profits stable.

Demand from original equipment manufacturers (OEMs), the largest contributor to sector revenues, is expected to remain steady, providing underlying support for this revenue momentum. Further, balance sheets, though not debt-free, remain at moderate levels, adequate to fund capital expenditure (capex) and working capital needs.

Our analysis of Crisil rated auto component makers, which accounted for almost half the sector’s revenue of ~Rs 9 lakh crore last fiscal, indicates as much. Last fiscal, OEMs generated over two-thirds of the sector’s revenue, while exports and the aftermarket contributed 16% and 12%, respectively.

Raw materials constitute almost three-fourths of the sector’s total cost. Notably, prices of steel and aluminium, which together account for 50-60% of input costs, have risen sharply.

Says Anuj Sethi, Senior Director, Crisil Ratings, "Raw materials, employee expenses and power together account for ~90% of overall cost structure. Input and energy prices have risen, with minimum wage revisions across several states adding further pressure. OEMs, accounting for over two-thirds of revenues, typically offer a cost pass-through, though with a lag of one to two quarters and not always in full, thus moderating operating margins by 100-150 bps to 10.5-11% this fiscal. Yet with revenue growth expected at 9-11%, the impact on overall profitability is expected to remain contained."

OEM demand, which regained momentum post the goods and services tax (GST) rate reduction last year, remains steady with new model launches across passenger vehicles, infrastructure-linked commercial vehicle activity, continued premiumisation in two-wheelers and rising electric vehicle adoption across segments providing the tailwind. The aftermarket is stable, buoyed by large stock of vehicles sold in prior years. Exports are expected to grow 8-9% on-year,aided by tariff corrections in the United States, the largest export market, though longer shipping routes have increased lead times.

The West Asia conflict is reshaping supply-chain dynamics, with direct implications for working capital. Global supply-chain uncertainty is prompting manufacturers to maintain higher buffer stocks to safeguard production schedules. This is likely to increase inventory levels by 15-20 days from the current 80-85 days. The ability to stretch creditors to absorb this impact will vary, with large players better placed given their scale and bargaining power.

Says Poonam Upadhyay, Director, Crisil Ratings, "Capex of auto component players rated by us is expected at ~Rs 27,000 crore this fiscal, up ~10% on-year, directed primarily towards capacity expansion, including electric vehicle (EV) related components, to meet steady OEM demand. Funded through a mix of internal accruals and external borrowings, interest coverage is expected at ~7 times and debt-to- Ebitda¹ at 1.5-1.7 times on an aggregate basis, against ~7.4 times and ~1.4 times last fiscal, with debt levels moderate and balance sheets adequate to support funding needs."

The duration of the West Asia conflict, the pace of normalisation in energy and freight costs, commodity price movements, and the extent and timing of cost pass-through to OEMs will bear watching.

¹ EBITDA refers to earnings before interest, tax, depreciation and amortisation