Competition forces auto OEMs to spend more amid slowdown

 Original equipment manufacturers (OEMs) in the automobile sector are facing a second straight year of weak demand, yet the heat of competition is forcing them to spend more on product development and technology.

An analysis of 11 Crisil-rated OEMs, which constitute two-thirds of domestic sales, shows they will incur aggregate capital expenditure of Rs 13,000 crore this fiscal, or 10 per cent more than last year. Even as sales of passenger and commercial vehicles are expected to decline 9 per cent, sales volume of the industry, including two-wheelers, has been nearly stagnant for two years.

During slowdowns, companies cut back on capital expenditure (capex) to manage cash flows. However, Crisil believes the opposite will happen this time. “Domestic auto OEMs are being compelled to invest in new product launches and upgrade technology because of intense competition. As a result, their capital spend as a percentage of revenue will increase about 100 basis points to almost 6.0 per cent this fiscal from about 5 per cent two years back,” said Pawan Agrawal, senior director at Crisil Ratings,

The sector’s competitive intensity has increased with more and more global auto majors pitching tent in India. This is forcing OEMs to stay in capex mode, specifically in two areas — product development and technology. These two areas will account for two-thirds of the capex of Rs 13,000 crore this fiscal, while the rest will go towards maintenance and capacity expansion.

However, capacity expansion will moderate this year due to stagnant volumes, but pick up pace once demand revives.

 Nevertheless, Crisil-rated OEMs will maintain their stable credit risk profiles because of strong financials. Said Manish Gupta, Director at Crisil Ratings, “Domestic auto OEMs such as Maruti Suzuki, Mahindra & Mahindra, Bajaj Auto and Hero MotoCorp have strong balance sheets. Moderate debt and healthy liquid surplus provide these companies with adequate cushion to absorb capex and weather the slowdown.”

Conversely, subsidiaries of global auto players such as Volkswagen and Daimler will continue to derive significant business and financial support from their parents which consider India a long-term bet.