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ICRA: Safety norms and BS VI transition will drive auto ancillaries revenue growth

Published in Automobile Thursday, 11 April 2019 14:25



Higher content per vehicle to support new emission and safety requirement is expected to drive demand for auto ancillaries despite relatively muted auto original equipment manufacturer (OEM) demand. As per ICRA’s note on the auto component industry, the weighted average growth in demand for auto components from OEMs is estimated at 9-10% in FY2019 (as against 9.5% in FY2018) supported by strong commercial vehicle (CV) volumes. The growth for FY2020 is likely to be around 8-9% Y-o-Y. This is taking into consideration the likely automobile volume growth of 8-9% during FY2019 and ~7% during in FY2020, as against 14.5% growth during FY2018 and 5.4% during FY2017. 

In the 11M FY2019, automotive OE production volumes grew by 8.8%. Says Subrata Ray, Senior Group Vice President, ICRA, “With pre-GST inventory destocking leading to sharp contraction in auto Original equipment manufacturer (OEM) sales volumes during April-July 2017, the base effect translated into volume growth across several OE segments and in the replacement market during 11M FY2019. However, there has been a lull in all segments, except tractors since Nov 2018. Even in tractors, while production has been growing at a healthy pace, sales have been muted since Jan 2019.”

In the aftermarket, sales were impacted in FY2018 because of GST-related inventory destocking in Q1 FY2018 and initial GST implementation related uncertainties in Q2 FY2018. Demand picked up in Aug/Sep 2018, with a sharp revival from Q4 FY2018 onwards. While aftermarket sales witnessed double-digit growth on Y-o-Y basis in H1 FY2019 (excluding tyres and batteries), ICRA research estimates 0-2% growth during Q3FY2019 due to the high base effect of Q3 FY2018 and tightened financing environment. Collection cycle in the replacement segment has also stretched with the on-going tightness in liquidity.

The domestic auto-component industry has also likely to be impacted by global automobile demand. The global automotive outlook is relatively muted. The US Class 8 truck retail sales exhibited strong growth of 37% in CY2018. While this growth momentum is likely to continue in CY2019, US class 8 Truck order book has been dropping since Nov 2018, after a record 4,90,000 units of orders in CY2018, and this would impact sales in CY2020, given the lead time to execution. European passenger vehicle (PV) demand too is likely to be muted for CY2019 following decline in PV registrations since September 2018 post mandatory compliance with new emission standards (Worldwide Harmonised Light Vehicle Test Procedure) and Brexit-related uncertainties.

The upswing in commodity prices over the last few quarters is reflected in ICRA’s small car cost index breaching the previous peak (FY2015) in FY2018 and inching up further in 9M FY2019. The OEM price pass-through clause which several tier-1 ancillaries enjoy, and operating leverage benefits from higher volumes has mitigated the impact on operating margins to an extent, although the current softening in commodity prices is hampering pass-throughs. Overall, ICRA expects commodity prices to moderate marginally during FY2020, easing margin pressure for the industry.

In terms of revenue growth for Q3 FY2019 for ICRA’s industry sample (48 auto ancillaries), the same showed continued traction growing by 11.4%. However, this was the lowest quarterly Y-o-Y growth since Q2 FY2018. For 9M FY2019, the industry witnessed a topline growth of 18.2% Y-o-Y, supported by the strong volume growth in Q1 and Q2 FY2019 and commodity pass increases. Operating profit margins however contracted by 120 bps Y-o-Y to 12.9% during Q3 FY2019, impacted by inadequate pass through of crude price hikes, INR depreciation, and commodity price increases, even as auto component companies benefitted from high volume growth and consequent operating leverage benefits. For 9M FY2019, the OPM of ICRA’s sample increased marginally by 10 bps Y-o-Y to 13.5%, predominantly aided by margin improvement in tyre companies (which had a dull Q1 FY2018 due to high rubber prices and GST implementation). 

Adds  Ray, “ICRA expects revenues for the industry to grow by 10-11% in FY2020, driven by increased content per vehicle, supported by the transition to BS VI and mandatory safety norms and despite muted volume growth for most automotive segments during FY2020. Operating margins will remain in the 13.75%-14.25% range in the medium term. Capex was high at 6-7% of operating income during the past three years (FY16-18); this trend is expected to continue during FY19-23 also, driven by investment in capacity creation, emission and safety related products, powertrain electrification and localisation of the same and non-core investments to support the defence, aerospace and engineering industry.”

Robust demand of the past year has led to a sharp increase in capacity utilization during the latter part of FY18, triggering capex. While the recent softness in demand has led to a cautious approach on capex in the immediate term, ICRA research is tracking capex worth Rs. 31,000 crore across 45 auto component majors to be executed over the next three years (FY19-23), as against Rs. 24,800 crores (for the same sample) over the past three years (FY16-18).



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