How have you managed to thrive in a sector that is so closely linked to the economic cycle?
Capital goods is a business that serves both a feast and a famine. A company’s performance, therefore, depends on its appetite and its ability to ride out the volatility. In other words, diversifying the orderbook across multiple sectors is a must. At Thermax, we have ensured that we cater to consumer as well as industrial businesses. In the fast moving consumer goods (FMCG) space, we cater to dairy, alcohol and allied sectors. But in this vertical, orders tend to be small. So, as an organisation we need to have the skills to execute big orders as well. Say, you could get an order of Rs.5 billion from a steel plant or Rs.2 billion from a cement or fertiliser one. So, we calibrate our resources accordingly.
Does that mean one should bid for small projects during a downturn and chase big orders when the going is good?
We chase all kinds of orders all the time, good times or bad. The reality is that capital goods is not a buyer’s market, it’s a seller’s market. Unfortunately, not many companies have learnt how to seamlessly transition from big to small projects and vice versa. Larger projects need 24/7 attention of the top management, while you should have people down the hierarchy who can take care of smaller projects. Larger orders, especially if they are international ones, have a higher risk profile. If anything goes wrong, it can prove to be too expensive for an organisation. That’s where cost management and talent come into play.
In capital goods sector, there aren’t enough projects to go around. So, when a sector is going through stress, how do evaluate whether to reject the project?
One advantage of signing larger projects is that they normally have term sheets from bankers. These indicate that you have funding available. So, you have to calibrate the execution of the project. For example, in the cement industry, most customers have decent balance sheets, but, in the steel industry, even good companies may be under stress. In such scenario, we don’t take all the orders and let competitors come in. You can’t accept orders when you know that the money will not come through.
Have you had to give up on any project midway?
Killing or giving up on a project midway can be dangerous. Once you have bagged an order, you have to execute it on time. That’s your headache, not the client’s. If you believe you can’t deliver, don’t bid for it. Yes, when there’s a genuine cash flow problem, you can only delay the execution. For instance, if you are a textile manufacturer setting up a dairy plant and were expecting cash flow from the main business, but there was a glitch. You then need to have a conversation with the client that you are going slow on the project. As a CEO, you need to be cognisant of all the challenges during the project management cycle, you cannot be teeing off at a golf course.
How crucial is it to diversify geographically?
If you are a capital goods company, catering to a single geography is not advisable. We learnt this the hard way in 2000, thanks to the domestic slowdown, when Thermax posted its first operational loss. Exports revenue back then was in lower single digits. Today, overseas business accounts for one-third of our revenue. Building your presence overseas in a B2B market is very tough as compared with building it for B2C. Proving one’s worth used to be difficult, especially for an engineering company based out of India. We were not known for cutting edge engineering or product reliability. In this field, everything depends on your ability to prove your project design capabilities and show that you are as good as the next best guy in business. Ensuring quality and aligning your processes with other contractors who are executing a project are also very crucial.
What are the cost control measures that can be undertaken during a downturn?
Cost control is both art and science. You should not exploit suppliers, but in a downturn, the efficiency of your supply chain should be visible. But if I take a cut-throat approach and squeeze my supplier, he may stay right now, but will leave eventually. Your relationship has to be very transparent because you can’t keep changing suppliers. Once we agree on the lowest and the best that the supplier can deliver, we don’t change the terms or go back to renegotiate the price after bagging the order.
In a downturn, sometimes your customer with a huge outstanding can accept stiff commercial terms and land in a mess. We have certain principles that we don’t compromise, irrespective of business cycles. Ensure that your due diligence is good enough before accepting an order. Check whether the customer has his funding term sheet signed, as he is not going to put his own money to fund a project.
Also, while executing a project during a downturn, keep a hawk-eye on cash flow. There is a limit to how much a company can fund the project from its balance sheet. There is this saying that “customer is king”. I believe the customer is the prince, and cash is king. If you are at the mercy of a customer, you will be taken to the launderers.
But in your business, the materials cost eats up a significant part of revenue. How do you manage to keep this cost low?
When buying raw materials for our projects, we cannot dictate the market price. Yes, we can negotiate with say steel companies, but it’s usually not a big discount. Then, we need to figure out how to reduce the quantum required, and how much we need and how to replace that with cheaper readymade options that will serve the same purpose. That’s when you have to innovate in the manufacturing line, with engineering and cost incurred in wastage of materials.
How do you prioritise capital expansion and investments during a slowdown?
If capacity utilisation is not at its peak, then you hold back investments in additional expansion. For instance, Thermax has idle capacity right now in all plants except the chemicals one. So, we don’t have to invest in capital expansion currently. Having said that, one cannot stop investing in the business just because there’s a slowdown. If it is of strategic importance, then you have to take that call.
And how challenging is margin retention in such a scenario?
Retaining margin growth in capital goods business is not easy during a slowdown. Of course, if there were too many projects to go around, we could fight for margin, but there aren’t as many today. So, you keep your costs low instead of chasing margin during a slowdown.
How can you avoid labour pangs during a downturn?
One way to avoid that is to outsource as many blue-collar jobs as you can. But the workers who are engaged in critical component manufacturing can’t be done away with, if there is a slowdown. Intellectual capital is an asset and, in the good days, people with that will make money.
What are the most important lessons you have learnt from a slowdown?
One, always keep your ear to the ground to stay abreast of what’s happening. Pick cues from customers on which way the wind is blowing. Second, learn to say “no” to the market. CEOs need to get over the quarter on quarter growth mania. You cannot be obsessed about topline growth at any cost and accept unviable orders. Third, keep innovating and ensure that you are on top of the latest technology. Lastly, it’s crucial to remember that your balance sheet is the most important thing during a slowdown. Ensure that it stays clean.
