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India’s changing middle class tastes whet the appetite for automobile finance
Henry Ford invented the first automobile, right? Wrong. The first automobile was actually invented by Sam McLaughlin, a Canadian from Oshawa, Ontario. He went into partnership with American David Buick to mass-produce McLaughlin-Buick vehicles, a year before the Model ‘T’ arrived. Subsequently, car registration climbed from 178 in 1903 to just over 2,000 by 1908. Selling cars was a challenge during this period, until an extraordinary salesman and entrepreneur, William Durant, entered the fledgling automobile industry. William ‘Billy’ Durant founded General Motors and was the first to introduce automobile financing. Automobile loans were not common in India until the 1990s, and were restricted to the rich. Ordinary citizens did not or could not take loans because they didn’t earn enough or thought that it was less important to own a car when compared to other essential needs. They feared the risk or were more interested in saving for the future. All that changed with the liberalization of the Indian economy around 20 years ago. This paper analyzes the impact of affordable automobile loans in the middle class consumer mindset and its long term impact and implications on the Indian society.
Consumer perception and scenario in the 80s’
The consumer mindset of the 1980s was one of caution and savings orientation. Government jobs - low paying, but secure - were preferred. People couldn’t aspire beyond one house, and spent their entire working life paying for it. Owning a vehicle was low priority and the absence of easy, low cost vehicle finance was a further dampener. If one analyzes the balance sheet of the banks in the early 80s, the percentage of vehicle loans (individual personal vehicles) in the books of the bank, when compared to the overall asset size of the bank was very less. The number of products under vehicle loan category offered by banks and the demand for loans from customers was very less.
Emergence of automobile finance in India and role of banks
The liberalization of the Indian economy in the early 90s’ brought in a host of foreign investors and banks which revolutionized the growth of industries across the economy. There was special focus on the automobile industry, which produced passenger cars and multi-utility vehicles, since it contributed significantly to the GDP growth of our country. Job opportunities in automobile, IT and other industries increased the wealth and purchasing power of the middle class manifold; people who couldn’t afford a single vehicle, were now buying luxury cars or expensive two -wheelers. The automobile industry responded to the robust demand with both high-end and affordable models, and approached banks and financial institutions to offer vehicle finance at competitive rates. Both these measures accelerated the automobile industry’s growth.
Consumer perception and scenario from the 1990s’ onwards
The trend started changing in the early 1990s. There were better job prospects because of the privatization of the Indian economy and the disposable income of the middle class was high. With the availability of a plethora of easy options and auto loan at reasonable rates of interest, owning ‘the dream car’ was now a reality for the average middle class consumer. The above factors have contributed significantly in changing the customer mind set from being ‘risk averse’ to being seen as ‘risky investors’, as they started to purchase houses and cars through home and car Loans. Indian banks and financial institutions offered a variety of automobile loans, as listed below: Margin Money Scheme: Under this scheme, the borrower is required to pay margin money of at least 10% of the total loan amount, along with one Equated Monthly Installment (EMI). The balance is paid through post-dated cheques across the tenure of the loan. Advance Equated Monthly Installment Scheme: This scheme offers 100% financing. The borrower has to pay up to five EMIs in advance and the balance through post-dated cheques across the tenure of the loan. Security Deposit Scheme: Under this scheme, the borrower is required to make a security deposit against the loan amount, which is refunded at the end of the tenure. This is the most widely used type of loan. Hire Purchase Scheme: This is an agreement to let the car on hire, under which the hirer has the option to purchase the car subject to certain conditions. Hire purchase is mostly offered by non-banking Finance Companies. Lease Financing Purchase: A lease is a hiring contract between the owner of an asset (the lessor) and its user (the lessee). The ownership rests with the lessor, who gives the right of usage to the lessee for an agreed duration in return for periodic payments.
Automobile finance growth factors
Research says that 75% of vehicles purchased in the last decade were financed through loans. Here are the key drivers of this growth: • Liberalization of the economy to allow entry of private sector banks and other financial institutions Economic growth, especially in the IT sector, leading to higher disposable income. Young professionals buying their first vehicle barely a year or two into their jobs Securitization of automobile loans in the aftermath of the 2008 financial crisis • • Availability of credit data, enabling banks to offer higher ‘loan to value’ and balloon installment schemes at affordable EMIs. Also, availability of loan management software enabling banks to launch market and track products easily. Spread of automobile finance to hitherto underserved locations, as automobile manufacturers and distributors set up shop across the country Emergence of direct selling, collection and recovery agents, supporting banks throughout
the lending life cycle, from origination to processing to recovery. This also increased competition and forced banks to enter untapped rural markets with motorcycle loans at discounted rates of interest
Fund and non-fund bank advances to automobile companies, spurring expansion
AUTO FINANCE (CARS)
New car units sold (Nos.) Car Industry sales volume(` cr) Growth Cash sales(` cr) Cash sales Finance penetration(` cr) Finance penetration Customer margin(` cr) Customer margin Auto finance market(` cr) Auto finance growth
GROWTH 21.5% 11.3%
51,113 21% 12,778 25% 38,334 75% 5,750 15% 32,585 21%
56,975 0.1% 19,941 35% 37,034 65% 6,296 17% 30,738 -11.7%
56,902 11.3% 15,933 28% 40,969 72% 6,145 15% 34,824 6.9%
72,683 27.6% 21,805 30% 50,878 70% 7,632 15% 43,247 40.7%
98,380 35.4% 27,546 28% 70,834 72% 10,625 15% 60,209 39.2%
Source Kotak Mahindra Prima
The automobile finance offered by banks and financial institutions at affordable rates of interest has paved the way for the growth of the automobile sector in India. Various schemes and features are available to consumers which can accommodate their every need, thus luring them into a financing option. The Indian automobile sector has come a long way since the first car was manufactured in Mumbai in 1898. Today, it is one of India’s key industries and a pillar of the economy, employing over 10 million people directly and indirectly. The Indian automobile market has claimed global attention, being the second largest two wheeler market, fourth largest commercial vehicle market, and eleventh largest passenger car market in the world, and poised to become the third largest automobile market next only to the United States and China. Industry growth fueled by the middle class ’s appetite for luxury cars has tripled the disbursal of automobile loans in the last few years. As Indian society abandons its erstwhile savings culture for a consumerist, indebted lifestyle, there is concern about its ability to fund its retirement years in the absence of a Government sponsored social security program. This is already being manifest as a higher retirement age, extending well into the 60s. The Government has a big task on hand to introduce proactive measures to combat potential economic imbalances arising from these trends. Against this backdrop, it is natural to ask whether it is worth the while of a middle class household to spend half its income repaying the loan on a luxury car. However, as long as banks continue to offer attractively priced loans, consumers will succumb to temptation.
1. Maps of india.com 2. Indiabusiness.nic.in 3. Livemint.com 4. iloveindia.com 5. thehistoryof.netmotorbeam.com 6. Surf India.Com 7. Business.mapsofindia.com
Reghunathan Sukumara Pillai
Industry Principal, Finacle, Infosys
Jayanthi K J
Principal Consultant, Finacle, Infosys
Finacle from Infosys partners with banks to transform process, product and customer experience, arming them with ‘accelerated innovation’ that is key to building tomorrow’s bank. For more information, contact Finacleweb@infosys.com www.infosys.com/finacle
© 2012 Infosys Limited, Bangalore, India, Infosys believes the information in this publication is accurate as of its publication date; such information is subject to change without notice. Infosys acknowledges the proprietary rights of the trademarks and product names of other companies mentioned in this document.
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