Indian Two-Wheeler ICRA Sectoral Analysis - Jan 2005

Industry

INTRODUCTION: The Indian automotive industry consists of five segments: commercial vehicles; multi-utility vehicles & passenger cars; two-wheelers; threewheelers; and tractors. With 5,822,963 units sold in the domestic market and 453,591 units exported during the first nine months of FY2005 (9MFY2005), the industry (excluding tractors) marked a growth of 17% over the corresponding previous. The two-wheeler sales have witnessed a spectacular growth trend since the mid nineties. Two-wheelers: Market Size & Growth: In terms of volume, 4,613,436 units of two-wheelers were sold in the country in 9MFY2005 with 256,765 units exported. The total two-wheeler sales of the Indian industry accounted for around 77.5% of the total vehicles sold in the period mentioned. Figure 1: Segmental Growth of the Indian Two Wheeler Industry (FY1995-2004)

After facing its worst recession during the early 1990s, the industry bounced back with a 25% increase in volume sales in FY1995. However, the momentum could not be sustained and sales growth dipped to 20% in FY1996 and further down to 12% in FY1997. The economic slowdown in FY1998 took a heavy toll of twowheeler sales, with the year-on-year sales (volume) growth rate declining to 3% that year. However, sales picked up thereafter mainly on the strength of an increase in the disposable income of middle-income salaried people (following the implementation of the Fifth Pay Commission's recommendations), higher access to relatively inexpensive financing, and increasing availability of fuel efficient two-

wheeler models. Nevertheless, this phenomenon proved short-lived and the twowheeler sales declined marginally in FY2001. This was followed by a revival in sales growth for the industry in FY2002. Although, the overall two-wheeler sales increased in FY2002, the scooter and moped segments faced de-growth. FY2003 also witnessed a healthy growth in overall two-wheeler sales led by higher growth in motorcycles even as the sales of scooters and mopeds continued to decline. Healthy growth in two-wheeler sales during FY2004 was led by growth in motorcycles even as the scooters segment posted healthy growth while the mopeds continued to decline. Figure 1 presents the variations across various product subsegments of the two-wheeler industry between FY1995 and FY2004. Demand Drivers: The demand for two-wheelers has been influenced by a number of factors over the past five years. The key demand drivers for the growth of the two-wheeler industry are as follows: Inadequate public transportation system, especially in the semi-urban and rural areas; Increased availability of cheap consumer financing in the past 3-4 years; Increasing availability of fuel-efficient and low-maintenance models; Increasing urbanisation, which creates a need for personal transportation; Changes in the demographic profile; Difference between two-wheeler and passenger car prices, which makes twowheelers the entrylevel vehicle; Steady increase in per capita income over the past five years; and Increasing number of models with different features to satisfy diverse consumer needs. While the demand drivers listed here operate at the broad level, segmental demand is influenced by segment-specific factors. MARKET CHARACTERISTICS Segmental Classification and Characteristics: The three main product segments in the two-wheeler category are scooters, motorcycles and mopeds. However, in response to evolving demographics and various other factors, other subsegments emerged, viz. scooterettes, gearless scooters, and 4-stroke scooters. While the first two emerged as a response to demographic changes, the introduction of 4-stroke scooters has followed the imposition of stringent pollution control norms in the early 2000. Besides, these prominent sub-segments, product groups within these sub-segments have gained importance in the recent years. Examples include 125cc motorcycles, 100-125 cc gearless scooters, etc. The characteristics of each of the

three broad segments are discussed in Table 1. Table 1 Two-Wheelers: Comparative Characteristics Scooter Price*(Rs. as in January 2005) Stroke Engine Capacity (cc) Ignition Engine Power (bhp) Weight (kg) Fuel Efficiency (kms per litre) > 22,000 2-stroke, stroke 90-150 6.5-9 90-100 50-75 4-

Motorcycle > 30,000

Moped > 12,000

Mainly 4-stroke 2-stroke 100, 125, > 125 50, 60 7-8 and above > 100 50-80+ Highest 2-3 60-70 70-80 Low

Kick/Electronic Kick/Electronic Kick/Electronic

Load Carrying High *Ex-showroom Mumbai Compiled by INGRES

Segmental Market Share: The Indian two-wheeler industry has undergone a significant change over the past 10 years with the preference changing from scooters and mopeds to motorcycles. The scooters segment was the largest till FY1998, accounting for around 42% of the two-wheeler sales (motorcycles and mopeds accounted for 37% and 21 % of the market respectively, that year). However, the motorcycles segment that had witnessed high growth (since FY1994) became larger than the scooter segment in terms of market share for the first time in FY1999. Between FY1996 and 9MFY2005, the motorcycles segment more than doubled its share of the two-wheeler industry to 79% even as the market shares of scooters and mopeds stood lower at 16% and 5%, respectively. Figure 2 Trends in Segmental Share in Industry Sales (FY1996-9MFY2005)

While scooter sales declined sharply by 28% in FY2001, motorcycle sales reported a healthy growth of 20%, indicating a clear shift in consumer preference. This shift, which continues, has been prompted by two major factors: change in the country's demographic profile, and technological advancements. Over the past 10-15 years the demographic profile of the typical two-wheeler customer has changed. The customer is likely to be salaried and in the first job. With a younger audience, the attributes that are sought of a two-wheeler have also changed. Following the opening up of the economy and the increasing exposure levels of this new target audience, power and styling are now as important as comfort and utility. The marketing pitch of scooters has typically emphasised reliability, price, comfort and utility across various applications. Motorcycles, on the other hand, have been traditionally positioned as vehicles of power and style, which are rugged and more durable. These features have now been complemented by the availability of new designs and technological innovations. Moreover, higher mileage offered by the executive and entry-level models has also attracted interest of two-wheeler customer. Given this market positioning of scooters and motorcycles, it is not surprising that the new set of customers has preferred motorcycles to scooters. With better ground clearance, larger wheels and better suspension offered by motorcycles, they are well positioned to capture the rising demand in rural areas where these characteristics matter most. Scooters are perceived to be family vehicles, which offer more functional value such as broader seat, bigger storage space and easier ride. However, with the second-hand car market developing, a preference for used cars to new two-wheelers among vehicle buyers cannot be ruled out. Nevertheless, the past few years have

witnessed a shift in preference towards gearless scooters (that are popular among women) within the scooters segment. Motorcycles, offer higher fuel efficiency, greater acceleration and more environment-friendliness. Given the declining difference in prices of scooters and motorcycles in the past few years, the preference has shifted towards motorcycles. Besides a change in demographic profile, technology and reduction in the price difference between motorcycles and scooters, another factor that has weighed in favour of motorcycles is the high resale value they offer. Thus, the customer is willing to pay an up-front premium while purchasing a motorcycle in exchange for lower maintenance and a relatively higher resale value. Supply Manufacturers: As the following graph indicates, the Indian two-wheeler industry is highly concentrated, with three players-Hero Honda Motors Ltd (HHML), Bajaj Auto Ltd (Bajaj Auto) and TVS Motor Company Ltd (TVS) accounting for over 80% of the industry sales as in 9MFY2005. The other key players in the two-wheeler industry are Kinetic Motor Company Ltd (KMCL), Kinetic Engineering Ltd (KEL), LML Ltd (LML), Yamaha Motors India Ltd (Yamaha), Majestic Auto Ltd (Majestic Auto), Royal Enfield Ltd (REL) and Honda Motorcycle & Scooter India (P) Ltd (HMSI). Figure 3 Shares of Two-Wheeler Manufacturers in Industry Sales (FY2000-9MFY2005)

Although the three players have dominated the market for a relative long period of time, their individual market shares have undergone a major change. Bajaj Auto was the undisputed market leader till FY2000, accounting for 32% of the twowheeler industry volumes in the country that year. Bajaj Auto dominance arose from its complete hold over the scooter market. However, as the demand started

shifting towards motorcycles, the company witnessed a gradual erosion of its market share. HHML, which had concentrated on the motorcycle segment, was the main beneficiary, and almost doubled its market share from 20% in FY2000 to 40% in 9MFY2005 to emerge as the market leader. TVS, on the other hand, witnessed an overall decline in market share from 22% in FY2000 to 18% in 9MFY2005. The share of TVS in industry sales fluctuated on a year on year basis till FY2003 as it changed its product mix but has declined since then. Technology: Hitherto, technology transfer to the Indian two-wheeler industry took place mainly through: licensing and technical collaboration (as in the case of Bajaj Auto and LML); and joint ventures (HHML). A third form - that is, the 100% owned subsidiary route - found favour in the early 2000s. A case in point is HMSI, a 100% subsidiary of Honda, Japan. Table 2 details the alliances of some major two-wheeler manufacturers in India. Besides the below mentioned technology alliances, Suzuki Motor Corporation has also followed the strategy of joint ventures (SMC reportedly acquired equity stake in Integra Overseas Limited for manufacturing and marketing Suzuki motorcycles in India). Table 2 Technological tie-ups of Select Players Nature of Alliance Company Bajaj Auto Technological tie-up Technological tie-up Technological tie-up HHML Joint Venture KEL KEL LML Technological tie-up Product

Kawasaki Heavy Industries Ltd, Motorcycles Japan Tokya R&D Co Ltd, Japan Kubota Corp, Japan Honda Motor Co, Japan Twowheelers Diesel Engines Motorcycles

Hyosung Motors & Machinery Motorcycles Inc Scooters Motorcycles Scooters

Tie up for manufacturing Italjet, Italy and distribution Technological tie-up Daelim Motor Co Ltd Aprilia of Italy

Hero Technological tie-up Motors Compiled by INGRES

With the two-wheeler market, especially the motorcycle market, becoming

extremely competitive and the life cycle of products getting shorter, the ability to offer new models to meet fast changing customer preferences has become imperative. In this context, the ability to deliver newer products calls for sound technological backing and this has become one of the critical differentiating factor among companies in the domestic market. Thus, the players have increased their focus on research and development with some having indigenously developed new models as well as improved technologies to cater to the domestic market. Further, with exports being one of the thrust areas for some Indian two-wheeler companies, the Indian original equipment manufacturers (OEMs) have realised the need to upgrade their technical capabilities. These relate to three main areas: fuel economy, environmental compliance, and performance. In India, because of the cost-sensitive nature of the market, fuel efficiency had been an interest area for manufacturers. It is not only that the OEMs are increasing their focus on in-house R&D, they also provide support to the vendors to upgrade the technology and also assist them striking technological alliances. TRENDS IN THE TWO-WHEELER INDUSTRY: Companies raising capacity to meet the growing demand: All the major twowheeler manufacturers, viz. Bajaj Auto, HHML, TYS, HMSI and others, have increased their manufacturing capacities in the recent past. The total capacity of these players stood at 7.8 million units per annum (FY2003) as against total market sales of 3.8 million units in FY2002. Most of the players have either expanded capacity, or converted their existing capacities for scooters and mopeds into those for manufacturing motorcycles. The move has been prompted by the rapid growth reported by the motorcycles segment since FY1995. HHML increased the capacity of its plants from 1.8 million units in FY2003 to 2.25 million in FY2004 and has been able to achieve 92% capacity utilisation. In light of the increase in demand for motorcycles, the company plans to set up a new plant. Since its entry in the Indian market during FY2002, HMSI has aggressively expanded its capacity. Niche markets also witnessing intense competition: A significant trend witnessed over the past five years is the inclination of consumers towards products with superior features and styling. Better awareness about international models has raised expectations of consumers on some key attributes, especially quality, styling, and performance. High competitive intensity has prompted players to launch vehicles with improved attributes at a price less than the competitive models. In an effort to satisfy the distinct needs of consumers, producers are identifying

emerging consumer preferences and developing new models. For instance, in the motorcycles segment, motorcycles with engine capacity over 150cc, is a segment that has witnessed significant new product launches and hence, become more competitive. The indigenously launched Pulsar 150 had met with success on its launch and thereafter, a host of models have been launched in this segment by various players. While Bajaj Auto launched the Pulsars (150 and 180 cc) with digital twin spark technology (DTSi) that offers a powerful engine and fuel efficiency of 125 cc models, model launches by other players include LML's Graptor/Beamer, HMSI's Unicorn besides the HHML's CBZ (improved version launched in 2003-04) and TVS' Fiero F2. Moreover, in the recent past, the motorcycle segment has witnessed launch of vehicles with higher engine capacity (higher than 150cc) and power (higher than 15bhp). These include models such as Bajaj Auto Eliminator and Royal Enfield's Thunderbird followed by HHML's Karisma. Besides these, KEL has launched premium segment motorcycles GF 170 and GF Laser besides launching products from the portfolio of its technology partner (Hyosung's Aquila and Comet 250). The products in this segment cater for style conscious consumers. Quite a few players are developing models combining features such as higher engine capacity" optimum mix of power and performance, and superior styling. However, the extent of shift to these products would depend on the positioning of such products in terms of price. In the scooters segment, the market for plastic-bodied variomatic scooters continues to witness growth in the scenario of overall decline in scooter volumes. Higher volumes and growth are especially true for certain scooter models, such as Honda Activa, that brought in new technology (besides variomatic transmission) to further differentiate themselves. Thus, the need to differentiate and create a niche has led to companies strengthening their research and development (R&D) capabilities and reducing the development time for new models. Increasing focus on exports: For the first nine months of FY2005, two-wheeler exports increased by 37% over the corresponding previous, led mainly by motorcycles even as exports of other two-wheelers were healthy. While motorcycle exports increased by 40%, scooter and moped exports increased by 29% and 27% respectively. Motorcycle exports by Bajaj Auto, HHML and TVS have reported a tobust growth in FY2005 and are expected to increase further in the medium term. Table 3 Two-Wheeler Exports from India (in numbers) FY2000 FY2001 FY2002 FY2003 FY2004 CAGR 9MFY2005 (FY2000-

04) Scooters Mopeds Total 20,188 25,625 28332 30116 53148 24234 27.4 -3.3 44832 188807 22739 256378 Motorcycles 35,295 41,339 56,880 126122 187287 51.4 27,754 44,174 18,971 23330 83,237 111,138 104183 179568 264669 33.5

Source: SIAM Although the Indian two-wheeler manufacturers have forayed on their own in their target export markets, there have been instances of tie-ups with the technology partners. Bajaj Auto's tie-up with Kawasaki to jointly market Bajaj products in Philippines is a case in point. Under the tie-up, M/s Kawasaki Motors Philippines Corporation has been appointed as exclusive distributors to market select Bajaj twowheelers that include Byk, Caliber 115 and Wind 125. These vehicles are being sent to Philippines in the completely built unit (CBU) form. Other strategy of expanding international presence considered by few players is that of setting up assembly lines in select South East Asian countries either on their own or in partnership with local players. Besides, plans of select overseas technology partners to source from their Indian partners and plans of global majors to develop their Indian manufacturing unit as a sourcing hub may also lead to increase in twowheelerexports from India. Companywise two-wheeler exports since FY2000 are presented in the following Table 4. Table 4 Company-wise two-wheeler exports (FY2000-9MFY2005) FY2000 FY2001 FY2002 FY2003 FY2004 CAGR 9MFY2005 (FY200004) Bajaj Auto HMSI TVS Others 14924 16112 10324 0 6621 20446 57635 28527 13023 1293 7765 20321 32752 53366 21165 10916 9636 45546 39053 90210 39254 31414 28093 32906 42792 56.8 40.5 n.a 40.2 21.3 4.6 87225 43441 27734 36666 27539 33773

HHML 10061 0 7265 35790

Yamaha 15197

Total

83237

111138 103681 179682 264669 33.5

256378

Source: SIAM Vehicle Emission Norms: Emission norms for all categories of petrol and diesel vehicles at the manufacturing stage were introduced for the first time in India in 1990 and were made stricter in 1996. When the 1996 norms were introduced, it resulted in certain models being withdrawn from the market. With Stage I India 2000 emission norms coming into place, the cost of developing suitable technology has remained high. The emission norms that are currently in force for two-wheelers and three-wheelers are more stringent than the Euro II norms. The roadmap suggested for emission norms for two/three-wheelers by the Expert Committee on Auto Fuel Policy is as follows: For two-/three-wheelers the emission norms are recommended to be the same in the entire country: For new vehicles: Bharat Stage II norms throughout the country from April 1, 2005 Bharat Stage III norms to be applicable preferably from April 1, 2008 but not later than April 1, 2010. For reducing pollution from in-use vehicles New pollution under control (PUC) checking system for all categories of vehicles to be put in place by April 1, 2005 Inspection & maintenance (I&M) system for all categories of vehicles to be put place by April 1, 2010 Performance checking system of catalytic converters and conversion kits installed in vehicles to be put in place by April 1, 2007. Table 5 presents the emission norms for two-wheelers that were in place in the past, the India 2000 emission norms, and the norms that have been implemented for April 2005 (Stage II) and proposed for 2008 (Stage III). Table 5 Exhaust Emission Norms Old Vehicle Pollutants 1996 2000 2005* 2008/10** Norms TowCO wheelers (gm/Km) HC+Nox 12-30 4.5 8-12 3.6 2.0 2.0 1.5 1.5 1 1

Three- CO wheelers (petrol) HC+Nox

12-30 6.8 8-12 5.4

4.0 1.5

2.25 2

1.25 1.25

Three- CO 1 1.1 wheelers HC+Nox 0.85 1 (Diesel) PM 0.10 0.05 CO: Carbon Monoxide; HC: Hydrocarbon; Nox: Nitrogen Oxide, PM: Particulate Matter, * Maximum Sulphur parts per million (ppm) permissible of 150 and ** Maximum Sulphur ppm permissible of 50 Compiled by INGRES To be able to meet the exhaust norms, the Auto Fuel Policy has suggested following technologies: Table 6 Technologies for meeting the emission norms for Spark Ignited Vehicles 2/3 - wheelers Level of Emission Norms Euro I/India 2000 Euro II/Bharat Stage II 2-Stroke Technology 4-Stroke Technology engine

Intake, exhaust, combustion 4-Stroke optimisation Catalytic converter technology Secondary Caatalytic Converter air

injection Hot tube Secondary air injection

Euro III/Bharat Stage III

Fuel injection Catalytic converter Fuel injection Carburetor + catalytic converter To be developed Learn burn Fuel injection + catalytic converter

Euro IV/Bharat Stage IV

Source: National Auto Fuel Policy The adoption of new technologies for compliance with stricter emission norms may affect the prices of vehicles. Some two-wheeler manufacturers are testing electronic fuel injection systems for motorcycles. To begin with, electronic systems are likely to be introduced in premium segment motorcycles. Fiscal Policy: The Union Budget for 2001-02 had lowered the excise duty on two-

wheelers (with engine capacity in excess of 75 cc) from 24% to 16%. The manufacturers responded to this by passing on a relatively large part of the excise cut to customers. The Union Budget thereafter have left the excise duty on twowheelers unchanged. But the Union Budget 2004-05 provides for a weighted deduction of 150% for investments in R&D. This may facilitate increasing R&D allocations and allow for improvement in the technical as well as product development skills of the Indian companies. Indian Auto Policy 2002: The Government of India approved a comprehensive automotive policy in March 2002, the main proposals of which are as under: Foreign direct investment: Automatic approval is proposed to be granted to foreign equity investment up to 100% for manufacture of automobiles and components. Import tariff : Import tariffs are proposed to be fixed at a level such that they facilitate the development of manufacturing capabilities as opposed to mere assembly. Incentives for R&D : The weighted average tax deduction under the Income Tax Act, 1961 for automotive companies is proposed to be increased from current level of 125% (The weighted average deduction for R&D was increased to 150% in the Union Budget 2004-05). Further, the policy proposes to include vehicle manufacturers for a rebate on the applicable excise duty for every 1% of the gross turnover of the company expended during the year on R&D. Environmental aspects : Adequate fiscal incentives are proposed to promote the use of low-emission auto fuel technology (in line with the Auto Fuel Policy). The auto policy states the Government's intent to align domestic policy with the international practice of imposing higher road tax on old vehicles so as to discourage their use.