Inside Indian auto sector’s race to harness the PLI scheme

Suzuki Motor Corp., the parent of Maruti Suzuki, wants to collaborate with its fellow Japanese automaker and alliance partner, Toyota Motor Corp., in seeking to plug into the PLI tap to increase exports from India, according to two people aware of the matter. Broad plans are already being worked out. As part of this multi-year horizon strategy, Suzuki may position India as its sole manufacturing hub for a select range of products in the coming years, said one of the two, who requested anonymity. “Some automakers like Suzuki and Hyundai are upbeat about increasing the exports of parts and vehicles from India," said the person.

Grand visions of edging out China as the world’s factory have received a jolt of reality over the last few months, with many global firms waking up to the inherent difficulties built into any large-scale relocation attempts. But the “China+1" de-risking moves, if it takes root, could still offer some wiggle room for a slew of countries, particularly in select sectors where prior expertise is present locally. In India’s case, that opportunity is nowhere more evident than in auto and, perhaps, pharmaceutical industries, which have organically grown over the last two decades.

Yet, despite a substantial domestic auto ecosystem, India is nowhere present on the exports map. According to data available with the Society of Indian Automobile Manufacturers (Siam), India exports about four million vehicles in a year on an average (domestic sales are usually in the range of 20-25 million). In 2019, the European Union was the largest exporter of automotive products in value terms, followed by Japan, the US, Mexico, South Korea, Canada, and China, according to Statista. India didn’t make it to the list of top 10 exporters by value.

Benefits offered under the scheme may initially be limited to firms that already export from India. The benefits are likely to be provided based on an incremental increase in revenue from the base year (expected to be 2018-19) and the degree of localization in parts or sub-components.

On offer for the automobile and auto components industry is an outlay of ₹57,000 crore—the largest for any sector—and the scheme has aroused the interest of global auto manufacturers which are seeking to integrate India with their global supply chain network and diversify the sourcing of critical components in a post-pandemic world.

The plans

The nuts and bolts of the auto package are still being worked out by the central government. A similar PLI scheme with an outlay of ₹18,000 crore has been offered to manufacturers of lithium-ion cells that power electric vehicle (EV) batteries, with the intention of transforming India into a nucleus for the development and manufacturing of EVs and to take on China in that market segment as well.

“The first thing we need (to do) is to secure the supply sources (for EV batteries) and this particular scheme will help establish supply sources. We have a big passenger vehicle market in India, and we should also have a market for batteries since it is an important component of an EV. This is an important step," said P. Balaji, chief financial officer, Tata Motors Ltd.

Tata Chemicals Ltd, a Tata group company, is expected to set up lithium cell manufacturing capacity in Gujarat in the coming years and is expected to utilize the benefits offered by the scheme. This is likely to help domestic manufacturers of EVs like Tata Motors and others.

If executed well, the scheme could potentially open up a new manufacturing ecosystem in India in the coming decade.

To be sure, serious challenges are already surfacing. The pandemic has strained the government’s finances, impairing its ability to offer the incentives that it has promised to manufacturers across the board. Those without an existing manufacturing and export base in India may take a long time to qualify.

But some firms are racing ahead anyway. Hyundai Motor Co. plans to strengthen its presence in the Indian market, seeking to de-risk its operations by gradually reducing its reliance on China for parts, the officials cited above said.

As part of the strategy, Hyundai plans to source more parts from India for its current and new factories in South-East Asia—for instance, an upcoming plant in Indonesia. The company also plans to enhance the procurement of parts for its factories in South America and Eastern Europe from India.

Other companies like Ford Motor Co., Volkswagen AG, and Nissan Motor Co. Ltd are also looking at ways to improve shipments from India in order to be eligible to tap the incentives. Queries sent to Maruti Suzuki and Hyundai Motor India Ltd remained unanswered.

A top executive at a foreign automaker said the scheme will be key to manufacturers who export from India and are looking to invest more to find an alternative to China, currently the global focal point of automotive supply chains. “The Chinese government has been providing incentives indirectly to firms that are exporting from China, especially the ones owned by the Chinese or in a joint venture with a local one. These (proposed) incentives will help India become a cost competitive exporter. This will be good for the companies and will help the government attract more investments," added the executive, requesting anonymity.

Electric vehicles

Since assuming office in 2014, the Modi government has pushed for the production of EVs in order to reduce fuel emissions and reduce pollution, but policy announcements like the Faster Adoption and Manufacturing of Hybrid and Electric Vehicles (FAME) scheme failed to result in a positive outcome.

In 2019, to establish a local ecosystem for EVs, the policy think tank NITI Aayog and several government ministries started working on a scheme that will incentivise manufacturing of lithium cells in India, which is crucial for the development of EVs and is a space that is currently dominated by China.

The government also engaged with leading EV and lithium cell manufacturers in order to gauge demand and prospects. Lithium-ion cells are required for making batteries that power EVs, laptops and smartphones. Lithium as a commodity is tipped to replace crude oil as the most important commodity for economic growth in the coming decade. Establishing a supply chain for lithium batteries has been one of India’s key focus areas.

Manufacturers would have to commit to set up a manufacturing facility with a minimum capacity of 5-gigawatt hour and ensure a minimum 60% domestic value addition within five years at the project level to qualify for incentives, the government said.

The primary objective of the policy is to accelerate EV penetration in India and increase local content, especially in battery cells, which are currently almost entirely imported, said Ashish Modani, vice president and co-head of corporate ratings at credit assessor Icra Ltd.

Batteries and associated components alone account for about 40% of an electric car’s raw material cost structure. “Hence, focus on manufacturing battery cells locally is a welcome step. However, certain restrictions on eligibility like the minimum 5 GWh capacity, localization requirement and even raw material availability could cap the benefits and will weigh on the RoI (return on investment) in the segment," added Modani.

Mint had recently reported that Suzuki, Toshiba Corp. and Denso Corp. plan to turn their joint manufacturing facility for lithium-ion cells in Gujarat into a global export hub. The joint venture, TDS Lithium-ion Battery Pvt. Ltd, is also expected to receive sops under the PLI scheme.

Potential downsides

Initially, only a handful of automakers may qualify to even apply for the proposed incentives. Besides, there is also the looming possibility that the government may reduce the ₹57,000 crore outlay due to financial constraints. “With the second wave of covid-19 prompting lockdowns in many parts of the country, it remains to be seen how much the government stands by its commitment of ₹57,000 crore," said a top executive at a global automaker, who didn’t want to be named.

According to a senior executive at an Indian auto manufacturer who also requested anonymity, high localization norms could pose a serious challenge, given that vehicles that are currently exported from India have several China-sourced components.

“Indian auto manufacturers may not get to utilize the benefits of this scheme since they aren’t established brands like some of the global companies," the executive said. “Also, if the base year is FY19, then automakers will find it tough to increase export revenue incrementally in the midst of a pandemic. Overall, it is expected that the eligibility criteria will be quite high. Therefore, only a few auto companies will be able to make the cut."

With most automakers focused on making EVs for their main markets in the coming years, export demand for combustion engine vehicles may also be tepid in the long term, and the ability of many firms to invest more may be constrained by the pandemic, said Puneet Gupta, director of consulting firm IHS Automotive.

“Exports of automobiles from India have been declining in the last few years due to factors like the exit of companies like General Motors and the phasing out of certain models by companies like Nissan, which used to export substantially from India," said Gupta. “It remains to be seen how this scheme will be able to revive vehicle exports, which command higher margins for companies. If government incentives come on time, then this can be beneficial for some auto companies and component manufacturers."

In the last two decades, Ford, Nissan, Hyundai, Volkswagen, and others have started using India as a base to manufacture vehicles for export to other emerging markets, but India is still not considered a top exporter by either value or volumes.

Domestic market slump

Automobile sales have also been in a slump domestically at least since the second half of FY19. The tight deadline to transition from Bharat Stage-IV (BS-IV) emission norms to the tighter BS-VI standard also had its fallouts—automakers who were not able to locally develop parts decided to import components to meet the deadline, resulting in significant de-localization.

In a way, the picture is reminiscent of the solar energy transition. An established domestic solar manufacturing ecosystem could not adapt fast enough to global shifts. Today, India is mostly a net importer of components in its quest to promote renewable energy.

To prevent a similar script in the auto sector, and for the new production-linked incentives to actually work, two prerequisites might have to be met: foreign companies, existing and new, will need to pump big money into the Indian automobile market to upgrade technology and domestic sales will have to revive big time, according to experts tracking the auto industry.

Incentives on their own may not be able to convince firms to shift to India and create a separate ecosystem unless the local market also generates sufficient demand, analysts said.

According to Avik Chattopadhyay, founder of strategy consultancy Expereal and a former auto industry executive, the PLI schemes were announced with a lot of fanfare, but they were not thought through since it may not encourage new companies to come and invest in projects or urge existing ones to immediately expand their footprint.

“If we look at the automotive industry, to be eligible, automakers and component manufacturers will require a certain scale. None of domestic manufacturers have scale at the moment barring Bajaj Auto Ltd and TVS Motor Co. If employment generation is the motive, that will also be a challenge. Countries like the US are also trying to bring back supply chain networks, especially in new generation technology. These countries will also give incentives to bring investments back," added Chattopadhyay.