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The Indian Commercial Vehicle Industry

ICRA's Sectoral Review August 2006

Overview

 The Indian commercial vehicles (CV) market is segmented on the basis of gross vehicle weight (GVW) into:
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Heavy commercial vehicles (HCVs);
 
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Medium commercial vehicles (MCVs); and
 
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Light commercial vehicles (LCVs)
 
Trucks are goods carriers, and account for around 87% of sales in the Indian MHCV market. Buses are passenger carriers, accounting for 13% of MHCVs. In the LCV segment, while goods carriers account for over 84% of domestic sales, passenger carriers account for 16%.
 
Importance to the Economy

The fortunes of the Indian CV industry are closely linked to the prospects for road transportation in the country. The two major modes of transport in the country are roads & railways. CVs are an important source of transportation of both goods and passengers. According to NHAI estimates, 85% of the passenger traffic and 70% of freight traffic in India is carried by the roads with the balance being carried by the railways. Further, there has been a long-term modal shift towards roads away from railways with the share of road transport in the overall traffic flows increasing steadily.

The industry has a socio-political importance as the end user industry, i.e the road transportation industry is characterized by strong presence of the small operators (operating less than five trucks); most of these small operator vehicles are self-driven.

As of March 31, 2003, while the total number of registered buses in India were 0.727 million, registered goods vehicles aggregated 3.49 million. Buses and goods vehicles accounted for 6.3% of total number of registered vehicles.

With increased urban road congestion, most experts acknowledge that persuading people to shift from personal vehicles to public transport (buses and trains) is amongst the most important elements of any strategy to meet the growing urban travel demand in a sustainable manner.

Demand Characteristics

Industry Growth

The demand for transportation is directly proportional to the growth of the economy, mobility of population and other related factors,

With the transportation industry being fragmented with small operators estimated to account for 65% of the fleet, the low financial capacity of principal buyer has been the reason behind low replacement demand.
 
The economic recession prevailing during the early 1990s led to declining sales of CVs in FY1992-93. When the economic scenario improved from FY1993 and infrastructure development got a major boost, the industry posted a compounded annual growth rate (CAGR) of 18% between FY1994 and FY1997. The industrial slowdown (that affected the freight demand as well as led to pressure on freight rates) during FY1998-2001 coupled with increase in the diesel prices (that account for over 50% of the transporter's operating cost) had hit the profitability of operators and led to postponement of CV purchases.

The need to replace the aged fleet against a backdrop of low interest rate regime led to a strong replacement demand in FY2002 and FY2003. Besides cost and availability of finance, government policies on emission, overloading and scrapping of vehicles also influence replacement demand. Better replacement demand on account of the stipulation on the age of vehicles entering select cities and better operating economics of new trucks are the major factors supporting healthy demand growth for CVs in the past four years. CV sales volumes in the domestic market were also driven by easy access to low cost finance and entry of new truck financing companies, increased momentum in highway construction and better road conditions, and better operating economics of new trucks (given that the diesel prices continued to rise but the competitive pressures restricted the increase in freight rates).

Key Demand Drivers

Availability of freight: The availability of freight in the economy is directly linked to the overall economic conditions; hence, sales of CVs tend to follow the fortunes of the economy.
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Access to credit: Most CVs (over 90%) are bought on credit, and hence any change in interest rates has an immediate impact on CV sales. Credit to transport operators is typically at higher interest rates, because of the increased risk profile. For example, nearly 67% of SCBs credit to transport operators at end-March 2005 was at annual interest rates exceeding 13%. The growth in CV sales during the last few years has been led by reduced interest rates in the economy. Inspite of a hardening of interest rates since mid-2004, CV sales have increased at a healthy rate because of increased replacement demand and increased demand for road transportation. However, continued hardening of interest rates may impact growth in CV sales volumes. Further, a significant proportion of trucks are purchased by small truck operators in the unorganised sector, who may have to pay a relatively higher rate of interest as compared with large-fleet operators, and are more vulnerable to interest rate fluctuations.
 
 
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Road Quality: Poor road quality affects capacity of transport operators (because of congestion and additional travel time), wear and tear on vehicles, safety, and pollution. In 1996, it was estimated that the economic losses due to the poor quality of main roads were around Rs. 200-300 billion per annum. However, increased Government focus on roads and highway development (such as Golden Quadrilateral or GQ and North-South-East-West or NSEW Corridor) with significant investments already made augurs well for the transportation industry. Such a network may enable further market share gains for road transport over railways, allow for plying of multi-axle trucks (that are more economical) and lead to shorter turnaround time. The GQ phase alone is estimated to result in annual savings of around Rs. 80 billion p.a., at 1999 prices.
 
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Competitive advantage of road transport over railways: Over the years, road transport has started playing an increasing role in transportation, as the share of the railways, in terms of percentage of goods moved, has declined. In fact, there has been a modal shift towards roads away from railways. The share of road freight traffic has increased from around 10-11 % in the 1950s to around 60% in 1995, and 70% at present. The share of road freight has accelerated in the past 20 years with total road freight traffic growing at about 10% p.a., as compared with an average of 5-6% for Railways. For the Indian Railways, freight accounts for 67% of its earnings. However, railway freight traffic was estimated at around 602 million tonnes in FY2005. In net tonnes kilometres, railways' freight traffic is around 400 billion tonnes kms out of a total freight transport traffic of around 950 billion tonnes kms.

Faced with capacity constraints, the railways have chosen to concentrate on the movement of bulk materials for the core sector (power, steel, cement, etc.), thus losing its clientele in the high-value non-bulk sectors which has reported higher growth rates. Indian Railways is also burdened with discharging social obligations, resulting in cross subsidisation, with high freight rates subsidising low passenger fares. Even if the railways were to desire an increase in the share of this traffic, it would still have to depend on road transport to ensure door-to-door delivery.

Nevertheless, competition from railways cannot be ruled out given that there have been various initiatives taken by I ndian Railways to increase its share of freight traffic. This includes announcement of rail freight corridor programme and provision of freight sops for certain commodities transported in the under-utilised routes. The Indian Railways has also reduced its huge employee base by around 0.15 million over the last 5 years, through normal attrition and by controlling the fresh intake, without resorting to retrenchment.

Overall, considering cost and service characteristics, railways generally are best suited to carry, and can compete for bulk commodities and containerised freight for distances of 500-5,000 kms.
 
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Replacement period of vehicles: The replacement cycle for the CVs has relatively been longer in the past given that the road transportation market is dominated by small truck operators who maintained old vehicles and often purchased used trucks. However, the replacement cycle has shortened in the recent years as the restrictions on movement of older vehicles increased and the truck owners realised the better operating economics of modern vehicles. Replacement period of vehicles can also impact demand for CVs. In India, large-fleet operators tend to use a vehicle for around four years, claim depreciation on the vehicle, and sell it to small operator, who uses it for 10-12 years.
 
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Profitability of Transport Operators: The profitability of transport operators also impacts CV sales. The profitability of road transport operators is critically dependent on fuel prices and freight rates. Freight rates are determined by two factors: the quantity of goods to be moved and the number of trucks around to move the goods. The rise in fuel price increases the operating costs of truck operators. If freight rates remain stagnant, the operators are forced to absorb this price hike, which has adverse effect on their margins. Over the last 3 years, there has been an increase in freight rates driven by higher growth in industrial production and increase in fuel prices.
 
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Incidence of Taxes: Transport operators are subject to multiplicity of taxes originating at centre, state and local Government levels. Commercial road transport vehicles are charged annually on the basis of the number of seats for buses and weight for trucks. The motor vehicle (MV) tax for commercial vehicles is State specific and vehicles, operating in a number of states, have to obtain a permit and pay additional MV taxes. Buses and multi-axle vehicles often pay more than private vehicles and smaller goods vehicles. While tax revenues of states from taxes on vehicles, goods, and passengers increased from Rs. 82.52 billion in FY2000 to an estimated Rs. 162.13 billion in FY2005, their share in total tax revenues increased from 8% to 10.1 %.
 
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Average payload: There is a tendency in India to operate CVs overloaded, which, over time, tells on the vehicle performance. The problem is more pronounced in the case of LCVs, which have an intrinsically low overload factor in their designs. The disincentives in terms of penalties, higher running costs and reduced vehicle life have prompted many large operators to reduce overloading, but the smaller operators continue to overload to remain competitive. Recently in November 2005, the Supreme Court in its judgment ruled that issuance of gold cards/tokens under notifications issued by 9 state governments, allowing overloading of trucks in excess of prescribed weight limit after payment of fixed charges, was a violation of MVA, 1988 and Central Motor Vehicles Rules, 1989 and should not only be stopped immediately but also the overloaded cargo should be offloaded at the point of penalty, the cost of which has to be borne by the transporter. However, the extent of implementation of this order would be dependent upon the State Governments ability to do the same. Nevertheless, the Supreme Court judgment implies an immediate reduction in capacity, and the significant growth in the commercial vehicle sales during 2006 reflects that capacity is being increased.
 
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Vehicle prices: Factors like excise duties, diesel prices, and production costs, which have an impact on the prices of CVs also, have a short-term impact on sales.
 
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Fuel Costs: CVs are powered by diesel fuel engines. Retail prices for diesel fuel in India have historically been significantly lower than retail prices for petrol. This has been partly driven by the need to keep road transportation affordable, resulting in lower excise duty for diesel. However, due to the elimination of some fuel price controls in India and global movements in market prices of crude oil, the gap between retail prices of diesel fuel and petrol has been narrowing. A move towards price parity in diesel and petrol can result in a substantial increase in diesel prices, which could adversely affect CV sales.
 
Buyer Profile
 
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Transport operators: This segment includes all fleet operators and owner-operators. There are around 200,000 road transport operators in India. However, most of them are small owner-driven firms. Road freight transportation is highly fragmented with the truck operators owning less than five trucks estimated to account for over 75% of the truck fleet. It is estimated that 77% of truck fleet is under operators who own 5 trucks or less; 10% belonged to those with 6-10 trucks; 4% belonged to those with 11-15 trucks; 3% belonged to those with 16-20 trucks; and only 4% of fleet belonged to those with more than 20 trucks. Thus, the industry is characterised by intense competition. The high competition is the result of relatively lower capital requirement, ease of obtaining driving licenses and permits. The small operators are involved mainly in the physical movement of goods and depend on brokers and other fleet operators who in turn depend on the booking agents for obtaining business. These operators do not have the geographical reach and necessary infrastructure to tap business on a continuous basis, and thus rely on brokers. Fleet operators are the medium and large, organised-sector players in the transportation industry. The large fleet operators are small in number, and generally operate throughout the country. These fleet operators primarily work on a hub and spoke model. The hub and spoke distribution system enables optimisation of costs and higher revenues for the transport companies/ fleet operators. These transport companies generally have formal contracts with the users, which is very rare in the case of small operators. Some larger fleet operators have ventured into offering value-added services such as courier and express cargo business and providing third party logistic services.
 
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Companies: This segment accounts for a small proportion of CV sales. Some companies located in industrial areas use these vehicles primarily for employee and material transportation while a few companies use them for secondary distribution of the goods from warehouses to distributors, such as wholesalers and retailers.
 
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Government organisations: The vehicle purchases made by municipal authorities, State transport undertakings, and various other Government departments primarily include LCVs and special application vehicles.
 
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Private bus operators: There has been a significant increase in the number of private bus operators in the country as State transport undertakings have proved inadequate in meeting the increasing demand for transportation. These vehicles are used as passenger carriers or chartered buses.
 
As discussed, a key characteristic of the Indian CV market is the predominance of small-fleet owners. The low financial capacity of the principal buyers is one reason why replacement demand for trucks is low in India. Another hindrance to the demand for new trucks as well as the adoption of modern technology in Indian CVs is the low freight rates. Freight rates in India are low as they are determined by operators with a fleet largely made up of old vehicles that are fully depreciated.

Goods Carrier Segment

Shift towards MAVs

In India, a host of factors has been encouraging the use of MAV trucks. MAVs offer around 15-20% savings in cost per tonne km basis over standard trucks. The cost advantage derives primarily from better fuel economy per unit of load, which is offset by lesser number of trips and higher capital costs. In addition, one 44-tonne heavy truck, instead of three 15-tonne trucks, means lower traffic congestion on the highways. With the financiers offering lower margin requirements in certain cases, the higher cost of these vehicles that was a deterrent earlier no longer remains so. Although most highways do not have adequate bearing capacity for MAV trucks at present, significantly increased spending on roads and highways projects, and improved operating economics of MAVs are expected to drive demand for MAVs in the medium term. As compared with conventional 2-axle trucks, MAVs cause lower road damage, and lesser costs of repairs of the road network.

Passenger Carrier Segment

The bus segment had witnessed a steady growth in sales volumes during FY2002-04, followed by modest growth in FY2005-06. The MHCV passenger carrier segment has accounted for a lower share of MHCV sales, mainly because of a declining reliance on public transport, alongwith a corresponding rise in the dependence on personal motor vehicles (mainly cars and two wheelers). For example, Delhi is the largest market for personal transport vehicles, and such vehicles account for nearly 95% of registered vehicles. The balance is accounted for by buses (0.5%), goods vehicles (2.7%), and others. This holds true, more or less for other cities in the country as well. Personal transport vehicles account for a small (10-20%) but rising share of travel.

Historically, the bus segment depended heavily on the State Road Transport Corporations (SRTCs) which accounted for a significant proportion of the demand. However, with the SRTCs suffering continued losses, bus demand from this segment has suffered, as reflected in stagnant/declining bus fleet with SRTCs. Further, most of their bus fleet is old, dilapidated, dangerous, prone to frequent breakdowns, and in urgent need of replacement by modern, safe vehicles. Growth in demand for passenger transport and an aging fleet could drive bus demand from SRTCs. However, such demand would be critically dependent on improved financial viability of SRTCs.

In many major cities, another factor promoting bus demand is the recent focus of public transport policy on improved bus transport, including more and better buses. A recent development is the new high-capacity, express bus system proposed for Bangalore and Delhi. As demonstrated by the success of bus rapid transit (BRT) systems in Curitiba, Brazil and Bogota, Columbia, such express bus systems are ideal for cities in developing countries, since they provide many of the benefits of metro rail systems at much lower cost.

Looking forward, MHCV passenger carrier sales are expected to grow at a slower rate of around 10% in the medium-term mainly because of increased reliance on personal transport vehicles, and increased competition from other modes of urban transport, primarily suburban rail. In the MHCV passenger vehicles segment, the demand for express, air-conditioned, high quality buses is expected to grow at a faster rate. CV manufacturers are also taking initiatives to offer fully built modern vehicles.

The Government of India and many city authorities are dealing with the need for expanding the urban public transport infrastructure. Rail-based transport services now available in a few big cities, playa negligible role in meeting the transport demand in other big cities.

Exports

For the Indian CV players targeting export markets, the key success factors are: strong market positions and well recognized brand names, strong product portfolio, efficient operations that provide a flexible low cost structure, high degree of component commonality, economies of scale, increased downstream participation especially for servicing and after sales.

Till recently, the presence of Indian players has been limited to exports to South Asia, Africa and Middle East where the technology (emission norms) requirements are similar to India. Further, Indian players cannot compete with their counterparts in developed economies in areas such as brands, advanced technical and safety features (as for products in developed markets) and product portfolio. Moreover, these players lack presence for the after sales and servicing in the global markets. Nevertheless, some players have forayed in other markets. Some examples include acquisition of Daewoo Commercial Vehicle Company by TML (now called Tata Daewoo Commercial Vehicle Ltd or TDCV) that provides the latter with complementary product portfolio and access to new markets. Another instance is TML's acquisition of a stake in Hispano Carrocera SA, a Spanish bus company. The acquisition provides TML a license to technology and brand rights from Hispano Carrocera SA. ALL has also acquired the truck business unit of AVIA, Czech Republic, which manufactures LCV trucks in the 6-9 tonne segment with an annual production capacity of 20,000 units.

India's CV exports are dominated by LCV goods carriers, which accounted for nearly 60% of CV exports during FY2006.

The medium-term outlook on exports is positive. Exports are expected to increase at around 35-40% during FY2007 to around 55,000 units. MAN Force Trucks intends to use its proposed plant as an export hub for Asia and Africa. Volvo India is also looking at increasing exports of its trucks and buses from India to other Asian countries and to the Middle-East.

Conclusion

CV demand growth in the domestic market in the short-and medium-term is expected to be dependent on factors such growth in GDP and IIP, momentum in highway construction, trends in interest rates, and availability of bank credit. The buoyancy in manufacturing and services sector activities and the positive business confidence and expectations suggest that the recent growth momentum in the Indian economy is likely to be maintained in 2006-07. Real GDP growth from industry is expected to be maintained at 9% plus during FY2007. Besides, the huge investments planned in road and construction projects is expected to result in significant transportation requirements for major raw materials such as cement and steel. Recent rules regarding overloading are also expected to result in greater replacement demand during FY2007 -08.

As a result, domestic CV sales are expected to increase at around 20-22% during FY2007 to 0.43 million units. However, volatility in crude oil prices continues to be a key risk factor.