Can Honda be the new hero?

IN THE LAST WEEK OF MAY, there was an unusually high flow of Japanese passengers at the Bengaluru International Airport. Though Karnataka attracts regular traffic from there—228 Japanese companies operate in the state—this time it was marked. The Japanese were headed to Narasapur, 52 km from Bangalore, for the opening of Honda’s third Indian two-wheeler factory.

With one of the largest investments—Rs 1,350 crore—by any Japanese company in Karnataka, and Honda’s ancillaries adding another Rs 1,700 crore, South India is the new two-wheeler (motorcycles, scooters, and moped) hub. It accounts for the bulk of sales in India, the world’s largest market for two-wheelers; China comes next. Incidentally, Bangalore is the biggest buyer in the country.

Honda Motorcycle and Scooter India (HMSI), the wholly owned subsidiary of Tokyo-based Honda Motor Company (HMC), wants to tap South India, its largest market. “We want to reduce the cost of logistics and cater to the South,” said Yoshiyuki Matsumoto, managing officer, HMC, who had come down for the inaugural. All other players, except TVS Motor, manufacture in the North.

Honda lacks the warehousing strength of its peers. Its other plants are in Manesar, Haryana, and Tapukara, Rajasthan. Honda argues that the Narasapur plant, ready for production, is more cost-effective than warehouses, and can restock faster. “We can even rebalance our production of scooters and motorcycles according to demand,” says Matsumoto. It would not be surprising if a Honda plant comes up close to the Western auto belt in Pune or Gujarat in the coming years.

Honda is in a hurry. Typically, it enjoys around 40% market share in the Asian countries it operates in, making it the leader. By 2016, it wants to tick both those boxes in India. (Any share of 33%-plus will make it the leader in two-wheelers. Market leader Hero has 38.5% of the market.) “It is an unstated target for the company,” says 55-year-old Keita Muramatsu, a Honda veteran, and president and CEO of HMSI. It is currently No. 2 with 19% share; Bajaj and TVS follow. (Before its joint venture with Hero broke up, Hero Honda had a 60% share.) Honda is so confident of meeting that target, it has pulled back the target year to be No. 1 in India from 2020 to 2016.

HMSI has already committed around Rs 5,000 crore, commissioned two plants in two years, and trebled capacity at Manesar. Its five regional offices have 10 Japanese executives, who, along with Indians are tracking the market. Hero took 14 years to open a second plant, and another 11 years for the third, in the 30 years it’s been in business.

“The market opened for us after the divorce. We can now target any segment, decide on products and launch them,” says Muramatsu. HMSI, already market leader in scooters—it has inspired the likes of Mahindra and Yamaha to enter the category, though Bajaj is still averse to it—will need to lead in motorcycles to become overall No. 1.

Some history: In 2011, Honda parted ways with Hero. For 27 years it was contractually barred from launching motorcycles. The exception was the 150cc Unicorn, the country’s first Honda motorcycle, launched in 2005. That, too, only because Hero did not have a product in the capacity.

Left with little option, Honda registered HMSI in 1999, soon after its partnership with Kinetic for scooters ended. Within two years, it launched India’s first four-stroke scooter Activa, giving a boost to the category with sleek design, electronic start, and improved mileage. The industry scoffed at the idea, especially after market leader Bajaj had exited, and memories of Hamara Bajaj and Chetak were still fresh.

But Activa established HMSI; it sold 55,000 units in the first year itself. It’s still the largest-selling brand. Together, with Dio, Aviator, and now Activa I launched in June, HMSI has 49% market share in scooters, with rival Hero at 19%. Last year, 53% of HMSI’s 2.7 million two-wheelers were scooters. HMSI officials say the skew would now be more in favour of motorcycles.

FOR HONDA, leading the league table here carries global significance. Japan, Indonesia, and Thailand have stagnated. Last year, HMSI contributed about 18% of Honda’s global sales, which its officials say will grow substantially by 2016, when HMSI wants to be market leader.

“In this industry, the top three control 80% of the market. HMSI, along with Hero and one more—Bajaj, Suzuki, or Yamaha—will decide who stays and who quits,” says Pradeep Saxena, who has worked with Hero Honda, and is now executive director with consultancy TNS Automotive. HMSI is already growing at a faster clip than the industry. While sales of two-wheelers in India grew 2.4% last year, HMSI’s sales jumped 31%. Hero, Bajaj, and TVS registered a negative growth.

But HMSI has to grow at more than 35% to reach its target. At the current rate, it will sell around 6 million units by 2016, nearly what Hero clocks today, which will also give it about 27% of the market then. HMSI needs to add capacity. Muramatsu says the process to identify the location for the fourth plant has begun. But to go past Hero, HMSI has to double capacity and invest at least another Rs 4,000 crore in the next four years.

Erstwhile partner Hero is a formidable competitor. Since breaking up, and despite negative growth, Hero’s sales are double HMSI’s. A Morgan Stanley report states that by 2016 the industry would have grown to 22 million two-wheelers, with Hero nearly selling 9 million units.

Hero has been trying new alliances with Engines Engineering of Italy for design, AVL of Austria for engines, and Erik Buell Racing (EBR) of the U.S. for premium bikes. It has already picked up a 49% stake in EBR at $25 million (Rs 149 crore). Also, by the end of this year, it will unveil at least two bikes in the 150cc category, which is a Honda stronghold. Even its mass market products in the 100cc to 110cc will see technology, design, and feature upgrades. HMSI, too, is gearing up for the 100cc to 110cc segment, as it forms almost 50% of the market and cannot be ignored for long. However, it is less profitable and competition is price intensive, neither of which favours Honda. Further, Hero’s marketing, be it in cricket, hockey or buying TV and print ad spots, is strengthening.

HMSI has been aggressively adding retailers to its kitty—more than one new outlet every day to take the tally to 2,500 by the end of FY14. Though this number is less than half Hero’s, it is the pace at which dealers and service centres are being added that the industry has taken note of. Yadvinder Singh Guleria, vice president (sales and marketing) at HMSI, says their network has covered almost 70% of the two-wheeler market.

Another senior Honda official, who doesn’t want to be identified because he is speaking about an erstwhile partner, says that all Hero Honda showrooms in the past were referred to as Honda outlets. He adds that they need not even advertise, as Hero Honda did such a good job registering the Honda brand with customers.

Being a Honda dealer has its incentives. Not only does a dealer earn a percentage more than others in margins, he gains as capital rotates faster at Honda showrooms. Against the industry average of over 28 days, Honda’s inventory is replenished in eight to 14 days.

But, still, to match Hero’s strength, HMSI will need roughly 6,000 touch points. That includes dealerships, sub-dealers or extensions, service centres, etc. This is Honda’s biggest challenge. It takes between four and eight months to open a dealership with infrastructure in place. Add to this the time taken to identify the right dealer who can fit Honda’s quality and service standards. Guleria admits that in the normal course of expansion, “Honda cannot achieve this kind of network in the next three to four years”.

He is quick to add that expansion will happen in the rural areas, which account for almost 50% of two-wheeler sales. A lot will also depend on how pre-general election 2014 spends happen. A good monsoon, healthy harvest, and government support can swing the scale to positive.

Then there is the challenge of cyclical bouts of slowdown, closely linked to the general economy. Kumar Kandaswami, director of consultancy firm Deloitte Touche Tohmatsu India, says that the segment that buys two-wheelers in India is most susceptible to changes in the economy, especially inflation. “As disposable incomes and savings come down, plans to buy two-wheelers get postponed,” he adds.

Lastly, HMSI cannot discount the sleeping giant Bajaj’s understanding of the two-wheeler market. Though the company has stretched its Pulsar brand of motorcycles and is searching for a new blockbuster product in the 110cc to 125cc segment, it still controls almost one-fourth of the two-wheeler market. Bajaj sells nearly one lakh units more than HMSI, most of which are exported.

AT THE HEART of becoming No. 1 is HMSI’s technical centre at Manesar. Traditionally, all Honda products such as two-wheelers, four-wheelers, and power products have come out of one unified research and development centre, be it local or global. For the first time, Honda has set up a technical centre for only two-wheelers, with 200 engineers from Honda Research & Development India and HMSI. This 10,000 sq. mt. centre integrates design, engineering, quality control, and procurement under one roof. It also houses a one-of-its-kind wind tunnel in India monitor aerodynamics and its effects on fuel efficiency for two-wheelers.

The brief is that its engineers will have to help with two new products every quarter and work on Honda’s patented “eco technology” to realise benchmarks like 60 km per litre. “We have reduced the time to market our products from over three years to less than two, and addressed one of the main demands of customers—mileage—through this centre,” says Muramatsu. Honda Trigger, Dream Neo, and Activa I all originated here, he adds.

This centre also enables suppliers to work closely with HMSI in sharing, developing, and testing new components on state-of-the-art machines. “With HMSI sourcing 97% of its components in India, the technical centre will help develop products that can be almost 10% cheaper,” says Guleria. Like Honda, Yamaha, which is primarily into motorcycles, and has just one brand of scooters, has also announced an India R&D centre and a sub-Rs 30,000 bike.

“MNC two-wheeler companies are exposed to multiple markets and it is easy to innovate on a new product to suit a market. The product pipeline for them is stronger than for any Indian player,” says Akshay Bhalla, managing director, Protiviti Consulting, a risk and business consulting firm. He adds that Honda and Yamaha have brought the innovation war to the doorstep of Indian players, who have traditionally been strong in marketing and manufacturing.

QUALITY IS HONDA'S obsession. Saxena of TNS Automotive says that Honda will never compromise on quality even at the cost of volumes. “It has global standards, and will never deviate from these rules even if Indian law allows compromises,” he adds. The industry thinks if Honda reduces price or comes out with an inexpensive two-wheeler (Honda officials say, and experts concur, that it would not be difficult to do so), it stands the risk of creating a perception of a low quality product. “Volumes will bring economies of scale, but we will not produce cheaper bikes to gain market share,” says Muramatsu.

Honda is fulfilling the natural aspiration and progression of customers to buy global brands which have superior technology and quality, and they do not mind paying a premium for it, says Kandaswami. “The urban two-wheeler user identifies with brands having global connotations. The Japanese are bringing here the same segmentation that Audi or BMW brought in cars,” he adds.

Further, there are lessons from failures of others like Yamaha, whose cheaper products such as Libero and Crux did not guarantee success, as customers’ expectations from the brand were different. “We were supposed to bring technology and style. It was not about mileage or price. We were not expected to tweak down our products,” says Roy Kurien, group head, sales and marketing, Yamaha Motor India. Yamaha is also setting up an India R&D unit, and is clear that the focus will be on technology, design, and style rather than volumes and price.

For Honda, the watershed year could be 2015 when BS IV norms apply to motorcycles and would require the technology prowess that Honda stands for. For instance, the fuel injection technology in which Honda is a leader, is costly for two-wheelers now. But once it becomes the industry norm, Honda will find the market opening up.

HMSI’s financials give the reason to not cut price. It also explains why Honda is bullish on India. A Morgan Stanley report says HMSI’s Ebitda margin was 11% from around 2 million units sold in FY12, return on equity 31% (compared with Honda’s 5% globally), and return on capital employed 21%. For the same period, Hero had an Ebitda margin of 15% from 6.2 million units sold, return on equity was 50%, and return on capital employed 36%.

TARGET SET AND boundaries defined, how HMSI now plays the game will unfold in the coming months. Honda cannot forget the labour unrests at Manesar in 2005 and 2009, when it was held hostage to various demands. Some of that has hurt Honda. At Narasapur, local politicians sought higher compensation for land acquired, with some demanding an office inside the factory to recruit local people. Honda is prompt to play it down. “Our industrial relations team is working closely with the workers to identify with their needs and expectations. Both sides understand the importance of uninterrupted production for their prosperity and company’s growth,” says Guleria.

HMSI is making up for “lost time” owing to its partnership with Hero and Kinetic Engineering. Matsumoto coming down for the inauguration of the Narasapur plant only reinforces that. He heads Honda’s procurement, and production at 38 countries and four research and development centres in Asia and the Oceania. Now for 2016.