Low profit levels may lead to consolidation of mobile firms in India

Early this year, executives of a China-based mobile company are reported to have met officials from the Government of India (GoI) with a surprising request. Would the government offer the same tax structure for its ancillary units as the mother company would enjoy? The plea was significant. It would have provided a lifeline for India’s standalone manufacturers of mobile phones, many of whom are densely packed in Noida and Greater Noida regions of the National Capital Region. The data shows many of them are only playing the volume game on razor-thin profit margins. The government has declined to do so, accentuating localisation in possibly the fastest-growing manufacturing sector in India.

It is a question that has re-emerged as last week Prime Minister Narendra Modi travelled to the same area to inaugurate the revamped facility of Samsung, which has made a Rs 50-billion bet on the Indian mobile market.

As India has pushed the US to become the second-largest market for mobiles, the big question is whether it should encourage big players like Samsung to set up shop, riding partly on the higher duties the country has set on imports. Or should it allow the multitude of independent smaller players the space to continue imports of semi-knocked down parts of mobiles to be re-assembled here? Which ones would have a larger knock-on effect on employment creation, for instance? Since most of India’s mobile phone manufacturing business is still one of promise than of actual delivery, these decisions are crucial. While the Ministry of Electronics and Information Technology (MeITY) does not feel it is an either/or choice, the advantage is clearly moving towards the big manufacturers willing to relocate to India and to a small group of independent manufacturers who have invested in developing their own capacity.

The size of the electronics industry, according to MeITY, is already Rs 3 trillion by 2016-17. The finance ministry estimate based on a sample of 2,441 units is more sober. For 2017-18, it estimates profitability for the sector at just Rs 156 billion. 

The two ministrys’ estimate gives a profit-to-turnover ratio of less than 5. Making up for corrections most likely in the MeITY figure would still show that most of those players on the list with the finance ministry are just playing for volumes and are therefore highly susceptible to any adverse change in policies or that of the business environment.  

Most of them bank on import and assembly of GSM phones that serve the 2G market. They now face a twin disadvantage. Other than the successive hike in Customs duties, these manufacturers (mostly traders) are hit by the aggressive Reliance Jio campaigns. 

Jio is offering consumers to replace their 2G phones with 4G ones that need smartphones or at least high-quality feature phones. Other telecom service providers also reportedly plan to provide the same escalator service for their consumers.  

In this market, would lower imports encourage the government’s Make in India policy? Quite likely, says Atul Gupta, partner and executive director at Deloitte. 

“An import substitution policy based on tax preference works best when the product is directed at domestic consumers. With a complementary infrastructure facility, the government hopes to create vertical and horizontal integration in the mobile sector”.

The GoI policy-phased manufacturing programme rolled out since 2016-17 imposed a 15 per cent duty on chargers and battery packs in the first year. 

Next year, there was a similar duty on die-cut parts, microphone and receivers, keypads, and USB cables. 

A 15 per cent tax imposed in December 2017 on assembled printed circuit boards was raised to 20 per cent basic Customs duty in Budget 2018-19. 

By next year, there will be duties on display assembly and the touch panels, among others, bringing all the 30-odd parts that make a cell phone work bear these duties. These taxes, Gupta says, force the assemblers to go for strong localisation since the cost of the parts being outside the goods and services tax purview cannot be transferred to the customers.

MeITY hopes to capture more than a third of the demand for electronics hardware in the country, expected to reach $400 billion by 2020 from local production. The numbers are hugely ambitious. 

For instance, from an annual production number of 11 million mobiles in 2017, the industry is targeting production of 500 million by 2019, according to industry lobby organization, Indian Cellular Association (ICA). There is no hope of reaching anywhere nearby unless more giants like Samsung step in. 

Even though the ICA and larger industry bodies like Ficci and CII aver there is space for everyone, the twin assault of changing customer preference for smartphones and non-transferable duties on imports of parts mean large-scale consolidation is on the cards among the domestic manufacturers.

On the flip side, the costs could rise, but in the race to capture India’s highly price-sensitive market, those are expected to be minor, which means it is even more important for companies to establish economies of scale. 

Xiaomi incidentally tops India’s smartphone sales in the e-commerce segment. According to the data with market research firm IDC, in the last quarter of 2017, the company had 57 per cent market share. Samsung, buffeted in other geographies, wants to similarly carve a strong space in India.

Telecom analyst Mahesh Uppal has the last word when he says, “I expect it will be rough for low-cost assemblers of phones. Most of them have not moved up the value chain for which they only have themselves to ?blame”.

Burning questions

- Should India encourage big players like Samsung to set up shop, riding partly on the higher duties the country has set on imports?
 

- Should it allow the multitude of independent smaller players the space to continue imports of semi-knocked down parts of mobiles to be re-assembled here? 
 

- Which ones would have a larger knock-on effect on employment creation, for instance?