Private Corporate Investment in 2018-19: Slow Recovery Underway

Context: A recently released RBI study on Private Corporate Investment in 2018-19  highlights that private corporate investment plans have fallen for the seventh year in a row.

Relevance:
Mains: GS III- 

• Indian Economy and issues relating to planning, mobilization of resources, growth, development and employment.
• Investment models.

Capital expenditure of the private corporate the sector is a key driver of the investment climate in the economy and an indication of the ‘animal spirits’ that influence entrepreneurial energies and business sentiment.

What Are Capital Expenditures- CapEx?

• Capital expenditures, commonly known as CapEx, are funds used by a company to acquire, upgrade, and maintain physical assets such as property, buildings, an industrial plant, technology, or equipment.
• CapEx is often used to undertake new projects or investments by the firm.
• Making capital expenditures on fixed assets can include everything from repairing a roof to building, to purchasing a piece of equipment, to building a brand new factory.
• This type of financial outlay is also made by companies to maintain or increase the scope of their operations.
• Put differently, CapEx is any type of expense that a company capitalizes, or shows on its balance sheet as an investment, rather than on its income statement as an expenditure.

RBI Study on Private Corporate Investment in 2018-19

Introduction and Methodology

• As the information on CapEx from published annual accounts of companies is available with a considerable time lag, a cross-country best practice is to generate corporate investment forecasts on the basis of surveys of investment intentions and other relevant factors such as capacity utilisation and demand indicators.
• India has also been a forerunner in this international experience, with surveys, attempted since the late 1980s to assess and forecast investment intentions.
• Since 1978, the Reserve Bank of India has been providing an outlook on investment intentions.
• In essence, data on investment intentions are obtained from the financiers’ side – the banking sector and financial institutions (FIs) as well as external commercial borrowings (ECBs), foreign currency convertible bonds (FCCBs) and initial public offerings (IPOs), follow-on public offerings (FPOs), and rights issues for a year.
• The short term (one year ahead) forecasting of CapEx based on time phasing of corporate projects financed by financial institutions was pioneered by Dr C. Rangarajan in 1970.
• Under this methodology, an estimate of the likely level of CapEx that would have been made during the year is obtained, based on ex-ante phasing plans furnished by the companies at the time of appraisal.
  • It is ensured that each project enters the information set only once even if it is financed through more than one channel.
  • Projects not financed through any of the above-mentioned channels or of size lower than 100 million are not covered.
  • Projects with private ownership below 51% or undertaken by trusts, Central and State Governments, and educational institutions are also excluded.
  • It is to be noted is that it is assumed that companies adhere to their ex-ante (before the event) expenditure plans.
  • Consequently, there is the possibility that some ex-ante intentions do not fructify into realised investment.
• This study extends the tradition by estimating CapEx by the private corporate sector during 2017-18 and 2018-19.
• In doing so, it also explores the relationship between envisaged CapEx (based on project plans) and the realised CapEx (as available in the national accounts). 

Key Outcomes of the Study

Projects Sanctioned/Financed:

• Proposals of 490 projects with a total cost of 1,728 billion were sanctioned by banks and FIs during 2017-18.
  • In addition, ECBs/ FCCBs to the tune of 247 billion were contracted by 292 companies in that year.
  • Furthermore, 51 companies did not avail of financing from banks and FIs but raised 16 billion for their CapEx needs through domestic equity issues.
  • Altogether, 833 companies made investment plans during 2017-18, aggregating 1,991 billion, as against 916 companies with investment intentions totalling 2,028 billion in 2016-17.
• Industry-wise, chemical and chemical products industries accounted for 11% of the total cost of projects in 2017-18, a significant rise over its quinquennial average (during 2012-13 to 2016-17) of 1.7%.
  • The share of the construction sector decreased to 5.1% in 2017-18 from 12% in 2016-17, indicating lacklustre activity in the sector.
  • Within the infrastructure sector, the power sector continued to dominate, although its share dipped from 2016-17 (45.4%) and quinquennial average (43.8%) levels.
  • The lower number of the power sector projects sanctioned in 2017-18 also led to a contraction in its share in the total cost of projects.

    

• The total cost of projects sanctioned in a year tends to be driven by the presence of mega projects which generally run over a longer span of time, as reflected in their phasing profile.
  • There were 44 high-value projects (~10 billion-50 billion), with a share of 44.1% in the total project cost.
  • The size-wise distribution of the projects accorded financial sanction by banks/FIs shows a decrease (from five in 2016-17 to three in 2017-18) in the number of mega projects (50 billion and above); however, there was a marginal increase in their share in total project cost (from 17.4% in 2016-17 to 18.6% in 2017-18).
  • The ticket size (average cost of the project) of megaprojects rose in 2016-17 and 2017-18 from a trough in 2015-16.
• Statewise Distribution of Projects:

  

  • The location of a project is typically selected on the basis of factors such as accessibility of raw materials, availability of skilled labour, adequate infrastructure, market size, and growth prospects.
  • Over the last five years (2013-14 to 2017-18), 68% of the projects were taken up in Maharashtra, Gujarat, Andhra Pradesh, Karnataka, Odisha, Chhattisgarh, Tamil Nadu and Madhya Pradesh.
  • Maharashtra also accounted for the highest share (22.6%) in terms of the total cost of projects sanctioned by banks/FIs in 2017-18 followed by Karnataka, Andhra Pradesh, Gujarat, Tamil Nadu, Rajasthan and Chhattisgarh in that order.
  • Gujarat recorded a fall in its share from the previous year.
  • The share of ‘multi-state’ projects has declined in the recent period, probably reflecting the bottlenecks in obtaining clearances from multiple authorities.

    

• Investment in new projects occupied the largest share (89.3%) in the total cost of projects sanctioned by banks and FIs.
• Expansion and modernisation constituted 9.2% of the total project cost.
• The phasing profile of CapEx of projects sanctioned by banks/FIs indicates that around 38% (650 billion) of the total proposed expenditure would be spent in 2017-18, 24% (419 billion) in 2018-19 and 21% (368 billion) in the year beyond.
• Around 17% of the total cost of projects sanctioned in 2017-18 was spent during 2014-15 to 2016-17.
• From the planned expenditure, the aggregate CapEx envisaged in 2017-18 showed a marginal decrease over the previous year partly due to a decrease in sanctions by banks/FIs.
• In 2017-18, CapEx planned to be incurred from resources raised from international bond markets declined by 7% from its level a year ago.
• The capital market (equity route) enabled the financing of envisaged CapEx of 19 billion in 2017-18, which was significantly lower than in the previous year.
• In sum, it is assessed that a total CapEx of 1,487 billion would have been incurred by the private corporate sector in 2017-18, of which 802 billion was from fresh sanctions during the year.
• The year marked the seventh successive annual contraction in the private corporate sector’s CapEx plans.
• However, the envisaged CapEx from the pipeline projects already undertaken showed an improvement over the previous year’s pipeline.
• On the basis of the pipeline projects sanctioned in preceding years, the planned CapEx could amount to 792 billion in 2018-19, marking an improvement over the previous year (685 billion).
• Going forward, the level of corporate investment in 2018-19 from the new cohort of projects getting sanctioned in 2018-19 will also influence the aggregate CapEx for this year.
• In the first half of 2018-19, 190 projects with a total cost of 914 billion were sanctioned by banks/FIs.
• A total of 451 investment proposals aggregating 1,158 billion were sanctioned through the three channels of finance (viz. Banks/FIs, ECBs/FCCBs/RDBs and IPOs).

  

Corporate Investment Financed by Private Placements and Foreign Direct Investment:

• In recent years, debt instruments like bonds and debentures and foreign direct investment (FDI) have assumed prominence as alternative sources of CapEx financing.
• Mobilisation of funds through the private placement of debt (bonds and debentures) rose substantially during the period from 2013-14 to 2016-17 but moderated in 2017-18 and H1:2018-19. 
• Similarly, FDI inflows, which witnessed a consistent increase during the period, dipped marginally in 2017-18 and H1:2018-19.

A Time Series Analysis of Envisaged Investment

• The one-year ahead forecasts of envisaged CapEx and realised investment in terms of gross fixed capital formation (GFCF) of the private sector in the national account statistics for the period 1991-92 to 2017-18 exhibit divergence for select periods, particularly in some recent years.
• However, there appears to be a co-movement in these two series in the longer horizon.
• The model used by the RBI reveals a long-run relationship between envisaged investment and realised investment of the private corporate sector, which is consistent with the evidence in the literature. 

Conclusion

• The analysis presented in this article points to a long term association between envisaged CapEx obtained from project implementation plans and realised investment.
  Thus, these investment intentions provide useful insights into the overall direction of CapEx.
• The projects sanctioned in the first half of 2018-19, together with the pipeline projects already undertaken, show some recovery in the CapEx cycle.
• Going forward, investment activity is expected to gather pace, benefitting from the pipeline projects lined up by private corporates.
• A revival in the investment cycle could be underway in the medium term, as revealed in these investment plans.
• Recent efforts to strengthen balance sheets of both corporates and the banking sector should provide a conducive environment for a pick-up in capital formation.
• Improved capacity utilisation and business expectations in the first quarter of 2018-19 polled by various surveys are providing a lead indication of a reinvigoration of investment activity in the Indian economy in the period ahead.