Project on

Growth of small car and Dealership

Submitted to, Prof. Maumita

In a partial fulfillment of, Master in Management Studies.

Submitted by,

S.Muthupandian– 87

Salil Naik-88
A BRIEF OVERVIEW ON THE INDIAN SMALL CAR INDUSTRY
If there is one big market that is forcing the global auto majors to think small, it
is India. Until yesterday, all the world's auto-manufacturers expected to create success
out of their mid- size products. There were as many as five players in the mid car seg-
ment and just one--the Rs 7,956-crore Maruti Udyog Ltd (MUL)--in the small car seg-
ment.

Suddenly Daewoo Motors India and Hyundai Motors India--are changing lanes
midway, making the small car market as the pivot of their marketing strategy in India.
Couple that with the fact that two domestic manufacturers--the Rs 10,074-crore Tata
Engineering & Locomotive Co. (TELCO) and the Rs 223-crore Kinetic Engineering--are
ready with similar indigenously-designed products to compete in this market. The last
two years has really been the period of war in the small car market.

The story Behind….

The auto majors read the market wrong. Since the small segment was dominated by
MUL with a market share of 96 per cent and given that the Trans –national brands
already had tried-and-tested mid-size models in Indian market, this segment was more
attractive than the existing ones. This perceptual change was because of two reasons.

• The clutter in the large and midsize segment due to entry of many international
players.

• The small segment grew faster than the mid-size one, driven by the price-sensitive
customer.

Both the above factors had an enormous impact on mid-size car manufacturers.
Stung by a sharp 80 per cent drop in sales between April and November 1997, over the
corresponding period in 1996, Daewoo Motors slashed the price of its mid-size car,
Cielo, by an unbelievable 21 per cent. It was the fate of many players in the mid and
large car segment in India.

The Trans-nationals were also serious about developing vendors in India. India
is bound to become an important destination for the global auto industry. It took the
financial turmoil in South East Asia and the slowdown in the Chinese auto market to
reinforce the targeting to Indian Market. The new interest in the small car segment also
reflects certain amount of bullishness on the part of auto manufacturers about India !

Despite projected over capacities--and current losses, carmakers continued to

queue up their investments for small car segment. To day there are 10 global auto
majors--including the $13-billion Suzuki Motor (Japan), the $65-billion Daewoo (South
Korea), the $147-billion Ford (US), the $47-billion Fiat (Italy), and the $168-billion
General Motors (US) operating in Indian Market.

The Pre 1997 Car Market

As late as 1997, the auto market in India was clearly segmented. At the entry level were
MUL's 800-cc car--priced between Rs 2.10-lakh and Rs 2.45 lakh--and the Omni, at Rs
1.75 lakh. At the next level were the 993-cc Zen--priced at Rs 3.70 lakh--and the 999-cc
Fiat Uno (Rs 3.62 lakh). Then came the 1,300-cc Esteem models--priced between Rs
4.69 lakh and Rs 5.95 lakh--the 1,498-cc Cielo (Rs 6.20 lakh), and the 1,598-cc Opel
Astra (Rs 7.52 lakh), followed by premium cars like Mercedes-Benz's E-220 (Rs 22
lakh)

Changing Lanes

Two events have upset the equations in the price-segmented car market.
Daewoo has changed the lanes with the Cielo, which is now priced at Rs 4.90 lakh, and
competes with the Zen's top-end model (Rs 4.40 lakh) and the Esteem's lower-end
version (Rs 4.69 lakh). Ceilo has created a new value segment, where the price is not
proportionate to the size. Daewoo's strategic response has very clearly redefined
differentiation, from price or size to value.

Hyundai Motors India, a subsidiary of the $27-billion Hyundai of South Korea

launched its 999-ccS a n t r o at the Auto Expo 1998 in Delhi. The model comes in five
variants, with the non-air-conditioned, manual transmission model priced at Rs 2.80
lakh, and the semi- automatic, air-conditioned GLS model priced between Rs 3.15 lakh
and Rs 4 lakh. Clearly, Hyundai's strategy is aimed at taking on the market leader,
Maruti Udyog Limited But by pricing the deluxe model at Rs 4 lakh, it is also bridging the
gap between the small and themiddle car segments. At present Maruti’s Esteem LX is
priced Rs 70,000 more than the Santro GLS, while the Cielo is priced Rs 90,000 more.

The further entry of new players will only blur the segments. New entrants will be
involved in price war to find a foothold in the Indian market. Few of the examples
include: TELCO's positioning of its 1,400-cc Indica car--launched in November, 1998
and priced close to Maruti’s 800-cc model as a small car;andH o n d a sneaking its
1,300-ccC it y into the segment vacated by the Cielo although it is an accepted fact that
pricing or positioning cannot be done in isolation. In a crowded market, that must
depend on the available strategic opportunities."

By creating new segments, companies can broaden their market base,

increase capacity utilization levels, pre-empt competitors market entry moves and
importantly lower costs. While Maruti did that by launching three versions of the
Esteem, TELCO accomplished it by using a common platform for the Sumo, the Estate
and the Sierra models; Hyundai is also planning to come to the market with five variants
in near future. At high volumes, costs can be lowered by more than 20 per cent across
variants due to experience curve effect.

Configuring the sticker price for a car in the market today is no more a functional
decision. It has become a strategic decision as it identifies the key segment’s response
elasticity to the market offer. The two key inhibiting factors for the poor response to the
auto war fare in Indian Car Market are basically the low per capita income at $350 (Rs
14,000 at current prices) and the high manufacturing costs. A large part of the
population expected to graduate from two wheelers to four wheelers has not responded
as they were supposed to during this period of time. The domestic auto giant Maruti
Udyog limited, still forces the new players to benchmark themselves against its products
which roll out from a depreciated, yet high-volume plant. It enjoys the fast mover as well
as the cost advantage with the higher capacity utilisation that helps him to cut costs
across as more cars you make, the cheaper they get.
The Protected Giant MUL

MUL, which set up shop in 1984, had 10 long years of relative protection to
emerge as a formidable competitor with high volume and a strong brand image in the
mind of Indian customers. When the industry was deregulated in 1993, the cost barrier
had become so high that new companies could not dare to look at the small car
segment. Instead, they settled for the mid-size segment, where both volumes and
margins were expected to be high. However, a shakeout in the Indian mid-size car
segment, the slowdown in international auto sales pushed transnational auto majors
into India which have now turned the tide against MUL.

The present generation small cars launched recently are more contemporary in
terms of both design and technology while Maruti's small-car technology is at least a
decade old. Keeping the future growth potential of Indian market in mind, the auto
majors are prepared to bear losses for the next 10 years .This will help them to gain a
good market share the long run and provide breathing space to counter the strategic
moves of the leader. Hence, the narrowing price differential between the old and the
new small cars is the first call of the auto majors against Maruti in Indian Market. If
Maruti has to try and match the features of new generation small cars, it would mean
additional costs. On the contrary, if Maruti decides to hold its price line and add new
features, it could translate into losses or at least low profits. But MUL can still bank on at
least two Suzuki models: the proposed 657-cc Cervo C and the current 996-cc Wagon
R to battle its rivals in the future.
The Advent of the Auto Majors
Besides bracing up for losses in the initial years, auto majors like Hyundai and
Daewoo are banking on exports too. At the moment export may look unattractive
because of the South Asian meltdown but in the long run, low production costs and
component-manufacturing skills will make India- made cars competitive at global
market place. Hence they are looking India as a production base to cater to the
growing Asian market by way of outsourcing from Indian manufacturing base. However
many a hurdles they have to cross on the journey to profitability.

The investments necessary for a large plant are simply huge. Daewoo has, so far,
sunk Rs 2,700 crore in a 1.20-lakh-unit-a-year plant. Unlike China, which has restricted
the number of companies India has followed an open door policy for car manufacturers,
which has resulted in emergence of fragmented markets with distributed capacity.

An Original Equipment Manufacturer (OEM) needs a minimum economic size of

1.50 lakh cars a year to attract vendor interest. Daewoo was able to slash the Cielo's
price as it is cheaper to import components because of the devaluation of the South
Asian currencies. The auto majors are lobbying with the government to ease the strict
indigenisation norms in the new automobile policy, so that they can import the
components from other countries. This will help them to cut the prices and to go head
on the market leader particularly in a price responsive market like that of small car
segment.

The other argument is that with the given import duty of 103 per cent on
Completely Knocked-Down Kits (CKDs) , which is the same as that on Completely
Built-up Units (CBUs) and 68 per cent on components the imports will become costlier
and compel companies to localize their manufacture. The exposure to currency
fluctuations, which crippled the four Japanese light commercial vehicle projects in the
late 1980s, is also minimal when a company localizes component manufacture.

Besides lean manufacturing techniques like Just-In-Time (JIT) are possible only
when the supplier is located close to the manufacturing unit. If Maruti is a success story,
it is only because it indigenised 85 per cent of its components within five years of going
on-stream. Then, there's the question of servicing the replacement market for spares.
Customers, typically, expect components to be available locally, and at competitive
prices. Imports cannot guarantee that but it' is a tremendous job to localize components
at the right quality and price given the supplier problems in prevalent in India.

An Original Equipment Manufacturer’s competitive advantage lies in its

marketing skills. Having achieved price and technology parity, it can easily woo the
consumer with attractive financing schemes and superior after-sales service. Nudged by
the competition, most auto players have a clutch of schemes to offer: Daewoo Motors
India provides interest- free car finance, Ford Motor and General Motors have slashed
interest rates. MUL's joint venture finance company, Maruti Countrywide, is offering
loans at 13.50 per cent when the prevailing lending rate is 17 per cent and above.

The After Sales Service Scenario

After sales service for cars is as critical as showroom deals. Maruti services its 2
million customers through an army of 174 dealers spread across the country. It will be
impossible for a company to duplicate such infrastructure, particularly with investments
in a metro-based showroom going up to Rs 4 crore. Margins in retailing are moving from
actual sales to after sales service."

The problem of price war is evident with Auto majors as much as with dealers. In
a bid to woo the customers, dealers, particularly in non-prime locations, are cutting their
margins. It will not be surprising if single-brand dealers eventually turn into multi-brand
sellers in future. Doing so will benefit all the three constituents in the marketing chain:
the OEM, the dealer, and the buyer. The carmaker can expand his reach without
expensive investment; the dealer can increase his revenue; and the customer gets a
variety of models and brands under one roof in future.

The local partner will be the loser in this fierce battle. Without the means to
make either matching equity or technological investment, the Indian collaborator will be
driven off the road. It has already happened to the Rs 166-crore DCM, which tied up
with Daewoo Motors, and can happen to both the Rs 1,258-crore Hindustan Motors
(Partner:: General Motors) and the Rs 3,606.57 crore Mahindra & Mahindra (Partner
:Ford Motor).
 So they are reconciled to adopting a minority role or becoming auto component
vendors. This list includes Siddharth Shriram's Rs 430-crore Siel (Partner: Honda), the
Kirloskars (Partner :Toyota) and the Munjals of the Rs 2,000-crore Hero Group
(Partner :BMW). And the evidence is compelling e.g. Hindusthan Motors has a passive
role in its joint venture with General Motors although the Opel Astra is manufactured at
HM's Halol plant in Gujarat. The same can be forecasted about Mahindra and
Mahindra’s joint venture with Ford Motor. What can prolong the life of the joint venture is
distribution muscle, as it will take at least five years for a transnational auto major to
build a strong distribution channel in this country.

By all accounts, the auto industry is headed for a glut. With an estimated
demand for cars to touch 9 lakhs in 2001-2002, the installed capacity will rise to 16
lakhs. So the current growth rate in Indian market is not sustainable. There will be at
least two years of stagnant or declining demand before the resumption of the growth
trend.

There is a projected demand of 1-lakh cars in the mid-segment alone by 2001-

2002. And the car numbers will add up to around 6 lakh a year. That will engender a
shakeout, which is already afoot in the other Asian markets. For instance, poor off -take
and a consequent build-up of car inventories has led to a fierce price-war in China.
Market Potential of Small Car Segment

The demand for the small car will continue to drive growth for the next five
years. Of the total sales of Maruti in 2000-2001around 85 per cent were small cars. The
Esteem's sales dropped in the same period, where as the small cars drove MUL's sales.
So demand for small cars will leap only if certain conditions are fulfilled:

Rise in the Income Levels

In the US, auto demand rises by 4 per cent for every 1 per cent increase in the real
Gross Domestic Product but this is irrelevant for India as only the top 1.50 per cent of
the population can afford a car. The demand can shoot up if the income levels of the top
5 per cent continue to rise in future.

Level Of Motorization

It is stagnant at 1.70 cars per 1,000 people for decades. However, in the post-
liberalization period, the motorization level has leaped to 3.70 cars per 1,000. Although
it is still lower than the levels in the developed markets, motorization is bound to rise
further in the coming years.

Vehicle Prices.

Falling imports and excise duties coupled with competition will continue to boost
demand and the prices are likely to fall further at least in the short run.

Consumer Finance.

Over 60 per cent of customers opt for consumer finance. That figure could go up if
interest rates continue to fall.

Infrastructure

Traffic congestion and bad roads could deter potential buyers from going for small cars
particularly in small cities of India. The future is not very heartening in this aspect.

Product Availability

As manufacturers shift their attention to the small car, more and more people will be
able to afford it and demand will only rise in the future period of time.
The Future

There is a sharp contrast in the buying behavior of Indian Consumer compared

to their western counter parts, yet there is no doubt that Indian car market is going to
increasingly resemble the latter. In the West, the industry is likely to be dominated by
three or four major players. With a likely demand of 11 lakh cars by 2006, there will be a
few niche players like BMW, Mercedes-Benz, and Audi with luxury cars to offer. Unless
car manufacturers have a large range of vehicle to offer, they will be unable to
subsidize their costlier models.

The market will consolidate to few segments. The carmaker has to make diverse
models based on diverse and flexible platforms. Products like the stripped-down
economy car, the sports utility vehicle or the van should be built on the same platform.
For the price-sensitive customers, there can be a no-frills version; a loaded version for
the middle customer and luxury car manufacturers can target the high-end customers.

The fortunes of the automobile industry will continue to hinge on the large, price-
sensitive customers, who will graduate to the higher end of the market over a period of
time. Until then, the small car will continue to drive demand and most of the car-
manufacturers are gearing up for this eventuality.
The-Indian-Four-Wheeler-Market

The 4W industry in India has not quite matched up to the performance of its
counterparts in other parts of the world. The primary reason for this has been the all-
pervasive regulatory atmosphere prevailing till the opening up of the industry in the mid-
1990s. The various layers of legislative Acts sheltered the industry from external
competition for a long time. Moreover, the industry was considered low-priority as cars
were thought of as "unaffordable luxury".

Initially in the post-liberalisation period, the automotive sector, especially the

passenger car segment, 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 suddenly
disrupted in the last quarter of FY1996. The automobile 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
automobile industry. In FY2000, the sector experienced a turnaround, posted positive
growth rates and witnessed the launch of many new models. But the spectacular growth
in FY2000 was followed by a decline in FY2001 and only a marginal growth of 0.5% in
FY2002.

 
However, since FY2003,
industry sales have increased at a 3-
year CAGR of 17.4% to 1.14 million in
FY2006. Although there was a
slowdown in FY2006, after the
high growth in FY2004-05, the
recent high growth has been on the
strength of an increase in the disposable income of middle-income salaried people,
release of pent-up demand, and easy availability of credit.
Low Penetration, but Rising Share of World Production

Although the Indian automobile industry has come a long way since the
deregulation in 1993, India does not rank well among its global peers in many respects,
viz., the contribution of the sector to industrial output, number of cars per person,
employment by the sector as a percentage of industrial employment, number of months'
income required to purchase a car, and penetration of cars.

 
However, the major car manufacturers worldwide consider India a good potential
market and they foresee a large future demand here. As can be seen from the table
below, India is now a major global producer of cars, with India's share in world
production increasing from 1.6% in 2000 to 2.7% in 2005.

Two things that stunted growth of the Indian automobile industry in the past
have been low demand and lack of vision on the part of the original equipment
manufacturers (OEMs). However, the demand has picked up after the liberalisation of
the regulatory environment, and global OEMs who enjoy scale economies both in terms
of manufacturing and research and development (R&D) entered the Indian market. This
has resulted in a significant shift in the way business is conducted by suppliers,
assemblers and marketers.

Spending on Vehicles and Transport

India's private final consumption expenditure (PFCE) on transport was estimated

at around Rs. 3,124 billion in FY2005, accounting for around 16.5% of total PFCE. This
comprises three categories: personal transport equipment, operation of personal
transport equipment, and purchase of transport services.

 
In terms of PFCE, the share of transport in total PFCE has witnessed rapid
growth since the mid-1980s. By comparison, the share remained at around 3-5% till the
mid-1980s.

The motor vehicles sector is also an important source of central excise duties.
Central excise duty collections from motor vehicles were Rs. 54.70 billion during
FY2005, accounting for 6% of central excise duty collections.

 
 
Taxes on vehicles, passengers and goods also form an important component of states'
tax collections, and formed 8.7% of states' own tax collections during FY2005.

Demand--Characteristics

Passenger-Cars

In developed markets, engine capacity and wheel-base are the bases of

segmentation of passenger cars: price does playa role but only up to a point. Since
affordability is the most important demand driver in India, the domestic car market has
until now been segmented on the basis of vehicle price. Price-based competition takes
place in a continuum rather than in segments since nearly all the models are launched
in multiple versions at different price points. As a result, a higher-end variant may
compete with a lower-end variant of a car in a segment above it.

 
MUVs

The MUV segment consists of vehicles that are suited to both rural and urban
areas. In rural areas where the roads are usually bad, these vehicles are used as goods
carriers and also for public transportation. Northern and Western India account for
nearly two-thirds of the demand for MUV. Specifically, in States like Rajasthan, Madhya
Pradesh, Uttar Pradesh and Maharashtra, the demand for MUVs is the largest. There
are three segments of buyers for MUVs: the private market, Government, and the
Defence. Until the 1990s, the Government and Defence segments accounted for the
largest share of the market. The reduction in Government and defence spending since
the 1990s has substantially reduced sales to these two segments. This has pushed
private sector purchases into greater prominence.

 
There are three sub-segments of the UV / MUV segment: the hard-top, soft-top
and pick-up. The hard-top version consists of the higher-end Sports Utility Vehicles
(SUVs) that have been present in the Indian markets since FY1999. Following the
success of the higher-end SUVs, the share of the hard top segment in total MUV sales
has registered an increase. Soft-top MUVs, which are largely dependent on sales in the
rural and semi-urban markets where the vehicles serve as modes of mass
transportation (maxi taxi), have witnessed a contraction in volumes in recent years. The
declining share of the soft-top sub-segment is attributable largely to the increasing
acceptance of SUVs as an alternative to soft-tops (and even higher end-cars). That
apart, soft-top sales have also been affected by a decline in rural income, increase in
sales tax in some states, increase in diesel prices, enforcement of strict emission
control norms, and restraints on the issue of licences to use soft-top vehicles as rural
taxis.

Demand--Structure

When the industry was deregulated in 1993, the global carmakers chose to
operate in the high price-high value segment. However, the strategy did not work as the
market for premium and luxury vehicles in India was not large enough. MUL was
entrenched in the low price-low value segment, and given its scale economies, it could
not be dislodged. In the latter half of the 1990s, foreign car manufacturers changed their
strategy. It was still difficult to remove MUL from its market leadership in the dominant
low price-low value segment as scale economies formed the basis of competition in this
segment. Thus, the global players changed the price-value equation by offering superior
value at a price that was still higher than that of the Maruti 800 and Omni, but
significantly lower than of the cars in the high price-high value segment. The process
gained momentum in FY2000 when the growth in the car market was led by the
Compact segment.

Although the compact segment now accounts for 65% of domestic sales of
passenger cars, in recent years, the mid-size segment has captured a rising share of
the market, and since 2004, sales in the mid-size segment have exceeded sales in the
mini-segment. The growth in this segment has been led by new launches, lower prices,
and the significant success of four models - MUL's Esteem, Honda's City, HMIL's
Accent, and TML's Indigo. Introduction of stripped down versions of the vehicles in the
Mid-size segment, attractive pricing by manufacturers (who also offer sales incentives)
coupled with lower rate of interests and easy availability of finance have facilitated the
growth of this segment.

 
Low-Penetration-Levels

Although India's 4W sales have increased in recent years, penetration levels are low at
around 0.9%. Till the last decode, the industry was considered lowpriority as cars were
thought of as 'unaffordable luxury', and treated as such through Government policies.
Although reduction in excise duties, favourable Government policies, and lower prices
have resulted in significant increase in penetration, India's passenger car penetration is
low by global standards-1.3% in Chino, 59% in EU, and 81% in the US. Estimates from
Notional Sample Survey 58th Round (2002) indicates that ownership of four-wheelers
(car or jeep) is restricted to about 4.4% of urban households, and 0.6% of rural
households. During 2002-03, ownership of cars/jeeps was restricted to around 0.9
million households in rural areas, and 2.57 million households in urban areas. Car
penetration is high in Chandigarh, Delhi, Goa, and Kerala. However, penetration is
extremely low in the eastern states of Bihar, West Bengal, Orissa; and central states
such as Madhya Pradesh and Chattisgarh.