Indian Passenger Vehicle Sector

Consumer sentiment weakens on rising interest

ICRA Rating Services

Since the beginning of the current fiscal, the industry has witnessed slowdown in demand partly contributed by rising interest rates and fuel prices, cumulatively impacting consumer sentiment. During Q1 FY12, the domestic market has grown by only 8.7% on YoY basis. Within segments, small cars, which accounts for almost 80% of total volumes has been impacted the most, witnessing a marginal growth of 4.3% during the quarter. While trends vary across segments, the premium & luxury end segment of both passenger cars and Utility Vehicles (UVs) continues to remain somewhat insulated by macro-economic headwinds, registering a healthy growth.

Our channel check suggests that since April 2011 footfalls at dealerships have reduced and so have the conversion ratios (from enquiries to actual purchase). Much of the slowdown is on account of weakening consumer sentiment amid rising interest rates and increase in fuel prices. Consumers have also deferred purchases in anticipation of host of new launches expected in the H2 of current year. As a broader trend, inventory levels have increased at dealerships from 20-30 days (on steady state basis) to as high as 50-60 days (for some models). With increasing petrol prices, demand for diesel-backed cars has risen with hot-selling models having long waiting periods. The benefits of diesel vehicles, however, could reduce in the event of any increase in excise duty specific for diesel vehicles and/or implementation of dual pricing of diesel (personal and commercial use). We believe the growth momentum to pick up from the start of festive season, which will also be coupled with launch of certain new models across segments.

Overall, we expect the growth momentum to slowdown during the current year and expect industry to grow by 7-8% in FY12. Export volumes are also likely to remain subdued considering the weak demand from European region. We maintain our long-term five year CAGR growth rate at ~11%. The Indian passenger vehicle industry has been on a strong growth phase over the past decade riding on back of strong economic growth, rising disposable income levels, favourable demographics and adequate financing availability. The strong pace of new vehicle offerings by new OEMs and relatively low penetration levels have also contributed to the growth momentum. Over the past years (i.e. 2007-11), the industry has grown at CAGR of 16.3% with growth being particularly strong in the past two years.

 
Growth momentum losing steam

Slowdown is strikingly visible in PV segment. Within the industry, the cars segment grew by 7.2%, while UVs and Multi Purpose Vehicles (MPVs) reported a growth of 5.1% and 29.2%, respectively in Q1 FY12. While April and May were relatively better months, partly helped by increase in inventory position at the dealer level; June and July sales have been significantly weaker given the destocking done by dealers.

Among segments, the small car segment, which accounts for over 80% of the volumes has been impacted the most, while mid-size segment owing to new product launches has been somewhat insulated from the slowdown so far. The premium & luxury end segment of both cars and UVs also continue to post steady growth due to low-base effect and by virtue of being relatively inelastic to rise in ownership cost.
 
 
Rising interest rates & fuel prices impacting consumer sentiment

In our opinion, rising interest rates and fuel prices largely impacts consumer sentiment as it has relatively small impact on incremental outgo from an average monthly household income. For instance, the EMI for a 5 year loan on mid-size sedan with a price tag of Rs. 6.0 lacs increases by only 2.3% (i.e. Rs. 250/EMI) for every 100 bps increase in interest rates and the impact of fuel price hike is also negligible on household income levels (as shown in table below).

In our view, availability of finance plays a much important role in driving demand for cars in comparison to movement in interest rates. In India, over a longer period, interest rates have declined, and remain much below historical highs supported by favourable interest rate regime and relatively healthy performance of the asset class amongst various consumer finance categories. This has also encouraged lengthening of tenors and LTVs, further facilitating flexibility for consumers.

 
Competitive pressures intensifying; new players gaining market share

In line with our expectation, the competitive pressures in the Indian passenger vehicle industry continue to intensify given the momentum with which new OEMs are increasing their presence in the domestic market. The strong growth prospects and growing size has attracted most OEMs in the Indian markets and with favourable response to multiple launches, the market share of new players (as shown in the Chart 2) continues to rise.

While we believe, incumbents will continue to derive competitive advantage on back of their strengths in low-cost manufacturing (especially in the small car segment), established vendor base, strong brand identity and wide-spread distribution & servicing reach, such an advantage is likely to diminish in the long-run as new players with global experience gain brand recognition and expand their product offerings and network.

 
Presence in the small car segment (with superior product offerings), a spread out dealership and servicing network and competitive pricing on back of locally sourced auto components are going to be key factors in determining market share gains.

Mid-size segment likely to see many launches including refurbishment in the sub 4,000mm category

Apart from host of launches expected in the near term, another trend that is being witnessed by the industry is the introduction of refurbished models of existing platforms to qualify for lower excise duty benefit offered on car that are less than 4,000 mm in length (with engine size less than 1.2 litre on petrol & 1.5 litre on diesel cars).

While Tata Indigo CS was the first car with a trimmed boot to take advantage of this duty cut, others OEMs have also lined up trim downed models to benefit from lower excise duty, which in our view brings down the cost by almost Rs. 40,000-50,000 per car. Apart from passenger cars, certain MPVs are also likely to come out with their compact versions like Mini Xylo (2011 launch) and VW Bulli (2014 launch).

 
Growth momentum weakening on a sequential basis; competitive pressure likely to increase going forward on back of new launches

After posting consistently strong growth over the past 24 months, the small car segment started witnessing slowdown from April 2011 onwards. During Q1 FY12, the small car segment has grown by only 4.3% on y-o-y basis as compared to 29.7% in FY11.

The impact of rising interest rates and fuel price hike has affected consumer sentiment particularly in the middle income group segment, resulting in slowdown in the small car segment.

New small car launches by foreign OEMs have met with initial success and have eaten into the market share of incumbents - combined market share of top three players in this segment has declined from 91.8% in FY10 to 85.8% in FY11 and 84.1% in Q1 FY12. Also, from July onwards, Maruti stopped production of Swift which has impacted volumes in July.

Competitive intensity in this segment is expected to increase further with the recent launch of Toyota Etios Liva and Chevrolet Beat Diesel, along with host of new launches slated over the short term-Maruti Cervo (Q2 2011), Honda Brio (Q3 2011) Renault Small Car (early 2012), Fiat Small Car (early 2012).

 
Small car segment is also witnessing polarization and widening of price range with growth in sub-1000cc cars on one end (Nano, Alto, upcoming Cervo etc) and relatively higher end and feature packed offerings on the other (Fabia, Polo, i20 etc.).

 
Mid-Size segment performed better than small cars on back of new launches

Contrary to the weak performance of the small car segment, the mid-size segment has so far been insulated by the slowing demand, registering a 24% growth in Q1 FY12 over the same period in the last fiscal. Multiple launches and competitive pricing have been some of the factors driving growth in this segment.

The mid-size segment accounts for ~20% of the domestic car sales and has been growing at a fast pace driven by rising disposable income levels in the middle income group population and new model launches.

Most OEMs have adopted a strategy to launch a notchback versions of their hatchbacks, which has been well accepted by the market.

 
Helping OEMs gain market share

With favourable market response for some of the new launches, Toyota, Volkswagen and Hyundai gained market share from incumbents in the mid-segment.

While Maruti retained its leading position, its market share was affected by production disruption during Q1 FY12, impacting the sales of Swift Dzire, the largest selling model in this segment. Apart from weak demand of Indigo family, sharp decline in Tata Motors market share in this segment also reflects the impact of shift of Indigo CS to the compact segment, which was earlier classified under mid-size segment.

Competitive pressures in the midsize car space are likely to intensify as reflected by price cuts by some of the OEMs and expected launches in this segment. Skoda's Rapid and sedan versions of Nissan's Micra and Honda's new launch Brio are some of the new model launches expected in this segment.

 
Executive segment impacted the most by slowdown

During Q1 FY12, the executive segment posted the weakest performance amongst other car segments. Domestic sale volumes shrunk by 4.3% on YoY basis. Over a longer period, as domestic PV industry matures, the contribution from this segment is expected to increase which is currently low at around 2.5%.

 
 
Growth in Premium and Luxury remains unabated

The premium & luxury segment continues to remain unaffected by the slowdown, registering a growth of 23.0% during Q1 FY12. Consumers' price inelasticity towards rising interest rates, fuel price hikes coupled with low-base enabled the segment to post double growth during the last fiscal.

The growth in the premium & luxury segment continues to remain strong despite increase in vehicle prices on account of hike in custom duty (from 10% to 30%) on pre-assembled parts such as engines and transmission systems, which are now excluded from the definition of CKDs. While some players are pursuing plans to assemble pre-assembled parts at their local facilities, others have absorbed the hike in duties to remain competitive.

 
Participants maintain their market position

The premium & luxury segment of the domestic car market continues to be well shared by leading German OEMs with top four players accounting for almost 90% of the volumes.

 
Utility Vehicles also facing demand slowdown; premium segment remains insulated

In line with broader trend, the UV segment also faced moderation in growth during the quarter. Apart from macro-economic headwinds, production cuts at Toyota's plant due to shortage of components from Japan also impacted volumes to an extent. The premium-end of the UV segment bucked the trend and continued to witness steady growth (up 22.6% on YoY basis) on back of low-base and relatively lower impact of weakening consumer sentiment on rising interest rates and fuel price hike.

The UV segment is expected to largely grow in line with the overall passenger vehicle market with growth being stronger in the lower and upper-end of the segment. A sizeable part of the UV market also caters to the people mover segment, which has also been one of the growth drivers striving on demand from growing IT/ITES sector. In this segment, the industry is witnessing an increasing preference towards smaller MUVs such as Maruti's Eeco. While Tata Motors has recently entered this segment with Venture, other players are also expected to introduce vehicles in this segment.

 
M&M continues to dominate the UV segment

In line with the car segment, top three players continue to dominate the UV segment with cumulative market share in excess of 85%. During Q1 FY12, M&M improved its market share driven by steady growth in Bolero & Xylo volumes.

In the premium segment, BMW gained market share on back of success of X1, its entry level offering in the SUV segment. We expect competitive pressures to increase in the premium segment as both Tata Motors and M&M are in the midst of introducing offerings from their foreign acquisitions - Land Rover Evoque and Ssanyong's Kornado in India

 
Export volume expected to moderate

During Q1 FY12, India's export volumes grew by 12.3% on YoY basis. Growth was primarily driven by scale-up in Nissan' Micra and Ford's Figo overseas sales. Both Maruti Suzuki and Hyundai witnessed a decline.

Overall, small cars continue to dominate the export volumes with a share of over 90%. Europe is the major export destination for India. With weak economic recovery in most European countries and discontinuation of scrappage incentive schemes, the demand from European region has been gradually slowing down.

While we expect export volumes to remain rather subdued in the near term given the macro-economic headwinds in export markets, we believe long-term potential remains strong given India's capabilities in low-cost manufacturing and improving component supply base.

 
 
Nissan Micra exports pushed volumes during Q1FY12

While Hyundai and MSIL are leading exporters, accounting for almost 90% of export volumes, other global players, such as Nissan and Ford are increasingly ramping up production to cater to export demand.