In India, the automobile industry is one of the most sensitive sectors to the business cycle as well as the interest rate cycle. The domestic automobile industry which was once in the fast lane now appears to be in a spot of bother. The double-digit volume growth in automobile sales in the previous year gradually phased into a single-digit growth and has now converted into a volume drop phase continuously since last three quarters. The auto sector has strong backward linkages with other sectors. The problems in the auto sector have spillover effects on other industries like steel, tyres, paint, electronic items, glass and various other allied motor parts. The health of this sector thus can be a barometer of the economy on the whole.

In early 2018, implementation of the Pay Commission recommendations gave consumption a boost. Unfortunately, in H2 2018, India was hit by an unexpected slowdown in demand because of a liquidity crunch following the IL&FS default. Ahead of the festive season of 2018, production levels were high as manufacturer’s anticipated high demand. This led to an inventory buildup. Vehicles are usually purchased on finance and with credit lines drying up, dealers were left with piles of unsold stock, thereby forcing auto corporations to slash production that may lead to job cuts.

The auto industry had hoped for a GST cut. However, the GST council decided not to cut rates in its last meeting. The council did reduce the GST rates applicable on Electric Vehicles (EVs) from 12% to 5%. It was a bold step to promote EVs but it did little to address the current stress. While the central government is reportedly planning a temporary cut in GST, it would need approval of states as well.

Heavy investments have been made by the auto and the auto component industry to upgrade the existing facilities to BS-VI norms. The government is pushing for adoption of EVs production which is not easy for the industry to digest, adopt and re-invest in the new green technology without having realized any benefits on the already invested capex on BS-VI. This has created an unpredictable environment in the industry which hampers decision making and led automakers to delay moving forward on the new policies of the government until the deadline approaches.

The global scenario in the auto industry is under threat with warnings of massive job losses as sales continue to squeeze in major markets. The trade war between the US and China is creating additional pressure on the global automakers. China witnessed a slump in the new vehicle sales by 12% YoY in the first half of the current calendar year while Japanese-based Nissan announced 12,500 job cuts worldwide. This shows the underlying weakness in the overall global growth in the automobile sector. On the domestic front, there has been a significant decline in the demand levels especially in the rural parts of the country. Post declarations of the first quarterly results, few of the automakers have given a cautious outlook for the coming quarters forecasting weak demand for the festive season.

Since the auto industry is suffering from a slowdown, this is not the best time for the government to push for new technology adoption like BS-VI and transition to EVs. A proposed hike in registration fees could not have come at a worse time. It is worthwhile to note that a hike in upfront insurance cost was partly responsible for hurting two wheeler sales. Even though the transition to cleaner energy is the need of the hour, it comes at a cost, which needs to be considered. Thankfully, the government has agreed to go slow on phasing out of IC engines. On the structural front, steps are needed to create necessary infrastructure for recharging stations to enhance mass adoption of EVs.

In order to promote EVs, the government needs to build a more credible and phased transition plan, and offer incentives for promoting research centres. It will help to develop fuel and cost-efficient accessories and infrastructure; easing the patent fees and rules in this space would give scope for a faster transition. However, sowing the seeds without proper fieldwork would result in a ruckus and probable bankruptcy of companies. More importantly, the government needs to ensure a smooth transition to BS-VI. Pre-BS-VI vehicle inventories need to be cleared before March 31, 2020 and anticipation of price cuts would lead buyers to put off buying decisions. A temporary stimulus like a GST rate cut, incentive for scrapping should help boost sales.

In the recent sales figures of July 2019, domestic passenger vehicle and two wheeler industry continued to exhibit lackluster domestic demand with a de-growth of 26.9% and 15.9% on a YoY basis. Companies like Maruti reported 36% drop in sales followed by Tata Motors which saw 34% drop in passenger vehicle segment. Among the two wheelers, Hero MotoCorp, TVS Motors & Eicher Motors reported decline in the sales of around 17-21% YoY. However, companies with export orientation like Bajaj-Auto have shown stable volumes. The current slowdown is a result of the troubles in the financial sector as well as a mandated transition to BS-VI and the government’s push for EVs. A phased transition to EVs, incentives to smoothen transition to BS-VI is the need of the hour. Also RBI action on liquidity along with a government stimulus and planned bank recapitalization should help boost the economy in general and the auto sector in particular. We believe that with the right action, the sector can recover by the end of the year. (The author is CEO - Stock Broking, Karvy)