GST impact on key sectors

Consumer durables: Margins may expand

White goods, including refrigerators, air-conditioners and washing machines, will be taxed at 28 per cent under GST. Currently, the rate is about 27 per cent (could be higher for States that charge VAT of over 13.5 per cent).

So, post July 1, prices of consumer durables may not rise sharply.

Manufacturers may only see benefit, as input tax credit will reduce their total tax outgo. They can take credit for tax paid on inputs. There is full credit available for service tax paid on advertisements.

Hence, over the next one year, margins for companies such as Whirlpool of India, and Crompton Greaves Consumer Electricals may expand.

Sale of white goods at a discount before the roll-out can impact margins in the June quarter, but the impact on FY18 earnings is unlikely to be material.

Players in the organised space in kitchen appliances may see market share go up as the price difference between branded and unbranded items reduces. This is because, one, there will be more companies who come under tax net (GST is applicable to companies where turnover is over ₹20 lakh, under the current regime the threshold is ₹1.5 crore) and two, any retailer who bills his customer will want to take input credit and insist that his supplier too pays his share of tax.

TTK Prestige, pays about 12 per cent on indirect taxes for pressure cookers and under GST too, it is at 12 per cent. It is in mixer-grinders that the company will see impact.

Currently, on mixer-grinders, the company pays tax of only about 14 per cent (unit is in excise free zone); under GST, this is set to rise to 28 per cent.

Cable makers, including V-Guard Industries and Havells, could be impacted as the indirect tax rises from about 18 per cent to 28 per cent. But, given that they will claim input tax credit, they will not suffer much. But the end-consumers — who would be home buyers and builders — will see immediate price increase.

In the cables market too, a good share (about 40 per cent) is with unorganised players. But, given that the tax rate has gone up under GST, more players may look to evade taxes now than earlier.

Cement and Realty: Logistic, input costs to reduce

From July 1, cement bags will be taxed at the highest rate of 28 per cent. However, effective taxes currently are already at about the same rate — 12.5 per cent in the form of excise and 13.5 per cent in the form of VAT. In addition, there is service tax paid on transport services.

While the duty implication largely remains unchanged, the upside is the expected tax offset on inputs purchases as well as on service tax paid on its freight.

Many cement companies have set up state-level warehouses to avoid paying Central Sales Tax (CST) on inter-State sales. This has led to logistic inefficiency. Now, with CST getting subsumed under GST, its likely that cement players will go for fewer and larger warehouses. That has potential to lower logistic costs. Freight costs constitute a big portion of expenses — about 25 per cent of sales of cement manufacturers. On this front, it’s likely that national players with diversified geographical footprint such as Ultratech Cement, ACC Cement or Ambuja Cement benefit more than local players.

Moreover, taxes on the key raw material — coal — have been reduced to 5 per cent from about 11 per cent. These lower taxes will most likely reduce input costs for cement manufacturers. However, many manufacturers such as Ultratech Cement and Ramco Industries have substituted coal with petcoke, given its lower prices. Ultratech currently has a fuel mix of 70:30 in favour of coal, while it is about the same for Ramco Industries.

Net-net, most cement companies are likely to benefit from the GST. As a safeguard measure, investors can pick national or regional leaders who have pricing power and will be able to pass on any additional costs to their consumers.

The overall effect of GST will be neutral on real estate. In this sector, service tax and VAT applicable in various States will get subsumed into the GST, while stamp duty and registration charges will not be. And the new tax rate of 12 per cent, at first glance, might seem higher than the 5-6 per cent currently levied as services tax and VAT.

However, the developers also pay other indirect taxes such as excise duty, central sales tax and octroi. Under GST, they will be able to claim input tax credit, bringing the effective tax rates equivalent to that of the pre-GST rates of 5-6 per cent.

However, some input costs might go up. Ceramic tiles and sanitary ware, for instance, will get charged at the highest rates of 28 per cent. Investors are better off sticking to bigger realty players such as Godrej Properties and Mahindra Lifestyle, who are in a better position to absorb new market realities.

Airlines: More headwinds

Airlines in the country will be worse off under the GST regime. That’s primarily because aviation turbine fuel (ATF), the major cost incurred by airlines, is outside the GST ambit. So, ATF will continue to be subject to current indirect taxes and credit will not be allowed on these taxes under the GST regime.

Essentially, from July 1, airlines will be subject to dual tax structures — the current one on ATF and GST for other items — that will not talk to each other.

Since this will increase costs, the government has fixed the GST rate on economy class air tickets at 5 per cent, lower than the current service tax incidence of 6 per cent. But this will offset the higher costs only partially.

Also, it does not help that for air travel other than economy class (that is, for higher classes), the GST rate at 12 per cent is higher than the current service tax of 9 per cent.

Then, there is the problem of truncated input tax credit under GST on economy class air travel, the mainstay of airline revenues. Currently, full input tax credit is available on all air travel. But under GST, for economy class travel, it will be available only on input services.

For travel in the higher classes, though, full input tax credit will continue.

Net-net, airlines’ tax burden will rise under GST. Airlines could find it difficult to pass this on to fliers, given the intense competition and capacity additions that have been putting pressure on fares.

This could mean financial burden, especially for low-cost carriers such as IndiGo, SpiceJet and GoAir that primarily sell economy seats. Jet Airways, Air India and Vistara that also offer higher class seats may be able to pass on higher costs to such passengers, as these categories are not as price-sensitive. But if the cost hikes are not passed on, the burden will worsen.

Telecom: Increased stress

The implementation of GST, at the rate of 18 per cent, could stress the ailing telecom companies for a short period. Presently, the telecom players are taxed at 15 per cent. The increase in tax could pressure the margins of telecom players, who are already facing intense competition. For instance, the leading player Bharti Airtel has reported revenue and profit decline of 12 and 72 per cent respectively for the quarter ended March 2017. Other players have also suffered a similar fate. High debt due to spectrum acquisition, to stay competitive, is also causing distress.

Therefore, a hike of 3 per cent in tax will have a negative impact as companies are likely to struggle to pass on the hike to their customers, given the intense competition.

In a competitive environment, customers are unlikely to be willing to bear the extra cost, shifting the burden to the telecom service providers.

However, on the bright side, companies will be able to avail input tax credit for expenditure incurred on capital equipment (capital goods), which can reduce the impact of tax to some extent.

Also, the biggest challenge for the industry is the increased compliance requirement and multiple registrations procedures. For instance, the National Capital Region (NCR) circle, comprises three States. Under the GST regime, a telecom company will require three different registrations in the place of one previously.

This could lead to increase in costs due to higher compliance charges as multiple authorities carry out the assessment. However, over the long run, GST could bring down the cost for telecom players, neutralising the incremental impact of tax.

Auto: Inventory liquidation can hurt

The GST rates for the automobile sector has not caused any major upsets, except in bringing the treatment of hybrids on par with petrol/diesel vehicles. Status quo or at best a negligible impact on prices is expected for small cars, bikes, commercial vehicles.

Surprisingly, the new regime bats for large cars and SUVs, which are expected to be taxed at a lower 43 per cent (28 per cent + 15 per cent cess). Total indirect taxes add up to 50-55 per cent currently. Listed manufacturers with vehicles in this space such as Tata Motors (Jaguar Land Rover) and Mahindra and Mahindra will see good demand from this move, as these vehicles will get cheaper under GST.

However, it is not all rosy for companies as they will be impacted on the financial front in a few ways. For one, full credit of all input taxes paid on stocks existing as of July 1 will not be available to dealers. Hence, companies are going all out to woo customers with discounts to liquidate existing stocks.

This will take its toll on realisations and operating margins in the June 2017 quarter. It must be remembered that most auto companies already had similar pressures in the March 2017 quarter too, due to discounts offered to liquidate BS III inventory and increase in raw material prices. To clear inventory before July 1, Bajaj Auto is offering discounts up to ₹4,500.

Maruti Suzuki too is offering discounts of ₹25,000-35,000 across models. But the company’s more profitable models such as the Baleno, Brezza and new Dzire have wait periods and hence, inventory is unlikely to be available in huge numbers with dealers. This may cushion the impact on margins, to an extent.

Secondly, with the rush to sell existing inventory and a lull on taking in new stocks till June 30, wholesale volume growth for the industry could take a beating in June.

Pre-buying in June due to discounts may also slow down the demand a bit for the next quarter too ( July-September).

Thirdly, auto manufacturers have a supply chain through various tiers of component makers. Temporary cash flow pressures from having to bear taxes in case of unregistered suppliers and imports may arise for auto companies once the GST regime kicks in.

FMCG: Lower tax may offer headroom to cut prices

For most segments within the FMCG space, GST brings good tidings on the back of lower tax incidence when compared to the total tax paid pre-GST. In particular, the household and personal care segment is likely to gain the most, with close to 5-7 percentage point reduction in indirect taxation.

Currently FMCG products such as soaps, toothpaste and hair oil are charged excise duty of 12.5 per cent plus state VAT of 13-14 per cent that varies across States. The effective overall indirect tax rate amounts to 24-27 per cent. With GST rates on each of these products fixed at a lower 18 per cent, companies within this space are likely to gain. The lower tax incidence offers headroom to lower prices and drive volumes, particularly in segments such as soaps and toothpaste, where there is intense competition.

While Colgate’s bread and butter business is toothpastes and oral hygiene products, Dabur derives 20 per cent of its domestic revenues from hair oils (Vatika) and toothpastes (Red, Meswak, Babool). Hindustan Unilever has presence across hair oils, soaps and toothpaste through several brands such Close up, Pepsodent, Lux, Lifebuoy, etc. Each of these players will benefit from the reduction in taxation under GST.

Besides, GST rate of 18 per cent on hair oil is a positive for players such as Bajaj Corp, Emami, Marico and Dabur. Growth in the overall hair oil category continued to be sluggish in 2016-17. Price cuts on the back of lower tax, post GST, can help companies such Bajaj Corp push up volumes.

Bajaj Almond Drops, the company’s key brand, grew by 3.2 per cent in value terms and 2 per cent in volume terms in 2016-17. Companies can also use the benefit to cushion any input price spikes in the near term or spend more on advertising.

For instance, Marico, had initiated price increase of 8 per cent in the latest March quarter to mitigate the impact of increase in inputs costs. GST can help the company reduce prices and push up volumes. However more clarity is required on the anti-profiteering clause, to see the extent to which the benefits can be retained.

While players in the competitive segments such as soaps and toothpaste may lower prices, those in the niche and premium segments such as household insecticides may not be compelled to pass on the lower tax benefit. Players such as Godrej Consumer can see margins inch up. Again, a lot will hinge on the implementation of the anti-profiteering clause. Rates on detergents and shampoos fixed at 28 per cent are higher than the current levels. Price hikes may come in from players such as Jyothy Labs, HUL and P&G in their detergents portfolio.

In the beverages category, rates on fruit juices and beverages containing milk are fixed at 12 per cent under GST. These rates are lower than that currently applicable. This may impact Dabur and ITC positively.

(By Rajalakshmi Nirmal, Muthukumar K, Anand Kalyanaraman, Bavadharini KS, Parvatha Vardhini C and Radhika Merwin)

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