Industry outlook negative for domestic auto dealerships, profitability at 5-year low : ICRA

Credit rating agency ICRA Ratings on Monday said it has a ‘Negative’ outlook to the domestic auto dealership sector, given an expected decline in the credit profile of industry participants amid slowing sales and high working capital debt.

This comes amid the on-going downturn in the automotive industry, with the profitability of automobile dealerships expected to reach a five year low.

"As the sector endures one of the worst impacts in the current fiscal, the credit profile of industry participants has weakened, as reflected in some player in its rated portfolio being downgraded or their outlook revised to negative," ICRA said.

“Real income growth has been modest in recent period which directly impacts large discretionary purchases like car, real-estate amongst others. Moreover, demand from the cab aggregator segment has almost dried up due to incentive rationalization by cab aggregators, which earlier accounted for 8-10 per cent of the sales. OEMs as well as their dealers are providing hefty discounts to clear up dealership inventory to ease their liquidity pressure; however, overall retail demand remains tepid,” said Ashish Modani, Vice President, ICRA.

Owing to deep discount and negative operating leverage, profitability of automobile dealerships is expected to be at a five-year low in the current fiscal, added Modani. “Muted industry scenario has stressed credit profile of dealers, especially those of new entrants and has forced some dealerships to shut down as well. Also, while on the one hand, OEMs have benefitted from dealership expansion; sales per dealership have not witnessed commensurate increase over last few years,” he explained.

Increase in price and cost of ownership

Over the last several quarters, automotive retail demand has come under severe pressure due to a confluence of multiple factors like liquidity crunch and tighter financing environment, weak rural income and an overall slowdown in economic activity, it said.

Further, prices and cost of ownership has also increased in the recent period due to regulatory changes (safety, emission, insurance) and fuel prices – all of these combined has negatively impact consumer sentiments, it added.

Historically, automobile dealerships have been vulnerable to slowdown shocks owing to thin profitability and leveraged capital structure. Moreover, inventory push by OEMs in expectation of festive season volume pick-up in 2018 further compounded woes of dealerships during Q4FY2019, though it has been partially addressed in current fiscal following production cut and inventory rationalization measures taken by OEMs, said ICRA.

The NBFC crisis due to liquidity crunch too has adversely impacted availability of channel financing over the last one year due to systemic risk aversion. The availability of finance with dealerships continues to remain a major concern, which has impacted their inventory holding capacity, also reflected in weak wholesale dispatches by OEMs, it said.

Credit profile of dealerships of OEMs with strong or increasing market share like Maruti Suzuki India Limited (MSIL), Hyundai Motors India Limited (HMIL), Honda Motorcycle & Scooter India Private Limited (HMSI) have witnessed relatively stable financial profile as compared to that of other OEMs with declining market share, ICRA said.

Among the various segments, dealers of 2W and PV have a relatively better credit profile and financial performance as compared to dealers having higher exposure to medium & heavy commercial vehicle (M&HCV) or construction equipment (CE) segment, said ICRA.

Given that the first half of the current fiscal is already washed off, industry participants are hoping for a recovery during the festive season starting last month (October), it said.

ICRA said that its channel check suggests that there has been some improvement in the enquiry level, but the conversion of enquiry into confirmed sales is still slow.

 “Being a highly fragmented segment, no single dealer constitutes more than 2 per cent of OEMs domestic sales. Given this industry nature, the pressure on profitability is expected to continue to remain high owing to stiff competition. However, ICRA believes that dealerships which derive relatively better revenue from spare & service income will outperform their peers over medium to long term,” said Modani.

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