Industry Risk Score : Automotive Components

Executive Summary

Indian auto component industry is one of the world's largest. It contributes to almost 7% of the country's gross domestic product and provides employment to around 19 million people . It can be classified into two main categories: organised and unorganised. While the organised segment includes suppliers to original equipment manufacturers (OEMs), the unorganised sector includes suppliers to the after market

Over the last 5 years, the industry registered a compound annual growth rate (CAGR) of 7% to reach Rs.2.92 lakh crore (US$ 43.5 billion) in FY2016-17, while exports grew at a CAGR of 11% to US$10.9 billion in the same period. The industry is likely to register healthy growth of 13-15 percent in FY2018 on account of favourable government initiatives, improvement in farm income on expectation of overall normal monsoon, and increasing income of rural and middle-class population.

Exports account for 25% of demand for auto components in India. Of this, about 60% goes to North America and European markets. While increased association with global OEMs and global acquisitions will further aid auto component exports, rising trade protectionism led by the US and other countries will act as headwinds for growth.India's auto component imports grew at a CAGR of 6% during FY2012-FY2017. Asia and Europe contributed 58.6% and 30.9% respectively in the imports.

Despite stiff competition, companies have maintained margins at a reasonable level. A large domestic market, improving living standards, supportive government policies and government thrust towards infrastructure investment have made India a favourable destination for investments.

The government has launched many regulatory initiatives aimed at improving safety standards, reducing vehicular emissions, and promoting environment protection. This makes it imperative for companies to acquire or develop relevant technologies to adapt to the new market requirements. Consequently, margins might be slightly impacted with the rise in input prices and cost of implementation of new technologies.

Key Risks& Attributes

  • High investment inresearch and development (R&D)
  • Muted exports to European markets
  • Increasing competition from China
  • Counterfeit parts
  • Changes in the regulatory environment, e.g., adoption of Bharat Stage (BS) VI norms, introduction of e-mobility, enhanced safety requirements, among others.
  • Volatility in raw material prices (steel, rubber, crude oil, aluminium, among others)

Demand & Supply Scenario

5/6

The auto component industry grew at a CAGR of 14% over the past 10 years (FY08-FY17). During April 2017-February 2018, the Indian auto industry (for PVs, CVs, 2-3 wheelers and quadricycles put together) grew by 14.41%. Auto component vendors supplying to commercial vehicles (CVs) and two-wheeler segments experienced double-digit growth in volumes.

The growth momentum is expected to be sustained in FY2018-19, supported by healthy demand outlook in key end user segments, growth in working population and rural income as well as improved realisation in some key export regions due to increase in commodity prices. Going forward, increase in domestic infrastructure activity will further aid the demand of construction and mining equipment as well as the tipper segment (classified under medium and heavy commercial vehicles).

Exports account for 25% of demand for auto components in India. 60-65% of the total exports go to North America and European markets. During FY2012-FY2017, India's auto component exports clocked a CAGR of 11%. Low passenger vehicle (PV) exports (exports of PV were down by 1.51% in FY2018 as against FY2017) negatively impacted the total PV production volume growth in FY2018. SIAM expects the PV exports aberration to lessen in the coming quarters and to be compensated by strong demand from the domestic market. PV and CV exports to the European market witnessed marginal growth over CY2017, however the growth in exports to European markets is likely to remain muted over the near term. However, US CV exports are likely to continue to grow over the near term.

Potential shared by different product types is almost similar for both domestic and export markets. Engine & exhaust components, along with body & structural parts, are expected to make up 50% potential domestic sales as well as exports in 2020. Transmission, steering components, electronics andelectrical parts are likely to be the other key products. Conversion to electric vehicles (EVs) is likely to create a US$ 300 billion domestic market for EV batteries in India by 2030 . The domestic market is likely to account for 71% of total sales by 2021 with an expected total market size of US$115 billion, while exports are likely to account for around 26% .

Export growth will be further aided by increasing presence of global OEMs manufacturing in India as well as increased association of domestic auto component manufacturers with global OEMs. Indian auto component makers are also focussing onthe inorganic growth route to add to their global footprint.

Recently, the US has started introducing tariffs for certain imports, leading to a reciprocal gesture by the affected countries like China. This may impact the demand-supply chain across several nations and also impact exports domestically at some point. However, at this stage, it is difficult to gauge the impact of these developments.

Over the long term, automobile component exports from India are expected to reach US$ 70 billion by FY2026 from US$ 10.9 billion in FY2017. The Indian auto component industry targets to achieve US$ 200 billion in revenue by 2026 .

Over the medium to long term, we expect the rupee to continue to depreciate mildly and that would likely act as a tailwind for exports, though it could be volatile in the short term.

India's auto component imports grew at a CAGR of 6% during FY2011-FY2017. Asia and Europe contributed 60% and 30% respectively. Transmission, engine, suspension and steering parts constitute more than 50% of the total auto components being imported. Anti-dumping duty on import of select M& HCV products, technological collaboration of Indian players with global majors and focus of OEM's on localisation are few factors that arereducing the import trend

The Union Budget 2018-19 imposed certain duties on imports in order to encourage domestic manufacturing. These items account for more than 50% of US$ 43.5 billion domestic component industry turnover and over 30% of its US$ 11 billion exports. Thus, it is likely to encourage further domestic investment as well as technology development. In addition, for small and medium sized enterprises (SMEs) with turnover up to Rs. 250 crore, corporate tax rate has been reduced to 25% from 30%. This will further aid the industry as 80% of the companies in the industry are SMEs. Also, India's Look East policy will make the availability of original parts and components easy in that part of the country.

As per the Indian Meteorological Department forecast, India is expected to receive normal monsoon this year. This is important to sustain rural demand for automobiles.

Acuité believes that the demand and supply risk is low. This is driven by the increasing government investment in infrastructure, improvement in rural income given the prediction of normal monsoon, growth in the working population and middle class income, and duties imposed on certain imports. The demand for auto components is expected to register double-digit growth in FY 2018-19. The risks to demand come from increase in prices on account of adoption of new technologies and increase in R&D spend. However, this risk will be mitigated to some extent by the overall enhancement in end-product quality.

Nature & Extent of Competition

4/6

The Indian auto ancillary space is highly competitive. The organised sector accounts for 80-85% of the total industry turnover. Increasing automation, new safety norms, and advent of e-mobility will force players to adopt to new technologies and increase investments in R&D. This may result in some consolidation in the sector over the medium to long term with the organised sector increasing its presence over time. Another risk that the sector faces is cheap imports from countries like China, but it will be mitigated by the ready availability of relatively low-cost; skilled and semi-skilled labour force along with local availability of key raw materials like steel.

The Indian automotive ancillary industry enjoys certain competitive advantages: (a) 20-35% lower costs compared with Europe and Latin America; (b) availability of a large pool of skilled and semi-skilled workforce; and (c) local availability of raw materials like steel. India's proximity to key automotive markets like the Middle East and Europe coupled with the cost advantages, is resulting in it emerging as a global centre for auto component sourcing.

Acuité believes the competition risk is medium. The risk mostly pertains to increasing demand on technology investments and cheap imports from other countries.   

Input Related Risk

4/6

Steel and aluminium are the key raw materials used in the auto component industry. Other raw materials include glass, plastics, rubber and special fibres.

Commodity prices, in general, have been rising in the recent past, which has resulted in some pressure on the profitability of the sector. Ancillaries, where the main raw material is steel, however, have seen some improvement in margins over the last few quarters, as steel prices were stable. Among all commodities, tyre manufacturers were the worst hit due to sharp volatility in rubber prices. Overall, ancillaries have been able to protect or improve their margins by a mix of judicious use of operating leverage, cost control and pass through of the increased input costs to OEMs.

Acuité believes the input risk is medium. In medium to long term, commodity prices are expected to remain firm or continue rising. Inspite of the overall growth in revenue for auto component firms, there could be some stress on profitability due to rising and volatile raw material costs.   

Regulatory Risk

3/6

The Indian automotive industry has made the key transition to BS-IV wef April 1, 2017. Next step is the adoption of BS-VI emission standards by 2020. Graduating from BS-IV to BS-VI over a period of just three years will require large investments for technology acquisition and absorption and upskilling of labour.

In addition, there have been changes like the introduction of Goods and Services Tax from July 2017, to which the industry has successfully transitioned. In the short run the impact has been mixed as the sales got impacted adversely and the multiple rates of taxes increased complexity along with increased working capital requirements. In the medium to long term, however, the industry is expected to benefit as organised sector increases its footprint.

Besides the transition to BS-VI, the industry has to meet the corporate average fuel efficiency norms (this requires cars to be 30% more fuel efficient from 2022 and 10% or more till 2021) and achieve 100% e-mobility by 2030.

Acuité believes the regulatory risk is medium to high. This is driven by the challenges the auto component companies will face due to the upcoming regulatory changes. But a favourable demand environment and supportive government policies should come to the aid of these companies.   

Technology Risk

3/6

Globally, the automobile industry is going through a significant and rapid transition with the use of digitalisation, automation and intelligent technologies in vehicles, increasing concernsabout environment protection, adoption of technologies to decrease fossil fuel consumption, and enhancement of safety features. Changes like these and many more will have to be addressed by the auto-components sector by investing significantly in the R&D and developing new products.

The EV market is the future of the automobile sector. Indian autocomponent industry would require a transition from IC-engines to hybrid to fully battery-operated vehicles to adapt with the global trend.

Acuité believes the technology risk is medium to high. This is driven by enhancement in safety features, clean fuel requirements in short to medium run, and adoption of e-mobility in the long run and consequent need for companies to continue to make investments in R&D. This is a challenge as well as an opportunity. The companies that adapt well to these requirements would ultimately dominate.   

Operating Margin

5/6

Industry EBITDA witnessed a healthy Y-o-Y increase of about 7-8% in the last three years - FY2014-15 to FY2016-17. EBITDA margins grew from 12.08% in FY2014-15 to 13.74% in FY2016-17. While sales showed an average y-o-y increase of about 5% in the said period. Most players have managed to pass a significant portion of raw material price volatility to their customers.

Return on Capital Employed

5/6

Despite technology related investment, Industry's ROCE ratio was favourable during the three-year period of FY2014-15 to FY2016-17. Median ROCE was 14.74% in FY2016-17.

Debt / Equity

6/6

Auto Component industry showed a very highly favourable Debt-Equity ratio with an average of 0.43x, during the three-year period of FY2014-15 to FY2016-17. The Industry median was at 0.22x in FY2016-17.

Interest Coverage

6/6

With limited leverage, the interest coverage also remained highly favourable, with an average of 14.25 during FY2014-15 to FY2016-17 period.

GCA

5/6

Auto Component Industry presented a healthy liquidity profile and favourable performance in terms of Gross Current Assets with an average of 105 days for the three-year period of FY2014-15 to FY2016-17. Median performance ranged between 100-110 during the assessment period.

IRS Definitions

Acuité Industry Risk Scores are assigned on a six-point scale, with 1 indicating 'High Risk' and 6 indicating 'Highest Safety'. The intermediate scores are defined in the table below:

Industry Risk Score Risk classification of the Industry
ACUITE IRS 1 Highly Unfavourable
ACUITE IRS 2 Unfavourable
ACUITE IRS 3 Neutral
ACUITE IRS 4 Marginally Favourable
ACUITE IRS 5 Favourable
ACUITE IRS 6 Highly Favourable

Data Sources & Credits

  • Automotive Component Manufacturers Association of India
  • Indian Brand Equity Foundation
  • Society of Indian Automobile Manufacturers
  • NITI Aayog

Disclaimer:

Acuité IRS should not be treated as a recommendation or opinion that is intended to substitute for a financial adviser's or investor's independent assessment of whether to buy, sell or hold any security of any entity forming part of the industry. Acuité IRS is based on the publicly available data and information and obtained from sources we consider reliable. Although reasonable care has been taken to ensure that the data and information is true, Acuité, in particular, makes no representation or warranty, expressed or implied with respect to the adequacy, accuracy or completeness of the information relied upon. Acuité is not responsible for any errors or omissions and especially states that it has no financial liability whatsoever for any direct, indirect or consequential loss of any kind arising from the use of Acuité IRS.

 

 

Our exciting journey started in 2005 with rating of bank borrowers most of whom were small and medium enterprises. At that time, credit rating was a concept known only to large issuers of capital market instruments. Since then, like a caterpillar transforms itself into a beautiful butterfly, we transformed to rate bonds, bank facilities of large corporates and issuers across industries. Along came many achievements - SEBI Registration in 2011, RBI accreditation in 2012, 50,000 ratings in 2018, 5,000 Bond and Bank Loan Ratings in 2017, launch of India's first Android and iPhone app to disseminate rating, tamper-proof QR-code-enabled rating rationales, and SMERA Terminal to name a few.

Now is the time to re-emphasize our increasing footprint across all segments of ratings through the launch of our new name - 'Acuité'.

The name has changed. The spirit of upholding highest standards of analytical rigour, continuous improvement, excellence in our processes and quest for innovation remains the same. We would like to re-emphasize that we will continue to work hard to provide independent, unbiased and timely opinion of highest standard.

Acuité means 'sharpness and clarity of thought and vision'. Let our research and ratings help you take decisions with confidence.


Sankar Chakraborti
CEO