Strong economic forecasts, expected growth in auto sector, increased spending on infrastructure and defence,and rising domestic demand expected to boost performance of machine tools industry in coming years

Machine tool industry is unarguably one of the crucial segments for industrial activity in the country and the key ingredient in the development of the manufacturing sector. Hence,the growth of the machine tools industry has an immense bearing on the entire manufacturing industry, which is critical for the country's strategic requirements, such as defence, railways, infrastructure, and atomic energy. This sector is also one of the major contributorsin the growth of a number of small and medium manufacturing enterprises, which are the second major employment generators of the economy, after agriculture. The growth in sectors,such as metals,textiles, infrastructure, food processing, chemical and pharmaceuticals, and power has created a potential of substantial growth for the machine tool industry. But the industry has not been able to grow at the expected pacedue to issues,such as intense competition from imports, unavailability of skilled labour, inadequate research and development (R&D), rising cost of funds, and rising prices of metal and power. These factors resulted in the sluggish growth and declining profitability of the machine tools sector in 2009-10 (refers to financial year, April 1 to March 31). The sector can improve by enhancing research and development efforts and creating more skilled labour by intensifying focus on training. Also, the machine tools sector in India must be cost competitive compared to its counterparts in other countries.

A country such as India, which is on the threshold of becoming a global industrial and economic power, must have a strong, well-developed, robust, and modern machine tools industry to supportits manufacturing sector. India's economic growth, as measured by the gross domestic product, improved to 8.5 per cent in 2010-11 from 8 per cent in 2009-10 due to better farm output and construction activities. The automobile industry, which is one of the biggest end-users of machine tools, registered a growth of 30 per cent in 2010-11;the automobile industry is expected to register a growth of around 15 per cent in 2011-12 on the back of a strong economic forecast, higher disposable income, and increasing rural demand. Furthermore, government'sincreased spending on infrastructure and defence will boost the growth of the machine tools industry in the coming years.

CRISIL believes that machine tools is a strategic industry that forms the backbone of most of the major sectors of industrial activity in the country. To support this belief,CRISIL conducted a detailed study on the machine tools industry. A significant sample size of 47 entities rated in 2010& 2011wereconsidered for the purpose of this study. The study reveals that85 percent of the enterprises are manufacturing units, whereas only 11 percent and 4 percent are engaged in trading and service, respectively (Chart 1).

(Analysis is done on 2009.-10 financials as finalized accounts of 2010-11 for majority of the MSME were not available)


As per the analysis, 2009-10 was not a great year for the machine tools industry. Its profitability declined during this year as compared with 2008-09 (Chart 2). The average profit after tax (PAT) of companies which reported their latest figures showed a decrease of 46 percent in 2009-10 over 2008-09. Average return on capital employed also declined in 2009-10 over 2008-09. Diminishing growth in net sales, along with increasing cost and increasing debts, has affected the profitability of the industry. The average PAT margin reduced to 4.04 per cent in 2010 as against 7.57 per cent in 2009, and average operating margin slumped to 9.76 per cent in 2010 as against 12.65 per cent in 2009.

Further analysis revealed that the fall in profitability levels is mainly due to increase in cost of sales. The cost of sales included rawmaterial cost, power and fuel, employee cost, manufacturing expenses, and selling expenses. The cost of rawmaterials accounted for more than 59 percent of the total cost (Chart 3). The major reason for the increase in the cost of sales is volatility in the prices of rawmaterials, which mostly comprise metal (30 per cent). Other factors,such as increasing employee cost, are also eating into the profitsas the availability of skilled labour in the sectoris scarce.



Rawmaterial price volatility has reduced the profit margins of the machine tools industry. With companies trying to be cost competitive, they need to look into their production methodologies, with greater outsourcing required to reduce costs. Enhancing volume to derive the benefit of economics of scale is a must to raise cost competitiveness.Since the machine tools industry is an innovative industry, it is necessary for players to spend more on R&D so that dependence on foreign sources for supply or servicing can be reduced. The companies need to implement soft technologies,such as six sigma, KAIZEN, and lean manufacturing for quality enhancement. The sector needs to create skilled manpower by investing in training.By increasing exports, overcoming some of its engineering and designing deficiencies, and utilising the available skilled manpower, the machine tools industry can achieve the expected growth over the medium term.

Structure of entities in machine tools industry (rated by CRISIL): 

Around 45 per cent of the entities in the machine tools segment are proprietorship firms, 32 per cent are private limited companies, and 4 percent are public limited companies that also include closely held entities (Chart 4).

The geographical spread of the sample selected for analysisshows concentration of the entities in areas,such as Mumbai, Pune, Thane, Satara, and Solapur in Maharashtra; Jaipur in Rajasthan; Jalandhar, Ludhiana, Nabha, Batala, and Amritsar in Punjab;Rohtak, Yamuna Nagar, and Ambala in Haryana; Ghaziabad and Noida in Uttar Pradesh; New Delhi; Jamshedpur in Jharkhand; Indore in MadhyaPradesh; Ahmedabad, Vadodara, Surat, Vapi, and Rajkot in Gujarat, Chennai in Tamil Nadu; Bangalore in Karnakata;and Kozhikode in Kerala (Chart 5) 

The analysis of the workforce in the machine tools industry revealed that majority of the employees werepermanent (76 per cent). Since the industry demands skilled labour, the entities have recruited employees on permanent terms rather than on contract. The entities selected for study have recruited 2193 people, both skilled and unskilled, which compute to an employment of 50 employees per unit; the average output per employee is approximately Rs.1.2 million per year.

Rating of entities in machine tools industry (Chart 6):

An important initiative by Ministry of MSME,under which 75 per cent of the rating fee payable to the rating agency is subsidized by the government through National Small Industries Corporation (NSIC),has helped enterprises in the machine tools industry experiment with the concept of rating. In association with NSIC, CRISIL rates micro and small enterprises (previously small scale industries or SSIs) on a special two-dimensional rating scale, called the NSIC-CRISIL scale. This is a matrix that evaluates an enterprise on performance capability and financial strength. Performance capability is measured on a five-point scale (from 1 to 5), while financial strength is measured on a three-point scale (A to C). The rating indicates the relative positioning of the rated entity to other enterprises. CRISIL's SME Ratings are entity-specific ratings, unlike credit ratings assigned to bond and debenture instruments, which are debt-obligation-specific. 

NSIC-CRISIL Performance and Credit rating Scale

Around 32 per cent of the enterprises rated in 2009-10 were assigned SE (Small Enterprises) 3C rating, followed by SE 3B,;this together constituted 60 per cent of the total rated entities. Only 23 per cent of the rated entities receivedSE 2B rating andaround 6 per cent of the entities were assigned 2C rating, whereas those which were assigned 1B rating comprised the remaining 6 per cent. Sluggish growth and declining profitability were the main reasons for majority of the entities getting average ratings.

Analysis of entities in machine tools industry (rated by CRISIL)

Net Sales: The net sales of CRISIL-rated entities in the machine tools industry have shown an increasing trend since 2007-08 and 2009-10.The average net sales recorded for 2009-10 were Rs. 56.19 million as against Rs.52.06million for 2008-09 (Chart 7). The net sales recorded a diminishing growth of 8 per cent in 2010 as against 13 per cent in 2009 (Chart 8). The machine tools industry is largely linked to the auto sector; auto and auto component industry contribute around 40 per cent to the turnover of the machine tools market. Thus, the demand for machine tools depends on the orders placed by the auto industry; slump in the auto sector has resulted in reduced sales growth for the machine tools industry. With the customs duty reducing every year, manufacturers of machine tools are facing threats of imports from Taiwan and China, which are the most cost competitive countries in manufacturing machine tools. The industry also faces intense competition from other countries, such as Japan, Germany, South Korea, and the USA as majority of the demand for machine tools in India is still met through imports.

Debt structure: The dependence of the machine tools industry on outside debt increased by 4 per cent in 2008-09 as compared with 2007-08; this dependence increased to 12 per cent in 2009-10. In 2009-10 the long-term debt showed a declining trend, whereas short-term debt showed increasing trend compared to 2008-09 (Chart 9), which indicates that the entities did not undertake any capital expenditure programmeduring this period.

Although the debt contracted by players in machine tools industry has shown an increase, the risk involved is low as the average gearing reduced to 1.02 times as against 1.22 times in 2008-09 (Chart 10).

Liquidity: An analysis of the liquidity of the industry has revealed strong working capital management and strong liquidity. The average current ratio of the industry is at 1.74 times (Chart 11). The average receivablesare 89 days and payables are 133 days. This is because the industry comprises small players who do significant customization in their products to suit the end user industry. This helps the enterprises in the machine tools industry to demand advance and payment prior to dispatch, leading to lower level of receivables.

Looking ahead

Thus, CRISIL's study reveals that the machine tools industry needs to gear up to benefit from the opportunities that the Indian economy will offer in the coming years. The industry needs to create cost competitiveness without cutting corners. Enterprises will gain by attracting and retaining talented manpower as the industry thrives on accumulated knowledge.Innovation, research and development could help industry make a mark in the international market which will lead to opening a new avenue for growth outside the domestic market. Availability of adequate and timely credit at competitive cost can play a key role in main streaming the machine tools industry in India.

CRISIL is a global analytical company providing ratings, research, and risk and policy advisory services. We are India's leading ratings agency. We are also the foremost provider of high-end research to the world's largest banks and leading corporations.

CRISIL Ratings

CRISIL is India's first, largest, and most prominent credit rating agency. CRISIL pioneered the concept of credit rating in India more than 20 years ago, and has played a pivotal role in the development of India's debt market. Today, CRISIL rates two-thirds of corporate bonds outstanding in India. As of 30 June 2011, CRISIL has rated more than 11,011 borrowers, covering around 34,342 debt instruments of a value exceeding Rs. 38 trillion. CRISIL has also assigned more than 20,000 Small and Medium Enterprise (SME) Ratings, and has the highest number of SME ratings outstanding in India.