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Suzuki's move to run Gujarat plant faces a storm

Maruti Suzuki, the country’s largest car maker, on Tuesday took the market and shareholders by surprise when it announced its proposed passenger car facility in Gujarat would not be operated by it but its parent, Japan’s Suzuki Motor Corporation (SMC).

A new firm, Suzuki Motor Gujarat Pvt Ltd, to be registered by April, will exclusively contract-manufacture and sell vehicles to Maruti Suzuki India Ltd (MSIL), which will only market those vehicles in India and abroad.

Many analysts, including research & analysis firm InGovern, raised questions on “corporate governance” issues and said minority shareholders should challenge the deal, as their interests would be adversely affected.

The equity market panned the proposed move, pulling down the Maruti Suzuki stock. On BSE, the scrip tumbled 8.12 per cent, the most since November last year. This was despite the company reporting robust earnings during the December quarter.

Maruti Suzuki’s profit rose 36 per cent in the quarter to Rs 681 crore (Rs 6.81 billion), mainly on cost reduction, higher localisation and favourable foreign-exchange movement due to a weak Japanese yen.

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Suzuki's move to run Gujarat plant faces a storm

Elaborating on the new company, SMC Chairman Osamu Suzuki said: “The company will have a starting capital of Rs 100 crore and will not be listed on the stock exchange.” He clarified SMC did not want to increase its stake in Maruti Suzuki from the current 56.2 per cent.

Suzuki added the manufacturing capacity of the proposed Gujarat facility — like the Maruti units in Gurgaon and Manesar — will be increased to 750,000 units a year in three phases.

Justifying the new arrangement, MSIL Chairman R C Bhargava said: “The original plan was that Maruti should go for an expansion. But the option Suzuki gave us was a better one. The board accepted the proposal. It is fundamentally a more attractive proposition than our own investment.”

Bhargava explained why it was attractive. He said Maruti did not require to deploy its cash reserves (Rs 7,500 crore at present), on which it could earn 8-9 per cent interest that could boost the company’s bottom line. “What we are doing is arbitrage of interest earnings, which in India are higher than in Japan.”

Also, since SMC’s Gujarat subsidiary will supply cars at cost price, it will not make any return on capital or profit. This will help Maruti improve its own margins. Had the Indian company manufactured the cars on its own, it will have had to include a return on capital while pricing the cars. In this case, it only has to pay the cost price and adequate cash (net of all tax) to cover incremental capital expenditure requirements (depreciation costs).

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Suzuki's move to run Gujarat plant faces a storm

He added SMC, too, would benefit. The Japanese company has a cash reserve of Rs 25,000 crore (Rs 250 billion), on which it gets interest at the rate of only 0.3 per cent. So, by deploying that cash in its Indian operations, it is able to preserve Maruti Suzuki’s cash reserves. On the high interest Maruti earns on its cash, the Japanese company gets its share (56.2 per cent), which is reflected in its profits.

Also, with Maruti Suzuki’s profitability improving (as it does not have to account for return on capital) and sales increasing, SMC’s earnings also get a boost.

Bhargava also said minority shareholders should have been worried if the deal entailed the Gujarat subsidiary selling cars for profit. “In fact, the new arrangement will benefit minority shareholders, who will reap dividends from a company that will become more profitable,” he added.

The market, however, appeared divided on Bhargava’s rationale. Yaresh Kothari, research analyst (auto & auto ancillary), Angel Broking, said: “While there is no near-term impact (production starts in 2017), this decision (sourcing of vehicles instead of in-house manufacturing) creates uncertainty in the minds of investors.”

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Suzuki's move to run Gujarat plant faces a storm

Amit Tandon, MD, Institutional Investor Advisory Services (IIAS), a proxy advisory firm, averred: “It is better to have it all under one roof, as there is uncertainty on capacity utilisation when demand falls. Maruti Suzuki should have set up the plant rather than having an artificial structure imposed by its Japanese parent.”

Former Sebi executive director and managing director of Stakeholders Empowerment Services, J N Gupta, however, said: “I don’t find anything wrong in the SMC proposal. Maruti is getting the vehicles at cost from its supplier and the profits will remain with the Indian company.

And, Maruti is getting returns without investing further capital. Production will be in sync with Maruti’s requirement. The apprehension that exports will take place from SMC’s subsidiary are unfounded. It will happen only through Maruti Suzuki.”

Suzuki veterans say this is not the first time the Japanese company has tried to get more direct control over manufacturing through other subsidiaries and leave marketing and distribution to Maruti. The Manesar plant was initially set up as a joint venture, in which SMC was to control 70 per cent and Maruti the rest.

But the plan had to be changed after a strong opposition from the Indian government, which even threatened to stop its investments. The JV’s structure, then, was reversed and Maruti got a 70 per cent stake.

This JV was, however, later merged with Maruti Suzuki. But Bhargava said this JV (of 2004) was different from what was being proposed now. The earlier JV was not going to sell cars at cost price to Maruti Suzuki.