Cotton Sales Tax Unchanged in Budget: Lower Cotton Prices Aid Textile Sector

What the budget decision changed for the cotton sector

The federal budget for the upcoming fiscal year has maintained the existing sales tax structure for the cotton ginning sector, despite earlier assurances from government officials and various stakeholders. This decision has created significant distress among cotton farmers and ginning factory owners, leading to an unusual and sharp decline in the prices of raw cotton (phutti) and ginned cotton (ruii) across the country. Post-budget amendments did not include the promised relief, which would have involved reducing the 18% sales tax on cotton and eliminating the 18% sales tax on cotton seed and oil cake.

The immediate consequence has been a substantial drop in spot prices for cotton. For instance, the Karachi Cotton Association reported a PKR 3,500 per maund decrease, bringing prices down to PKR 18,000. Similarly, prices in Punjab fell by PKR 5,000 to PKR 17,800 per maund, and in Sindh, they dropped by PKR 4,200 to PKR 17,300 per maund. Prices for cotton seed and oil cake have also seen significant reductions. This situation has raised concerns about the potential closure of more textile mills and ginning factories.

Note: 'Before Budget' prices are calculated by adding the reported drop to the 'After Budget' prices.

Why lower cotton prices matter for textile stocks

For Pakistan's textile composite sector, cotton is a primary raw material. A sustained reduction in local cotton prices directly translates into lower input costs for textile mills. This can improve their gross profit margins, which is the difference between the revenue from sales and the direct costs of producing goods. While the news highlights distress for farmers and ginners, the immediate economic effect for textile manufacturers is a reduction in one of their most significant operational expenses.

The textile industry has faced various challenges, including high energy costs and global demand fluctuations. Lower raw material costs can provide some relief, potentially enhancing the competitiveness of Pakistani textile exports and improving profitability for companies that rely heavily on local cotton procurement.

Which stocks, and why

The lower cotton prices are generally positive for listed textile composite companies, as their cost of goods sold is expected to decrease.

• Interloop: As a major hosiery and denim exporter, Interloop relies on cotton as a key input. Lower cotton prices could improve its production costs and overall profitability.
• Nishat Mills: The flagship of the Nishat Group, Nishat Mills has extensive textile operations. A reduction in cotton costs would directly benefit its manufacturing margins.
• Gul Ahmed Textile: Specialising in home textiles and apparel, Gul Ahmed Textile would also see its raw material expenses decline, potentially boosting its earnings.
• Kohinoor Textile: This company, involved in yarn and fabric exports, would similarly benefit from cheaper cotton, which is a core component of its products.

For these companies, the impact is considered medium influence and long longevity, as cotton prices are a fundamental cost driver, and the policy decision (or lack thereof) suggests a sustained effect on local prices.

What to watch

Investors should monitor the actual procurement prices of cotton reported by textile companies in their upcoming financial results to confirm the extent of the cost savings. Additionally, any further government interventions or policy changes related to the cotton sector's sales tax, or measures to support cotton farmers, could alter the current price trend. Global cotton prices and export demand for textiles will also continue to play a role in the overall profitability of the sector.