Automotive half-life (I)

Half-life is a concept in Nuclear Physics that tells the time it takes an atom to fall to half its original value. Essentially, stable atoms survive longer (taking longer to decay) because they have a longer half-life. On Tuesday, top tractor manufacturer Millat Tractor (PSX: MTL) announced in a PSX notice that it would be closing down production operations for the next 20 (working) days. Indus Motors and Honda Atlas cars are already observing some non-operation days (NBDs) for months now. The question is not whether these mega companies would survive. They probably would as they wait for the dark clouds to lift. But, who will they leave behind as they do? After all, their survival kit holds only a lone umbrella—whoever is under the umbrella is safe. By any measure, the automotive half-life is short because there are not contingencies and stability is not a virtue.

Over the past year, production and staff cuts across the value-chain has been hitting smaller companies as well as cheaper (and most vulnerable) laborers. Auto vendors claim that they have had to cut back drastically on hiring more daily wage workers. There is simply no demand, they say, and inventories have been piling up. Millat’s NBD announcement then is not a big shocker.

The company manufacturers Massey Ferguson tractors and has had a market share that remains between 50- 65 percent depending on the growth in the market. Since the downturn started, farmers have been severely cash-strapped. Remember that farmers tend to be highly sensitive to price and income changes—demand has historically moved with sales tax exemptions—high when exemptions were given by the government and low when exemptions were taken away. The current sensitivity to depleting incomes come with low crop yields. Though financial institutions are meeting the SBP-set targets in agri-lending, evidently, increased mechanization is not what farmers are borrowing for.

As a result, sales for Millat tractors have shrunk 51 percent in 4MFY20 year on year, while overall tractor sales shrank 39 percent against the corresponding period last year. In fact, Millat’s share has dropped from 70 percent to 56 percent so far this year.

And Millat is not alone. Assemblers for passenger cars, and commercial vehicles are also suffering due to plummeting demand. One could argue that assemblers brought it on themselves by raising prices several times over the past year or so making cars so much more expensive in an economy which is already in doldrums and where inflationary pressures are rising. Also consider that the cost of borrowing has also grown in tandem as interest rates hiked up, so much so that car financing has shrunk dramatically over the past quarters.

Typically, companies provide discounts around the world when demand starts diminishing. This is to keep volumes going (perhaps at the expense of their margins), and hold onto the market share as competition toughens. But Pakistani auto assemblers have only been quick to raise prices as currency depreciated. Since they barely face any competition from one another and have heavy protections from imported vehicles, market share was in no danger of dropping, only market size was. And that is what transpired.

The problem is that the industry is following a familiar pattern—one of complacency. The strategy is that when demand falls, wait it out, because if past is prologue, the IMF bail-out, monetary policy tightening and other short-term prescriptive measures would eventually stave off the crisis from worsening and demand would start rising back up. The piled inventories would be sold off later, and everybody would be none the wiser—safe, of course, for those workers who lost their jobs or those SMEs who had to wrap up business. This business-as-usual is a problem, whether anyone wants to face it or not. And it’s not that companies don’t lose earnings and shareholders’ wealth does not weaken as well. They both do. So what should automakers (and policymakers) instead be doing? More on that, in part II.