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CRISIL Insights

March 2011

Credit Outlook For Domestic Passenger Car Industry: New Heights, Steeper Competitive Slope, Stable Ratings
Analytical contacts:
Sudip Sural Head - Corporate and Government Ratings Tel:+91-11-42505148 Arun Gupta Senior Manager - Corporate and Government Ratings Tel:+91-22- 3342 3103 Email: Ramesh Karunakaran Manager - Corporate and Government Ratings Tel:+91-44-6656 3141

Executive Summary
CRISIL believes that volumes in the domestic passenger car and utility vehicle markets will grow at healthy levels over the medium term and reach 3.91 million in 2014-15 (refers to financial year, April 1 to March 31) from 2.5 million in 2010-11. While this augurs well for the sector as a whole, the competition is expected to intensify further due to the entry of new players in the compact car segment, and new model launches. The intensifying competition is expected to put pressure on the operating profitability of all players. The rated passenger car and utility vehicle players in CRISILs portfolio are likely to effectively counter these pressures on the back of their healthy business risk profiles. They also benefit from strong financial risk profiles, which enable them to absorb the competitive pressures. For the subsidiaries of global car makers, the ratings will derive support from a significant credit support from global parentage. This article explains the strategies being adopted by these companies to tide over the competitive pressures.

Global and domestic auto players have undeniably accepted the secular growth prospects of the Indian passenger car market. The domestic passenger car and utility vehicles industry grew at a compound annual growth rate of 14 per cent in the past decade and is expected to maintain this growth rate over the five years ending 2014-15. This will push the domestic car and utility volumes to 3.9 million by 2015. Attracted by the strong underlying demand and healthy growth


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opportunity, the number of players and models in the compact car segment has increased and is expected to increase further (refer Table 1). The compact car segment accounts for around 60 per cent of the domestic passenger car and utility vehicles volumes.

Table 1: Trends in number of players and models in compact car segment

Year No. of players in compact car segment 7 7 9 10 No. of models in compact car segment 14 17 24 24

2007 2008 2009 2010 Source: SIAM and CRISIL

With more number of players and models vying for a share of the growing pie, the intensity of competition in the domestic car market is set to further increase.

Competitive pressures will squeeze the cash flows per model Sales volumes per model will decline
As the competition intensifies, sales per model will decline compared to the past. In the compact car segment, the average sale per model has declined by 11 per cent between 2006-07 and the nine months ended 2010-11. The blockbuster models of Maruti Alto and Swift sold more than 1.5 million and 0.5 million by December 2010 since their launch in 2000 and 2005, respectively. Similarly, Santro sold more than a million units since its launch in 1998. However, with increasing number of players and models, the high levels of volumes per model that was achieved for Alto, Swift & Santro will be difficult to achieve.

Variable profits per unit sales will also decline

The variable profits per unit of sales will decline due to intensifying competition. Intense competition increases selling and marketing expenses for every car. For instance, selling and distribution cost increased to around Rs.9000 per unit in 2009-10 from around Rs.6800 per unit in 2004-05 for Maruti. Intense competition also impacts the royalty costs for companies with a global parentage; this is because companies need to constantly upgrade their models with advanced features. Marutis royalty cost increased to Rs.15,400 per unit in 2010-11 from Rs.3700 per unit in 2004-05. Furthermore, as players fiercely protect market positions, their ability to fully pass on increases in raw material costs to customers reduces significantly.

For instance, raw material cost as a percentage of sales has increased on an average by 100 to 200 basis points (bps) in the past nine months, and operating profitability as a percentage of sales is expected to decline by 300 bps in 2010-11. The negative trend in operating profitability is expected to continue in 2011-12.

Robust product pipeline and lower variable profits will result in pressure on profitability
To sustain their market positions and improve overall profitability, players are expected to regularly launch new models and refresh old ones. Strengthening the depth and width of the product pipeline will result in increasing budget for product development. For instance, it takes anywhere upto Rs.5 billion to refresh an old model and more than Rs.10 billion to launch a model on a completely new platform. With lower sales volume per model, these fixed costs will be that much more difficult to cover. Along with lower variable profits, this will put pressure on players operating profitability.

CRISILs rated portfolio will not be affected despite increasing competition

CRISIL believes that its portfolio of rated passenger car and utility vehicles (Table 2), representing more than 90 per cent of the volumes of the domestic passenger car industry, is unlikely to be affected by competitive pressures in the sector. The following factors will help them sustain their credit risk profiles:

Table 2: CRISIL-rated passenger car players and their outstanding credit ratings
Company 1 2 3 4 5 6 7 8 Fiat India Automobiles Ltd (Fiat) Hyundai Motor India Ltd (Hyundai) Mahindra & Mahindra Ltd (M&M) Maruti Suzuki India Ltd (Maruti) Skoda Auto India Private Ltd (Volkswagen Group) Tata Motors Ltd (Tata Motors) Volkswagen Group Sales India Pvt Ltd (Volkswagen Group) Volkswagen India Pvt Ltd (Volkswagen Group) Rating BBB+/Stable P1+ AA+/Stable/P1+ AAA/Stable/P1+ A/Stable AA-/Stable/P1+ A/Stable A/Stable/P1

Healthy scale of operations of Maruti, Hyundai, Tata Motors, and M&M

Among the CRISIL-rated entities, Maruti, Hyundai, Tata Motors, and M&M have built healthy market positions, which will enable these players to enjoy significant scale benefits in a growing market. The benefits of improving scale and higher capacity utilisation will help them offset the competitive pressures arising out of lower profitability per model. Both Maruti and Hyundai have effectively leveraged their association with the parent to develop a successful pipeline of new models. Maruti dominates the domestic car industry with a market share of 49 per cent, followed by Hyundai (19 per cent). Hyundai also has a healthy share in the export segment, with a market share of 53 per cent. Tata Motors ranks as the third-largest player in the domestic passenger car segment with a market share of 13 per cent, while M&M enjoys pole position in utility vehicles (53 per cent). Tata Motors and M&M also enjoy the benefits of a diverse business position owing to their presence in other segments of the auto industry.

Parent support offsets improving scale of operations in Volkswagen and Fiat

The Volkswagen group (owned by Volkswagen AG; rated A-/Negative/A-2 by Standard & Poors) and Fiat (50 per cent owned by Fiat SpA and 50 per cent by Tata Motors; rated BB/Negative/B by CRISIL) are in the early stages of their operations, with their scales gradually ramping up. Hence, the ability of these companies to withstand competitive pressures will be moderate. However, the rating factors in support from the parent in terms of business and technical assistance, which is likely to provide stability to the rating.

Strong financial risk profiles to absorb competitive pressures

CRISIL-rated players also have strong financial risk profiles to withstand competitive pressures. Over the medium term, Maruti is expected to have conservative gearing of less than 0.1 times, and Hyundai and M&Ms gearing2 is likely to remain between 0.5 and 0.8 times. Although Tata Motors gearing will remain between 1 and 1.5 times, it enjoys healthy cash accruals due to healthy and improving operating profitability in Jaguar & Land Rover. The Volkswagen group and Fiat will not have conservative gearing due to their early stages of operation; however, they enjoy the financial support from the parent.


Aggregate Gearing (Maruti, Hyundai, Tata Motors, and M&M)


0.80 0.66 0.54





CRISIL-rated companies are also adopting various strategies to counter competitive pressures: Alliances and Joint Ventures (JVs)
Alliances and JVs are seen as a way to share the high costs of product development, achieve a larger critical mass, and improve geographical coverage. For instance, Volkswagen AG (parent of Volkswagen group) formed an alliance with Japans Suzuki Motor Corporation (parent of Maruti) in 2009. As a result of this global alliance, the Volkswagen group and Maruti can tap into each others strengths in the domestic market. Maruti has key strengths in its low-cost manufacturing base and strong distribution and service network, while Volkswagen has a strong expertise in diesel engines.

Derive more models from a platform

CRISIL-rated players have successfully controlled product development costs by sharing vehicle platforms and launching newer variants from a single platform. Platform-sharing and advanced and flexible manufacturing technology enables automakers to substantially reduce product development and changeover times. Maruti, Hyundai, Tata Motors, and M&M have launched several new models from their existing platforms.

Increase localization
In order to launch products at competitive prices, domestic auto makers are relying on their ability to build a cost-effective, volume-driven, and quality-oriented supply chain. As auto majors increase localisation, new models can be launched at competitive prices at a faster pace. Increase in localisation also reduces the currency impact of imports. Maruti, for instance, increased its localisation to around 90 per cent in 2009-10 from 79 per cent in 2003-04.

Competitive pressures are expected to increase in the form of lower sales per model and lower variable profits per unit sold. However, passenger car manufacturers rated by CRISIL are expected to display stability in ratings. CRISIL believes that the healthy growth in opportunity in the domestic market and accompanying scale will enable Maruti, Hyundai, Tata Motors, and M&M to withstand profitability pressures arising from competition. Maruti, Hyundai, Tata Motors, and M&M also enjoy strong financial risk profiles to withstand the competitive pressures. The Volkswagen group and Fiat are in the early stages of operations and hence may not enjoy the scale benefits to withstand competitive pressures; however, both enjoy parental support to provide stability in ratings. Furthermore, the strategies adopted by the rated players will also help them tide over the profitability pressures arising from competition.

Disclaimer CRISIL has taken due care and caution in preparing this report. Information has been obtained by CRISIL from sources which it considers reliable. However, CRISIL does not guarantee the accuracy, adequacy or completeness of any information and is not responsible for any errors in transmission and especially states that it has no financial liability whatsoever to the subscribers/ users/ transmitters/ distributors of this report. No part of this report may be reproduced in any form or any means without permission of the publisher. Contents may be used by news media with due credit to CRISIL.

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