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Small Car, Big Questions
Whether it rolls off smoothly or sputters, the vaunted Rs 1-lakh car has the potential to make or mar Tata reputation.
S. KALYANA RAMANATHAN
As things stand right now, Tata’s dream of creating a car that will sell for less than the price of an expensive mountain bicycle could disrupt the auto industry almost as much as Henry Ford’s introduction of the first mass produced car, the Model-T, did in 1908.
While Ford’s innovation has turned auto makers into behemoths manufacturing millions of cars out of massive factories spread across the world, Tata Motors is putting in place a distributive manufacturing plan for its Rs 1-lakh car, where dealers spread across the country will receive car kits that they will assemble in local workshops for their customers.
Hmmm, murmur sceptics. Can you really do that? But Tata Motors has made and kept tall promises before. When designing India’s first indigenous car, the Indica, Ratan Tata had promised consumers “a car with the Zen’s size, the Ambassador’s internal dimensions, and the price of a Maruti 800”. And he delivered. If Tata keeps his promise this time around as well, he could make all global car makers go back to the drawing board, says Pawan Goenka, president of Mahindra & Mahindra’s automotive division. “If one is able to make a four-wheeler (for Rs 1 lakh), it will change the industry dynamics,” he says.
But failure would prove everybody, but Tata himself, right. Now in the sunset of his remarkable career, Tata could end up being remembered as a dreamer whose actions failed to match his ambitions.
A lot more rides on the car than just Ratan Tata’s dream and Tata Motors’ backbreaking effort to fulfil it. Over 100 component suppliers, whom Tata has converted from sceptics to partners, are inextricably tied to the project and are investing in dedicated ancillary facilities to feed the car. Though Tata Motors refuses to confirm how much it has invested in the small car, various reports have estimated the figure to be around $450 million (Rs 1,800 crore). Additionally, suppliers — the main suppliers as well as the tier II and III suppliers who will feed them — are estimated to be putting in roughly $150 million or Rs 600 crore. This includes support services such as the logistics companies that will buy massive trucks and trailers to transport the between 250,000 and 1 million small cars Tata hopes to sell every year to dealers across the country.
With sales of 250,000 units annually, Tata Motors’ revenues would rise by Rs 2,500 crore about 8 per cent of its current revenues of Rs 32,000 crore and if the company met the million-unit mark, its revenues would go up by Rs 10,000 crore. But profitability is another matter. A low cost car, by its very nature, is unlikely to have a net margin of more than 5 per cent (Rs 5,000 per unit). At that level of profitability, Tata Motors would need to sell at least 4 million units to recoup the $450 million it is estimated to have invested in the small car.
Besides, the project also has to make sense for ancillary businesses, most of whom are run by small businessmen who have hypothecated their futures to Tata’s dream. Right now, they are probably having sleepless nights.
Tata Motor’s Singur facility, where the car is slated to be made, is embroiled in a bitter political tussle that could blow up into a conflict any day. Both Tatas and the West Bengal government have already been bruised by the allegations that the land in Singur was obtained by evicting local farmers and handed to Tata Motors for a song. Many political parties, and many of the evicted farmers, have been crusading over the issue. They are reportedly backed by powerful players in the auto and motorcycle industry that have a vested interested in delaying, if not killing, the small car project.
Industry watchers know the reason why the government leaks off its own money to keep the prices low: to pamper the transport and agriculture lobbies. With diesel cars a rage, the artificial suppression of diesel prices is benefiting well-heeled buyers of luxury cars sold by Skoda and DaimlerChrysler. Since an average car runs about 15,000 km per year, diesel costs about Rs 10 a litre less than petrol and the average diesel engine gives about 5 km a litre. So, the government ends up subsidising the travel of Mercedes Benz owners by about Rs 30,000 a year. In contrast, the Centre spends about Rs 5,200 per child per year on education.
“One way to correct the situation is by raising the excise duty on diesel cars,” says a CEO of a leading car company. For now, though, the industry is investing heavily in diesel engines. Last year, even Maruti Udyog set up a Rs 1,750 crore diesel engine plant after 23 years. By launching its premium hatchback Swift in the diesel version, Maruti went to war with Tata Motors, which has based the success of the Indigo on its diesel engine. Today, about 80 per cent of all compact cars sold by Tata Motors have diesel engines. Not surprising. When the Centre gave Rs 1 lakh subsidy per car to Reva electric cars, the same industry tycoons booed it down.
Then there are the mounting concerns over the ultra-low cost car’s quality, safety and emission standards. Since Tata Motors has had to squeeze out every penny from suppliers’ manufacturing costs, potential customers are now questioning the reliability of the parts they will deliver. “It (Tata small car) won’t be good,” says Alka Naphade, a homemaker in her mid-30s who was scouting for a small car at a Maruti outlet in central Delhi. “And I don’t think they will sell this car at Rs 1 lakh. That’s a typical Indian mentality. There are always some hidden costs. I won’t trust such a model for safety, even if the government approves it.”
Since the 1 million units of the small car Tata hopes to sell will almost double the number of cars sold in the country, citizens and NGO activists are already raising their voices against the congestion it will create (see ‘The Smog Will Get Worse’on page 42). And environmentalists are raising concerns about the damage these vehicles will cause the earth’s already fragile atmosphere.
Gold At The Base Of The Pyramid
All these were predictable problems. So, why did Ratan Tata persevere with his dream? For one, the architect and designer inside this incredibly fresh-minded 69-year-old probably just couldn’t resist the idea. More importantly, Tata has long been seduced by the “gold at the bottom of the pyramid” theory, which holds that companies can make the most money by penetrating the mass market.
That’s essentially what Henry Ford did with the Model-T. It was launched with a price tag of $850 in 1908. As Ford worked relentlessly on innovations such as the conveyor belt, he brought the price down to $500 in 1914. By 1924, the Model-T was selling for just $290, a third of its original price, and Ford Motor Company was rolling out a third of the world’s car production.
Tata’s strategy is more akin to what happened in the personal computer industry. Once, PCs were high-priced business machines made by select manufacturers. Players such as Compaq and Dell multiplied the size of the market by turning PCs into easily assembled, cheap units that could be afforded by middle-class families, who began buying PCs to replace electronic typewriters, board games, accounting machines, etc.
Tata says his strategy is to do the same — to create a low-cost design, and get it assembled on the cheap so that the car can be afforded by middle-class families, who he hopes will begin buying it in place of the two-wheelers they currently use.In this way, Tata has said earlier he hopes to sell a million units of the small car. The same figure was also reiterated by Canada's CVtech, which will be a key supplier to the project. On the face of it, the number is achievable. Two-wheeler sales are currently about 7.5 million units a year, while car sales are about 1 million units. Hence, if Tata convinces just 10 per cent of India’s two-wheeler owners to upgrade to his cheap car, he will sell 750,000 units a year. Add another 300,000 units sold to car buyers attracted to Tata’s pet project for its intrinsic appeal and the 1-lakh cars will be among a handful of brands selling over a million units annually.
But that premise has a flaw. More than 90 per cent of two-wheelers sold in India are in the Rs 30,000-45,000 range. These are commuter bikes used for travelling from point A to point B. These buyers are highly sensitive to purchase price, fuel efficiency and maintenance costs. Since the Tata car will cost three times as much and is expected to give just 20-25 km to the litre, as against a bike’s 60 km per litre, experts believe this segment may not migrate to cars in such large numbers.
“I don’t talk about other people’s dreams, ambitions or views,” says Rahul Bajaj, chairman of two-wheeler maker Bajaj Auto, which could be among the companies most affected by Tata’s car. “Ratan Tata is a very old friend, we were in school together and I wish him all the best. But as for us (at Bajaj Auto), we are not worried at all about the entry of this car in the Indian auto market. There are three wheelers, four wheelers and low cost four wheelers. How they will do will depend on the price and specifications of the product. Let the customer decide based on the price-quality matrix as well as technology compared to competition. Please remember, price also includes annual maintenance costs.”
Besides this, even minor changes in interest rates can play havoc with buyer decisions at the base of the pyramid.
Between April and June this year, as interest costs rose 4-5 per cent, the otherwise throbbing two-wheeler market came to a grinding halt. In the first quarter of this year, market leader Hero Honda reported a 4 per cent drop in volumes, while that of Bajaj Auto and TVS Motor fell by 13 per cent and 15 per cent, respectively.
Assuming the on-road price of Tata’s 1-lakh car will really end up being between Rs 1.3 lakh and Rs 1.5 lakh (Tata Motors says it is working towards meeting the target of Rs 1 lakh), at the current rate of interest, the monthly cash payment on a five-year car loan for this amount works out to Rs 3,200. Given that the monthly running costs would be about Rs 3,000, the total cost of owning Tata’s car will be about three times the total cost of owning a two-wheeler. Analysts, however, are willing to look beyond the challenges arising out of total cost of ownership for the Rs 1-lakh car. “The success of this model would depend a lot on the product itself,” says Mohit Arora, a senior director at JD Power, an auto intelligence agency. “If it really exists, then the chances of success are pretty high”.
The Secret Design
There’s little known about the product yet. Tata officials have been tight-lipped about the project, and few people outside the company, other than some key suppliers, have even seen the car. Sources, including those who have seen the car, say it resembles the Daewoo Matiz. Sources say the design came from IDEA, the same UK-based design house that created the Indica. A company spokesperson, however, says that the car has been designed by Tata Motors with the personal involvement of Tata, who is an architect by training.
A paradigm shift in costs also necessitated innovative thinking in the use of materials, says Ravi Kant. While he confirmed that the car would use plastics, steel and non-ferrous alloys, he refused to say in what proportion. But industry sources say the car will make more use of cheaper plastics and composite materials than any other vehicle on the road, mostly in an effort to keep the car light.
Where the design is also light is in safety features. While the car will have seat belts — these were made mandatory about five years ago — it is unlikely to have air bags, which cost about Rs 25,000 and are still not mandatory in India. “It’s a volume game and the margins will be tighter,” says Yezdi Nagporewalla, national industry director at consulting firm KPMG. “So, the costs have to be cut to the bone. (The) winner will be the one who manages to offer cars at the lowest price.”
The first challenge is to place the car on the right road. Tata has chosen the kuchcha road. “It’s not an urban-centric car,” says Ravi Kant. “It will go where people travel either by unmechanised transportation or on foot.”
The Cost-Quality Tussle
While embarking on the project, Tata Motors brought in a convinced group of suppliers who were set near-impossible price targets. Said one leading supplier, “Our usual payback period is 3-4 years for a component made for a new car. In case of the Rs 1-lakh car, it’s going to be five years.” Price negotiation with suppliers usually started at 50 per cent of what they quoted. Some managed to push it up to 80-85 per cent. Those like Sona Steering managed to get nearly what they had quoted. “We have had a fair deal and got the price we had bid for,” says Surinder Kapur, chairman of Sona Group.
But what keeps Kapur, like many of his peers involved in the project, is the promise of unprecedented volumes of between 250,000 and 1 million units per annum, numbers that are huge by the standards of the domestic automobile industry. “This is the first time we would be seeing such numbers,” says Arvind Walia, CEO of Delhi-based Gabriel India, which is supplying suspension parts. If Tata’s car does indeed sell 1 million units, its parts business alone could be worth between Rs 7,000 cr and Rs 9,000 cr, says a supplier. That’s almost a fourth of the total domestic component business in India today.
Riding On Concessions
One controversial way in which Tata Motors is trying to keep to its ultra-low cost targets is by getting concessions and tax breaks. Though most large industrial projects get tax breaks from state governments and the Centre, the incentives and tax breaks given to the Tata project were shrouded in mystery. It was only in March this year that discussions in the West Bengal assembly revealed just how many sops the state’s government had given Tatas. These included a loan of Rs 200 crore at just 1 per cent interest, and an annual lease rate of just Rs 8,000 an acre for about 290 of the 997 acres of land it was given in Singur. For the remaining land, Tatas were exempted from making any upfront payments. Ravi Kant defends the sops. “If incentives are such a bad thing, don’t give it to anybody,” he says. “However, do not single out projects. Incentives to move in a certain direction are given across the world. We decided to work with West Bengal because they were able to close the deal faster than anyone else”.
Distributed Manufacturing
With this product, Tata Motors could turn the concept of economies of scale and single-location mass manufacturing on its head. Right from the start of the project, including in an interview to BW in 2005, Ratan Tata insisted the small car would be built using a distributed manufacturing system. Under this, a completely knocked-down kit of the car will be built at three Tata-owned plants, the brand new one at Pant Nagar in Uttarakhand, its old plant at Pune in Maharashtra, and Singur. Distributed manufacturing was also aimed at a social dimension of providing rural entrepreneurship.
The kits will then be ferried to warehouses across the country, where they would be assembled by dealers. “This innovation is the key in the supply chain and distribution,” says Nagporewalla. The idea is that a dealer would have a warehousing terminal to house the semi-knocked down kits, an assembly plant and a sales office where a few vehicles will be displayed. As soon as a customer placed a firm order, the dealer would withdraw a kit from the warehouse, assemble it at his plant and deliver it to the customer. This is unheard of in the automobile industry, especially since multiple manufacturing locations require multiple vendor bases, which affect the viability of suppliers due to the additional capital expenditure of setting up the plant. The closest example of a similar practice is in the furniture business, where small packages of home furnishings can be assembled at home with little help from the manufacturer.
The company says it chose this model because it believes that to handle large volumes, especially in non-metros, it needed to be closer to customers. Currently, Tata Motors reportedly plans to set up warehousing facilities in developing cities like Aurangabad, Nasik and Nagpur in the West, and Coimbatore and Cochin in the South. Other cities are also being identified. These facilities will be built either by the company or by the dealers. But market sources say there have been some mid-course corrections in the way Tata Motors is implementing the project vis-à-vis its ‘distributed manufacturing’ plans. “It doesn’t seem this model is being pursued any more,” says the CEO of a leading car company. “We would have got to know from the market if such a novel method of assembling the car is tried by them.”
Another major surprise could be the rollout of the first vehicle. Though work is on in full swing at the Singur facility, component makers suggest that the first car is likely to come out of Tata Motors’ facility at Pantnagar, where commercial production is set to begin in February next year. The Pantnagar plant was originally set up for Tata’s top-selling light commercial vehicle, Ace. But the delays in acquiring land at Singur appear to have led to a change in plans, sources say. But Tata Motors is unlikely to announce this until the last moment due to possible fallout on the progress of the Singur facility. In an interview to BW, Ravi Kant reiterated that the Rs 1-lakh car would roll out of Singur.
Posing a challenge to the Tata car has certainly been a hot topic of discussion in the boardrooms of several car makers. But, for the moment, Tata Motors seems to have a 2-3 year lead over every other company — except Maruti-Suzuki.
While Renault chief Carlos Ghosn has indicated he may be examining a $3,000 car, Renault’s Senior Vice-President of corporate design Patrick le Quement confirmed to BW that it was just an idea from Ghosn, albeit a motivating one. “The challenge of designing a sub-3K car will be tremendous,” Quement said. “It will push us to think differently. I have no idea what will come out, but it would (require) a lot of ingenuity from everyone. I’m looking forward to the challenge.” Mahindra & Mahindra, Renault’s likely partner in the domestic market, has also discounted the idea. “We need not react to everything others do,” says M&M’s Goenka.
Among other car makers in India, Japanese majors Honda and Toyota, and the US-based General Motors and Ford Motor have all announced that they are not in the game for the ultra-low cost car. Of the rest, Hyundai hasn’t yet indicated it will counter Tata with its own low-priced car. Among Indian auto players, Bajaj Auto is believed to be working on a small car but Managing Director Rajiv Bajaj has clarified that it is not in the Rs 1-lakh range. Bangalore-based Reva Electric Car Company, though, plans its own answer to the Tata car with a Rs 1-lakh green car that runs on battery.
That leaves just the Maruti-Suzuki combine. When Tata launches this car, it would actually step onto Maruti’s turf. This would mean a full circle for Tata Motors, which started its car ambition with Indica, with project code name MINT. Tata insiders say that more than freshness, it was an acronym for Maruti In Trouble. But Maruti believes that making a car for less than $3,000 is simply not its view of things. Suzuki’s top boss Osamu Suzuki had rubbished the possibility of a Rs 1-lakh car as early as 2005. Maruti’s Managing Director Jagdish Khattar says, “It costs Rs 1.3 lakh to make the Maruti 800. I don’t think we can push it down any further.”
Nobody, however, is buying Maruti’s stance just yet. “I think Maruti would try to come with multiple answers (to counter Tata’s Rs 1 lakh car),” says JD Power’s Arora. Industry experts like him believe that the company, which sells over 50 per cent of all cars sold in India, will not let a new player come and slice away its market. There are other reasons not to believe this stance. Suzuki already has 660-cc petrol engines that are used in products like the Wagon R and the Alto in the Japanese domestic market. Both these products have also been designed to take engine sizes from 660-cc to 1,100-cc. Possibly, the Zen Estilo could also sport the engine.
So, pushing down the cost of Maruti 800 is just one arrow in Maruti’s quiver. There is a good possibility that the real firepower for this dominant player lies in the used car market. Maruti’s used car business, branded as TrueValue, is a well-oiled machine now. Since its launch in 2001, the business has grown to a critical size with 85,000 deals reported in financial year 2006-07. That’s nearly one-sixth the new cars Maruti sells.
This year, TrueValue is expected to do a million valuations, almost as many as India’s entire new car market. Arora believes that this is a potent weapon Maruti holds and is one among the many salvos it may fire at Tata Motors.
But Tata’s lead over other players may get shortened if the product sets the roads on fire. For, once Tata Motors proves the effectiveness of its unique manufacturing, sourcing and distribution model, fence-sitters could well jump into the fray. Possibly, that’s the waiting game they are playing out. Tata’s dream, it seems, could soon be usurped.
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