ICRA

ICRA Sector Research

AUTOMOTIVE INDUSTRY
The Indian Passenger Car Industry
November 2003

Industry Comment

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INDUSTRY COMMENT THE INDIAN PASSENGER CAR INDUSTRY

TABLE OF CONTENTS BACKGROUND ................................................................................................................................... 2 EVOLUTIONARY PHASES OF THE INDUSTRY ......................................................................... 3 THE INDIAN PASSENGER CAR INDUSTRY ................................................................................ 4
MARKET SIZE............................................................................................................................................................... 4 GROWTH ...................................................................................................................................................................... 4 KEY DEMAND DRIVERS ............................................................................................................................................... 5 MARKET CHARACTERISTICS......................................................................................................................................... 5 Demand................................................................................................................................................................... 5 Supply ..................................................................................................................................................................... 9 THE PLAYERS ............................................................................................................................................................... 9 THE PLAYERS ............................................................................................................................................................. 10

THE INDIAN PASSENGER CAR INDUSTRY

REGULATIONS ................................................................................................................................. 10
THE MOU ROUTE ...................................................................................................................................................... 10 EXCISE ....................................................................................................................................................................... 11 ENVIRONMENTAL STANDARDS: THE NATIONAL AUTO FUEL POLICY ......................................................................... 11 AUTO POLICY, GOVERNMENT OF INDIA, 2002............................................................................................................ 12

TRENDS IN THE INDIAN PASSENGER CAR MARKET .......................................................... 13

CHANGING FACE OF THE INDIAN PASSENGER CAR INDUSTRY .................................................................................... 13 CHANGING OEM-SUPPLIER RELATIONSHIP ................................................................................................................ 13 CHANGING OEM-CUSTOMER RELATIONSHIP ............................................................................................................. 13 GREATER PARTICIPATION IN DOWNSTREAM ACTIVITIES .............................................................................................. 14

PROSPECTS ....................................................................................................................................... 14

Analyst: Anupama Arora Dr. Soumya K. Ghosh Dated: November 2003

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INDUSTRY COMMENT THE INDIAN PASSENGER CAR INDUSTRY

B AC K G R O U N D
The automotive industry is one of the largest industries worldwide and in India as well. The automotive sector is a vital sector for any developed economy. It drives upstream industries like steel, iron, aluminium, rubber, plastics, glass and electronics, and downstream industries like advertising & marketing, transport and insurance. The automotive industry can be divided into five sectors: Passenger Cars Multi-Utility Vehicles (MUVs) Two- and Three-Wheelers Commercial VehiclesLight Commercial Vehicles (LCVs)/Medium & Heavy Commercial Vehicles (M&HCVs) Tractors This Industry comment discusses the passenger car segment of the Indian automotive industry. Table 1 Profile of the Indian Automotive Industry*
Production (in numbers) Sales inclusive of Exports (in umbers) FY1995 2,837,191 FY1996 3,504,358 FY1997 3,987,125 FY1998 4,004,083 FY1999 4,223,469 FY2000 4,858,625 FY2001 4744371 FY 2002 5,370,468 FY 2003# 6, 304,558

2,857,013

3,500,581

3,965,383

3,985,508

4,275,264

4,915,572

4,811,758

5,421,089

6,304,688

MHCVs

LCVs

Cars

FY2003 market shares in % (based on no. of units sold)

1.9

1.3

9.7

Other Passenger Vehicles 2.7

Total TwoWheelers 80.1

Of which Motorcycles 68

ThreeWheelers 4.3

*Tractors have been excluded for the sake of comparability, # Figures for FY2003 are based on the new classification of SIAM, hence not comparable with the figures of previous years. Source: Society of Indian Automobile Manufacturers

Despite a head start, the automotive industry in India has not quite matched up to the performance of its counterparts in other parts of the world. The all-pervasive regulatory atmosphere prevailing till recently has been one of the primary reasons for this situation. Moreover, the industry was considered low-priority as cars were thought of as unaffordable luxury for the masses. In the post-liberalisation period, the automotive industry, especially the passenger car sector, saw a boom. The buoyancy in the sector was derived primarily from economic vibrancy, changes in Government policies, increase in purchasing power (especially of the upper middle class), improvement in life styles, and availability of car finance. The passenger car industry was finally deregulated in 1993, and many companies, both Indian and foreign (like Daewoo, Ford, General Motors, and DaimlerChrysler), entered the market. However, the smooth sailing was disrupted in the last quarter of 1996. The automotive industry, which contributed substantially to industrial growth in FY1996, failed to maintain the same momentum between FY1997 and FY1999. The overall slowdown in the economy and the resultant slowdown in industrial production, political uncertainty and inadequate infrastructure development were some of the factors responsible for the slowdown experienced by the automotive industry. While the passenger car segment experienced a turnaround with the launch of many new models and posted positive growth rates, in FY 2000 and FY 2001, the upturn turned out to be rather brief. In FY2002, the automotive sector especially the passenger car segment continued to reel under the pressure of over-capacity, and with the demand being low, the performance for the year was bleak. FY2003 witnessed a healthy growth in the passenger car sales with the pick up in the economy. With expected revival in the economy the passenger car sales in the first half of FY2004 were also buoyant. Although the automobile sector in India has come a long way since its beginning in the 1940s, the country does not rank well in many respects. For instance, the contribution of the automobile sector to industrial output, number of cars per person, automobile sector employment as a percentage of industrial employment, number of months income required to purchase a car, and penetration of cars are quite low at the moment. Also, the industry profile in India is very different from the global profile. While, globally, the passenger cars (including MUVs) sector accounts for over 50% (in terms of number of units sold) of the automotive sector, in India, it accounts for only around 12% of total automotive sales. Moreover, the linkages with the associate industries are still tenuous in India. www.icraindia.com Page 2 of 15

INDUSTRY COMMENT THE INDIAN PASSENGER CAR INDUSTRY

However, the major car manufacturers world-wide consider India a good potential market as they foresee a future demand here. Two things that have stunted the Indian automobile industry in the past are low demand and lack of vision on the part of the OEMs and policymakers. However, in the recent past, the regulatory environment has been liberalised, demand has picked up, and in such a situation, global OEMs who enjoy scale economics both in terms of manufacturing and research and development (R&D), have entered the Indian market. This is leading to a shift in the way business is conducted by suppliers, assemblers and marketers.

E V O L U T I O N AR Y P H AS E S
Initial Years

OF THE INDUSTRY
1980s Entry of Maruti Udyog Limited (MUL) better product at lower price; enjoyed Government support Seller's market Long waiting periods Limited choice Restriction on capacities Licence requirements High import duties Auto finance became available but was limited to a few players MUL captured a major market share; PAL and HM were able to maintain volumes but their market shares fell drastically

Cars regarded as luxuries Manufacturing was licensed; capacity expansion restricted Permission to import cars was restricted to the State Trading Corporation and foreign diplomats High customs duty Steep excise duties and sales taxes Market dominated by just two playersPremier Automobiles Limited (PAL) and Hindustan Motors Limited (HM)

Early to mid-1990s Cars perceived as necessities Still a sellers market Long waiting periods continue Delicensing in 1993 Removal of capacity restrictions Decrease in customs and excise duties Development of the mid-price and luxury segments Increase in competition with the entry of foreign manufactures, especially after the mid-1990s Increase in number of models available Auto finance boommore players (foreign banks and non-banking finance companies); better schemes Late 1990s Buyers market Reduction in waiting period Increase in indigenisation Availability of technologically superior, more comfortable, internationally comparable models Increasing choice for the Indian customer. Mid-price segment growing at the fastest rates Stringent pollution control norms Easy auto finance Increase in the importance of sales and service network and infrastructure

Early 2000 Increasing choices in the super premium and luxury segments Manufacturers pursuing diversification into related activities such as financing, leasing and fleet management, insurance and used car market Manufacturers focusing on improving capacity utilisation

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T H E I N D I AN P AS S E N G E R C AR I N D U S T R Y
Market Size
The profile of the Indian passenger car industry is very different from what it is worldwide. Passenger cars make the largest segment globally, accounting for over 50% of the total sales (units). In India, it is the twowheelers segment that dominates the automotive market, accounting for 80% market share in terms of units sold, while cars and MUVs account for 12% of the units sold (as of FY2003). Being a high-value product, the share of passenger car and MUVs is however relatively higher in value terms. The Indian passenger car segment accounted for around 42% of the size of the Indian Automobile Industry (that was around US$ 14 billion in the year 2001).

Growth1
The domestic passenger car market (excluding MUVs) in India reported a compounded annual growth rate (CAGR) of 13.4% between FY1994 and FY2002. After the economic liberalisation in 1993, the domestic passenger car market posted impressive growth rates till around FY1995. Between FY1994 and FY1997, the CAGR for the passenger car sales in India was 24%. While the annual growth rate declined in FY1997 to 18%, in FY1998, the growth rate fell to a meagre 3.7%. FY1999 witnessed marginal decline in the volumes. However, in FY2000, passenger car sales boomed and grew by over 60% to reach 0.62 million units. Some of the factors that have contributed to this growth are introduction of new models, competitive pricing, easy availability of consumer loans, and rise in disposable income. Figure 1 Passenger Car sales in India (FY1994-2002)
700 Units (in thousands)
1

600 500 400 300 200 100 0

FY 19 9 FY 4 19 9 FY 5 19 9 FY 6 19 9 FY 7 19 9 FY 8 19 9 FY 9 20 0 FY 0 20 0 FY 1 20 02

Compiled by INGRES

The recovery in 1999-2000 turned out to be short-lived, with domestic sales dipping to report a negative growth of 8% in 2000-01. The domestic slowdown in passenger car sales occurred despite the fact that the Union Budget for 2001-02 lowered the excise duty on passenger cars from 40% to 32%. (Although excise duty accounted for about 20-25% of the acquisition price of a car, this rationalisation led to a marginal reduction in the car prices because of the cost pressures on OEMs.) While the decline in real economic activity was another primary reason behind the slowdown in the domestic passenger car industry, the developing second-hand car market has further dampened the growth of the new car market. The sales of passenger cars in India at 541,738 units marked a growth of 6.4% in FY2003 over the previous year. The growth was observed largely in the compact and mid-size segments, with models like Santro, Indica V2 and Palio leading the way. After the excise duty cut was announced in the Union Budget FY2003-04 and the resultant price cuts announced by the players, the sales in March were significantly higher. Buoyancy in sales of passenger cars in the domestic market continued during H1FY2004 with the sales growth of 23.7% over the corresponding previous.

Discussion in this section is based on total sales, including exports.

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INDUSTRY COMMENT THE INDIAN PASSENGER CAR INDUSTRY

Key Demand Drivers

Traditionally, disposable income was perceived as the key factor driving passenger car demand. But over time, other factors that are known to have an impact on demand have emerged. These include the need for greater mobility, non-availability of public transport services, availability of cheap finance, development of the used-car market, introduction of new technologically superior models, increasing levels of urbanisation, and changing consumer profiles. High degree of correlation between PER CAPITA INCOME and demand for cars, increase in the number of people crossing the income threshold, and CHANGING CONSUMER PROFILE are likely increase and change the structure of demand

There is a high degree of correlation between the demand for cars and ECONOMIC G R O W T H

Availability of NEW MODELS is likely to increase and change the structure of demand

CAR DEMAND

The Central Governments AUTO POLICY on excise and customs is an important aspect affecting the demand and supply of cars A mature USED CAR MARKET would, on the one hand, encourage consumers to trade in their cars faster, and on the other, eat into the share of new cars

Competitive PRICING is crucial for gaining market share, especially in the small car segment

AVAILABILITY OF CHEAP FINANCE is a key determinant of demand as significant proportion of cars purchased in India are financed

Compiled by INGRES

Market Characteristics
Demand Product Penetration The penetration of passenger cars in India stood at 5 per thousand persons as against 27 for two-wheelers in 2000. Significantly, the Indian figures are lower than even those for economies like Indonesia (14 and 62). The relatively high penetration of two-wheelers in India reflects the populations need for mobility and their limited affordability.
Table 2 Automotive Penetration (vehicles in use per thousand persons)* Passenger Cars Two wheelers USA United Kingdom Japan Germany China Indonesia South Korea India
* Source: World Bank

478 373 395 508 3 14 167 5

14 12 115 36 8 62 59 27

Market Segmentation In developed markets, engine capacity and wheel-base are the bases of segmentation of passenger cars; price does play a role but only up to a point. However, considering that affordability is the most important demand driver in India, the domestic car market has been segmented on the basis of vehicle price till SIAM

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introduced the length-based2 classification of passenger cars since FY2003. The automobile industry in India is still concentrated around the mini and the compact segments which together account for around 81.8% of the automobile market in terms of units sold in FY2003. This is not surprising considering that the cost of purchase of a car (in terms of number of months income) in India is still one of the highest in the world. Hence Maruti 800, the cheapest car, remains the top selling model though the price-value concept has been catching up as can be seen from the large share of compact segment and the growing mid-size segment. The following table presents various models in each segment of the domestic passenger car market. Table 3 Segment-Wise Classification of the Indian Car Market
Mini Compact Mid-Size Executive Premium Luxury

Vehicle Length Companies Maruti Udyog Ltd.

< 3400mm

3401 to 4000

4001-4500

4501-4700

4701-5000

>5001

800 Omni

Hyundai Motor India Ltd. Hindustan Motors Ltd.

Alto Zen Wagon R Santro

Esteem Baleno Altura Accent Ambassador Contessa Mitsubishi Lancer Siena Adventure Opel Corsa Chevrolet Optra City Ikon Indigo Contessa

Sonata

Fiat India Automobile Ltd. General Motors India Ltd. Honda Siel India Ltd. Ford India Ltd. Tata Motors DaimlerChrysler India Ltd

Palio Opel Corsa Sail

Opel Vectra Accord Mondeo MercedesBenz C Class Octavia Corolla Mercedes Benz E Class Camry Mercedes -Benz S class

Indica

Skoda Toyota Kirlosker

Compiled by INGRES; * station wagon

Indian market in FY2004 During the first half of FY2004, the passenger car sales in the domestic market increased at a rate of 23.7% over the corresponding previous. Compact segment that accounted for 52% of the domestic sales reported healthy growth of 10.6% in H1FY2004 vis--vis H1FY2003. Highest growth in this segment was reported by MUL (that has three models, Zen, Alto and Wagon R) followed by Hyundai (Santro) and Tata Motors (Indica). The car sales in the mid-size segment increased its market share from 16.8% inH1FY2003 to 19.2% in H1FY2004 on the strength of strong growth of 41% in the period under study. Although Tata Motors Indigo reported the highest sales in this segment during H1FY2004, General Motors (Chevrolet Optra, Opel Corsa) and Hyundai (Accent) also reported growth rate higher than the segment growth rate in the period under study. The higher end models (Executive, Premium and Luxury) that accounted for less than 1% of the total sales in India in H1FY2003 improved their market share to 2.6% in H1FY2004. This was largely on account of introduction of new models in these segments during 2002 and 2003.

SIAM classification of Motor cars is discussed in detail in following section

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The following chart presents the shift in the market share of the segments of the Indian passenger car market during H1FY2003 and H1FY2004. Figure 2 Share of various segments in the Indian Passenger Car Market H1FY2003 H1FY2004
Pr i em um 0. 73%

Executve i 0. 10% M i si d- ze 16. 83%

Luxur y 0. 01% Mi ni 23. 76%

E xecutve i 1. 80%

Pr i em um 0. 74%

Luxur y 0. 01% M i ni 25. 89%

M i si d- ze 19. 19%

C om pact 58. 56%

C o m pact 52. 37%

Source: SIAM

While the Table 3 depicts the length-based classification, the role played by price in Indian market can not be ignored. Each brand offers a range of models that span several price points. With multiple variants at different price points, the price of a car may fall in more than one price range. As a result, a higher-end variant may compete with a lower-end variant of a car in the segment above it, and in that sense pricebased competition takes place in a continuum rather in segments. The following figure maps the different brands available on Indian roads across different price ranges.

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Figure 3 Car Models3 in India across Price Bands

Rs. lakh * DaimlerChysler Mercedes Benz Fiat India Uno Palio Adventure Weekend Siena Ford India Ikon Mondeo GM Opel Corsa Opel Corsa Sail Opel Swing Opel Vectra Chevrolet Optra HM Ambassador Contessa Mitsubishi Lancer Honda Siel City Accord Hyundai Santro Xing Accent Sonata MUL 800 Omni Alto Wagon R Zen Versa Esteem Baleno Altura Skoda Auto India Octavia Tata Motors Indica Indigo Toyota Corolla Camry
Compiled by INGRES

2.5

3.5

4.5 5

5.5

6.5

7.5

8.5

10

15

20

20+

The list of car models in Figure 3 may not be exhaustive. Prices of the models as prevailing in Mumbai market in October 2003.

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Supply The passenger car industry was dominated by Premier Automobiles Limited (PAL) and Hindustan Motors Limited (HM) prior to 1980. With the entry of MUL in 1982, the market structure of the passenger car industry in India changed dramatically. MUL captured a major share of the market as it offered a better product at a lower price. Subsequent to the entry of MUL, the market share of PAL and HM declined rapidly even as they were able to sustain sales in volume terms. MUL continued to strengthen its dominance in the passenger car market and faced virtually no competition till the sector was opened up in 1993. MULs market position was not affected even after the entry of many foreign players as none of the new entrants targeted the small car segment. MULs pricing was very competitive as it had relatively higher indigenisation levels and established vendor base besides a depreciated plant, and none of the newer players could penetrate this segment.
However, in the late 1990s, Hyundai, Tata Motors and Daewoo launched Santro, Indica and Matiz respectively, in the Rs. 0.30.4 million range. Although MUL continued to be the market leader, these players saw volumes growing. Though the market is still dominated by MUL. its share in the total passenger car sales has been declining and stood at 50.8% in FY2003 as against 54.5% in FY2002 accounted for by its models (Maruti 800, Omni, Zen, Alto, Wagon R, Esteem and Baleno, Versa, Grand Vitara) across different price ranges. The company has been able to strengthen its market share during H1FY2004 at 50.2% (up from 48.1% in H1FY2003). In just four years since the commencement of production, Hyundai Motors India has emerged the second largest player in the Indian automobile market. Figure 4 Market Share of Players in the domestic passenger car market H1FY2003 H1FY2004
D ai l m er C hr er ysl I a ndi P rvat i e Li ied m t 0. 2% M ar i ut Udyog Li ied m t 48. 1% Fi I a at ndi A ut obi om l es P rvat i e For I a d ndi Li ied m t Li ied m t 7. 4% 3. 0% Fi I a at ndi D ai l m er A ut obie om l Toyot a C hr er ysl For I a d ndi s P rvat i e Kil roskarI a P rvat ndi i e Li ied m t Li ied m t M ot or Li ied m t 2. 7% 1. 8% Li ied m t 0. 3% Tat a 1. 6% Skoda A ut o M ot s or G ener al Li ied Li ied m t m t M ot s 16. or 0. 1% 6% M ar i ut I a Li ied ndi m t Udyog 2. 6% el H yundai Li ied H onda Si m t Hi ndust an or ndi C ar I a M ot I a s ndi 50. 2% M ot s or Li ied m t Li ied m t Li ied m t 19. 7% 2. 2% 2. 1%

Tat a M ot s or Li ied m t 13. 6% G ener al M ot s or I a ndi Li ied m t 1. 7%

H onda Si el C ar I a H yundai s ndi M ot or H i ndust an Li ied m t I a ndi M ot s or 2. 4% Li ied m t Li ied m t 20. 0% 3. 7%

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The Players
The Indian automobile industry has been one of the most vibrant sectors of the economy since its delicensing and opening up in 1993. Most new car manufacturers have launched products in the Compact, Mid-range and the Premium segments of the market. The profiles of the players in the Indian passenger car sector are presented in Table 4. Table 4 Profiles of Select Players in the Indian Automobile Industry
Name
DailmerChrysler India Private Ltd Fiat India Automobiles Pvt Limited Ford India Limited General Motors India Limted Hindustan Motors Honda Siel Cars India Limited Hyundai Motor India Limited Maruti Udyog Limited Tata Motors Limited Toyota Kirloskar Motors Limited

Indian Partner
None None Mahindra & Mahindra Ltd CK Birla Group Siel Limited None Government of India Tata Group Kirloskar Group

Collaborator
DailmerChrysler AG Fiat Auto SPA, Italy Ford Motor Company, USA General Motors Corporation, USA None Honda Motor Company Limited, Japan Hyundai Motor Company, Korea Suzuki Motor Company, Japan None Toyota Motor Corporation, Japan

Foreign Equity
100% 100% 84.1% 100% 100% 99% 100% 54.2% 88.9%

Year of incorporation
1995 1997 1995 1995 1940s 1995 1996 1982 1945 1997

The sales to capacity ratio for select players4 in the Indian passenger car industry has improved from 66% in FY1999 to 73% in FY2002. In most mature markets, there are around half a dozen players dominating the passenger car industry. The volumes of most players in the Indian markets are below 100,000-150,000 units a year, the level that is considered viable in the developing economies. With low volumes, the manufacturers are not able to realise economies, thus the margins of quite a few players remain under pressure given their low volumes. Further, with the new environmental norms being proposed, the cost of compliance may add to the cost of production. Some of the critical success factors for passenger car manufacturers in the emerging scenario are indigenisation levels, reach of dealer network, efficiency of after-sales service, volumes, and pricing. With the liberalisation of the automobile sector in the early 1990s, most of the international players entered the Indian market through the joint venture (JV) route. While foreign manufacturers brought in the latest in automobile technology, the Indian partners contributed their understanding of the local market. This understanding of the local markets was particularly useful in building dealership and distribution networks.

However, with the Indian JV partners not able to pump in the requisite amount of money for expansion, in recent times, some JVs have been converted into wholly owned subsidiaries of the foreign parent or the foreign parent has increased its stake in the JV significantly. Ford India Limited and Toyota Kirloskar Motors Limited are cases in point. With leading international players demonstrating increasing commitment to their Indian ventures, the market is likely to consolidate over time.

R E G U L AT I O N S
The MoU Route
In July 1991, industrial licensing was abolished for all types of automotive, except motor cars. Subsequently, licensing for motor cars was abolished in April 1993. There was no licence requirement for expansion of an existing project or creation of a new one if the project was located 25 kms outside the periphery of a city with a population exceeding 1 million. However, this condition could be relaxed in the case of a designated industrial area.

In this section, following players were considered for computing capacity utilisation : DaimlerChrysler, Fiat India, Ford India, General Motors India, Hindustan Motors, Honda Siel Cars, Hyundai Motors India, Maruti Udyog, Tata Motors.

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Initially, the Government imposed conditions for every new entrant on a case-to-case basis. In June 1995, with a view to developing the domestic automobile industry, the Ministry of Commerce introduced the company-specific Memorandum of Understanding (MoU) route for manufacturers of cars and MUVs. The following were the terms of the MoU: Minimum investment: New automobile manufacturers were required to invest at least US$50 million over a three-year period, if the company was majority owned by a foreign player. Indigenisation of components: The policy stipulated that indigenisation of components up to a level of 50% had to be achieved in the third year and 70% in the fifth year, or earlier. Neutralisation of foreign exchange flows: The automobile companies were required to achieve broad neutralisation of foreign exchange over the entire period of the MoU, by balancing the actual value of imports and that of exports. However, with Quantitative Restrictions (QRs) being removed from April 1, 2001, automobile manufacturers do not need import licences either to import cars in the kit form or as completely built units (CBU). Thus, the logic underlying the MoU policy disappeared. The QRs, which have been phased out, have been replaced by tariff, and thus import duties will be critical. The duty structure is three-tiered: Table 5 Import Tarriffs
Product CBU CKD/SKD* Components Basic Customs Duty 60% 25% 25%

*Completely Knocked down Units/ Semi Knocked down Units

With a 60% tariff on import of completely built units, the tariff structure is in favour of domestic manufacturers. The removal of QRs poses little challenge as far as second-hand cars are concerned. The Union Budget for 2001-02 announced an import duty of 105% (with the effective import duty of over 180%) on second-hand cars, thus mitigating any threat from the second hand car imports to the domestic passenger car industry. Further, the export-import Policy of 2001-02 imposed stiff non-tariff barriers on the import of second-hand cars, as listed here, further restricting any threat posed: Maximum age of three years Conformity to Central Motor Vehicles Rules, 1988 Mandatory pre- and post-shipment certification Minimum residual life of five years Importer to ensure spares and service during the period Imports allowed only through customs port in Mumbai

Excise
The passenger car industry in India faces high levels of taxation. As cars are still considered luxury items, the relative tax incidence is much higher for them vis--vis two-wheelers or commercial vehicles. While the Union Budget for 2001-2002 reduced the excise duty on passenger cars from 40% to 32 %and further to 24% in current budget (2003-04) as part of the excise duty rationalisation, the duty rate is still high (vis-avis other segments of the Automotive industry). Besides, the customer has to pay other taxes such as road and registration taxes. The excise cut of 8% undertaken in the Current Union Budget (2003-04) was passed on to the consumers by the OEMs through immediate price reductions across the board. However, given the increasing cost pressures (partly from increase in the input prices) on manufacturers, these price cuts may be difficult to sustain in the medium term.

Environmental Standards: The National Auto Fuel Policy

The principal environmental standards in India are the Euro I and Euro II norms, which regulate vehicular emission in terms of pollutants such as carbon monoxide (CO), hydrocarbons, Nitrous Oxides (NOx) and suspended particulate matter. While Bharat I (Euro I) norms were applicable for vehicles registered from June 1, 1999, after April 1, 2000 only Bharat II (Euro II) compliant vehicles could be sold in the National Capital Territory. Now, the Bharat II norms are applicable to the four metropolitan cities of Delhi, Mumbai, www.icraindia.com Page 11 of 15

INDUSTRY COMMENT THE INDIAN PASSENGER CAR INDUSTRY

Chennai and Kolkata. The cost of developing an engine technology that met Bharat II standards was around Rs. 30,000-35,000 per vehicle. Coming in at a time of excess capacity and demand slowdown, automobile manufacturers were not able to pass on this high cost to customers, which in turn affected the manufacturers margins. The Government of India has recently announced the National Auto Fuel Policy. The committee on Auto Fuel Policy, headed by Mr. R.A. Mashelkar, has recommended that Bharat II norms, which are in place in the four metropolitan cities of Delhi, Mumbai, Chennai and Kolkata, be extended to Bangalore, Hyderabad, Ahmedabad, Pune, Surat, Kanpur and Agra latest from 1St April, 2003. It has also suggested that the norms be further extended to the entire country from 1st April, 2005. The Mashelkar Committee has recommended that Euro III equivalent emissions norms for all categories of vehicles be introduced in the seven megacities from April 1, 2005 and extended to other parts of the country from 2010. Estimates suggest that for producing vehicles that are compatible with the proposed emission norms, the automobile industry would be required to invest a significant amount (estimates range from Rs. 250 billion to Rs. 350 billion). Further, SIAM has also estimated that adoption of new technologies for compliance of norms for lower level of emissions may increase the cost of passenger cars. For instance, SIAMs estimate for increase in the cost of passenger cars (excluding taxes) to comply with the Euro III emission norm (from the current Euro II) is at Rs. 0.05 million per vehicle.

Auto Policy, Government of India, 20025

The Government of India approved a comprehensive automotive policy in the year 2002, which aims to promote an integrated automotive sector that can achieve sustainable growth. The policy, inter alia, seeks to: Make India an international hub for manufacturing small, affordable passenger cars and a key centre for manufacturing tractors and two-wheelers for sales worldwide. Ensure a balanced transition to open trade at minimal risk to the Indian economy and the local industry. Provide a conducive environment for modernisation and facilitate indigenous design, research and development Assist development of vehicles propelled by alternative energy sources Develop safety and environmental standards at par with international standards.

Identifying the lack of volumes (both in the automotive and components sectors) as a major impediment constraining efficient production, the policy proposes a set of measures as discussed here.
Foreign Direct Investment: Automatic approval to be granted to foreign equity investment up to 100% for the manufacture of automobiles and components. Import tariff: Import tariffs are proposed to be fixed in a manner so as to facilitate development of manufacturing capabilities as opposed to mere assembly. For motor cars and MUVs, the import tariff is proposed to be so designed as to give maximum fillip to manufacturing without extending undue protection. Incentives for Research and Development (R&D): The weighted average tax deduction under the Income Tax Act, 1961, for automotive companies is proposed to be increased from the current level of 125%. Further, the policy proposes to include vehicle manufacturers for a rebate on the applicable excise duty for every 1% of the gross turnover of the company expended during the year on R&D. Environmental Aspects: Adequate fiscal incentives are proposed to be given to promote use of low emission auto fuel technology (in line with the Auto Fuel policy). The auto policy states the Governments intent to align domestic policy with the international practice of imposing higher road tax on used old vehicles so as to discourage their use. Further, recognising the need to support the development and introduction of vehicles propelled by alternate fuels (Hybrid vehicles, vehicles operating with batteries and fuel cells), the policy proposes a long term fiscal structure to be put in place to facilitate their acceptance. Other measures: Recognising the importance of small cars (cars not exceeding 3.80 metres in length) in the domestic market and the potential India holds to become an international hub for the manufacture of small cars, the policy emphasises the need to spur growth in this segment through fiscal incentives. Considering the importance of the MUV segment in the rural and semi-urban areas, the policy states the need to provide fiscal incentives to this segment.
The Auto Policy, Government of India, 2002 has been discussed in this report with respect to the passenger car and MUV segments

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TRENDS

I N T H E I N D I AN P AS S E N G E R C AR M AR K E T

Changing Face of the Indian Passenger Car Industry

New Generation of Engines: Multi-point Fuel Injection, Turbo-charging, Common Rail Direct Injection

Entry of Foreign Manufactures

Distribution Systems: Changing relationship of manufacturers with dealers and suppliers

Manufacturing Technologies: Flexible Manufacturing Systems, Indigenisation

Auto Finance: Better/Cheaper Schemes Tie ups between manufacturers and financiers

Emergence of a New Passenger Car Industry

Components: Tierisation; Tyres: Radials, Retreading

Regulatory Framework: Removal of QRs, Stringent Environmental Standards

Changing Structure of Demand: Change in the Industry Segmentation, Increased preference for compact and mid size cars

Materials: Low weight; Synthetic Composites

Value Added Service: Development of vibrant used car market, Leasing and Fleet Management Services, Car Financing

Changing OEM-Supplier Relationship

The passenger car industry, worldwide and in India, is undergoing significant changes. Many OEMs the world over have undergone consolidation and restructuring. The relationship that the OEMs have with their suppliers and dealers is also changing. Further, system supply of integrated components (in select cases) and sub-systems is gaining importance, with individual small components being supplied to the system integrators instead of vehicle manufacturers. With foreign players increasingly dominating the markets, a shift in the way business is conducted by suppliers, assemblers and marketers is being witnessed.

Changing OEM-Customer Relationship

The Indian car industry is moving up the learning curve. However, with competition among firms intensifying and new models being launched, the market has transformed into a buyers one. There has been an increase in the bargaining power of buyers while the power of suppliers is on the decline. This led to the industry providing technologically superior models (equipped with more features and better style) at competitive prices and consumers getting attractive finance schemes and various cars off the shelf. Further, there are opportunities for players to spot gaps in the market and cater for particular niches like sports utility vehicles (SUVs). The key strategies in the Indian car market will be offering good-quality cars that provide value for money, running innovative marketing campaigns to attract potential buyers, and providing excellent after-sales service. Companies (like MUL), which have a range of vehicles in all the www.icraindia.com Page 13 of 15

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segments of the market, will be at a significant advantage because of their ability to cross-subsidise models.

Greater participation in downstream activities

Many car manufacturers have forayed into areas such as car financing, leasing and fleet management, and second-hand cars business to complement their mainstay business of selling cars. In the light of the increased competitive intensity, car manufacturers have entered into these allied areas to offer better services to their customers. As financing is one of the key factors in the buying decision of a customer, various passenger car companies such as MUL are participating in the process of making finance available to customers through dealers. By tying up with a host of banks and finance companies, car manufacturers are offering their customers a wide range of financing options. Among other services related to the passenger car business is the business of leasing and fleet management which car manufacturers have taken up to offer value added services to their corporate clients. For instance, Fiat India has put in place a dedicated team and defined a competitive corporate sales policy for management of fleet. Also, MUL is marketing its leasing and fleet management services among its corporate clients under Maruti N2N brand. Besides these activities, dealing in pre-owned car market is another area that has attracted the interest of quite a few car manufacturers. The pre-owned car market is dominated by the unorganised sector, where the concerns are lack of transparency in car valuation, absence on assurance on quality, and presence of significant documentation risks. The entry of organised players (such as MUL through its True Value scheme) may help existing car owners to sell their pre-owned cars in exchange for schemes with organised sector players (mostly car manufacturers) and at a fair value, thus providing a demand to new car. As competition intensifies, the focus on value-added services is likely to increase, since, in addition to augmenting the revenue stream of the manufacturers, these services hold synergistic benefits in the long term for their core products.

PROSPECTS
While the Indian automotive industry has certainly come a long way since the opening up of the sector in 1993, it still falls short on many parameters when compared with the global automotive industry. A comparison, with other economies at similar levels of GDP, shows lower vehicle penetration in India. The domestic passenger car industry was reeling under the pressure of excess capacity and low demand in FY2001 and FY2002. The demand picked up in FY2003 on the back of price cuts (following excise duty rationalization and partly on account of discounts during H2FY2003) besides attractive finance schemes. ICRA expects that the demand for passenger cars is likely to maintain the growth momentum in FY2004 (in the first half of the current fiscal, passenger cars sales, including exports, grew by 29% over the like period the previous fiscal). Given that the current list of positives for the Indian economy outweighs the list of negatives, there is enough reason to believe that growth in demand may be strong in the coming months. In particular, the factors that evoke optimism include the good news on certain macro-fundamentals. According to the meteorological department, rainfall for the country as a whole during June 2003 to September 2003 was 2% above normal. Additionally, the rainfall has been evenly distributed across the country. Interestingly, taking into account the good monsoon, there has been a spate of upward revisions in the growth rate for Gross Domestic Product (GDP) for FY2004 to beyond 6%. Additionally, a certain steps have been initiated (including that in the FY2004 Union Budget) to provide impetus to demand for passenger cars. Some of these are: Reduction in vehicle excise duties from 32% to 24% Reduction in peak rate of customs duty from 30% to 25% that may affect the cost of vehicles brought in through CKD/SKD route Proposed rationalisation of the tax structure (through implementation of Value-Added-Tax)

Taking into account the current uptrend in passenger car demand, ICRA expects the demand for passenger cars (including exports) to grow at the CAGR of 8% during FY2004-2007. The growth trends, however, are likely to vary across segments (Mini, Compact, Mid-range, Executive, Premium and Luxury). Although the Mini segment is expected to sustain volumes, it may continue to lose market share with growth in the medium term being led largely by the Compact and the Mid-range cars.

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Table 6 Demand Projection for Passenger Cars

Passenger car sales FY2003 (Actual) 611715 FY2004 (Forecast) 666248 FY2007 (Forecast) 838845 CAGR 8%

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CORPORATE & REGISTERED OFFICE

ICRA Limited
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