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Pre-Budget Sectoral
Picture
Just how were assorted sectors of the
Indian economy placed, headed into 2005-06, before the Budget?
By Team Ernst
& Young
The
automobiles sector was revving up for action on the domestic front,
passenger car sales having crossed the one-million-unit mark, and
two-wheelers about six times that figure (motorcycles outpacing scooters,
as before). Auto ancillary units, meanwhile, were readying to turn India
into a global export hub---with several tie-ups expected for the purpose.
Media & entertainment, entering fiscal
2005-06, was set for an audience-engaging future, with heightened activity
in diverse segments of the sector (estimated at $4.3 billion), despite FDI
being capped at 26 per cent of equity for print and TV news vehicles.
Advertising, film and music---fully open to FDI---looked buoyant, too.
FMCGs, meanwhile, have rebounded after
several poor years, and though the VAT switchover and input-cost
volatility have been concerns, the outlook has been bright enough to call
for major capacity expansions and product rollouts.
Oil & gas was a sector poised for
dramatic evolution, especially with India's gas demand projected to soar
from the current 88 MMSCMD (allocated demand of 119 MMSCMD) to 200 MMSCMD
by 2007---for electricity generation apart from fertilizer feed. Petroleum
products, at 105 million tonnes per annum, were growing at 5-6 per cent
annually, and the challenge here was input volatility management.
Engineering and capital goods has been
growing in double digits, with power projects giving an impetus, even as
new industrial capacity additions pack the order books. Import duties have
been at a peak of 20 per cent, largely. Input escalation has resulted in
some margin pressure.
Textiles were seen as a global opportunity
if India were to get its act together, now that trade distortions are on
their way out. India has only 4 per cent of the world textile trade,
placed at some $200 billion annually, but by WTO projections, the
country's share could possibly rise to 16 per cent (with trade expanding
to $856 billion in 2010), even as China's share widens from 15 to 50 per
cent.
Cement, with an installed capacity of an
annual 153 million tones in India, has witnessed both consolidation and a
price uptrend, which was expected to continue as demand is driven towards
double-digit growth by infrastructure and construction offtake.
Metals were buoyant, with new steel
capacity coming up to augment the current 35 million tonnes per annum.
Demand in 2005 was projected at 37 million tonnes, up 8 per cent over the
pervious year. Non-ferrous metals were placed, happily for producers, at a
point of copper and aluminium demand (growing by mid-single digits
worldwide) outpacing supplies in the cycle. This meant rising prices, and
investments in new capacities and raw sources. Robust Chinese consumption
was a big factor, too.
Healthcare is a story of calibrated
integration with the global industry, with India bringing its pharma
players in line with WTO obligations on intellectual property and enhanced
investment in R&D, even as companies exploit the potential in contract
and generics manufacturing. In all, a higher risk, higher return future
Telecom, at $ 11 billion, was expected to
keep up its frenetic pace, adding some 1.7 million mobile phone
subscribers a month. At last count, India had 45 million landlines and 48
million mobile subscribers. That's 95 million in all, a figure expected to
touch 250 million by 2007-08 (for which raising the FDI cap to 74 per cent
was deemed necessary).
Airports were expecting
modernization---billed to need around US$ 9 billion just for upgradation---even
as Indian airports had to deal with passenger traffic nearing 50 million
(two-thirds at metro airports alone, out of the 122 under the Airport
Authority's management). Pre-qualification bids for privatization of Delhi
and Mumbai airports had been received, and air travel was waiting for a
mammoth leap forward.
Ports had tried out privatization with
Mumbai's Jawaharlal Nehru Port Trust (JNPT) turned over to a private
consortium. But with cargo volumes already around 500 million tonnes now,
India's ports were a major bottleneck.
Roads in India added up to 3.3 million km
on the official map, though almost none of it would've passed global tests
of drive-worthiness. The 4-6-laning of 23,000 km of the road network was
in the process of taking up around $10-15 billion in investment, but
progress was woefully slow.
Power capacity in India, at 115,545 MW
(12,295 MW private), was deemed to be thoroughly inadequate to meet demand
estimated at least 20 per cent higher (and growing). By estimates, India
needed 10,000 MW of additional capacity every year for the next decade or
so.
Real estate was also poised for energetic
times, with FDI being permitted, the retail sector thriving, ITES alone
requiring 20 million sq ft of office space over five years, and
house-buying on a major upswing.
IT & ITES, a $28.2 billion sector in
2004-05, was expected to continue its boom. Software services, a $16.5
billion chunk of the pie, was projected to continue its annual 25 per cent
clip, while ITES roars on at a scorching 50 per cent plus (on a smaller
revenue base). Favourable taxation has helped keep profits soaring.
Banking and financial services were in fair
shape too, with FDI limits of 20 and 74 per cent respectively for public
and private banks. The financial performance indicators for the sector had
been encouraging, as efficiency mindedness took firmer hold, together with
a drive to expand market coverage.
BUDGET
2005-06 IMPACT
And just how are these sectors poised
after Indian Finance Minister P. Chidambaram's Union Budget for 2005-06?
Scroll your way down.
By Team Ernst
& Young
Automotive
- Tractor industry to benefit from
agricultural boost to the agricultural sector, but steel excise hike
to impact negatively (as the increase is not 'CENVAT-able').
- Ancillaries to benefit from reduction in
customs duties on inputs such as aluminium, copper and lead.
- Benefit of 150 per cent deduction on
in-house R&D, introduced in the last budget, has been extended
till March 2007. Good for R&D intensive companies.
- Excise duty on passenger cars left
unchanged, belying widespread pre-budget expectations of a reduction.
The burden on tyres, however, have notably been lightened.
Media & Entertainment
- The lowering of tax rate on royalty and
fee payments to non-residents will reduce the tax burden in several
cases.
- For service tax, 'broadcasting services'
now includes services of collecting broadcasting charges or permitting
the right to receive a transmission in prescribed form. This seems to
be a positive move as it brings the remainder of the players in the
Pay TV chain under the service tax net and leakages on account of loss
of input tax credit existing earlier, are expected to get plugged.
- The scope of 'video tape production
services' has been expanded too, to include recording of any programme,
event or function on any media and includes related services such as
editing, cutting, dubbing, title printing, special effects,
processing, adding, modifying or deleting sound, transferring from one
media or device to another and any post production activity.
- The scope of 'sound recording services'
has been expanded to include recording of sound on any media, and
includes such post-production services as sound mixing or re-mixing.
This would make Finance Minister's uproar-generating "Listen,
yaaar..." interjection, subtle as it is by way of exhortation,
the only notable encouragement for the media & entertainment
sector.
FMCGs
- Although accompanied by a decrease in
the depreciation rates, reduction in corporate tax rate will help, as
most companies in the FMCG sector have a low asset base.
- The rationalisation of individual tax
slabs could increase demand as disposable incomes are likely to
increase. The higher consumption patterns may lead to increased
profitability.
- The rationalisation of excise and
customs duties is a positive for makers of edible oils, matchsticks
and air-conditioners.
- The abolition of surcharge levy on tea
will help the tea sector. However, the surcharge on excise will make
life difficult for tobacco companies.
Cement
- Thrust on rural infrastructure under
Bharat Nirman programme, to be implemented over four years, good for
cement offtake. The Rural Infrastructure Development Fund has Rs 8,000
crore corpus for 2005-06.
- Special Purpose Vehicles (SPVs) to
finance urban infrastructure projects (highways, airports etc) spell
demand for cement too.
- Confirmation of VAT with effect from
April 1, 2005, is likely to increase net realisations for the cement
companies, particularly in southern region
- Increase of Excise Duty on Clinker, a
cement intermediate, from Rs 250 per tonne to Rs. 350 per tonne is
negative but negligible impact on the industry as the product is
cenvatable and most of the cement companies have captive
clinkerisation facilities. Similarly reduction in basic custom duty
not likely to have any significant adverse impact.
- Duty reduction on pet coke from 20% to
15% to benefit cement players using pet coke as input for power and
fuel
- Continuation of tax exemptions relating
to interest on housing loans shall continue to drive the housing
demand.
Textiles
- Amount sanctioned under the Technology
Upgradation (TUF) Scheme up by Rs 435 crore; this could help industry
modernization for global competitiveness.
- The 10 per cent capital subsidy scheme
for the processing sector could give a fillip to this segment of the
value chain. Further, the option granted to textile processors to
either not pay excise duty on the finished product or avail of the
CENVAT route is an additional bonus.
- Reduction in levies on man-made fibers
will help synthetics. Concomitant reduction in customs duty on
specified capital equipment augurs well too.
- The handloom sector proposals will help
this sector remain viable in the face of rapid changes in the
operating environment.
Oil & Gas
- Customs duty cut on crude oil from 10 to
5 per cent may adversely impact margins of upstream companies.
However, this is likely to increase the refinery margins.
- Service tax extended to survey &
map-making services. Also pipeline services. No relief for 'survey and
exploration of mineral' services, taxed last year. Midstream companies
hit, all the more hard where input credit is not allowed (in absence
of an output excise duty liability, for example, power plants and
fertilizer companies).
- Customs duty exemption on LPG and
kerosene for domestic use and reduction on petrol, diesel and other
petroleum products is likely to reduce the protection enjoyed by
refineries. However, reduction in subsidy cost on LPG and kerosene
should have a positive impact.
- The increase in additional duty of
customs on motor spirit and high speed diesel oil has been from
Re.1.50 to Rs 2 per litre. Excise duty cut on petrol to 8 per cent
plus Rs 5 per litre and on diesel to 8 per cent plus Rs 1.25 per litre.
Retail prices of motor fuels would not be hit.
Metals
- Customs duty on primary and secondary
metals reduced from 15 to 10 per cent. With strong demand, the impact
on the industry may not be significant.
- Aluminium, however, does not follow the
generalization. It is likely that the margins here will come under
pressure.
- Excise duty on iron & steel
increased from 12 to 16 per cent. Unlikely to have a significant
adverse impact as the entire duty is 'CENVAT-able' in most cases
except for long products and GP/GC sheets.
- Customs duty on coking coal with high
ash content reduced from 15 to 5 per cent while customs duty on
refractories and ferro alloys reduced from 15 to 10 per cent. Overall
impact is marginally positive as most producers do not use coking coal
with ash content greater than 12%.
Engineering & Capital Goods.
- Projects for irrigation, rural housing,
rural electrification and highway development all translate to demand
in this sector.
- Reduction in peak customs duty to 15 per
cent will hurt margins across the industry. Higher impact in textile
machinery, food processing machinery and machinery for leather &
footwear.
- But customs cut for primary &
secondary metal to 10 per cent could partly offset the impact of the
above measure.
- Access to forex reserves, creation of an
SPV with borrowing limit of Rs 10,000 crore, setting up of viability
gap funding of Rs 1,500 crore and levy of additional road cess on
fuel, could together kick off an infrastructure creation spree.
Telecom
- Cellular phone subscribers are no longer
required to file income tax returns, which helps the industry increase
its penetration of the market.
- Under India's commitment to the
Information Technology Agreement (ITA), mobile phones and telecom
networking equipment are exempt from customs duty. Further, specified
goods imported for manufacture of items covered under the ITA have
also been exempt, subject to end-use condition. Additional customs
duty (CVD) at 4 per cent has however been imposed on items under ITA
to compensate for sales tax. CVD would be allowed as a credit against
output excise duty but not against service tax. Service providers
would therefore not be able to absorb the impact of this duty against
their service tax liability. Impact of this duty on domestic
manufacturers would however be neutral.
- In another positive development, customs
duty exemption available to telecom service providers on import of
specified telecom network equipment and parts upto March 31, 2005 has
been extended without any time limit.
- Import duty on optic fibre cables have
been lowered from 20% to 10%. Broadband initiatives are likely to get
a boost from the cut in import duty.
- Maintenance of immovable property has
been made liable to service tax thereby exposing telecom network
maintenance services to service tax. Impact on the telecom operators
should however not be significant due to availability of credit
against output service tax.
Healthcare
- Currently, under Section 35 (2AB) of the
Income-tax Act, 1961, the weighted deduction of 150 per cent is only
available for expenditure on in-house R&D facility [approved by
the Department of Scientific Investment & Research ('DSIR')],
incurred upto March 31, 2005. This period for availing expenditure has
now been extended to March 31, 2007.
- Currently, Section 80-IB(8A) of the Act
provides for a 100 per cent tax holiday for companies engaged in
scientific R&D, which are approved by the DSIR by March 31, 2005.
This period for obtaining approval has now been extended to March 31,
2007.
- Customs duty on the following nine
specified machinery, used by the biotech and pharmaceutical sectors,
has been reduced from 20 to 5 per cent:
- Cell cultivation devices, namely,
roller bottle systems and spinner flasks
- CO2 incubator
- DNA/ Oligonucleotides synthesizers
- Electrophoresis systems - (Protein and
DNA; 2D)
- ELISA Reader
- ELISA Washer
- Fluorimeters
- Low temperature freezers (minus 70
degrees and less)
- Spectrophotometers (including Nuclear
Magnetic Resonance Spectrometers)
- Custom duty exemption presently
available to capital goods and raw materials imported by a company for
any R&D project funded by government or CSIR has been extended to
R&D projects funded by CSIR, ICMR, ICAR, UGC, DRDO and AICTE also.
Plus, VAT is to go into force.
- The enhancement of the Pharma fund: With
the Patent Ordinance now in place, there is an increased focus on
R&D. R&D calls for a huge deployment of resources.
Augmentation of the Pharma Fund is expected to alleviate at least to
some degree the funds available to Pharma and Biotech for R&D
- Creation of National Rural Health
Mission: The accessibility of Healthcare for the rural population
particularly in remote areas has always been a cause for concern. The
NRHM is expected to bring quality healthcare through grass root level
interventions through a process of community ownership.
- Implementation of the plan to create 6
AIIMS type institutions: While AIIMS has been a resounding success it
remains an island amongst available healthcare institutions. With the
creation of six AIIMS like institutions, the quality of medical
education, especially in deficient states will be greatly augmented.
Roads
- Raising of cess on motor spirit by
Rs.0.50 per litre is likely to bring in around Rs1,000 crore annually
to the Central Road Fund, of which a major part may be allocated to
the National Highway Authority of India (NHAI) to modernize India's
highways.
- Given the higher imposition of cess on
fuel consumption, there may be some slowdown in imposing road user
tolls on Federal highways, to avoid a double impact to Federal road
users.
- Correspondingly, there may also be an
increased tendency to award new road projects on a "cash
construction contract" basis rather than
"Build-Operate-Transfer" basis, so as to avoid increased
tolling of Federal highways.
- On the other hand, the announced
allocation of Rs 1,400 crore towards the third phase of the highway
mega-project appears inadequate for the 4,000 km mentioned. Hence the
method of utilization of funds allocated for the NHDP needs to be
clarified before a conclusion can be drawn on the future of new BOT
Federal highway projects in the country.
Water
- The budget envisages the creation of a
National Urban Renewal Mission (NURM) for revamping urban
infrastructure in the seven mega cities of India (all cities with a
population of over a million). Outlay: Rs 5,500 crore for 2005-06.
- Some other towns are also
water-stricken, these could also get a generous dose of central help
for water resource renewal and supply infrastructure creation.
- Part of the allocation of Rs 1,500
crores for "viability gap funding" may be allocated towards
water projects.
- In all, water is likely to get increased
spending attention from private parties as well, given the vitality of
water to their interests, and the smoothening of equipment
procurement.
Airports
- The SPV approach to airport funding is a
shot in the arm. Private sector participation could come too.
- Reduction in customs duty on crude
petroleum and petroleum products will reduce fuel costs of airlines,
helping them expand services.
- Extension of tax exemption on agreements
to acquire aircraft or aircraft engines on lease up to September 30,
2005 may benefit fleet expansion plans of existing airlines and
proposed new carriers especially of the low cost airlines.
- Reduction in withholding tax on
technical services is likely to benefit technical tie-ups for proposed
new low cost airlines.
Ports
- Dredging activites---relating to any
excavating, deepening, widening and so on of any port/harbour----have
come under the ambit of service tax which is likely to have a negative
impact. But the tonnage tax regime for dredging companies should boost
port infrastructure.
- The SPV would boost investment in the
port sector, enabling the use of forex reserves for import
requirements.
- The provision of Rs 1500 crore
"viability gap" funding for infrastructure projects would be
used in conjunction with the SPV for funding infrastructure projects
which are financially viable but unable to raise funds in the short
term
- The government will play a key role in
facilitating investment in such 'public goods' as seaports, which
would enable sector development.
Power
- The reduction of the depreciation rate
is likely to result in higher incidence of Income Tax (and thus higher
power tariffs). The introduction of MAT credit is likely to offset
this impact to some extent.
- Likewise, the non-extension of 80 IA
benefit to infrastructure companies which commence operations after
March 2006 is likely to result in higher incidence of tax liability.
- The corporate tax rate of foreign
companies, at 40 per cent, is much higher than that of domestic
companies at 30 per cent. The domestic companies particularly the
domestic EPC contractors etc are likely to have a comparative cost
advantage when compared to their foreign counterparts.
- Financial SPVs for infrastructure
projects may help power generation projects/transmission &
distribution projects which are unable to achieve financial closure.
Rural electrification will receive a boost with the proposal to launch
the rural electrification programme at a cost of Rs 1,100 crore
IT & ITES
- The tax holiday for STP units and EOUs
in the IT sector continues. The availability of the weighted deduction
of 150 per cent to companies engaged inter-alia in the business of
manufacture or production of electronic equipment, computers and
computer software, for expenditure incurred on R&D, has been
extended by 2 years to March 31, 2007. This is positive for R&D.
- Indian Institute of Science (IISc),
Bangalore, engaged inter alia in scientific research and development,
has been granted Rs 100 crore to turn itself as good as Harvard,
Stanford, Oxford and Cambridge. Good, long-term. Tax reduction on
royalties and fees for technical services paid to non-residents (from
20 to 10 per cent) is also good for knowledge transfer. This is
positive
- Basic customs duty on 217 ITA bound
products (including telecom apparatus, computers and printers) reduced
to 0 per cent. However, to provide a level-playing field to local
manufacturers, a 4 per cent CVD (to compensate for sales tax) is to be
levied on such products (with the exception of IT software). Further,
the customs duty on inputs for ITA bound items and certain specified
capital goods required for manufacture of IT products have been
reduced to Nil. Net net this is positive.
- The scope of taxable services has been
widened to include services rendered outside India, where the
recipient is situated in India. This could adversely impact IT
companies that utilize services of overseas service providers, and had
hitherto not being paying service tax. This is negative.
- The scope of "manpower
recruitment" as a taxable service has been expanded to include
supply of manpower on contract basis, either temporarily or otherwise.
This could adversely impact IT companies which utilize the services of
contract employees. This is negative.
- A new fringe benefit tax has been made
applicable at the rate of 30 percent on the specified portion of
various benefits, services or facilities provided by an employer to
its employees. Given that this tax is payable by the employer even
where he is otherwise exempt from income-tax and is payable currently,
even on certain expenses incurred entirely for business purposes, this
is a retrograde measure for tax exempt IT/ITES exporter units. This is
negative.
Real Estate
- Service tax net now covers various
services related to the real estate sector, particularly the building
of housing apartment blocks, and this could increase costs and thus
apartment prices.
- Other cost implications arise from the
following: excise duty imposed at 8 per cent on mosaic tiles;
reduction in excise from 24 to 16 per cent on air-conditioners; excise
on iron and steel increased from 12 to 16 per cent; and special duty
on cement clinkers increased from Rs 250 per metric tonne to Rs 350
per metric tonne.
- Specified payments for purchase of
residential house or repayment of housing loan principal upto Rs 1
lakh would also qualify for deduction under section 80C, which
translates into a potential annual tax break of Rs 30,000 as compared
to Rs 4,000 earlier.
- Speed-up of the creation of highways,
airports and mass-transit systems to ensure easy connectivity could
boost the real estate industry vastly, with larger commuter distances
making outlying-area housing viable. Speed of development is the urban
winner.
- Metropolitan decongestion could enable
creation of newer business districts---in satellite zones for
example----for the 21st century. Improvement in urban infrastructure
would also increase the ability of these cities to support rapid
economic growth.
Banking and Financial Services
- Banks to be given flexibility in the
issuance of preference shares to enable it to become 'regulatory
capital' under the Basel norms. Helps capital adequacy.
- Banks' SLR and CRR statutory limits to
be removed, to facilitate easier conduct of monetary policy by the
Reserve Bank of India. This allows the Reserve Bank of India free more
funds for deployment.
- Roadmap for presence of foreign banks in
India outlined. This is expected to gradually enhance presence of
foreign banks in India in a synchronised manner.
- Trading in derivatives made
non-speculative, which could potentially lower the burden of tax.
- Definition of 'securities' to be widened
to permit modern financial instruments.
- Gold can now also be traded as paper
units, a la mutual funds.
- As a social security measure, pension
reforms are advocated (including the allowing of FDI in this area).
- As an anti tax-evasion measure, a 0.1
per cent tax is levied on any cash withdrawal of Rs 10,000 and above
in a single day. The Parliament uproar over this bold move evoked the
Finance Minister's "Listen, yaar..."' moment of unscripted
audience engagement. Expect to hear more on it.
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