Suzuki Motor Corp’s (SMC) decision to set up a wholly owned subsidiary in India and a plant by 2017 on the land allotted to Maruti augurs well both for India and for shareholders of Maruti Suzuki India Limited (MSIL).
However, issues pertaining to demand, margin sharing and tax need to be addressed.
The lease arrangement proposed must be encouraged because it will utilise the land already allotted to Maruti, bring in investment from Suzuki for buying the plant and machinery and the necessary tooling, and, most important of all, generate employment.
From an industry perspective, critical to the success of any expansion plan is the estimated demand for four-wheelers by 2020.
Given the current sales volume of about 3.2 million vehicles straddling all segments, estimates of production by 2020 range from 5 to 7 million vehicles annually.
Cars are a buyers’ market and the A and B (entry level) segments account for about 75 per cent of the vehicle market. In fact, among all the car markets, India’s is perhaps the most competitive of all.
The consumer is most concerned about the mileage and cost of ownership. Therefore, it is important that SMC’s cost structure is correct and stable to compete effectively.
Staying tuned The SMC subsidiary cannot charge prices that are out of sync with market reality or have a bloated cost structure that will weaken Maruti’s competitiveness and, consequently, its market share. MSIL needs to compete on price. The challenge before SMC’s subsidiary is to produce at an acceptable cost to MSIL.
The other challenge would be to comply with the rather burdensome transfer pricing regulations between MSIL and the SMC subsidiary; fears that the SMC subsidiary will adopt predatory pricing seem misplaced.
The sharing of margins between the SMC subsidiary and MSIL will come in for scrutiny, which will be protective of minority shareholder interests.
The terms of the contract between MSIL and the SMC subsidiary are more likely to be a “pay as you take” arrangement.
Big plus A major benefit accruing to MSIL will be that the entire risk of execution in creating capacity will be borne by the SMC subsidiary. Further, if demand falters, MSIL and its shareholders will not be put to disadvantage.
Capacity at the Gujarat plant is likely to be built in a step-up fashion and calibrated based on overall demand.
Accordingly, depreciation will not weigh down MSIL’s financials on account of the third plant. MSIL’s current depreciation numbers from its Gurgaon and Manesar plants will likely taper downward as the years roll on, benefiting its bottom line.
The overarching benefit to MSIL will be its ability to focus on new model rollout in terms of what the market needs and optimise on delivery timings. It may also be able to charge a lease rental that will hopefully subsidise the royalty payments.
In summary, this decision of SMC will benefit all stakeholders and shareholders of MSIL. MSIL will enjoy better valuations in the years ahead. While this business decision carries some risks with respect to the “related party” tax issues that it may encounter, on balance, the arrangement will benefit the shareholder.
( The writer is the Vice-chairman, External Affairs, Toyota Kirloskar Motors. The views are personal.)