Future of the auto sector

Future of the auto sector 

Bharat Stage VI Emission Norms

The Bharat Stage Norms are standards instituted by the government of India to regulate the emission of air pollutants from motor vehicles. The norms were introduced in the year 2000 and are based on similar norms in Europe called Euro 4 and Euro 6. As on April, 2017, all vehicles were mandated to adhere to BS IV Norms.

The new government policy mandates that by April, 2020 all vehicles must be complaint with BS VI Norms. The introduction of BS VI Norms calls for upgradation in the technology which helps reduction of emission of pollutants. BS VI also makes on-board diagnostics (OBD) mandatory for all vehicles. OBD device informs the vehicle owner or the repair technician how efficient the systems in the vehicle are.

Compliance with BS-VI norms will require higher investment in technology to upgrade vehicles in stock and those which are newly produced. This has dual implications. One is that there will be fewer new launches till the deadline. Secondly the prices of the newly introduced vehicles from April, 2020 will be higher since the vehicles will cost automakers more and they will pass on the additional cost to the buyers. The Bharat Stage VI-compliant fuel too will also be more expensive. This is likely to impact the overall demand in this sector at least during the period which is in proximity to the deadline.

In order to provide ease in the process towards compliance, many auto makers moved then Honorable Supreme Court which reject their plea and upheld the validity of the deadline.

New third party insurance norms

In line with the Supreme Court order in this matter, the IRDAI (Insurance Regulatory and Development Authority of India) directed all general insurance companies to offer only long term third party insurances for motor vehicles. As per this direction, general insurance companies are directed to issue only three-year insurance for 4 wheelers and five-year insurance to two wheelers. The direction also mandates the premium for the entire term be collected in the beginning at the time of sale of vehicle itself. The amount so paid in excess of first year premium would be considered as “Premium Deposit” or “Advance Premium” and be recognized as income upon maturity of the relevant period for which the premium is paid.  

This has led to increase in premium itself in addition to increasing the burden of new purchase. Hence, this has been considered as one of the contributing factors to the weakening demand. However, as the policy changes are gradually absorbed the negative impact due this rise in insurance premium is expected to subside.

Rural demand outlook

The rural demand been providing the much needed support to the melancholy of the sector. The overall increase in government spending has been a major contributor to the increase in consumption demand in the rural space. There have been a number government initiative such as rising of the MSP (Minimum Support Price) for Kharif crops, increased rural infrastructure spending, etc., which have contributed to this rise in rural demand.

Other policy impact

The Society of Indian Automobile Manufacturers (SIAM) provides posits a positive outlook towards the recent interim budget with respect to the auto sector. The tax exemption up to 5 lakhs is likely to increase the disposal income of the middle class and have an impact on sales volumes of two wheelers and small four wheelers.

However, the budget also introduces customs duty on lithium ion batteries from nil to 5%. This will be disadvantageous to the e-vehicle segment which is at a very nascent stage in India.

The sector is also largely influenced by the interest rate regimes, as it affects cost of capital, EMI rates, cost of financing etc. After a series of rate hikes amidst weakening rupee and rising commodity prices and inflation, in February, the RBI cut rate by 25 bps (basis points) for the first time. With the reduced pressure on inflation, this is likely to impact the auto sector positively.

Overview of the sector performance

The NSE Auto Index data has recorded a fall from 11000 levels to as low as 8500s in the period between August, 2018 to November, 2018. It is pertinent to observe the movement of oil prices in the period. During this period the crude oil prices rose as high as $85 per barrel. The period was also marked by poor performance of the rupee and rising interest rates. Adding fuel to the fire, consumption demand in the Diwali season also fell below expectations. The relative stabilization of these factors is being gradually absorbed by the market. New product launches, reviving consumption demand and base effect posit a scope for improvement in this space.

However, it would also be pertinent to note that this revival is not reflected in the market sentiment. Over the past 6 months the price to earnings ratio (PE) of the index has fallen from 30 to 23 vis a vis Nifty 50 which has been trading at an average of 25-26. A selling spree can be observed among the institutional investors as well, wherein large number of mutual funds are dumping auto stocks from their portfolio.

From a fundamental performance point of view also, the sector as a whole has not reported good numbers. This could be a fall out of the various factors discussed above. While analyzing the sector it is crucial to look at the volume of sales inter alia other factors such as inventory turnover, debt equity ratio etc.