Cars and competition disruption

Nothing is better than competition. Pakistan's automotive industry is going through a transition phase. For the last thirty years, three Japanese assemblers dominated the passenger car segment. Localization of parts never happened to the liking of policymakers while consumers lacked choices. A new auto policy was introduced during the last regime which has enabled the entry of a few new players into the car industry.

Lack of localization by three Japanese assemblers is evident by a rise in car prices in tandem with currency depreciation in the last two years. The price increase ranged between 40 and 55 percent (barring Alto and Fortuner) as against headline inflation of 21 percent since December 2017. As a result, consumer affordability is eroded. Higher interest rates are denting demand further. Around one fourth of cars are financed by formal banking sector. Documentation spree is hurting demand too. It's not the best time for industry expansion. That is why new entrants are yet to make an impact.

But time is not far when these new assemblers will give tough competition to old horses. They have a five-year window of tax benefits where they can import parts at relatively lower duties. This is the time for new entrants to acclimatize and localize. After that, it will be a level playing field. Some companies will survive and others will fade.

Competition can disrupt the industry, like it happened in motorbike manufacturing. Fifteen years back, the retail price of Honda CD 70 was Rs 55,000. The company increased it to Rs 65,000 and in a short time raised the price further to Rs 75,000. Local assembling of two-three wheelers was around 200,000 units per annum. Engineering Development Board (EDB) at that time decided to increase competition by issuing dozens of new licences.

Chinese players flushed the market with prices as low as Rs 28,000 per unit. Honda had to react. It increased localization and prices fell. Some new companies survived while others vanished. The market pie expanded invariably. It increased by 12 folds while 2.4 million units were sold last year. The beauty is that Honda CD 70 still dominates the market with 1 million plus units produced last year. Its price today is around its then peak price of Rs 75,000 in 2006-07. Others are selling 70cc in the range of Rs 38,000-55,000. Localization in the industry is near 100 percent. Pakistani players (other than Honda) are geared to export assembled units to Africa. One player is coming with up a three-wheeler EV.

A similar disruption can happen in the car industry as well. New licences are issued to non-Japanese brands. Two South Korean brands are operating in partnership with big local partners. A few Chinese two-three wheelers manufacturers (local owners) are in assembling business too. Volumes of new entrants are low today. Some may succeed and some new players might emerge. The consumer is going to benefit from a better choice matrix. Localization might increase and prices would be rationalized.

Early signs of disruption are already visible. For example, Kia Sportage is gaining traction. Its two-wheel drive is in competition to Honda Civic and Toyota Grande while Fortuner buyers are titling towards Sportage four-wheel drive. It is priced at a sweet spot.

The fundamental difference between South Korean (Kia and Hyundai) and Chinese players from old Japanese is that almost all new players are contract manufacturers. None of them is married to respective principal. This can change the market landscape. These players have unique preposition which existing Japanese assemblers lack. For example, majority shareholding of Kia Lucky Motors is held by Lucky Cement (over 70%). It can assemble other cars in a plant having 60,000 units annual capacity. Lucky Group is in talks with European players, including Renault, for local manufacturing too.

Older assemblers are dominated by respective Japanese partner. They cannot make the decision of localization of any part independently. In many instances, local vendors are bound to buy imported components from specified foreign supplier approved by the principal. The price of components could be higher than the local market and is passed on to the consumer eventually.

Lucky and Nishat groups would be in a better negotiation position to push principals for more localization and for buying imported components at best price. Similarly, Chinese players like United and Road Prince are independent in decision-making. Plus, they are tapping into budget car market. For example, United Bravo is producing 800-cc car at a price less than Rs 1 million. Road Prince is also coming up in budget car segment too along with venturing in luxury segment.

These Chinese players cannot compete in quality with Japanese and Korean international brands. But they are certainly giving consumers a choice at low prices. If they survive, they may force others to lower prices by increasing localization. Local partners of Japanese brands would have to push principals to enhance localization. Nothing but competition can make this happen.

Having said that, the story of cars can never be a replica of bikes. Pakistan is nowhere close to produce engines, suspensions, etc. At this point, localization is mainly in manpower, tooling and energy. Those parts which are produced locally have to rely on imported components because steel, glass and other industries are not present in Pakistan. It is a long shot; but we can at least start moving in the right direction.