On A Growth Path, But Quality Holds The Key

Updated: Jan 26 2003, 05:30am hrs
Auto sales have averaged 20 per cent plus growth in the last few quarters. These impressive returns on auto companies have brought back cheer to investors in the auto scrips. Auto ancillary companies have basked in the glory of automobile industrys sunny showing. For, the fortune of $3 billion strong Indian auto ancillary industry is closely linked with that of auto sector. Recovery in auto sector has pepped up demand for auto ancillaries.

Auto ancillary companies such as Lumax, Gabriel, Subros, Kalyani Brakes, Ucal Fuel Systems, Autolec Industries, Goetze, Motherson Sumi and MICO have done well. Consequently, their stocks have turned bullish. Market capitalisation of auto ancillary 50 scrips has increased 58 per cent to Rs 4,126 crore from Rs 2,510 on January 17, 2002. If the latest performance during the third quarter to December 2002 from Jay Bharat Maruti is any indication, most auto ancillary majors are expected to do well.

The domestic auto ancillary industry continues to depend more on replacement market than original equipment manufacturers (OEM) since the former fetches higher margin. Replacement demand accounts for close to 65 per cent of total demand, while OEMs account for 25 per cent, with exports accounting for the balance 10 per cent. OEM market is very competitive in nature and as such the manufacturers have to compromise on margins. Moreover, delivery schedules have to be adhered to very strictly.

However, the pattern will change soon, considering the changing domestic and global auto scenario. The sales mix has changed and that spells well for the future of auto ancillaries.

In fact, auto ancillaries can look forward to a steady OEM as well as export demand. Moreover, international auto ancillary companies from countries such as Turkey, China, Taiwan and Malaysia have evinced interest for sourcing technology as well as investment.

Indian companies may also benefit from the fact that Japanese and European auto part makers are shifting their labour-intensive work to low-cost sites in India and China. OEM demand that depends on new vehicles purchases is showing signs of improvement. The commercial vehicles (CV) segment is critical to offtake of auto components. CV demand has already picked up and is expected to grow at a CAGR of 14 per cent until FY05, while total commercial vehicles sales should rise by almost 50 per cent. The growth in truck sales will determine demand from commercial vehicles. This, in turn, will trigger demand from the replacement market.

Growth in demand will receive a boost from other factors too. The governments ambitious $10 billion National Highways Development Project (NHDP) is expected to spur sales of cars and trucks substantially. On completion of the NHDP project, better quality roads may shift demand towards bigger trucks. To cash in on this shift in demand, international players are expected to set up their shops in India. However, among the big international truck companies, currently only Volvo produces trucks in India though it has a market share of less than 1 per cent.

An export boom is awaiting the domestic auto component industry as global auto makers are beginning to outsource their requirements from Indian suppliers. Apparently, global automotive OEM segment has been sluggish.

A downturn in Europe and the US, where production costs are very high, has compelled the global companies to outsource components from low-cost manufacturing centres such as India. Currently, the Indian auto ancillary industry exports goods worth about $400 million.

Domestic companies enjoy cost advantage over international competitors. Cost leverage in labour works out to 10-30 per cent. Quality is a critical aspect, where domestic manufacturers will have to work hard to improve. The defect rates in domestic auto ancillaries (including popular suppliers) are in the range of 1,000-2,000 parts per million (ppm) against a global average of 200 ppm.

China, the third largest market, does not boast of high quality skills in auto sector. Indian auto ancillaries are better positioned to cash in on the gap with a pool of good engineering and technical talents at their disposal. Sigma Corporation (India) has invested Rs 15 crore for setting up tool room and press shop to manufacture tools, dyes and critical sheet metal components for global automobile manufacturers.

Indias strength in exports lies in forgings, castings and plastics. Domestic companies focus on commodity products rather than state-of the-art technology. Improved performance of Bharat Forge and that of other forgings companies points to this fact.

Bharat Forge

Bharat Forges (BFL) stock price, which appreciated on its impressive showing and business prospects, has taken a dip of late. During the quarter to December 2002, BFL posted a hefty 46 per cent rise in operating income to Rs 181 crore, mainly helped by export to China. Export income was up 154 per cent to Rs 75 crore. Domestic sales, on the other hand, went up marginally by 12 per cent to Rs 106 crore.

BFL exported around 50,000 crankshafts to its Chinese customer FAW during the quarter. It has entered into a contract with FAW and Second Auto Works, one of Chinas largest auto companies, for supply of engine components. These long-term contracts would ensure steady flow of business to the company.

BFL may have to step up capex to augment its production capacity to service additional requirements. BFL turned out 1.8 lakh crankshafts out of an installed capacity of around 3.5 lakh crankshafts during 2001-02.

Operating expenses were Rs 132 crore. Staff costs rose by only 5 per cent to Rs 13 crore. Net profit more than doubled to Rs 238 crore helped by lower interest cost. BFL replaced its high-cost debt with low-cost ones, besides partially replacing rupee-denominated loans with dollar loans.

BFLs clients include Mercedes Benz, Mitsubishi Motor Corporation, Volvo Trucks, Renault etc. It is steadily increasing its business with them. Rising steel prices may act as a dampener in jacking up net profit even though sales may see a steady growth.

Motherson Sumi Systems

Motherson Sumi Systems (MSSL), an auto-ancillary company, has done well on the back of automobile sectors ongoing recovery. The company also benefited from its buyback arrangement with Woco Franz Josef Wolf & Co for the export of rubber and rubber-metal components. Its 90 per cent revenue comes from the automotive segment. MSSL recorded 131.4 per cent growth in net profit to Rs 8.1 crore owing to a 35.6 per cent increase in sales to Rs 82.6 crore during the quarter to December 2002.

Although consumption of raw material, as a percentage of sales, went up to 51.1 per cent (50.8 per cent), the company could curtail other costs. Consequently, operating profit fattened 82.9 per cent to Rs 15.7 crore. The gain on account of a 46.4 per cent decline in interest cost to Rs 1.5 crore was partially offset by a 10.2 per cent rise in depreciation to Rs 5.5 crore. Other income skidded 43.6 per cent to Rs 2 crore.

MSSL stock witnesses a low trading activity because its floating stock is low at 28.9 per cent. The companys management has split the face value of Rs 10 per equity share into two shares of Rs 5 each, which has increased the number of shares available for trading.

MSSL specialises in making wiring harnesses and cords for passenger car segment. It has a stronghold in the segment as it controls a substantial share of the market. The company also supplies its products to other segments such as multi-utility vehicles and two-wheelers. MSSLs top customers include Maruti and Telco. The company also has a 100 per cent export-oriented unit (EOU) to cater to international giants such as Honda and Woco in overseas market.


Motor Industries (MICO), the largest auto ancillary company and a subsidiary of Robert Bosch, Germany, is pioneer in the automotive Spark Plugs and Diesel Fuel Injection Equipment in India. The company, slowly but surely, continued its upward march during the nine-month period to September 2002. While it reported an 8.5 per cent increase in net sales at Rs 1150 crore, net profit jumped much sharply up 40.5 per cent at Rs 94.3 crore.

During the third quarter to September 2002, sales rose by 14.3 per cent as sales in corresponding quarter were affected by poor demand.

MICO, earlier, utilised the subdued scenario quite well by buying back 200,000 shares from shareholders at a price of Rs 2,500 per share. Consequently the share capital stands reduced by Rs 20 million. Following this buy-back programme, the holding of Robert Bosch GmbH, has gone up to 60.5 per cent.

MICO, has been working towards de-risking its business by venturing into other lucrative areas. Recently, it decided to acquire the communication and closed circuit television (CCTV) product business from Philips India, for a consideration of Rs 40 million. The business contributed Rs 150 million in turnover during 2001.

Omax Autos

Omax Autos has been in top gear thanks to the sharp sales growth in the motorcycles sector. With 70 per cent of its output consumed by the worlds leading bike manufacturer, Hero Honda, the Gurgaon-based company has been able to piggy-back the growth numbers of the two-wheeler major.

This is evident from the compounded annual growth rate (CAGR) of 39.16 per cent in sales and 41.27 per cent in profits after tax, during the period 1996-2002.

Omax is a leading manufacturer of sheet metal, machined and tubular components and caters to original equipment manufacturers like TVS Suzuki, Yamaha Motors, Honda Scooters, Majestic Auto in the two-wheeler segment, car manufacturers Maruti Udyog and Honda-Siel Cars, and others like Eicher Motors, New Holland Tractors, Denso India, Carrier Aircon, Piaggio India, etc, besides Hero Honda.

Even though the company has multi-locational production facility, all its units are located in and around Delhi making it difficult to cater to the demands of Bajaj Auto, which is based in Pune, and others like TVS and LML.

Its operating margins may also be under threat with the OEMs pressurising component manufacturers to cut costs and improve quality, with competition in the two-wheeler market increasing. The rising steel prices have also made a dent in margins. Also, there is threat from imported products from China and Taiwan where steel prices are much lower, though quality may be an issue with such imported products.

The company, on its part, has been able to sharply reduce inventory levels since 1998 even as the sales have doubled. Also, its debt-equity ratio has come down to 0.43 in the fiscal 2002 from 1.06 in the fiscal 1998.

With economies of scale working for it, Omaxs returns on assets, returns on capital employed and returns on net worth have surged since 1998.

Its earnings per share has consistently increased from Rs 12.84 in the fiscal 1998 to Rs 43.14 in the fiscal 2002. The book value of a share of the company was Rs 120.7 as in March 2002.


The current auto boom may face a few hurdles in the near future. Therefore the auto ancillaries will have to be watchful. The rising fuel prices and the uncertainty surrounding supply of oil may act as a dampener on the auto recovery. This may, in turn, rein in growing demand for auto components. However, if the Indian auto ancillary companies gear up on quality, they can look forward to the global market to sustain growth in the future.