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Construction Equipment Industry Growth Assessment:

Ground Plan to Success

India's growth story has witnessed many cyclical changes across a wide range of industries from agriculture and retail to software, IT and real estate, all of which serve as key drivers of the country's economy. Volatility in real estate and related industries, such as construction equipment, has resulted in demand-supply gaps that hamper analysis of the sector and its trends.

Demand for construction equipment is a reflection of broader macroeconomic trends such as interest rates, infrastructure investment and liquidity, which themselves indicate the health of the overall economy. This demand equipment is expected to grow in line with the expansion of real estate development from India's key urban centres into tier-2 and tier-3 cities.

Fig 1 - Sales of earthmoving and construction equipment are expected to rise in India

India's growth story has witnessed many cyclical changes across a wide range of industries from agriculture and retail to software, IT and real estate, all of which serve as key drivers of the country's economy. Volatility in real estate and related industries, such as construction equipment, has resulted in demand-supply gaps that hamper analysis of the sector and its trends. Demand for construction equipment is a reflection of broader macroeconomic trends such as interest rates, infrastructure investment and liquidity, which themselves indicate the health of the overall economy. This demand equipment is expected to grow in line with the expansion of real estate development from India's key urban centres into tier-2 and tier-3 cities.

All signs point to a country that would be wise to focus on developing its infrastructure. And when it does, demand for earthmoving and construction equipment (ECE) will surge. Growth in a country’s ECE fleet is highly correlated to the growth of the construction industry (a proxy for infrastructure growth), with a high correlation coefficient of more than 0.99. In the near future in India, the bulk of construction growth is likely to come from growth in transportation infrastructure (roads, rail, airports, ports), urban infrastructure (mass rail transit systems, water supply and sanitation, urban housing) and rural infrastructure (rural roads, irrigation, rural housing)—three important sectors for driving ECE demand. With significant infrastructure growth expected in India, we expect ECE stock to exhibit robust growth in the near future.

Market overview

The ECE market is expected to grow by a healthy 20 to 25 percent over the next few years to reach 330,000 to 450,000 units sold in 2020, from current levels of about 76,000 units. This would imply a $16 billion to $21 billion market, up from today’s $3 billion. The sector will continue to be dominated by backhoe loaders (more than 40 percent of total demand), but broad-based growth is expected across products, with each segment expected to see double-digit growth. A rise in the use of concrete will also create demand for concrete equipment in infrastructure and housing projects.

(Ref Fig 4: Sales of earthmoving and construction equipment are expected to rise in India)

Factors That Propel the Industry Forward

• Fundamental growth from end-user industry: Demand will continue to rise as a result of growth in traditional end-user industries, including construction and mining.

• Higher adoption in traditional applications to speed up projects: Increased use of ECE in previously traditional applications will give rise to new demand in applications such as digging and soil loading, especially in time-sensitive projects.

• ECE demand from new applications: Demand is also expected to grow in new segments such as agriculture, which have not historically been ECE users because of a lack of access but are slowly adopting ECE.

• Growing urbanization: Urbanization will drive the demand for construction to meet residential, commercial, and infrastructure development needs.

• Increased affordability: New players entering the market have made competition stiffer, thereby making ECE more affordable. This will further deepen the markets to cover users with ECE needs and previously low access.

• Better availability of financing: More financing of ECE and the increased use of rentals will create wider use by encouraging users that don’t necessarily want to own equipment. The rental market in particular is expected to pick up in tier 2 and tier 3 towns, where growth will be driven by small contractors doing construction work.

Infrastructure Investment in the 12^th Five-Year Plan

India’s need for infrastructure development is also well supported by the government’s intentions as outlined in the 12th Five-Year Plan (FYP). Infrastructure is one of the plan’s primary areas for spending, with about $1 trillion (INR 55 lakh crores) earmarked for investment.

Five sectors account for more than 80 percent of total planned spending: electricity, telecom, roads and bridges, irrigation, and railways, including mass rapid transit systems. Overall, the 11th FYP saw a significant rise in infrastructure investment, with 24 lakh crores invested. This represents an overall increase of 70 percent compared to the 10th FYP.

More than 80 percent of private-sector spending will continue to focus on four sectors: telecom, electricity, roads and bridges, and renewable energy. Private investment in infrastructure is expected to increase from 37 percent in the 11th FYP to 48 percent in the 12th FYP. This growth is expected to be spurred by private players’ expected capacity expansion and their ability to provide good quality, timely service while keeping costs low.

Challenges to Achieving Infrastructure Targets

The infrastructure investment targets outlined by the government are aggressive and signal a positive intent, which could mean huge potential for India’s ECE industry. However, certain challenges will need to be overcome if the industry is to realize that potential. Because the following barriers stretch across multiple sectors, addressing them could lead to a significant pickup in infrastructure activity across the country:

• Limited long-term funds: Funding for infrastructure is a constraint because of limited public funds, which leads to work-in-progress projects being stalled. Moreover, infrastructure outlay by the central government is spread thin across a large category and number of projects. At the local execution level, local bodies have a low revenue base to work with for urban infrastructure projects. With a lack of innovative funding models and an uncertain business environment,private funding is also constrained.

• Land acquisition delays: Across infrastructure projects, delays as a result of land not being acquired by the time projects are awarded have affected many projects both before and after they start. For example, land clearance issues have held up the Trivandrum-Tamil Nadu border road project, where no construction has taken place since the tender award in 2010 because of land acquisition delays. Country-wide regulations on land acquisition have been enforced in a non-uniform fashion, causing delays. Even lenders are unwilling to support projects unless clearances are available and 100 percent right of way has been secured.

• Clearance delays: Delays related to forest and environment clearance are also impacting many infrastructure projects. Clearance policies are often not used objectively, providing different rationale for clearances on different occasions. Not only does this impact the speed of clearances, it also sends uncertain signals to investors—and often leads to pullback of investments. For example, the contractor for the Kishangarh-Udaipur-Ahmedabad six-lane highway has terminated the project because environmental clearance failed to materialize. Similarly, a lack of clearance from the state water department has held up the Chennai Port-Maduravoyal road project.

• Inadequate planning:. Current infrastructure plans do not necessarily incorporate an integrated view that encompasses all facets of development, including transportation, housing, and effective land use, to name just a few. For example, there is lack of coordination between central, state, and local agencies for road construction projects, and planning for urban transportation and housing development are often not done concurrently. Because of changes in the ecosystem, the master plans developed for urban development are often outdated by the time they are implemented. There is an urgent need to develop an all-encompassing perspective on infrastructure development planning by incorporating multiple aspects of development, going beyond just the immediate project.

• Low financial viability:  Many infrastructure projects have a low internal rate of return because they are heavy on investment and the revenue stream often does not reflect fair costing. For example, India’s MRTS projects have historically provided financial returns of less than 5 percent, although if the positive externalities are taken into account, the returns to the economy are much higher at more than 20 percent. Benefits of any infrastructure project often go way beyond the domain of the project itself. Similarly, projects related to water supply and sanitation often doesn’t provide enough user revenues to even cover operating costs. Because infrastructure projects tend to be multiyear programs, working capital cycles are long, and operators are stretched for margins. Consequently, interest in infrastructure development projects is often low, especially from operators looking to invest in short-term projects with good financial returns.

• Weak governance:. Multiple bodies acting at all levels across central, state, and local governments is a common phenomenon across an array of infrastructure development areas. The fragmented nature of governance not only delays projects, but also conveys conflicting signals to stakeholders. For example, evolution of responsibilities to urban local bodies (ULBs) per the 12th FYP schedule has not been fully implemented by state governments, often leaving very little execution control in the hands of the ULBs. The powers of regulatory bodies at central and state levels overlap at times, creating confusion and procedural delays.

Addressing the Challenges of Infrastructure Growth

An array of proactive initiatives based on best practices from other nations can help the ECE industry achieve its full potential as India’s infrastructure grows.

• Improved funding for infrastructure projects: Dedicated debt and equity funds will help to improve funding availability for infrastructure projects. India has already taken some steps in this regard. On the operations side, higher tariffs to at least cover operating costs can be implemented, as has been successfully done with volumetric tariffs for water consumption in the cities of Dharwad, Hubli, and Gulbarga in Karnataka. Taxation for citizens and organizations that benefit from infrastructure projects is another way to raise funds, as France did with its MRTS development projects. Improved funding can also help in higher levels of private participation through build-operate-transfer (BOT) and operation and maintenance (O&M) models.

• Streamlined land acquisition process:. There is a need for uniform policies about compensation, relocation, and rehabilitation for projects that require significant amounts of land. In August 2013, the government showed its strong intent to streamline the process by passing the Land Acquisition, Rehabilitation and Resettlement Bill, although successful implementation on the ground has yet to be seen. Countries such as Malaysia have taken a greenfield master-plan approach to road construction to address the social problems of land acquisition in brownfield projects, which can be applied for select cases in India as well. Legislation currently mandates cabinet approval before leasing, licensing, or transferring government land, which is another opportunity to reduce clearance delays if this legislation is reviewed and not applied in a blanket fashion.

• Improved procedures for clearances: Environment and forest department clearances determine the fate of many infrastructure projects. A strong rationale for approvals and objective project evaluations can help convey the right signals to contractors and expedite the clearance process.

• Enhanced planning and contract management:  There is an urgent need for a better planning process as part of creating long-term integrated urban development programs. Well-run cities such as Singapore and London create 20-year plans, beginning with detailed socioeconomic forecasts that incorporate elements of future land use, transportation, and housing infrastructure development. On the project execution side, a strong independent regulator can help ensure good contract enforcement and effective project monitoring, thereby keeping the focus on achieving the right project outputs within the defined timelines. The Malaysian Highway Authority, for example, has been able to enforce it successfully for road construction. Effective legal recourse mechanisms can also help ensure that executing parties stick to contract guidelines while delivering the project in a timely and cost-efficient fashion.

• Adoption of innovative operating and business models:  Because infrastructure projects often need to be deployed despite financial hurdles, innovative operating models can help improve cost recovery. For example, cost recovery and collection efficiency for water payments have significantly improved in countries that deploy prepaid water cards, such as South Africa. Another example is farmer associations that adopt participatory irrigation management for irrigation projects. While core irrigation projects may not be financially attractive, having the beneficiary farmer associations in charge of O&M and revenue collection helps improve cost recovery. Irrigation facilities in Japan are often run through this route. In India, Andhra Pradesh and Gujarat have taken the lead. Financing incentives can also be linked to the extent of cost recovery, as has been implemented in Gujarat.

• Use of a single regulatory body and local delegation for execution: Creating a regulatory body for individual project categories can help streamline end-to-end coordination. This helps convey a unified stance to project stakeholders and reduces delays that result from questions about jurisdiction. For example, Malaysia’s Construction Industry Development Board establishes regulations and legislations for construction. In addition, more autonomy for local bodies in terms of execution freedom and tax revenue collections, with incentives aligned to implementation achievements, can help speed up projects. In Nordic countries, local taxes account for more than half of government spending, with execution responsibility delegated to local municipal bodies.

Challenges in the ECE Ecosystem

In addition to addressing infrastructure challenges, the ECE industry achieving its full potential will hinge on addressing challenges in three areas of the ECE ecosystem:

Financing

• Original equipment manufacturers (OEMs) in India offer limited financing options, and payment terms for first-time users are often unfavourable. The result is that access to financing prevents many prospective users from buying.

• Renting is a good option for users with an eye on limiting their large capital expenditures. However, renting penetration in India is much lower (7 to 8 percent) than in other large ECE markets (65 percent in the United States and 35 percent in China) because of a tax regime that makes moving equipment across states unviable.

• India’s secondary market for used equipment is underdeveloped.

• Recovery is a big challenge for non-bank finance companies, the major providers of ECE financing for whom regulations pertaining to defaulters and bad debts are not very favourable.

Availability of skilled manpower

• As the ECE industry continues to grow, the need for trained operators and mechanics will increase proportionately. Availability of skilled workers is likely to be an issue. Multiple entities from the government, ECE companies, and industry bodies are working to solve the skill gap issue, but coordination among these agencies can be improved.

• Most construction-equipment users are small players who prefer on-the-job training for operators and mechanics and are unwilling to pay a premium for qualified workers.

• Specialized courses on construction equipment operations are not a part of vocational training at industrial training institutes because the high cost of equipment makes hands-on training expensive. ECE training institutes run by OEMs tend to be expensive for low-income groups.

• There is a lack of uniform national guidelines for safety and quality. On-the-ground enforcement is a challenge because of the fragmented nature of the industry. (Small contractors make up about three-fourths of the industry.)

Components

• There is a high variability in OEM demand owing to market fluctuations, which makes capacity planning difficult for component providers.

• India is a market where component suppliers tend to focus on items at the lower end of the technology spectrum, while relying on imports for high-tech items. Consequently, there is a gap in terms of technology adoption at the supplier end, where the market demand for higher connectivity and compliance to fuel economy regulations is not met with indigenously manufactured components.

• Suppliers are also constrained for operating margins because the market is very price and value conscious.

Ecosystem Challenges

An array of initiatives can be taken up and expanded, based on best practices in ECE and adjacent industries, such as automotive.

Financing

• OEMs can take a more active role in improving the availability of financing for buyers. Setting up in-house financing arms or long-term tie-ups with banks and non-banking financial corporations (NBFCs) can also be considered. Financing availability can also be addressed through dealers. For example, some OEMs have been active in this space through exclusive contracts with NBFCs and by launching dealer-run rental operations to improve rental penetration for their equipment.

• Financing penetration can be further strengthened by reforming laws pertaining to equipment rental and usage. A nationwide general sales tax could help bring uniformity in imposed taxes (for example, as implemented in Australia), rather than the varied indirect taxes currently being collected by individual states. A national ECE registration can also eliminate the need for paying multiple lifetime registrations with regional transport offices, as is the current norm.

• Buyback schemes and used-equipment exchanges can help deepen the secondary sales market. Atlas Copco, Caterpillar, and Volvo all offer buyback schemes in developed markets.

Availability of skilled manpower

• In developed nations such as the United States, stringent requirements and mandatory qualifications for operators and mechanics ensure that there is a high demand for skilled manpower from the user industry. Better awareness of the benefits of using skilled manpower, along with mandatory qualifications, can also help boost demand in India.

• Countries such as Australia also ensure availability of funds for training manpower through levies on construction projects, the proceeds of which go to the Construction Training Fund. Dedicated grants and scholarships for manpower training in India can help the long-term sustainability of such programs.

• Industry-body coordinated training program guidelines can help standardize training requirements, along with periodically evaluating the training needs of the sector and developing plans to address those needs. Global benchmarks can help identify best practices for manpower development.

• OEMs can take proactive steps in setting up training avenues through tie-ups with different types of players. Tie-ups with industrial training institutes  to provide vocational training have already started. OEMs are also looking at partnership opportunities with professional training companies in collaboration with state governments and are using the support and network of non-governmental organizations to offer subsidized training programs for underprivileged youth.

Components

• OEM-supplier collaborations and risk-sharing contracts have been used in the automotive and aerospace industries and have helped suppliers in capacity planning to meet market demand. For example, Maruti and other automotive OEMs often engag in supplier capability development to raise quality standards. The ECE industry can identify areas for closer collaboration with suppliers to ensure their healthy growth with the industry.

• OEMs can support suppliers through technological collaboration and help raise R&D standards. R&D establishments can be further set up with industry and government backing to drive indigenous technology. Laws mandating local technology can also help improve technology adoption. This has worked well in the  aerospace industry, where adopting the offset clause, which mandates more than 30 percent local sourcing for foreign aerospace contracts, has helped improve technology standards at local suppliers.

• Focus on indigenization can also help suppliers develop India-centric, cost-competitive offerings with frugal designs tailored to domestic needs. This will go a long way to improve margins for suppliers otherwise constrained by low-cost sourcing from other countries.

The Road Ahead

Under-penetration for most key aspects of India’s infrastructure highlights the need for development. The government has signalled its intent by earmarking $1 trillion for infrastructure in the 12th Five-Year Plan, but restricted sources for funding could delay achieving targets in certain areas. Regardless, the opportunity is huge for ECE players. Reaching this potential will require addressing some tough challenges in the infrastructure sector and resolving issues in the ECE ecosystem. Best practices from other countries can point the way, but India’s success will depend on close collaboration among government, industry, and regulatory bodies to ensure the challenges are ironed out in time to realize the vision for the country’s infrastructure.

Demand Drivers

Transportation Infrastructure: Road and Rails

India has one of the highest densities of roads in the world, with 1.42 kilometres of road for every square kilometre of land area. However, the country still lacks high-quality roads, including highways with four or more lanes, which offsets the benefits of high road density. Of the total road length of 4.6 million kilometres, 60 percent of the roads are rural (by length). National highways account for only 2 percent of the total length, of which less than a quarter are multilane highways. Figure 7 compares India’s road density with other countries and gives a snapshot of length by various road categories in the country. Road construction is one of the most intensive sectors for ECE, which accounts for up to 15 to 20 percent of project costs. With high investments expected to pour into this sector over the next few years, spending on ECE for road projects is also likely to get a boost. If investments planned in the 12th FYP materialize as expected, nearly a quarter of the construction equipment fleet will need to be deployed on an annual basis—just to support road construction projects.

Urban Infrastructure: Urban Centres and Mass Transit

Urbanization is one of the strongest indicators of a country’s economic growth, modernization, and development. In India, large-scale urbanization over the past decade has resulted in an urban population of nearly 377 million people in 2011 with 53 urban centres (cities with a population of more than one million). However, with an urbanization rate of 30 percent, the country trails several developed and developing economies, including Japan, the United States, Malaysia, and China (see figure 9).

This gap presents a huge potential for urban growth. Over the next two decades, at a forecasted compound annual growth rate of 2.4 percent, the urban population could reach 600 million by 2030–2031, according to several global studies. This will result in an urbanization rate of more than 40 percent with 85 to 90 urban centres. Such explosive growth will need to be supported by proportionate expansion in urban services, which will spur demand for construction equipment.

Rural Infrastructure: Irrigation and Rural Roads

Rural infrastructure is essential for India’s agricultural sector and the livelihood of more than 800 million people. Agriculture provides an income for half of the country’s population and commands a steady share of its economy—approximately 14 percent of economic output. Developing the rural infrastructure, especially irrigation and roads, is crucial not only to sustain the population’s livelihood but also to improve mobility and connectivity.

Irrigation is one of the most intensive sectors for ECE, accounting for up to 12 to 15 percent of the project cost. With large investments expected to pour into this sector over the next few years, spending on ECE for irrigation projects is also likely to get a boost.

Growth Enablers

Equipment Financing and Renting

As with any product that requires a large one-time capital expense, financing is a good way for the construction equipment industry to spark demand and acquire new customers. In 2011, India’s ECE financing industry was valued at Rs 23,000 crores. Financing accounts for about 80 percent of the equipment purchased. For imported machinery, it’s even higher, with 90 percent of equipment purchased being financed. Over the next few years, the ECE financing industry is expected to grow by a compound annual growth rate of about 22 percent (see figure 17). Most financing is through loans, with leasing as a distant second option (see sidebar: Financing Models in India). About 80 percent of ECE users that opt to finance are micro, small, and medium-sized enterprises. With ticket sizes varying from Rs 20 lakh for a backhoe loader purchased by an individual user to Rs 20 crores for a construction firm’s bulk equipment purchase, the variety of players offering equipment financing has grown. The competitive landscape now consists of banks such as HDFC Bank and Kotak Mahindra Group, NBFCs such as Srei Infrastructure Finance and Magma Fincorp, leasing companies such as ORYX India and Srei BNP Paribas, external commercial lenders, and cross-border leasing firms.

NBFCs handle 75 to 80 percent of ECE financing. Large players are expected to continue to dominate, thanks to the growing ticket size of construction-firm purchases and the continued dependence on imports, which require large banks to settle the transaction.

Box item: Financing Models in India

• Loans are mainly provided by banks and non-banking financial companies. Similar to vehicle loans, a margin is paid up front, and monthly payments are made over three to five years.

• Leases are gaining popularity because of tax benefits. There are two options: In a financial lease, the asset is transferred to the lessee at the end of the leasing period. In an operating lease, the asset is returned to the lessor. Only 3 percent of leases are operating leases because financial firms often can’t maintain the equipment.

• Suppliers’ and buyers’ credit is often used for imported equipment because of its high cost, mostly financed by Indian and overseas banks.

• A rent-to-own transaction allows users to pay a rental fee (a percentage of the machine’s price) at periodic intervals with the option to buy at the end of a specified period.

• End-to-end solution providers are financing firms that help with acquiring, training for, maintaining, and buying back used equipment.

The Rental Financing Market

Globally, rental is a well-established, preferred way to finance because it is simple and cost effective. However, India’s rental ECE market is underdeveloped compared with other developed and emerging economies (see figure 18). India’s market is highly fragmented with organized players such as Quippo Rentals and Sanghvi Movers accounting for only 30 percent of the market.

The unorganized sector consists of about 10,000 players, each with small fleets of two to 50 machines. These players typically offer equipment only from Indian manufacturers and don’t have any dedicated maintenance team. The limited presence of large organized players is restricting the growth of rental financing. Hence the rental market is expected to grow at a compound annual growth rate of just 15 to 20 percent by 2015. Given the industry’s narrow focus today and the tremendous opportunities for growth, better access to financing will help broaden the market.

Challenges in Equipment Financing

Best practices from OEMs and financing players around the world indicate that four imperatives can help India overcome the challenges of equipment financing and renting:

• OEM-supported financing. OEMs could establish in-house financing arms or forge long-term relationships with banks or NBFCs that can reach small contractors.
• Uniform tax regulations. Standardized tax laws across states can significantly boost equipment purchases, rentals, and resale. National registration of construction equipment could eliminate the need to pay multiple lifetime RTO taxes.
• More efficient collections. Telematics systems with GPS services can be used to track equipment and improve collections. Global OEMs provide such systems  with their equipment,and some of these offerings are now being launched in India.
• Developing an ecosystem for the rental business. Creating equipment safety and environmental regulations on par with the global construction equipment industry, along with training skilled manpower for construction equipment, will enable large organized rental players to improve their value proposition against the cost-competitiveness of smaller unorganized players.

Skill Development

Skilled manpower is an essential factor to ensure safe and efficient operations of construction equipment. In India, the demand for skilled workers was  approximately 800,000 people in 2011, and an additional 2 to 2.5 million will be required to manage the fleet by 2020 if the industry’s projected growth materializes (see figure 19).  Availability of skilled manpower for construction equipment is already becoming an issue in India,with a potential shortage of around 20 percent anticipated  by 2015. In the short run, unskilled labor is expected to bridge the gap. However, this can create issues for safety, operational efficiency, and the life of the equipment. If the industry grows as predicted, the gap could widen to 30 percent by 2020, given the growing fleet size and safety requirements that will require using trained manpower. There will also be a demand for workers with specific skills to operate specialized equipment. Steps must be taken now to address the lack of skilled manpower.

Challenges to Skill Development

To bridge this manpower gap, the construction equipment industry will need to address four challenges:

• Limited pull from the user industry. In the construction and mining industries, 75 percent of firms are owned by small employers and contractors that own fewer than 15 pieces of equipment. Most of these small-scale players prefer hiring unskilled labor, opting to minimize labour-related expenses by providing on-the-job training rather than employing qualified operators.
• Lack of coordination among stakeholders. There is a lack of coordination among government agencies, OEMs, and construction companies for creating skill development programs. This has resulted in significant duplication in allocating resources and a lack of standardization for training programs across the industry. For example, the government has 17 departments that provide different formal and informal vocational education training programs. In addition, some construction companies have independently established training schools for their own operators and customer staff.
• Lack of access to affordable training. Several issues are deterring easy access to affordable training programs for construction equipment operations. For  instance, India’s industrial training institutes offer one of the most standardized and affordable modes of technical and vocational training. However, there are no specialized courses to train operators for construction equipment such as cranes, backhoes, and excavators.
• Lack of quality guidelines. The industry lacks quality guidelines and mandatory certification requirements for employees. The government does not have mandatory requirements about quality and safety standards for industry personnel.

Skill Development and the Solution

The industry would be wise to address the skill gap by tackling these challenges on a medium to long-term basis. The construction industry is taking some  steps already, but several more imperatives could have a positive impact:

• Demand driven by the user industry. Developed nations such as the United States have stringent requirements and mandatory qualifications for construction equipment operators to ensure that the industry employs skilled workers. For example, loader, bulldozer, and crane operators are legally required to have special licenses in most U.S. states. As India’s industry matures, using trained manpower can improve both productivity and safety records, which in turn will lead to recruiting more trained manpower for operations and maintenance.
• Grants and scholarships. Establishing dedicated grants and scholarships can improve the affordability of quality training and boost enrolment for training programs. This has been highly successful worldwide.
• Training program guidelines coordinated by an industry body. A sector skill council for the construction equipment industry, promoted by CE industry bodies, is crucial. This body would serve two primary objectives: to identify the skill-development needs of the sector and develop a plan to address those needs. Establishing the construction sector skill council would be a good first step for developing a pool of skilled labour, but its effectiveness should be periodically assessed and course corrections done to achieve the long-term goals.
• Training partnerships between OEMs and other players. OEM-level collaborations and tie-ups with industry bodies could help provide affordable vocational training for aspiring employees. There is already some movement on this front with some Indian OEMs working with industrial training institutes to offer training for in-house operators.

Construction Equipment Components and Aggregates

Components and aggregates enable rapid growth for the ECE industry. In India, the industry is expected to expand by 20 to 25 percent in the next decade, thanks to rising demand from the construction and mining industries and a growing number of traditional applications using ECE. Flourishing markets for domestic construction equipment, after-market sales, and exports will cause a spike in demand for construction equipment components and aggregates.

Trends Causing the Market to Expand

Several trends are behind the rising demand for construction equipment components:

• Growth in the domestic construction equipment industry. India’s ECE industry is expected to grow at an annual rate of 20 to 25 percent over the next five to seven years. To take full advantage of this boom, many OEMs are planning to add capacity, and global OEMs are ramping up their presence and investments in the country. Robust growth is expected in components used in backhoe loaders, crawler excavators, and wheel loaders, which are often used in large-scale infrastructure projects.
• Increasing demand for after-sales service. Spare-parts sales are expected to grow in tandem with the overall ECE industry and will be boosted by a growing, under-penetrated after-sales market. Currently, after-sales revenue contributes a low percentage of total sales for ECE OEMs in India: just 2 percent compared to the global average of 7 to 8 percent. Going forward, ECE OEMs are expected to further enhance their after-sales service offerings to tap into a market opportunity that could reach $0.5 billion by 2015.
• Greater potential for exports. Robust growth is expected in export demand for engineering services and components and aggregates manufactured in India and sold to emerging markets. Three factors are causing this shift:
• The availability of cheap, highly skilled engineering and design services in India High cost competitiveness because of the scale of production in manufacturing basic power train systems, including transmission components and downsized engines
• The development of product solutions, rather than just designs, to meet the market demand for better connectivity and remote performance monitoring.

Challenges to the Industry’s Growth

The Indian ECE components and aggregates industry is on the verge of fast growth, but significant challenges could prevent players from effectively tapping into the market’s opportunities. These will need to be addressed to realize the full potential of the components business.

• Fluctuations in OEM demand for components and aggregates. Varying demand from OEMs can have a significant impact on components suppliers, which sell most of their products to OEMs. Because they rely little on after-market sales, their business is intrinsically linked to the orders placed by OEMs. Because of heightened OEM demand between 2005 and 2011, suppliers invested in more capacity. But now, demand remains low as a result of adverse market conditions, and suppliers are suffering from a demand shock. The problem is further compounded by the fragmented supplier landscape. Numerous low-sophistication product manufacturers and vendors supply customized components to some OEMs rather than standardized offerings. As the industry picks up pace to grow by four to five times in the coming decade, OEMs and suppliers that coordinate to ramp up capacity will be better able to fulfill demand.
• Planning for spares distribution. The supply chain for spares distribution is often not geared toward providing a very wide reach or catering to the full potential of spare-parts sales. Moreover, a fresh look at the spare-parts pricing model could help, especially if it is more in line with market expectations for specific components. New pricing can help increase the consumption of spares, which are not being consumed in very high numbers.
• Gaps in adopting technology. End users of construction equipment in India are demanding more-sophisticated products to meet their needs. However, domestic  ECE vendors and suppliers are facing a technology gap between what the market wants and what vendors can offer. For instance, the market has already started demanding products with enhanced connectivity and electronic systems. But production of ECE with technologies such as telematics, GPS, electronic control systems, and real-time remote performance monitoring equipment is at a nascent stage. Suppliers will have to quickly adapt to meet the growing demand from end users. From a regulatory standpoint, greater emphasis is being placed on greener vehicles with lower carbon dioxide emissions and better fuel economy. In addition to the latest technologies, suppliers will have to incorporate more technologies compliant with Bharat Stage IV emission standards and other advanced fuel-efficient technologies.
• Stiff margin pressure. Vendors in the domestic ECE industry are often under stiff margin pressures for an array of reasons:

1. Emphasis on price. Indian consumers are more price conscious than global  players. Price versus value is the primary concern for 70 to 80 percent of Indian customers, compared to 40 to 50 percent of customers in the United States and  60 to 70 percent in China.
2. Dependence on imports. Currently, 50 to 55 percent of components are  imported. This is expected to go down to 25 percent by 2017, but high-tech components will largely continue to be imported.
3. Price inflation of raw materials. Prices of materials such as steel and crude oil drain margins because vendors have a limited ability to pass price increases on to customers.

Overcoming the Challenges

Best practices from OEMs across the world and examples from adjacent industries such as automotive can help guide solutions for India’s components and aggregates industry.

• OEM support for suppliers’ capacity planning. OEMs could follow the example of the automotive industry, where players such as Maruti and Hyundai have worked with parts suppliers to develop and coordinate order schedules, capacities, and demand forecasting. Closer collaboration of OEMs with suppliers can mitigate risks such as volume fluctuations, improve component customization, and help leverage one another’s expertise. Communicating about OEM plans to add capacity will benefit suppliers by allowing them to plan their production schedules in a volatile demand environment and better manage their inventory. Furthermore, establishing supplier parks with shared facilities can substantially minimize incremental capital expenditure requirements. OEM support is especially beneficial to small suppliers, which form the bulk of the market but often struggle to withstand sharp swings in demand.
• OEM investment in developing suppliers’ capabilities. OEMs and suppliers can take up joint development exercises, including state-of-the art manufacturing capabilities, training and skills development, and quality monitoring and compliance.
• R&D enhancement and technology indigenization. Establishing R&D centers focused on product innovation and indigenization could help improve product availability and quality and make India’s players more competitive compared to foreign suppliers. Technological collaboration across the value chain spearheaded by industry, research institutions, and industry bodies can drive market-centric innovation.
• Increased cost competitiveness. Taking into account the highly price-conscious Indian customer, component suppliers would be wise to lower costs while maintaining their product quality. Developing India-centric product offerings with tailored, frugal designs with an eye on cost optimization could be highly beneficial in the long run. OEMs could also give suppliers more flexibility for value-engineered product designs. More local control over product designs at the OEM end and more supplier involvement at an earlier phase of the design process can also help.

At the same time, localizing sourcing and manufacturing of components is a good way to lower costs. Following the example of industries such as defense with compulsory offset clauses, regulatory bodies can mandate that OEMs locally source a certain percentage of components.This would not only encourage component suppliers to localize, but would also help build capabilities in the Indian components industry.

The Route to Success

The ECE components and aggregates industry is likely to experience a growth spurt in line with the ECE industry over the next five to seven years, thanks to growth in both domestic business and exports. However, the components industry will need to collaborate very closely with OEMs in areas such as capacity planning, technology adoption, and indigenization of manufacturing to ensure tandem growth. Adopting best practices for supplier development from adjacent industries, such as the auto industry, can help guide solutions.

A robust supply chain for components and aggregates, closely coordinated with OEMs, can help improve capacity planning, which in turn can help reduce variability of demand and improve inventory control in the supply chain. More R&D focus and indigenization can also help to build local competence, in turn improving the export competitiveness of supplies. Lastly, sustaining component suppliers through improved cost competitiveness is vital to the equipment industry. Overall, a robust components and aggregates supply base can be a strong catalyst for growth in the ECE industry.

To Read more: 

1. http://www.ipsosconsulting.com/pdf/Ipsos-Research-Note-India-Construction-Equipment.pdf

2.http://www.atkearney.com/documents/10192/4399341/Road+Map+to+Success+for+the+Construction+Equipment+Industry.pdf/44777e2a-7556-4da1-b07d-c6f0220a04e3