How domestic AC manufacturing can help India and what more could be done to expedite it

The self-sufficiency hypothesis is that some of the value created by local consumption trickles down the supply chain to the domestic manufacturing ecosystem – and ultimately down into workers’ pockets.

How domestic AC manufacturing can help India and what more could be done to expedite it
The two new policies come at a time when the ball is about to set rolling for electing a new government by May second week. Tamil Nadu government has also released a new MSME policy.

By Omer Basith

Indian consumers will purchase over 150 million room ACs over the next 10 years, representing a conservative retail value of approximately 5,10,000 crore Indian Rupees. 

The self-sufficiency hypothesis is that some of the value created by local consumption trickles down the supply chain to the domestic manufacturing ecosystem – and ultimately down into workers’ pockets. This is then recirculated into the economy through further consumption. Additionally, long-term ecosystem benefits like domestic IP creation and exports, while harder to quantify, are likely to create value in orders of magnitude greater than vanilla import substitution.

This, in brief, is the objective behind the government’s drive for self-sufficiency in low penetration (ergo high growth) segments like ACs. The objective is sound but not without its challenges it requires the perfect alignment of complex variables that will somehow result in the evolution of an ecosystem. 

We find ourselves in this Goldilocks zone. With the right interventions (agile government policy, entrepreneurial bets and some engineering magic) we may be headed towards amazing things. I’ve described two real-world interventions and a Wishlist for budget 2021 in this article. If successfully implemented their impact is likely to really shake things up in the coming year.

Intervention 1

On October 16, 2020, the Indian government imposed a blanket ban on the import of air- conditioners with ‘refrigerants. 

35% of the approximately 7 million ACs sold in India are imported into the country as fully built units mainly from China, a large portion also enter the country duty-free as a result of Free Trade Agreements (FTA) with countries like Thailand, Malaysia and Vietnam. The recent DGFT (Director General of Foreign Trade) order will all but eliminate the import of Chinese fully built units into the country, creating a supply vacuum that will need to be filled by locally manufactured units.

This decision is likely to have a short-term disruptive impact on Indian industry, forcing a significant number of the 40 local brands that depend on the trading of fully built units to recalibrate their supply chains. 

In the medium and long term, this decision promotes domestic manufacture of ACs and incentivizes the local development and manufacture of critical subsystems. One thing is clear; this is a clarion call for the existing AC ecosystem to invest in increasing capacities.

Intervention 2 

Development of domestic electronics for inverter ACs 

Up to 30% of the BOM (Bill of Materials) value of a 1.5-ton 3-star inverter air conditioner can be attributed to motor control and human interface electronics. 

80% of Inverter AC electronics are imported from China. 20% are assembled locally by OEM’s like LG and Daikin. Megmeet (China) is the market leader with a 56% share of the Indian market.

Inverter AC electronic solutions require deep integration with other system components creating huge barriers to entry for new players. As it stands, the electronics for ACs are a near-monopoly, with first-mover Megmeet a Chinese company controlling the lion’s share of the Indian market. 

The status quo has led to huge inventories, supply chain restrictions, minimal product differentiation, compressed margins and ultimately, have negatively impacted the growth of the Indian AC industry.

It’s taken the skillset of the Indian startups to disrupt the status quo. Agile partnerships and efforts across the supply chain from key component vendors, large scale EMS capacity and end customers have enabled technology startups like Virtual Forest to overcome ecosystem challenges like the lack of the niche engineering skillset required for advanced motor control, a non-competitive supply chain (the ecosystem is victim to the supply chain dilemma – low volumes mean high component prices; high prices mean low volumes), a lack of patient capital deployment in electronics R&D and most importantly, a siloed monopolistic supply chain.

Indian AC OEMs now have a robust domestic electronics supply chain, allowing them to shorten lead times, reduce inventory holding, develop technology differentiators and most importantly, eliminates a key point of friction that has been holding the expansion of the ecosystem back. 

The development of Inverter AC electronics domestically will enable import substitution up to a projected INR 70K crore while signaling that the domestic electronics ecosystem is ready to take on further development for the home appliance ecosystem industry further to import substitution.

Budget 2021 wishlist 

  1. Reduction on duties for Semiconductors – India’s vibrant EDSM ecosystem is at a distinct disadvantage due to the complete lack of domestic semiconductor manufacturing capability. While government agencies like MeIty are working towards strengthening the component ecosystem in India, a medium-term intervention to reduce the duties on components especially semiconductors would prove to be a shot in the arm for Industry. This would help offset freight, finance and handling costs while making Indian electronics more cost competitive.
  2. Deductions on investment for WFH – Work from home has meant making investments in computing, quality of life (like air conditioners, washing machine, dishwashers etc.) and communication infrastructure. Deductions towards these expenses or reduced GST may go some way in boosting demand further.

In addition to the interventions above, the industry awaits the introduction of the PLI scheme with bated breath. Incentivizing investment in the Indian appliance ecosystem might be the final missing link in the creation of a mammoth appliance manufacturing ecosystem in our country.

I for one am extremely excited for what’s to come!

(Omer Basith, Co-founder & CEO of Virtual Forest. The views expressed by the author are his own.)

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First published on: 04-01-2021 at 14:58 IST