Party time for car buyers, but producers staring at excess capacity

Car makers have pledged $6 billion to almost double India's annual production to more than 6 million vehicles over the next few years, says a Reuters report. But there is a risk that a large chunk of projected capacity could remain idle for years.

Indians bought 2.5 million cars in the fiscal year ended March 2011, an increase of 63 per cent over two years. But the sales boom was brought to a halt by rising interest rates and fuel costs.

The Society of India Automobile Manufacturers (SIAM) says sales will shrink in the year ending March 2012, for the first time in 10 years, leaving an excess installed capacity of around 1 million cars that the industry says will lead to falling utilisation, a price war or both.

It is party time for car buyers, but car makers' margins were hit over the past year by rising commodity prices, even as companies offered discounts to lure buyers away from each other.

The Indian operations of Tata Motors posted an operating margin of 7.2 per cent in the quarter to December, down from 9.7 per cent the year before.

“If everybody comes along with what they say they are going to do, we are definitely going to have serious surplus capacity,” Maruti's Chairman, Mr R.C. Bhargava, told Reuters.

“With more manufacturers coming, everyone will have to work with thinner margins,” Mr Bhargava said, adding that capacity could be 30-40 per cent higher than demand in the next few years. So Maruti intends to let ‘market conditions' dictate the progress of the company's $1-billion new plant that was originally intended to turn out 2,700 cars a day.

Last July, Toyota Motor Corp said it would spend $220 million to almost double its capacity in India to 3,10,000 vehicles by 2013. A day later, Ford announced a $900-million plant that would take its capacity to around 6,00,000.

Peugeot said last month it could delay a $850-million, 170,000-cars-a-year plant, of which around 75 per cent was meant to meet local demand.

But not everyone's complaining. Mr P. Balendran, Vice-President of General Motors India, told Reuters “We have already created the capacity and are aligning production to suit demand. Since we expect double-digit growth in the next financial year, we do not envisage any capacity utilisation fall.”

GM sold 1,11,510 cars in India in 2011, only 700 more than in 2010. The company said last May it was spending $500 million to increase its capacity to more than 400,000 cars.

Though the slowdown and capacity build-up has lowered overall factory utilisation, there are other plants working full tilt. Mahindra & Mahindra has around four buyers for each XUV500. The Maruti's Swift diesel hatchback has a six-month wait list.

The Renault-Nissan combine, which specifically targets exports (and is doubling its capacity to 400,000), is better insulated from the slowdown.

Similarly, President of Ford India, Mr Michael Boneham, told Reuters, “(The sales slowdown) is creating a short-term concern domestically. But we're not depending on one market. Our growth is both domestic and export focused and we have a flexible manufacturing process. We're not taking our foot off the pedal.”

With the RBI signalling the end of interest rate hikes, SIAM expects car sales to rise 11-13 per cent in 2012-13, to around 2.8 million. But that would still leave a lot of installed capacity sitting idle, and this problem will loom larger as more capacity comes on line.

Export growth is strong, but even so just 5,50,000 cars are expected to leave the country's ports this fiscal year.

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