What’s driving automobiles

Parvatha Vardhini C | Updated on: Dec 06, 2021

Economic recovery and rising demand from rural and urban consumers are positive triggers

The auto sector regained colour in fiscal 2018, with the industry convincingly recovering from the challenges of the note ban, the BS IV and GST transition. New vehicle sales grew by 14.2 per cent overall in 2017-18 (over 2016-17), more than double the growth of 6.8 per cent achieved in 2016-17 (over 2015-16). The good run has continued in the first two months of this fiscal as well.

Economic recovery, an uptick in rural demand and urban consumption, and a reasonably stable interest rate regime have helped the growth. What’s shaped this recovery and what’s in store for the sector in the near to medium-term? Given that the stock markets have turned choppy after the bull run of the last few years, how should one play auto stocks?

Hub and spoke model gains

Nothing truly represents the state of the economy as the sale of trucks (medium and heavy commercial vehicles or MHCVs). This is because trucks are used for transport of goods/agricultural produce and for industrial/infrastructure purposes such as mining and haulage of material. Hence, the demand for new CVs are a direct proxy to the level of economic activity in the country.


Rate cuts that began in early 2015 and reform measures initiated by the Modi government in sectors such as mining and revival in road building activity boosted truck sales in 2014-15 and 2015-16, after the slowdown in the two years prior to that. Sale of medium and heavy trucks moved up by 21 per cent in 2014-15 and by 30 per cent in 2015-16 over the corresponding previous years.

Into 2016-17, the high base of the prior years as well the demonetisation in November 2016, took the wind out of the sails for truck sales. Sales volumes of medium and heavy trucks contracted by 1.3 per cent in 2016-17. Things took a turn for the better in fiscal 2018, when truck sales again staged a smart recovery, in line with the pick-up in economy after the initial flutter due to GST/BS IV transition.

After a subdued growth of 5.6 per cent in the June 2017 quarter, GDP growth improved steadily, clocking 7.7 per cent in the three months ended March 2018. Although private sector capital spends so far remain somewhat subdued, government spending on road building, housing, etc has had a spill-over effect on truck sales. Further interest rate cut by the RBI in the first half of 2017-18 and a continuation of neutral stance, post that also, did its bit to boost sentiments.

An interesting trend visible in heavy truck sales during this period has been the shift in customer preference to higher tonnage trucks — those exceeding 25 tonnes. From about 40-43 per cent in 2015-16 and 2016-17, the share of higher tonnage trucks in total heavy truck sales moved up sharply to 51 per cent in 2017-18 and further to 54 per cent this fiscal. The sale of trucks in the higher tonnage segment has recorded a 53 per cent growth in 2017-18, compared with the 16 per cent drop in sales volumes in vehicles in the 12-25 tonne range. Better highway infrastructure, improved operating efficiency from the removal of check posts under GST and better fuel efficiency of the higher tonnage multi-axle trucks under BS IV emission norms, are demand triggers.

This apart, unlike the pre-GST period, when location of warehouses was based on taxes levied by States, companies can now afford to locate them based on their convenience. As a result, the hub-and-spoke model — where large trucks are used to ply goods over long distances and small trucks are used for last mile connectivity — has gained prominence. Consequently, light truck sales (up to 7.5 tonnes) too has picked up well in the last one year. Their sales volumes have grown by 29.5 per cent in 2017-18, much higher than the single-digit growth achieved in 2016-17.

Comeback for commuter bikes

Like trucks, two-wheeler sales too picked up in 2017-18, growing by a healthy 14.8 per cent, after a mid-single digit growth in the previous year. What has driven growth here is the revival in demand for entry bikes (75-110 cc segment). Headwinds from the note ban saw entry level or commuter bikes go out of favour in 2016-17, with sales volumes shrinking by 2.6 per cent that year. But in 2017-18, sales volumes of bikes in the 75-110 cc segment recorded 15 per cent growth. Thanks to this, the share of entry bikes to total motorcycle sales inched up by one percentage point to 76.4 per cent in 2017-18 after having been on a declining trend in the earlier years.

Management commentary from companies such as Hero MotoCorp — the market leader in this segment — indicates traction in demand from rural India as the main driver of growth in this space. According to the company, rural demand has grown 2 to 3 percentage higher than the national average in 2017-18. Although crashing farm prices squeezed the wallets of farmers, higher government spending on building of rural roads, rural electricity and housing has created jobs and helped improve non-farm income of rural India, putting more disposable income in the hands of the rural consumer. Stable borrowing rates, coupled with farm loan waivers, also boosted consumption demand.

Secondly, continued customer preference for scooters and premium bikes have also helped lift overall two-wheeler sales. Sale of scooters grew by 19 per cent in 2017-18 , higher than the 11 per cent recorded in 2016-17. Scooters now constitute one-third of total two-wheeler sales. Sale of premium bikes (250 cc and above) also showed robust growth of 24 per cent in 2017-18. At the end of 2017-18, they constituted 6.6 per cent of the overall motorcycle sales, up from 6 per cent in the previous year.

Muscle power wins

Urban consumers who form a chunk of the buyers for cars and utility vehicles (UVs) recovered from the effect of demonetisation in the last quarter of 2016-17 itself. Thus, overall growth for the passenger vehicles segment came in at a decent 9.2 per cent in 2016-17. Into 2017-18 though, passenger vehicles lost a bit of sheen with overall growth coming down to 7.9 per cent. While the impact of BS IV changeover and GST was only temporary, the sector’s lower growth can be attributed partly to the high base effect, especially in UV sales. UV sales had grown by a strong 30 per cent in 2016-17 and, consequently, growth slowed down to 21 per cent in 2017-18.

That said, fiscal 2018 saw a continuation of shift in customer preference towards UVs seen in the last few years, indicating a further maturing of the market. At the end of the fiscal, about 28 per cent of total passenger vehicle sales came from UVs, up by a good three percentage points from 2016-17.

As more and more urban Indians move up the corporate ladder quickly, they are increasingly looking at buying bigger vehicles at higher price points. With utility vehicles boasting of more space, muscle and engine power than cars, these are suitable for long drives and on any kind of road conditions. This makes it ideal for weekend trips and short holidays, the popularity of which is growing in leaps and bounds.

Besides, ‘compact UVs’ has also increased the popularity of this segment. . The Society of Indian automobile Manufacturers (SIAM) classifies these vehicles as those with length less than 4,400 mm and available in the price range of up to ₹15 lakh (Duster, EcoSport, Creta, S-Cross, Vitara Brezza, WR-V are examples) As at the end of fiscal 2018, these compact UVs constitute 71 per cent of the total UVs sold.

Mixed outlook

GDP growth is expected to accelerate to 7.5 per cent in fiscal 2019, over 6.7 per cent in fiscal 2018. Another year of normal monsoon is also predicted. Demand for movement of industrial and consumer goods as economic growth accelerates, is expected to support double-digit growth for truck sales.

Companies such as Maruti Suzuki, Hero MotoCorp and TVS expect the passenger vehicle and two-wheeler industry to grow at 8-10 per cent this fiscal. Within these broad segments, stronger show from sub-segments such as scooters and utility vehicles is expected. But the path ahead is not without thorns. Despite cost-control efforts, a sharp run-up in commodity prices has already seen automakers increase prices to partly pass on the cost escalations to customers in the last few months.

A continuation of this trend could dampen demand, especially in the lower segments. Adding to the negative sentiments is the sharp rise in fuel prices. This apart, the RBI has begun hiking interest rates. Considering that a softer interest rate regime also triggered consumption demand, post the note ban and GST hiccups, costlier loans could begin hurting sales.

Given the multiple factors at play, estimating prospects beyond this fiscal is not easy. However, the upcoming transition to BS VI emission norms in April 2020 will support pre-buying from the second half of 2019-20, given that BS VI compliance would make vehicles costlier. Besides, to reduce pollution caused by older commercial vehicles, a scrappage scheme for vehicles older than 20 years will be implemented from April 2020. This will help keep demand going for new trucks to an extent.



The road ahead for auto stocks



Even as auto sales went through a slowdown and then took a turn for the better over the past two years, many of the auto stocks continued to remain market favourites. Tractor manufacturer Escorts, for instance, has been a multi-bagger, going up by eight times in the last three years. Stocks such as TVS Motor Company, Maruti Suzuki and Ashok Leyland have more than doubled in this period. With stock prices moving up sharply, and valuations, too, expanding in many cases, it will be prudent to adopt a selective approach towards buying auto stocks in the present scenario.

Safer bets

Stocks such as Hero MotoCorp and Mahindra & Mahindra seem safe bets at this juncture. The strong demand for commuter bikes favours Hero, the market leader in this segment with products such as Dawn, Deluxe, Passion and Splendor. Besides, launches planned for this year such as Xtreme 200R and XPulse 200 will aid the company improve its presence in the fast-growing premium segment. Its scooters portfolio will also get a boost from the launch of the 125cc version of Maestro and Duet. At 19.7 times its trailing 12-month earnings, Hero is among the cheaper auto stocks.

The high base of the past two years, where tractor sales grew 18 -22 per cent each year, may slow sales in 2018-19. But a normal monsoon forecast, nevertheless, bodes well for tractor demand, considering that they are used for various activities in the soil preparation and planting stages. M&M will be a beneficiary of this demand.

The company expects 8-10 per cent growth this year in this segment. In addition, the company recently relaunched its premium SUV, XUV500, and has lined up three launches across its UV portfolio for this year. This is expected to help the company improve its dwindling market share in the UV segment due to stiff competition. Thanks to the upswing in CV sales in the last one year, the Ashok Leyland stock has moved up by over 50 per cent in this period. Existing investors can hold to the stock, given that CVs are expected to have a good run this year. The company has lined up several light truck launches this year to cash in on the hub-and-spoke model that is gaining prominence.

High valuations, a dampener

While prospects for Maruti Suzuki continue to remain bright thanks to the shift in its product portfolio towards premium cars and UVs, its high valuation of about 35 times trailing earnings is a dampener. Eicher Motors too is on a similar wicket. Premium bikes from Royal Enfield have been selling like hot cakes in the past few years. This has helped the stock gallop by 300 per cent since the 2014 market rally. It now trades at a rich 41 times its trailing earnings. However, with prospects remaining sanguine, these stocks can be considered in a broader market correction.

Uncertainty for Tata Motors

Tata Motors remains a low PE stock.With its fortunes sinking or sailing with the prospects of the Jaguar Land Rover business, it can be avoided at this juncture.

Changing regulations in favour of greener vehicles in Europe and the UK has seen sale of JLR vehicles take a hit in these geographies in recent times. Higher marketing spends and capital expenditure at JLR, have been impacting the company’s margins and bottom-line.


Published on June 09, 2018
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