Recession or Cyclic downturn?

The automotive sector in India is under significant stress. Sales are going down drastically in unprecedented numbers. It is a vast sector and has already started giving layoffs, having non-production days- a euphemism for plant closures. A large number of dealerships have cancelled their tie-ups as the business does not appear to be lucrative. On top of this, BS-VI norms will be starting from 1/4/2020, which will cause further stress as no BS-IV vehicle will be even registered from 1/4/2020.

More difficulties will come up during this year and maybe even next year. The reasons for this is that CAFÉ norms will come into the picture from 2022. There is already a discussion of auto companies going slow on investments, but statutory requirements are mandatory, and these companies cannot avoid them. BS-VI norms and CAFÉ norms will increase the prices of cars. One thing that never comes into the discussion is the sale of old vehicles. It is not that people are not buying cars. People suddenly don’t change their habits. But people become practical and smarter.

George Mathew

I will tell you what I mean. I read an article from Indian Express which was discussing the sales pattern in the industry in general. The data in the table is for two thousand plus companies. The table above shows the business figures for April-June quarter comparison of 2018 and 2019. Sales of AC’s are generally seasonal. But other items like TV’s, Microwaves have not shown any decline. Sales are almost normal and have only shown seasonal changes.

I want to write a disclaimer. I cannot “read” the financial data, and hence, I cannot analyse it too! But as a layman, I thought there is not much difference for these two years. The sales have gone up in 2019.  Operating margins have reduced slightly. Depreciation is quite high in 2019, indicating the investments done in the that year. Hence interest paid has gone up maybe due to investments in plant and machinery. Proportionately tax paid has gone down, and profit has gone down. These figures do not show any drastic changes happening in the market. Companies considered in this table exclude banking and finance companies.

Then why is the auto sector in distress? I have mentioned that people have become smarter and practical. In the last financial year, the total number of vehicles sold was large. But the sales of new cars have come down. There is a secondary market where people buy used cars. The total number of old vehicles sold was four lacs more than new cars. Why is this happening? Small cars like Alto are now sold more in three-tier towns. Young people in big cities want to buy bigger vehicles. I understand that a 3 to the 4-year-old big sedan is now available for the price of an Alto. The trend of buying used fancy cars is affecting the sale of new cars.

I am not arguing that there is no recession in the auto sector. But we should not forget that it is one of the most protected sectors in India. Customs duty on cars below US $ 40000/ is 60 % and above this value 100%. The used cars have a customs duty of 125%.  For various reasons, this sector has remained inefficient. After many international companies started coming to India and opened their factories in India, the auto sector had a tough time. Some Indian companies took 15 years to reach the quality levels of global companies. One company that followed a correct way of doing business is Bajaj Auto. They currently export 1.8 million motorcycles every year. It gives them a buffer when the local market sales dip!

Some of the reasons for the downturn could be that main barrier for transport vehicles like octroi has been removed. The action has speeded up the turnaround time of vehicles  substantially. The effect would be that the number of trucks needed to transport material would be less than those previously required. Another reason that is making rounds is that demonetisation effect causing the sales to drop. Is such a large industry dependent on cash? In the rural areas cash was being used to buy vehicles; even large SUV’s were bought using cash. If people had so much cash with them why did they not use bank instruments to pay? The answer is obvious. Not paying taxes honestly is a habit that does go away quickly.

What was the auto industry turnover 20 years back? How much has this industry grown? The auto industry has made decent profits all these years, so I am sure they have reserves. Pollution norms have been known to everybody, so no point in raising hue and cry about investments needed.

Any sector that is in stress always talks of alarming results of the recessionary trends in their business. Should the government give selective help to the stressed industry? Is such action fair to other sectors which are doing okay in their business? The financial stimulus can be a solution, but such money gets diverted from equally essential areas. We should not forget that high tariff on imported vehicles has helped the industry for a long time.

All the companies in the automotive sector are large organisations, and they have the wherewithal to overcome current tough times. Asking for a reduction in GST is a short-term major and is taking a myopic view of the situation. In the last couple of years, the government has been receiving feedback from business about GST. Government has already made changes for the benefit of both industry and the government. Making changes for a specific industry for a short duration is an incorrect way. The auto industry has been generating decent profit for the last few years. Some things have changed; some new variables have come into play. There are who experts can find a solution and suggest corrective actions. I am sure the industry will come out of it.

Raising the alarm, making statements like “It is the wake-up call for the Government of the day” does not solve issues. But the government help should be an exception but not a rule. There is an interesting story about General Motors and Chrysler. When they were in serious financial trouble, a decade ago, the senior executives of both companies were called to Washington DC for discussions. In the initial informal chat, they were asked if they reached Washington the previous night. The surprised executives said, “Oh, we landed only about 45 minutes back. We chartered a plane to come here.” The government official was aghast!

So where is the vendor conference this year? Italy, Las Vegas, Macau? How can you have the conference inside your factory? Cost cutting is for others. I have attended General Motors vendor conference once in Pune. It was at the Oxford club and there were at least six helicopters used by GM bosses to arrive at the venue! It is not a surprise that GM closed their shop in India.

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End of the road for Diesel cars!

Maruti Suzuki declared today that they would not manufacture cars with diesel engines starting from 1st April 2020! That is the day on which BS 6 norms for pollution will be implemented in India. This time the government is very stringent, and it is declared that from this date, only the cars BS 6 norms will be registered. Forget the selling; there will be no registration of cars other than BS 6! It is a great thing that the government means business, now!

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But is this the beginning of the tumultuous scenario in the automobile domain? Is it a mini tsunami? Has this statement started indicating the way things would happen in the auto industry? All these years life was much more straightforward; introduce a new model, play around a bit with the price and periodically change pollution norms when government forces you. The smooth ride was the norm! But a statement by Maruti says that the cost of development of BS 6 compliant diesel engine and the cost of making the BS 6 engine will be so high that in the small car segment, customers may not be able to afford them. Currently, the price difference between petrol and diesel model of a car is around Rs. One Lac. They feel that this difference could be Rs.2/ lacs for BS 6 cars ( ten lacs is a Million). On a vehicle costing Rs. 5 to 6 lacs, difference of two lacs will be too much, and customers may not be able to afford these cars. For cars/SUV’s costing Rs.10/ lacs and above, though the difference will be similar, % increase would not be high. How this sector will perform from next financial year needs to be watched. For SUV (both mini/standard) good news is Maruti Brezza will not be sold; hence manufacturers will rush to pick up the market share up for grabs. Maruti, however, has left the option open for 1.5 L diesel engine cars, used in Brezza.

Diesel engine cost issue due to BS 6, was expected. Volvo has already declared that they will stop making diesel cars when the norms change from Euro 6 to Euro 7, because of the cost of development and the price of the vehicle. Compared to trucks, the number of cars sold is much higher hence a smaller number of diesel cars will be better from the pollution angle.

Why did people use small cars with diesel engines? The lower price of diesel was the main reason. These cars cost approximately Rs. One lacs, plus plus, more than petrol cars. If the usage of vehicles was not enough, then owning such a car was not cost effective. On top of this, diesel engines have periodic mandatory maintenance cost which petrol cars don’t have. In many cases, it was not viable to own a diesel engine car.

With the imminent entry of Electric Vehicles in large numbers, the market is expected to be shaken further. In the late ’90s of the last century, Toyota came up with Prius, their first Hybrid car. (For those new to this subject, a hybrid car is one which runs on petrol and battery combination; each manufacturer has its own combination of the technology) It was expected that Hybrid would be the future and Toyota was expected to be the leaders. Yes, they are still the leaders in Hybrids. But a maverick called Elon Musk decided to plunge into EV’s. General Motors had manufactured around 500 EV’s at the beginning of this century, but then what happened? Petroleum lobby made sure that this initiative was killed. A few years later GM scrapped the vehicles.

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Combination of Tesla’s efforts, cheaper battery sets (hopefully!) at some stage, fast charging technology are pushing humans towards EV’s. Range per charge still remains the primary concern. Add to this reduction in the price of solar systems is making cheaper fuel for the EV, the Electricity. Now, what is adding to making it more difficult for petroleum products further, are the pollution norms for diesel cars?

What will be the future of diesel engines in the car segment? In India, the overall car segment is under pressure. In the last financial year, four lac more old cars were sold than the number of new cars that were sold. It looks like more small vehicles are being sold in II and III tier cities. Will Maruti’s prediction about diesel engine cars affect thinking by other car manufacturers? Will they also go away from diesel engine cars? Only time will tell.

The current financial year is going to be very tricky for car manufacturers. Let me explain what is involved, as the last date on which the BS IV car will be allowed to be registered. That date is 31/3/2020. To achieve this target, they will have to attempt and sell BS VI models from 1/1/2020. To meet this date, they will be required to push in BS VI vehicles from 1/10/2019. During this transition period, there will be tricky scenarios. BS IV cars will be produced less and less, but customers may want to buy them, as these will be cheaper than BS VI models. There is a possibility that in certain areas there will be customers and no cars; in other areas, there will be cars but no customers. All unsold BS IV cars will have to be sent back to manufacturers for conversion to BS VI at a considerable cost. Predicting requirement from 1/10/2019 to 31/3/2020 is going to be a nightmare for sales teams and along with them the dealers. The trend of lower sales is going to add to the difficulties further.

Will everything be hunky dory after 1/4/2020? That is again a very tough question. To achieve better fuel efficiencies and to go away from petroleum products, there will be efforts to introduce hybrid cars. But except Toyota, nobody has real expertise in this area. The predicted numbers for 2030 are 30 % EV’s, 30% Hybrids and balance IC engine cars, mostly petrol and CNG version. Does it mean that it is a death knell to diesel cars?

Another prediction by Maruti is that for small EV’s, where numbers are high in the typical small car segment, the volumes can be tricky as the price could be between 9 to 12 Lacs. This price is based on battery packs being manufacture in India. Larger cars will cost much more, but the high-price segment is less sensitive to the price tag. How the volumes will be achieved in EV’s, will be difficult to predict. I have not even discussed the charging station infrastructure issues! In India, most cars are parked on the roads for the night, so how and when will the charging be done?

At least in India, there is a significant turmoil about where the car market will go? Will Maruti continue to lead the pack? Will others follow Maruti and go away from small diesel engine cars? Only time will tell.