Strong growth in economy and favourable macros augurs well for passenger vehicle growth

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The domestic passenger vehicle (PV) wholesale dispatches grew by a strong 19.9% during Q1 FY2019, supported by incremental volume from new launches, healthy demand environment and low base of Q1 FY2018 when inventory destocking at dealerships ahead of GST implementation resulted in muted growth. According to an ICRA industry report, volume growth was primarily driven by rural and semi-urban segment while urban demand remained relatively tepid. The same faced hurdles due to Incentive rationalization by cab-aggregators which impacted cash flows of drivers and in turn impact demand momentum in cities like Mumbai, Delhi/NCR and Bangalore.

Says Mr. Subrata Ray, Sr. Group Vice President, Corporate Sector ratings, ICRA, “Increased spending towards rural area and infrastructure proposed in FY 2018-19 budget will boost growth prospects in rural area, which currently accounts for 30% of overall domestic industry volume. Overall the economic activity is expected to remain strong which will continue to aid domestic passenger vehicle demand growth. Moreover, uptick in investment activity in core sectors will also have trickle down impact on consumer spending, thereby providing additional support to the growth.”

In recent times, sharp increase in fuel prices over last 2-3 quarters and expected hike in interest rate in current fiscal has increased the cost of car ownership. This impacted sentiment of price sensitive first-time buyers (FTBs). Nevertheless, over last few years, overall price sensitivity of car buyers has reduced due to increasing financing penetration and extended tenure loans provided by banks/NBFCs to them. Also, improved fuel efficiency of cars has offset some impact of fuel price hikes.

The industry’s capacity utilisation remains modest and the statistics vary significantly across OEMs. While some are currently operating at near full capacity, others are operating below break-even level and incurring losses. ICRA expects aggregate capacity utilization to improve in the medium term, as capacity addition remains modest vis-a-vis overall demand growth expectations.

In terms of market share, Maruti Suzuki continues to maintain distant leadership position followed by Hyundai, M&M and Tata Motors. The market share in the domestic PV segment is likely to remain concentrated over the medium term, with the top five players constituting over 80% of the overall market. This implies that profitability pressures on the relatively low volume players may be even higher, resulting in sustained dependence on external financing to fund losses and capital expenditure requirements.

Rising commodity prices over the last 4-5 quarters has pressurised profitability of automobile industry. This is evident from sequential contraction in contribution margin of various ancillaries as well as their customers (OEMs). Moreover, INR deprecation has impacted profitability of OEMs having high import content. Commodity price overhang is expected to pressurize profitability in automobile industry for next two quarters. To mitigate commodity price and adverse forex pressure, OEMs have announced 2-3% price hike over last 3 months, which should provide some support. Moreover, OEMs as well as Tier I suppliers are focussing on operating efficiencies to absorb some impact of commodity price pressure.

The gradual shift of first time buyers (FTBs) purchases from small (mini/micro segment) cars to premium hatchback or compact UV as their first car is a positive for OEMs profitability. Over the next two years the PV industry is expected to spend about Rs 350-400 billion towards new product development, emission & safety compliance and upgradation as well as capacity addition.

“Rural market will emerge as the key growth driver for industry in FY2019e given the expectation of normal monsoon for the second consecutive year. We expect wholesale volume growth of 8-9% in FY2019e, and UV segment to remain outperformer with volume growth expectation of 13-15% whereas car segment growth is likely to remain muted. Growth rate could accelerate further by 100-150bps in case of speedier recovery in consumer sentiment,”adds Mr. Ray.

ICRA expects credit profile of PV OEMs to remain stable despite pressure on profitability and incremental investment plans to comply with upcoming safety and emission norms.