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CHAPTER 2 THE INDIAN TYRE INDUSTRY: AN OVER VIEW Nisha Rapheal”The Indian tyre industry:Financial and economic analysis” Thesis Department of Economics,University of Calicut 2016

THE INDIAN TYRE INDUSTRY: AN OVER VIEWshodhganga.inflibnet.ac.in/bitstream/10603/140018/10/10_chapter2.pdf · 34 2.1 INTRODUCTION The Indian auto components industry, which played

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CHAPTER 2

THE INDIAN TYRE INDUSTRY: AN OVER VIEW

Nisha Rapheal. ”The Indian tyre industry:Financial and economic analysis” Thesis. Department of Economics,University of Calicut. 2016

33

CHAPTER II

THE INDIAN TYRE INDUSTRY: AN OVERVIEW

34

2.1 INTRODUCTION

The Indian auto components industry, which played a rather insignificant

role before economic liberalisation, has now carved out a niche for itself.

According to trend analyses by the Automotive Component Manufacturers

Association (ACMA), the industry recorded a 20 per cent growth in production

during financial year 2002-03 and a 38 per cent growth in exports. The strong

growth in the domestic market can be credited to the good performance of the

Indian vehicle sector in which production grew by 18.6 per cent in 2002-03 over

the previous fiscal year. Barring tractors, twoand three-wheeler vehicle production

grew by 20 per cent while four-wheeler production grew by 11 per cent. Like the

automobile sector of any country, the Indian vehicle industry’s growth is cyclical.

But despite ups and downs, growth has been fairly stable over a longer period in a

number of segments. the compound annual growth rate for passenger cars has

been 14 per cent over the past two decades, for commercial vehicles 4 per cent

and motorcycles 12 per cent. Exports during 2002-03 are estimated to be $ 800

million, as against $ 578 million in fiscal year 2001-02, and $ 625 million in

2000-01. Exports are expected to rise to $ 1 billion in 2005, and to $ 2.5 billion

for 2010. This is because primary cost pressures are driving vehicle-makers and

renowned tier 1 companies, mainly in the US and Europe, to source components

from India. According to authoritative sources, this remarkable performance of

the Indian auto components industry is not a temporary phenomenon, and the

future of the industry is bright.

Despite the challenges that the industry is facing in terms of competition

and operational factors, it is expected to emerge as a leading player in Asia. In

fact, the speed at which Indian auto component manufacturers are progressing in

improving their capabilities has been encouraging. Of course, India will have to

continue to face stiff competition from countries such as Thailand, Malaysia,

Brazil, Mexico, Turkey, China and some east European countries. Industry

sources say that though the sector is less dependent on government’s policies than

it was a decade ago, it will still need a push in terms of a conducive business

35

environment which the government could provide along with market forces. This

will boost investments in the industry and allow companies to better utilise their

capacities across a wide product range, leading to employment generation and

foreign exchange earnings through exports.

There is also no likelihood of a surfeit of auto components flooding the

market, according to authoritative sources, because what is produced is ‘pulled’

by market forces and quality systems standards require auto component

inventories to be kept to a minimum while manufacturing systems require ‘just-in-

time’ delivery of components by vehicle makers. the business environment India

needed in order to be a low-cost global source for auto components was a

qualitative improvement in infrastructure, comprehensive labour law reforms,

rationalized tax structures, investor-friendly and consistent policies in states,

encouragement of R and D through incentives and safety and environmental

norms on par with international standards.

On the plus side, he felt India had an advantage in its educated and skilled

labour, low-wage structure, strength in engineering and remote services, strong

service industry and its better legal systems vis-a-vis, for instance, China. He felt

that a focus area for Indian suppliers should be the development of product design

and low-cost testing capability, creating high quality input sources and evolving

globally competitive costs. He also felt that India’s supply base strengths

consisted of lowcost sourcing for low volume speciality models and low

automation technology based components. Friedman also said the Indian

consumer is representative of the global customer – if the product is right for

India, it is right for any other market. According to Friedman, suppliers with

strong global support can become full service suppliers and systems suppliers.

The key advantages for original equipment manufacturers in this lie in minimizing

the number of suppliers per vehicle, shortening the product development time and

the development of supplier commodity experts.

36

Citing global trends in the industry, he pointed out that the number of full

service suppliers has been falling. Between 1986 and 2000, the number of full

service suppliers for PSA has fallen from 900 to 500, for BMW from 1,400 to

600, for Chrysler from 3,000 to 600 and for Ford from 2,400 to 1,200. One major

roadblock to the growth of the industry in India, of course, has been that the

automotive after-market in India has been plagued by a high incidence of

counterfeiting of auto parts. This phenomenon has been growing alarmingly over

the years. January 2000, counterfeits accounted for 37.6 per cent of the total

market size of the 12 after-market auto parts chosen for the all-India study. This

phenomenon has sometimes tended to mar the reputation of many genuine

manufacturers, but many products are still respected for their quality, especially

when they come from credible companies.

Authoritative sources say that joint ventures in the industry have been a

source of strength and innovation. Most joint ventures are said to be faring

extremely well as the purpose of their existence was realistically conceived as

well as the market strategies around which they have grown. There may have been

challenges initially, but most have matured and grown rather quickly. Overseas

partners have put together an intelligent mix of technology and financial backing

to sustain ventures in the market that is maturing and thus resemble any

contemporary industry. As the vehicle industry keeps growing worldwide and the

growing competitiveness of the industry and cost pressures push developed

countries to shift production to low-cost countries, India is likely to be a major

beneficiary. The auto components industry is slowly taking on the shape of a

major industry in India – one that is finding its true place in the sun.

Natural Rubber : Raw material

The major challenges facing the world natural rubber (NR) economy and

its responses since 1980s are different from the previous experiences in terms of

the net implications. This paper summarises the main features of the changing

dimensions of world natural rubber economy and outlines the priorities and

37

strategies relevant to India in the context of the new economic scenario. ONE of

the maifl objectives of the General Agreement on Tariffs and Trade (GAIT)

signed in April 1994 is to reform a highly distorted world trade characterised by

direct and indirect subsidies resulting in a deceptive comparative advantage and

inefficient use of world resources. However, the net effect of the increasing

globalisation of economic activity emanating from GATT treaty will vary across

countries, regions and different sectors of an economy. One of the crucial factors

determining the relative performance is the comparative advantage or efficiency

in the production and marketing of crops, products and services. Nevertheless,

during 1980s the developing countries which have a comparative advantage in the

export of agro-based products were adversely affected by a secular decline in the

real price indices in spite of various commodity agreements and price stabilisation

schemes [IMF 1990; UNCTAD 1992].

The major contributing factors for the secular decline in the terms of trade

of primary commodities vis-a-vis manufactures appear to be the organisational

and monopoly powers of the factors of production engaged in manufacturing,

development of synthetic substitutes, increasing de-materialisation of the

production process, direct increase in supply resulting from the entry of new

producers and productivity improvements arising from R and D efforts. In this

context the GATT treaty assumes significance as one of its professed objectives is

to correct the distortions in the world trade of agricultural commodities to promote

efficient allocation and use of world resources.

Natural rubber is one among the ten core commodities covered by the

Integrated Programme for Commodities (IPC) under the auspices of UNCTAD for

assistance. The case of NR is a classic example illustrating the vulnerability of the

developing countries to price fluctuations in the world market. The free market

price indices of NR declined to the extent of 40 percentage points in 1990 from its

1980 level [UNCTAD 1990], However, compared to the other three plantation

crops, viz, coffee, tea and cocoa among ten core commodities, NR displayed

better resilience in spite of volatile market conditions in the 1980s. Table 1 shows

38

the comparative performance of the four major plantation crops covered under the

IPC.

Implicitly, it is plausible to attribute a comparatively better performance of

NR to the International Natural Rubber Agreement (INRA) which was the only

active commodity pact in the 1980s and the buffer stock operations of the

International Natural Rubber Organisation (INRO) since 1980. However, the

producing countries are apprehensive about the efficiency of INRA in absorbing

steady increases in cost of production and stabilising prices at remunerative levels.

The Daily Market Indicator Price (DMIP) of the INRA is considered to be

unrealistic as it has emerged as the price signalling point in the world market

instead of its determination based on the movements of free market prices. In

1990s the major problems confronting the world NR economy in the context of

the increasing globalisation of economic activity are frequent fluctuations in free

market prices, dominance and structure of the synthetic rubber (SR) industry,

increase in supply of NR mainly due to the entry of new producers and erosion of

relative profit margins. Cost escalation on account of steady increases in the

prices of material inputs compared to increases in the productivity of NR

aggravated the emerging crisis [Sulieman 1991].

Though the response to the uncertainty confronting the NR sector varied

across the producing countries it is unique in terms of its net effect by instilling an

element of dynamism among the producers which was hitherto not so explicit.

The major sub-sectors of NR economy undergoing internal adjustments and

structural changes in response to the changing economic scenario are the

production, processing, consumption and the by-products sectors. In spite of the

differences in the extent of inter and intra-sectoral adjustments among the major

NR producing countries a common feature is efforts to capitalise available

opportunities for squeezing unit cost of production and exploring potential outlets

for increasing the net income per unit area.

39

In this context, the developments in Malaysia is more illustrative compared

to other major NR producers. Till 1991 Malaysia was the leading producer and

exporter of NR and in 1990 the share of NR in its total export earnings declined to

3.8 per cent from 55 per cent in 1960. Major changes in the NR production sector

consisted ofswitchingoverto relatively more profitable and less labour-intensive

crops like oil palm and introduction of labour saving mechanisms at different

stages of NR production. In the processing sector, emphasis is on the

development, production and exports of value added forms of rubber and

commercialisation of processing wastes. Recently, Malaysian imports of raw

rubber from low cost producing countries like Vietnam is increasing and the

imported rubber is being processed into higher grades of NR. The estimated net

value added in this process is in the range of 20-25 per cent of the imported value

[Sulieman 1991]. Since the late 1980s domestic consumption of NR in Malaysia

registered steady increases fully utilising the locational advantages in the

manufacturing of NR latex based products such as gloves, elastic rubber thread

and catheters. the expansion of domestic rubber goods manufacturing sector.

Malaysia is also successful in the commercial exploitation of the by-

products, especially rubber wood. In 1992, the country's export earnings from

finished products based on rubber wood was US $ 157 million [ANRPC 1993].

Although the extent of commercial exploitation of the by-products vary among

the producing countries, earnest attempts are underway to tap ancillary sources of

income from the rubber plantations.

At a micro level considerable differences exist among the major NR

producing countries in terms of the priorities attached to net income augmenting

measures and cost saving mechanisms. To a large extent, the survival strategies

adopted by the NR producers varied depending mainly on the natural resource

endowments, size of the domestic market, level of technology and the extent of R

and D support. At a macro level, world NR economy is constrained by a well

defined structure of its production and consumption sectors. The two cardinal

features of world NR production are a high degree of regional and structural

40

concentration. Geographically, NR production shows a very high degree of

concentration and sectorwise concentration is characterised by the dominance of

rubber smallholdings. the major characteristics of the NR production sector.

An important feature of the structure and pattern of world rubber

consumption is a very high degree of concentration. The structure of world rubber

consumption is characterised by the dominance of synthetic rubber (SR) and in

1992 the relative share of SR was 62.3 per cent [IRSG 1993]. Since 1960s SR has

systematically replaced NR in the world rubber market and the relative share of

SR reached its peak level in 1974 (70.6 per cent). Although its share has declined

to 62.3 per cent in 1992, the SR manufacturing industry occupies a pivotal

position in the world rubber market in terms of its unique advantage of both

backward and forward integration with petrochemical and automotive tyre

manufacturing industries, respectively. The world chemical, petrochemical and

tyre industries are reported to be dominated by less than ten firms which together

account for around 80 per cent of SR production capacity [Carr et al 1988], The

pattern of world rubber consumption and NR consumption is dominated by the

tyre and tyre products manufacturing sector as evident from the data available for

the major consuming countries .

Another important dimension of the consumption sector is the geographical

concentration in the consumption of rubber. Table 5 shows relative shares of

major consuming regions/countries. An important development having positive

implications on the NR production sector is the steady increases in the

consumption of NR in major producing countries, especially China, India and

Malaysia. The rise in consumption is mainly propelled by the boom in the

manufacturing of latex based products and growing relocation of manufacturing

activities to south east Asia since mid-1980s and the inherent locational

advantages for the NR producing countries. The dominance of the major NR

importing countries in the total rubber consumption is structurally rooted with the

pivotal position in the control on the production of automotive tyres and allied

products. However, in the context of growing integration of world rubber

41

economy, the comparative advantages associated with the raw material and labour

costs in the production of rubber products will have an important bearing on the

prospects of NR producers.

2.1.1 Natural Rubber Economy of India

India is the fourth largest producer of NR and its productivity is reported to

be the highest in the world. In 1993-94 its total production was 4,35,160 mt.

During the year the total area under cultivation has increased to 5,10,000 ha. An

important characteristic of NR cultivation in India is a very high degree of

geographical concentration. Table 6 illustrates the point.

One of the main features of NR cultivation in India is the dominance of

smallholdings sector as its share in area under cultivation and production is about

85 per cent. The dynamic growth of the industry during the last four decades and

projections for 1994-95 and 2000-01.

Compared to the three major NR producing countries, viz, Thailand,

Indonesia and Malaysia, India is having the unique advantage of a captive market

arising from a well developed rubber goods manufacturing sector. India has been

a net importer of NR since 1948 and at present India is ranked 8th among the

major rubber products manufacturing countries. The trends in NR consumption

are furnished.

An important feature of rubber consumption in India is a relatively higher

share of dry rubber products manufacturing sector accounting for about 86 per

cent in 1991 -92. Indian rubber goods manufacturing sector is basically inward

oriented catering to the internal market. The pattern of exports of rubber products

from India appears to be a honzontal ex tension of its existing industrial structure.

Table 9 shows the structure of rubber products exports from India during 1922-93.

More than 90 per cent of India's export earnings consists of dry rubber products

and therelativeshareof automotive tyres and allied products alone is 71.68 per

cent. India had been enjoying a favourable balance of trade in the foreign trade of

42

rubber products since 1971-72 to 1992-93 without any significant change in the

structure of exports! Mohanakumaretal 1994). However, in the emerging

economic scenario characterised by increasing integration of world market the

existing pattern of exports cannot be sustained mainly due to the changing global

market structure of the major products exported. Therefore, it is necessary to

outline the priorities and strategies for the NR production sector and the rubber

products manufacturing sector to face the challenges arising in the post-GATT

era.

2.2 ORIGIN AND GROWTH OF TYRE INDUSTRY IN INDIA

Transport is the life- blood of civilization and it plays a key role in the

economic, social, cultural and political progress of the economy. The

manufacturing of automobile tyres became an essential ancillary activity for the

development of the automobile sector.

The major raw material required by the tyre industry is rubber. Of all major

end- use markets for rubber, transportation is by far the largest single sector with

tyres and tyre products accounting alone for over 50percent of NR consumption.

Truck and bus tyres would represent the largest single outlet for NR, followed by

automobile tyres. The main consumers of natural rubber are tyre makers.

According to Automotive Tyre Manufacturers Association, there are 23 percent

growth in tyre manufacturing during the period from 2010 April to 2011

February.

In world scenario, the tyre industry’s turnover is more than $ 130 billion. It

employs more than 600,000 people directly and several millions indirectly. A

dozen global players dominate the tyre industry. The top five manufacturing

companies by revenue are Bridgestone, Michelin, Good Year, Continental AG,

Pirelli.

In 1846, Robert William Thomson invented and patented the pneumatic

tyre. Pneumatic tyres are manufactured according to relatively standardized

43

processes and machinery,in around 450 tyre factories in the world. Over 1 billion

tyres are manufactured annually, making the tyre industry the majority consumer

of natural rubber.

The origin of the Indian Tyre Industry dates back to 1926, when Dunlop

Rubber Limited set up the first tyre company in West Bengal. At present, there are

40 listed companies in the tyre sector in India. Major players are MRF, JK Tyres,

Apollo Tyres , CEAT, BIRLA, and GOOD YEAR which account for 63 percent

of the organized tyre market. Current level of radialization includes 95 percent

for all passenger car tyres, 12 percent for light commercial vehicles and 3 percent

for heavy vehicles (truck & bus). Restrictions were placed on the import of used/

retreaded tyres since April 2006. Import of new tyres and tubes is freely

allowed,except for radial tyres in the truck/bus segment which has been placed in

the restricted list since November 2008.

Indian tyre industry produces the complete range of tyres required by

the Indian automotive industry , except for aero types and some specialized

tyres.Domestic manufacturers produce tyres for trucks, buses, passenger cars,

jeeps, light trucks, tractors, ( front, rear,and trailer ),animal drawn vehicles ,

scooters, motor cycles, mopeds, bicycles, and off – the – road vehicles and

special defence vehicles.

The productivity of rubber in Kerala is the highest in the world. According

to Rubber Statistics 2006 published by the Rubber Board of India, the mean

annual productivity is 1726 kgs/ha, which is highest in the world. For a long time

now, domestic prices of rubber are much lower than international prices. India has

signed the ASEAN agreement. As per the industrial clauses of the project, the

Union Government will be compelled to take away the import duty of the rubber.

As Kerala contributes to the major chunk of the rubber production, Kerala will be

compelled to face competition from countries like Malaysia. Key tyre categories

tariff to be brought down to 5percent by 2016. Select raw materials of tyre

industry eligible for Nil/Concessional Customs duty from 2013 onwards. Indian

44

tyres have good acceptance in global market. The Compound Average Growth

Rate ( CAGR) of tyre exports in last one decade has been 8 percent. Export

to highly quality conscious US market is 17 percent.

2.3 INDIAN TYRE INDUSTRY: DEVELOPMENT AND STRUCTURE

The Early Phase : ( 1936 – 1959 ): Genesis of Indian Auto Tyre industry

The Automotive industry is one of the more important components

of the Rubber manufacturing industry as it accounts for just under three

quarter of the total net value of the industry . The Indian rubber industry is of

comparatively recent origin. The end of the first world war signalled the

genesis of the industry . The first rubber plant in the country was

commissioned in 1920 for the manufacture of certain technologically less

complex non – tyre products like water proofing of fabrics. Thereafter a few

concerns grew in quick succession in the Bengal presidency and elsewhere.

But it was only in the second half of the 1930’s that commercial production

of tyres commenced in the country.

Dunlop Rubber Company was the first to start commercial

production of tyres in the country; their plant was set up at Calcutta in 1936.

Dunlop was soon followed by a US based MNC by name Firestone Tyre and

Rubber Co. , with a plant at Bombay in 1939. In addition to these , two other

manufacturers , who were also subsidiaries of MNC s, viz., Good Year and

India Tyre and Rubber Co.( hereafter ITR ) also entered the fray. Of these ,

ITR was a subsidiary of Dunlop’s parent firm and it became a wholly

owned subsidiary of Dunlop India only in 1979. Both Good Year and ITR

were getting their tyres manufactured at Dunlop’s plant. In fact this mutual

interdependence between the firms in an explicit manner was common

business reaction to the economic vicissitudes of the depression years and

could be found elsewhere. For instance , Good Year had arrangements with

Dunlop in respect of several markets according to which one of them

45

manufactured tyres and tubes for the other where it had a prominent

position.

The second phase : ( 1960- 1974 )

The characteristic feature of this phase is the licensing of new units,

especially the Indian companies with foreign technical collaboration and the

consequent interaction between the established MNC s and the new Indian

companies. Though the entry of these new firms would have made the

industry more competitive ( domestically speaking) , the collusive

arrangements between the firms for fixing the prices and sharing the output

continued to play an important role , but this time with an important

difference .The commencement of this phase approximately corresponds to the

beginning of the Third five year plan . The target for the plan period ( i.e., the

likely capacity that would be created by the terminal year of the plan [ viz .,

1965 – 66] ) was fixed at 3.7 million tyres. Subsequently , five new units

were licensed. Of this, Good Year ( which was already operating in the

country as a trading company using Dunlop’s manufacturing facility ) and

Ceat were subsidiaries of MNC s and remaining three ( viz., Madras Rubber

Factory , Premier and Inchek ) were promoted by Indian enterprenuers in

technical collaboration with foreign companies. Among them , Madras

Rubber had a minority equity participation by its foreign collaborator.

The two existing companies and Good Year could implement their

licences much before the new companies could, in view of the former’s

command over financial and technical resources. As a result of these

substantial expansions and the new units going into commercial production ,

there was a temporary glut in the tyre market during the period 1963 through

1967 . The consumer preferences was for the established brand names and as

a result the new units found is extremely difficult to establish.

46

The modern phase : ( 1975 – 1988 )

The distinguishing feature of this phase is the large scale entry of units

belonging to Indian Business Houses and the nature of vertical and horizontal

acquisitions . Here happens the exit of MNC s mainly due to external

conditions, ( viz., adverse performance of their respective parent companies

as a result of severe recessionary conditions in the western tyre industry )

which saw the exit of the companies from Indian scene. The industry

underwent a succession of changes which influenced the pattern of intra-

industry competition as well as affecting the market power of certain firms.

There are essentially seven new entrants into tyre industry during the

period .Of these , four large tyre manufacturers ( viz ., Modi, Apollo, J.K and

Vikrant ) and three were specialized manufacturers of smaller – sized tyres

like Scooter / Motor cycle (viz., Falcon , Srichakra and KTC ). Most of these

units belong to various Indian Business Houses (or MRTP ) like Modi,

Raunaq Singh , J.K and T.V.S . This was also the when there was direct

participation by the state in tyre production (e.g ., Vikrant) . Modi was the first

to commence commercial production by 1974 .Within a period of two years

or so , i.e ., by 1977 , the company was able to achieve a significant share

of the truck tyre market ( which is by far the most important segment ) and

emerge as the third largest manufacturer of truck tyres.

Table 2.1

Composition pattern of major rawmaterials by Indian tyre industry

2011-12 Natural Rubber 44% Nylon Tyre Cord Fabric 19% Carbon Black 12% Rubber Chemicals 5% Butyl Rubber 4% PBR 5% SBR 5% Others 6%

Source: Automotive tyre manufacturer’s association

47

The following figure shows that composition pattern of major raw

materials by Indian tyre industry 2011-12, natural rubber contribute 44% , nylon

tyre cord fabric of 19%, carbon black of 12% .

Figure 2.1

Composition pattern of major rawmaterials by Indian tyre industry

2011-12

2.4 NATURAL RUBBER -ENHANCED PERFORMANCE

The growth in tyre production has led to the changing ratio of NR-SR

consumption in India over the last one decade. India’s NR-SR ratio which stood

at78:22 in 2001-02 shifted to 70:30 in 2010-11 while the global NR-SR ratio

shifted from 42:58 to 44:56 during the same period. This shows that there is a

gradual and consistent shift towards SR – a trend which is likely to continue in the

future as well. To improve and enhance the quality of tyres, researches have come

out with several innovative designs ideas. Finite element analysis is deployed to

design tyres that deliver optimum performance, including durability, tread wear,

noise, vibration, traction and rolling resistance.

Tyre problems stem from the use of composite materials that show

nonlinear and load dependent behaviour. It involves complex geometry, and

contact conditions which demand innovative approaches for dealing with static,

transient and steady rolling, it involves finding solution to multi-field, multi-

Natural Rubber

44%

Nylon Tyre Cord Fabric

19%

Carbon Black 12%

Rubber Chemicals

5% Butyl

Rubber 4%

PBR 5%

SBR 5%

Others 6%

Raw material composition of Indian tyre industry 2011-12

48

scaled problems. More than ever, up to date computational approaches are needed

to address these issues realistically and efficiently. One of the key tyre

performance indicators is the tread wear which in turn affects the durability of the

tyre. The noise vibration road grip in different pavement conditions and tyre

handling have become important issues that determine tyre properties. All these

are certainly influenced by the tread changes in tread profile. The wear rate

depends not only on the material parameters but has definite influence on the

forces resulting out of the footprint. The frictional energy distribution in tyre foot

print is being correlated to tread wear.

The following table shows that in the year 2012-13 , production of natural

rubber , constitute 9,12,200 .Natural rubber consumption of tyre sector is 65 %

in the year 2012-13. In the year 2004-05, consumption of tyre sector is 54 % ,

and it increases upto 65 % in the following years.

Table 2.2

Natural rubber production and consumption share by Indian Tyre

sector

Year

Production

Tyre Sector

Consumption Percentage

2004-05 749660 406220 54%

2005-06 802625 442921 55%

2006-07 852895 462081 56%

2007-08 825345 495577 58%

2008-09 864500 508121 58%

2009-10 831400 576210 62%

2010-11 861950 597623 63%

2011-12 903700 631410 65%

2012-13 912200 631800 65%

Source : Automotive tyre manufacturer’s association

Finite element analysis is being used for prediction of the shape of

footprint (FP) and the pressure distribution at different levels of the tyre deflection

through incorporation of visco elastic model at low and high strain and computing

49

the FP pressure distribution in tyres Tyre noise, likewise, has its influencing

element emerging out of the shape and sizes of the tread elements and the grooves

that separate since each of the tread element passes via the FP. An ideal geometry

of tread pattern given sound in a wide frequency spectrum thereby giving rise to

an even distribution of sound. The finite element analysis as well as the boundary

element methods have been used to predict tyre noise over design changes since

they can treat the complexities of shapes.

Indian tyre industry at an inflection point. The radialisation drive is

gathering further momentum. The next 20 years will definitely witness a sea

change in the industry scenario. A few leading firms are looking beyond Indian

shores as a few majors are strengthening presence in India. These are indeed

exciting times.

2.5 RISE IN AUTOMOBILE CAPACITY BOOSTS TYRE INDUSTRY

While global automobile majors are eying to invest in India, the Indian

automobile, components and tyre majors are making international forays by

acquiring foreign companies and setting up porduction/assembly lines abroad.

India’s rising share in global automobile production and global invsetments in

tyre industry projects are pointers to the shape of things to come in the medium

and long term. While global automobile majors are making a pit stop for India,

the Indian automobile, components and tyre players are reaching out to the

world.According to global consultants Booz & Co., India is expected to account

for nearly 50% of the increase in global automobile capacity between 2007 and

2012. Improvement in road/infrastructure and increase in rural spending are

positive factors for the tyre industry. However, rise in interest rates, high inflation

and increase in vehicle, fuel and tyres prices are dampeners.

50

Table 2.3

India’s YoY Growth - GDP, Tyre , Vehicle Production

Source : ATMA (Automotive tyre manufacturer’s association 2011)

The following figure shows that , The dip in growth of GDP to 6.7% in 2008-

09 has been restored in 2009- 10 with a GDP growth of 7.4% and the prospects

of higher GDP growth in 2010-11 of 8.5 to 8.75 % and a still higher GDP growth

is expected in 2011-12.

Figure 2.2

India’s YoY Growth - GDP, Tyre , Vehicle Production

9.5 9.7 9.2

6.7 7.4 8.5

9.9 11.4

10.3

1.2

18.3

29

15 14

-2

3

26

31

-5

0

5

10

15

20

25

30

35

2005-06 2006-07 2007-08 2008-09 2009-10 2010-11

GDP Growth

Tyre industry growth

Vehicle industry growth

GDP Growth Tyre industry

growth

Vehicle

industry

growth

2005-06 9.5 9.9 15

2006-07 9.7 11.4 14

2007-08 9.2 10.3 -2

2008-09 6.7 1.2 3

2009-10 7.4 18.3 26

2010-11 8.5 29 31

51

2.6 GLOBAL FORAYS

Tata Motors’ acquisition of Jaguar and Land Rover (JLR) and

establishment of a 300,000 capacity motor cycle plant in Indonesia by TVS

Motors at an investment of $ l00 million over three years represent two major

forays by Indian companies into the global automobile sector.Bajaj Auto, India’s

second largest two-wheeler manufacturer plans to set up a 2W/2W plant in

Indonesia by end 2013. The world’s largest two-wheeler producer, Hero

Honda(rechristened Hero Corp after split between Honda of Japan and Hero

Group of India), is set to replicate its domestic success story on a global

platform. It aims to introduce new bikes for new export markets.According to

Tata Motors, SAARC, ASEAN and Latin American regions are important markets

for the Nano with strong possibility for setting up assembly lines. Taiwan based

TECO Group is keen to introduce Nano in Taiwan. Malaysian Government is in

talks with the Tata’s to introduce Nano in Malaysia.

Auto component sector

In the auto component sector, Amtek Auto Ltg ($1.3bn) has bought an

aluminium foundry in the ;UK ($40mm) and Technical Alliance with Autech

Autech Corop of South Korea for Speciality Vehicles. Bharat Forge has entered

into JV with David Brown Systems, global leaders in gearbox and transmissions.

Motherson Sumi Systems Ltd@ 2.7bn turnover) has a presence in 23 countries

with over90 manufacturing facilities.The Ruia Group (which acquired Dunlop in

India in 2005) acquired two companies overseas in 2010 – Turkey’s Standard

Profil and Germany’s Meteor with a combined turnover of euro 400mn.

Growth in tyre output

The steady rise in automobile capacity has aided the growth of the tyre

industry in India. Growth in tyre production (2008-2010)in India outstripped the

global growth. The share of passenger car tyre production in India (as percentage

of total tyre production) has increased from 48%(2008) to 55%(2010). The

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current global share of car type production is 72%.Share of medium and heavy

vehicle tyre production declined from 37% (2008) to 33%(2010). Global share of

M&HCV tyre production is on 11%.The Indian tyre majors too are making

overseas forays to expand their production capacity. Apollo Tyres has acquired

two tyre plants in South Africa and one each in Zimbabwe and the Netherlands.

Nearly one third of its revenues come from overseas operations. Besides, JK Tyre

has acquired Tornel in Mexico and Ceat Tyres (of India) has acquired global

rights of brand Ceat from Italian tyre major Pirelli for Euro 9 million.

2.7 HIGH NR COST DRAGS DOWN INDIAN TYRE FIRMS STOCK

PRICES

Rising input costs, mainly that of natural rubber, coupled with slackening

demand from the automobile sector, have hit the margins of Indian tyre

companies and that is clearly reflected on their dismal performance on the

bourses. A study, which ahs been undertaken to evaluate the performance of the

tyre companies stocks between September1, 2010, and August 30, 2011. Indicates

that shares of these companies have plunged 15% -75% compared with a 9% fall

of the Bombay Stock Exchange (BSE) index, Sensex, (value weighted index

comprising 30 stocks)Stocks of major tyre companies- Apollo Tyres Ltd and

MRF Ltd- have fallen by 19% and 13% respectively, while those of JK Tyre and

Industries Ltd and CEAT Ltd plunged 49% and 44% respectively during the

period. The Auto index of automobile companies, including Tata Motors, Maruti

Suzuki and Mahindra & Mahindra has fallen by around 5% during the period.

Sharp Decline in Profits

According to the latest research report from credit rating agency ICRA,

even as the industry benefitted from the strong revenue growth during 2010-11,

higher input costs, especially that of natural rubber, led to a sharp 19% decline in

operating profits and 37% decline in net profits. Industry wide, operating margins

declined to 9.2% in fiscal 2010-11 as against 14.4% in fiscal 2009-10.Besides

grappling with high input costs and slackening automobile demand, domestic

53

players are expected to face additional pressure with the lift6ing of anti-dumping

duty (ADD), effective from August 2011, on truck and bus radials (TBRs)

imported from China and Thailand. While this move is expected to be contested

by the industry players, the lifting of ADD makes the imported TBRs cheaper by

around 15-20% limiting domestic demand and pricing power.The stocks of the

tyre companies are on the decline as their profits at the operating level have been

narrowing thanks to rising input cost, mainly natural rubber, and that has caused a

400-500 bps drop in margins of the tyre companies,” Yaresh Kothari, an analyst,

Mumbai based Angel Broking Ltd, told Rubber Asia. Natural rubber contributes

more than 40% of the cost of a tyre

Impact of High NR Price

According to the Rubber Board of India, average natural rubber price

(RSS4) in September 2010 at the Kottayam market was Rs. 16,645 per 100kg.

However, in April 2011 rubber prices touched Rs. 24,300 per 100 kg, an increase

of 46%. In the financial year 2011, rubber prices soared by 37%.Initially, to

maintain tyre numbers on the balance sheet, the tyre companies had increased

prices of their products in tune with the rising input costs. However, the tyre

producers could not raise their product prices commensurate with the rising prices

of natural rubber. Hence they had to compromise on their profit margins as they

could not pass on the entire price hike to their customers. “Since last two

quarters, the profit margins of the tyre companies have come down between 1%

and 2%,”.“With the threat of imports limiting the ability of tyre makers to fully

pass on the increase in costs, we expect operating margins of tyre companies to

decline by 50-80 bps in 2011-12.

2.8 FALL IN AUTOMOBILE SALES

Overall sentiment for tyre companies remained gloomy over the past few

months. Auto companies are struggling to increase sales figures as rising fuel

prices and interest rates have dampened buyers, sentiments. According to the

latest figures released by Society of Indian Automobile Manufacturers (SIAM),

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domestic car sales in August this year fell by 12.5% to 144,000 units compared

with 160,000 units in the same month of last year due to slow demand as the

double-digit inflation and high interest rates affected consumers buying potential.

SIAM does not seem much optimistic about future sales as it has revised its sales

outlook for this fiscal to 10% -12% from 16-18% which was predicted earlier.

Analysts expect another downward revision by SIAM as there is no pick-up

demand.

Most analysts. However, say the worst is over for the tyre companies at

least in the near term as natural rubber prices have shown some softening. During

the first four months of FY11-12, prices of natural rubber declined by 11%.

According to market pundits, prices are expected to drop in the future. Domestic

natural rubber prices are expected to decline from current levels of Rs. 215/kg to

levels of 190/kg by the fourth quarter of 2011-12 in line with a decline in

international prices. Higher supplies from major rubber producing countries like

Thailand and Indonesia and a moderation in auto demand will lead to a decline in

international prices. The decline in NR prices will lead to an improvement in the

operating margins of tyre companies in the fourth quarter of 2011-12. However,

for the whole year (2011-12) average NR prices will be higher by 11-13% which

will put pressure on the margins of tyre companies.

2.9 QUIET EFFICIENCY

One of the top priorities before researchers at the Harishankar Singhania

Elastomer & tyre research Institute (HASETRI) is to develop efficient and safer

tyres as they believe that tyres are important factors in passenger vehicle energy

use.Imporvements in tyre energy efficiency could reduce fuel consumption by 3-

5% across existing passenger vehicle fleets. It would result in a global reduction

in greenhouse gas emissions by more than 100 million tonnes annually. This can

be achieved by development of more efficient tyres without sacrificing safety and

other performance parameters’.One of the ways to develop efficiency of the tyre

is by reducing rolling resistance.

55

There are different approaches to reduce rolling resistance: Material

approach, Design Approach, Tyre Maintenance Approach. Around 40% rolling

resistance contribution of the tyre is from the tread compound. So developing low

rolling resistance compound is one of the research areas from material aspect’.

Silica mixing technology itself is a breakthrough research for producing low

rolling resistance tyre treasd compound. Development of polymers with varying

microstructure, low volatile silane coupling agents helped tyre industries to

develop low RR tyre tread compounds.Functionalised polymers interact strongly

with silica, which reduces the amount of free dangling chain ends, cause low

hysteresis loss and improved dispersion of silica. This results in low rolling

resistance. Innovative silance also improves dispersion of silica, and help to

reduce rolling resistance.

2.10 LABELLING REQUIREMENTS

From the design point of view, research on adaptive patterns can help to

reduce the rolling resistance of tyre.. “High radial stiffness, flexible

circumferential stiffness and high lateral stiffness are development areas related to

design for achieving improved rolling resistance. There are other design related

research to reduce rolling resistance like contour layout, void distribution of tread

design, belt movement and pattern deformation etc.Tyre pressure monitoring

system is the research activity in the area of tyre maintenance outcome to improve

the tyre efficiency by reducing rolling resistance. He thinks research on RR would

pick up pace amid growing regulations on sustainable mobility. The EC based

labelling system that will be in force in 2012 will see a surge in technologies that

would reduce RR, improve wet skid resistance and slash tyre noise. “The EC

based labelling systems of tyres according to their wet grip, fuel efficiency and

noise performance have made a great impact on the tyre manufacturing companies

with respect to technology.

The labelling scheme will grant consumers access to independently

verified information on tyre performance for the firsit time. The most fuel-

56

efficient (low rolling resistant) tyres currently on the market can reduce fuel

consumption and therefore CO2 emissions of 10% compared to todays worst

performers. Quieter tyres can cut road traffic noise by half. Tyre/road contact is

the dominant source of road traffic noise, so quieter tyres are especially important

to the vast majority of Europeans who live urban areas and near highways. Wet

grip represents the ability to safely brake on a wet road, and it is a safety

parameter of great concern. “Wet grip as it is measured in ECE R117 is not the

only most critical safety parameter: it is just the one which is the easiest to

measure.”With the introduction of tyre labelling system, it has become mandatory

to improve the fuel efficiency, improve the wet grip and reduce the noise level of

the tyre. To address these parameters tyres are to be properly designed with

improved construction technology and superior compounding technology.

2.11 POLYMERS RESEARCH

Besides tyre design factors, there have been major breakthroughs in

polymer research field and coupling agents that will have a great impact on rolling

resistance. “In the polymer field several developmental activities are going on to

meet the requirement of rolling resistance. One such development is the solution

SBR (SSBR) SSBR with functionalisation that can help to reduce the heat

generation in the compound resulting in improved product life. It also offers

opportunities to fine tune different properties like damping, dynamic stiffness on

the basis of the microstructure. Some more breakthrough researches in the front of

polymers are modification of polymer molecular weight, modification of polymer

microstructure etc to achieve improved rolling resistance characteristics of the

compound. Research is also going on to develop coupling of elastomer

intermediates with different coupling agents to reduce the hysteresis energy loss.

Functionalisation of polymers is also being developed to improve better polymer

filler interaction with silica fillers.

Changing the viscoelastic behaviour of polymer by modifying through

chain branching, introduction of polarity in the polymer chain, introduction of

57

reactive functional groups in the polymer chain, are some of the recent activities

in the field of polymer development to achieve lower rolling resistance in

tyre.Silica based tread compound helps to reduce the rolling resistance of the tyre.

However, silica has difficulty in dispersion with general purpose rubber

compounds. For better dispersion of silica, it needs coupling agents. Year old

silica coupling agent is Si-69 However, with the improvement in mixing

technology as well as invention of new generation polymers, different types of

innovative silanes are also being developed. “With such new silane, sillica

dispersion has improved drastically and helps in reducing the rolling resistance.

2.12 TYRE FILLERS

The currents technology trends in the development and application of tyre

filer compounds point to development possibility of tyres with lower rolling

resistance, better grip and generally more environment-friendly.Fillers are

generally used in tyre compounds to improve the reinforcement characteristics.

“To achieve reinforcement, fillers needs better dispersion. Better dispersion of

filler needs better interaction between polymer and filler. Reinforcing filler plays

an important role to improve rolling resistance, wet grip and wear.New carbon

black with improved surface roughness, carbon black-silica dual phase filler and

highly dispersible silica filler are some of the new development of fillers to

lowering rolling resistance and improvement of grip properties of the

compound.Ultra-high structure soft black for tread base application helps to

maintain the dynamic stiffness and simultaneously reduce the rolling resistance of

the tyre.Another important area in carbon black research to reduce the rolling

resistance is wide aggregate size distribution technology. This helps to widen the

aggregate size at same surface area of carbon black. This helps decrease the

filler- filler network strength and maintains same average strength of polymer-

filler interactions.

“Chemical modifications of carbon black are also an important research

area to reduce the hysteresis of the rubber compound without affecting the

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reinforcement properties.With the advent of silica technology green tyre concept

was introduced with highly dispersible silica with a silane coupling agent. This is

one of the environment-friendly technologies. This technology can help to

improve the tyre fuel-efficiency.

2.13 TWIN CHALLENGES

Commenting on the role of fillers that could influence rolling resistance

and durability of the tyres that can be made more environment-friendly as well.

Dr. Gupta came out with many interesting points. Fillers are generally used to

improve tread wear/. Improving rolling resistance as well as grip properties.

“Payne Effect generally governs the ultimate performance properties of the

compound. Filler-filler interaction is the main influencing parameter for the

Payne Effect and affecting the rolling resistance. Reduction of rolling resistance

means reduction in Payne Effect. Aggregate size distribution of filler and volume

fraction of the filler has an important role in reducing rolling resistance as well as

wear characteristics. High surface roughness of the filler improves the polymer-

filler interaction and reduces the hysteresis loss. This also helps to improve the

rolling resistance and tread wear. “High surface area highly dispersible silica

improves the dynamic stiffness, results in improvement in wear performance of

the tyre. Hard blacks with tailor-made particle morphology can balance tyre

rolling resistance and wear. Ultra high structure soft black has a potential to

adjust stiffness and hysteresis of tire body compounds.

Low surface Area Highly Dispersible silica can be used to optimise wet

grip, rolling resistance. DR Gupta asserted. High Surface Area Highly

Dispersible silica can be used in High performance and Ultra High Performance

tyres to balance tyre wear, rolling resistance and dynamic properties. Use of silica

filler also helps development of environment friendly tyres. “However, there is a

trade-off between durability and safety. If the consumer selects tyres with high

wear resistance, he may use such a tyre for an extended period of time, may be 10

years or longer” But during such a time, the chemical ageing of tyres may

59

increase the tyre stiffness by 15-20 units of Shore A. This will generally mean a

significant impairment in the tyres safety performance. A durability test will not

able to show this effect . So one has to be ready for the trade-off.

2.14 A LOOK AT MARKET BEHAVIOUR

For anyone connected with the rubber sector, is an impeccable source of

industry trend and analysis, relied on for forecast and price trends, particularly at

this time when prices are soaring to dizzying heights. “Many market participants

had not expected such a quick recovery in demand.After the perceived worst crisis

in many decades, accompanied by problems on the supply side, the market is now

faced with this high level of NR prices.Has been involved in analysing and

forecasting supply and demand of NR and synthetic rubber (SR) for the past

many decades. This was done both at the Economic and Social Institute of Free

University, Amsterdam, and during his tenure as Secretary-General of the

International Rubber Study Group (IRISG), 2005-2009.During these years, he had

concentrated on setting up and improving models for forecasting demand, supply

and prices of NR and SR. Today busy using his vast international exposure and 35

years of experience in modelling and forecasting to provide services such as in-

depth analysis and outlook for rubber supply, demand and prices at country,

regional or world levels.outlook for the rubber economy at in-company seminars

besides offering in-house training in analysing and modelling the rubber

economy. Dr. Smit’s consultancy work, is designed to help stakeholders in the

market to better understand the current situation, as draws up scenarious for the

future and shows the consequences for NR and SR demand, supply and prices.

2.15 TYRE INDUSTRY WOES

Commenting on the current woes faced by the tyre industry because of

what it calls unsustainable NR Prices. captive rubber plantations would not be an

effective answer to supply problems as some would suggest.Large rubber

plantations provide only a small part of NR supply following the historic trend

towards a dominant share of smallholder production”.Captive rubber plantations

60

can only provide a small part of rubber supply to the tyre producer. Having your

own plantation may help on the cost side: it may also help ensuring that the

quality you want is received at the time you want it.When asked whether weather

is the villain for the current supply demand mismatch, he commented that it did

play a role: be it short-term disturbances or more long-term climate change related

developments.

2.16 MARKET TRENDS

“However, consumption of rubber increased strongly during the recent

period. In fact since 2005 total rubber consumption grew faster than natural

rubber production capacity, even leading to a tight market during this ‘crisis-

period’ 2008-2009.This low increase in NR production capacity is the result of

low levels of planting after the Asian crisis in 1997 stretching well into the first

decade of this century. “Only then were farmers and other decision makers

convinced again of the good opportunities offered by NR.There are three main

groups of factors that determine the outlook for prices. They are first, economic

growth which impacts vehicle, tyre and rubber consumption scenario, including

the effect of availability of oil and climate change on vehicle usage and sales.

Second, the impact on NR production potential scenario as a result of

planting policy implementation, productivity improvement and labour availability

including the influence of climate change on NR production.Third the effect of oil

price, which will affect Butadiene-SR scenario. One has to see the availability

and how this will affect prices.“For each of these groups of factors, scenarios for

future development may be drawn up. This can best be done in interaction with

the stakeholder, who should feel comfortable with the sets of assumptions”,.On

the current trends, one has to dwell on a few aspects: On the economic growth

side, the future looks a lot better than in early 2009. However, there are still many

uncertainties which may lead to a slower recovery in parts of the world, e.g.

Europe, and lower growth in high growth countries. This may spoil the good

outlook to some extent.Another aspect that he notes is the massive new planting

61

by rubber farmers during 2005-2008. This will have a significant effect on the

supply situation starting in 2011-2012.A third aspect that would influence rubber

prices is the likely increase in oil prices that could pose potential problems

surrounding the availability of Butadiene, “It is then most likely that SR price will

increase further.

Prices of natural rubber will continue to remain quite high well into 2011:

the effect of new planting during 2005-2008 will presumably result on somewhat

lower prices starting from 2012 onwards, but it is most unlikely that prices will

collapse”.However, this conclusion is very sensitive to the assumptions made and

the resulting scenarios. Individual stakeholders may wish to select different

scenarios for each of the groups of factors, with will lead to different price

forecasts. One may also wish to see the sensitivity of price forecasts for each

scenario. “It is interest in” when asked whether rubber producers and consuming

industries had failed to anticipate and take appropriate measures to prevent the

present price situation. “What is required to anticipate and take appropriate

measures’ is the availability of appropriate forecasts.The industry should be ready

to accept such forecasts as targets for policy formulation and develop appropriate

policies and then implement the required policies.

2.17 FORECASTING EXERCISE

About the availability of appropriate forecasts, that after he took over as

IRSG Secretary General in January 2005 the World Rubber Sumit (or

International Rubber Forum, as it was called at that time) was held in May 2005.

At that Conference it was the first time that IRSG presented long term forecasts,.

Before 2005 IRSTG did not have the forecasting methodology to do so.At that

time the total rubber consumption was projected to reach 23.5 million tonnes in

2010. The current IRESG forecast for 2010 as published in its April-June

2010 Rubber Industry Report is 23.7 million to9nnes. The forecast for total

rubber consumption made in 2005, proved to be quite accurate.In the same

presentation, an old set of forecasts presented in 1996 before the Asian crisis by

62

Burger and Smit was reviewed, Forecasts given by them for 2010 were 22.9m,

declining from 23.2m because of a projected recession in 2010.

These 1996 forecasts had shown rubber consumption increase to 27.6m in

2015 recovering from the recession,. “One may conclude that appropriate world

rubber consumption forecasts are and were available.The forecast for 2010 for the

price of oil as it was used by the IRSG in the 2005 presentation in Colombo was

only US$54 per barrel. This was acceptable at that time, but turned out to be too

low: it should have been some 30% higher.At that conference it was not yet

discussed and decided that IRSG Should not give price forecasts. The forecasts

presented in 2005 for the price of SBR in 2010 were US$ 1.85 per kg which

turned out to be too low because for the low oil price assumption. Adding the

same 3-% as for oil would give an SBR price for 2010 of US$ 2.49.Actually the

comparable price of SBR was US$2.51 in 2008 and US$1.94 in2009. The 2005

projections for the NR price in 2010was US$ 2.23 per kg. Adding the same 30%

to this price forecasts resulted in a Price forecast for 2010 of US$ 2.90.

2.18 DIFFICULT TASK

“Forecasting NR production was quite difficult, especially because of data

availability”. The IRSG has over the last couple of years put a lot of time and

energy in providing the industry with better statistics and forecasts.This was partly

done through enhanced cooperation with the Association of Natural Rubber

Producing Countries. (ANRPC) and with the NR producing countries.In 2005, the

estimates and forecasts of NR production were too low at 9.2m tonnes by 2010,as

against the current IRSG forecasts of 10.2 mt. These higher recent projections are

the result of better data on the NR production side and higher NR prices,

stimulating farmers to produce more.2009 on the extent of additional planting

during the high price period 2005-2008 and the consequence for the market. In

very broad terms, the conclusion was that all additional output could easily be

absorbed by a strongly recovering market.The initiative by the ANRPC to have its

members implement a common methodology to come up with sound data and

63

realistic forecasts is laudable and crucial to develop an appropriate set of

forecasts, which are acceptable to policy makers and other stakeholders. “Only

then can appropriate policies be developed to reach an optimal position for NR on

the market for the future.

Regarding futures trading as a method to avert market uncertainty, it could

be among other measures that might be very useful to reduce short terms price

risk. “It cannot cure more structural shortages or Surpluses in the market.On

whether there is a likelihood of a significant drop in NR use following new tyre-

making technologies, including new compounding, as part of efforts to reduce

costs, input of raw materials, including NR, will continue to be carefully looked

at. “As such NR (and SR) may be affected”.IRSG and their stakeholders in the

industry will undoubtedly monitor emerging trends in alternatives and incorporate

the results in their, forecasts, by looking at tyre weights in particular.So far do not

yet foresee a significant drop in NR use: potentially only a somewhat lower

growth. When asked about the trends that he saw in SR industry that would leave

a considerable impact on the NR market in the coming decade. that he did not see

developments on the SR side which would have a considerable impact on the NR

market.The renowned rubber economy analyst also shared his views on the impact

of alternatives to Asian NR from Russian dandelion and guayule.

Guayule is produced on a small scale and I do not yet foresee large-scale

production, although very high NR prices will definitely help.Regarding Russian

dandelion, the other alternative that is being considered as a substitute for NR.this

is at the research stage. It will take quite some time for this to be proven to be

commercially viable. “It that would be the case, years will be required to achieve

large scale production”., however the most crucial aspect in this will be the kind

of signals coming from NR Hevea such as whether there will be enough planting,

how will productivity develop, will the number of workers be sufficient, what will

be the effect of climate change and will the disease side be under control. . “It is

of utmost importance that these aspects are studied and reported upon in a realistic

way, without considering what would have been nice or politically useful.Only

64

then will this be credible prompting development of appropriate policies to be

implemented by all stakeholders in the rubber industry.

2.19 GROWING DEMAND FOR SYNTHETIC RUBBER

Despite several constraints, including land availability, global warming for

NR and butadiene availability for SR, global consumption of rubber continues to

rise. While presenting his paper of the Indian Synthetic rubber industry at the

International Rubber Conference organized by Rubber Board in November while

the global demand rose by 3.7% for NR and 2.8% for SR, it was 2.8% for NR and

11.1% for SR in India.The global natural rubber consumption in 2011-12-around

25.5 MTA remained mostly dependent on natural rubber. In India it was 68% of

the total 1.4MTA. Natural rubber production is estimated to increase to about

12.5 million metric tonnes in 2013 but would decelerate in the coming years,

which will further open possibilities for SR.According to Rubber Board of India,

synthetic rubber consumption in the country rose by 16% to 36,345 tonnes in

November. 2011. There was a marginal rise of production, which reached 8,636

tonnes during the same month. The automobile and tyre industry remain the

biggest consumers of SR. Official figures show that the auto tyre industry

consumed 2,04,283 tonnes of synthetic rubber in April-November 2011, as

against 2,94,931 tonnes in the corresponding period of the previous year.

With a number of big players entering the field, the production capacity for

synthetic rubber has remarkably increased, facilitating faster growth, Rathod

pointed out. The Reliance –SIBUR joint venture for butyl rubber production

(Reliance SIBUR Elastomers) has been a major landmark in India’s synthetic

rubber industry, which would make butyl locally available.Reliance had already

enjoyed excellent relationship with the Indian tyre industry by virtue of being a

reliable supplier of quality poly butadiene rubber. The tie-up with the Russian

major SIBUR for a butyl rubber plant in Jamnagar in the western Indian state of

Gujarat is seen as a catalyst

65

for substantial availability of SR, The plant, which is expected to be fully

commissioned by mid-2014is projected to have capacity of 100,000 tonnes per

annum.SIBUR operates across the entire petrochemical process chain from gas

processing, production of monomers. Plastics. It is a vertically integrated

company with its gas processing facilities providing feedstock for its

petrochemical production.

Reliance operates the world’s largest refining complex and associated

chemical plants at Jamnagar., The partnership with SIBUR, Eastern Europe’s

biggest petrochemicals producer, was first announced in May 2010 and the project

holds a lot of opportunities for continual growth.The Indian conglomerate has

been among the early adopters in Asia of butyl rubber based inner tubers in spite

of steep import duties, while pointing out the fact that there had been perceptible

reluctance in India in switching over to synthetic rubber.

2.20 TYRE SECTOR

The tyre sector is the largest end-use sector for synthetic rubber in India.

Styrene Butadiene Rubber (SBR) which accounts for 40% of the total synthetic

rubber demand is consumed mostly in the tyre sector. As the tyre production ion

India is increasing at a fast pace, the synthetic rubber consumption will also

increase. To fulfill increasing demand for synthetic rubber many new plants have

been planned in India, which will reduce India’s import dependency.In terms of

application, natural rubber and synthetic rubber are complimentary to each other.

Both have own unique properties. While natural rubber is a must for treads in

commercial tyres, Halo Butyl is a must for the inner lining of tubeless tyres. Also,

a PBR-NR blend is a must for tyre sidewalls. This complimentary nature has

bracketed both rubbers together for the overall growth of tyre industry.

The outlook remains very positive. One of the main driving forces for this

optimism is the continuing growth of India’s automobile sector which is the

biggest source of demand for rubber both synthetic and natural. Figures provided

by the Society of Indian Automobile Manufactures (SIAM) show that the auto

66

sector recorded a production growth of 13.83% year-too-year as per the

cumulative production data for April-March 2012.

Eyeing this positive trend, major companies like reliance and Indian Oil

Corporation have announced expansion plans. Overall Indian capacity of

synthetic rubber could be raising by almost 400 KTA.

2.21 THEORIES RELATED TO THE STUDY :

1. Baumol’s sales maximization

2. Cyert & March ( firm behavioral theory)

3. A.P.Lerner ( measurement approach)

4. Cournot –equilibrium model

5. Farrell – Productive efficiency theory

6. Williamson model of transaction cost

7. Efficiency criterion

8. Choice theory –and decision making –

Besides the above theories there are contemporary theories of management

which also exert much influenc on the present study. such contemporary theories

the management are the following

a. contingency theory

b. systems theory

c. Chaos Theory

Baumol’s findings of oligopoly firms in America reveal that they follow the

sales maximisation objective. According to Baumol, with the separation of

ownership and control in modem corporations, managers seek prestige and higher

salaries by trying to expand company sales even at the expense of profits.Being a

consultant to a number of firms, Baumol observes that when asked how their

business went last year, the business managers often responded, “our sales were

up to three million dollars.” Thus, according to Baumol, revenue or sales

maximisation rather than profit maximisation is consistent with the actual

67

behaviour of firms. Baumol cites evidence to suggest that short-run revenue

maximisation may be consistent with long-run profit maximisation. But sales

maximisation is regarded as the short-run and long-run goal of the management.

Sales maximisation is not only a means but an end in itself He gives a number of

arguments in support of his theory. The firm also needs minimum profits to

finance future sales. Further, they are essential for a firm for paying dividends on

share capital and for meeting other financial requirements. Thus minimum profits

serve as a constraint on the maximisation of a firm’s revenue. “Maximum revenue

will be obtained only”, according to Baumol, “at an output at which the elasticity

of demand is unity, i.e., at which marginal revenue is zero. This is the condition

which replaces the “marginal cost equals marginal revenue profit maximisation

rule.”

Cyert and March have put forth a systematic behavioural theory of the

firm. In a modem large multiproduct firm, ownership is separate from

management. Here the firm is not considered as a single entity with a single goal

of profit maximisation by a single decision-maker, called the entrepreneur.

Instead, Cyert and March regard the modem business firm as a group of

individuals who are engaged in the decision-making process relating to its internal

structure having multiple goals.They deal not only with the internal organisation

of the firm but also with the problem of uncertainty. They reject the assumption of

certainty in the neo-classical theory of the firm. They emphasise that the modem

busi­ness firm is so complex that individuals within it have limited information

and imperfect foresight with respect to both internal and external developments.

The following are the key elements of the model.

Professor A.P. Lerner has put forward a measure of monopoly power

which has gained great popularity and is most widely cited. Lerner takes perfect

competition as the basis of departure for measuring monopoly power.He regards

pure or perfect competition as the state of social optimum or maximum welfare

and any departure from it would indicate the presence of some monopoly power

leading to misallocation of resources or state of less than social optimum.As we

know, in perfect competition price is equal to marginal cost of the product in the

68

equilibrium position. And it is this equality of price with marginal cost under

perfect competition that ensures maximum social welfare or optimum allocation

of resources.Now, when competition is less than pure or perfect the demand curve

facing a firm will be sloping downward and marginal revenue curve will lie below

it. Consequently, when competition is less than pure (perfect), that is, when it is

imperfect, in a seller’s equilibrium position; marginal cost will be equal to

marginal revenue but price will stand higher than marginal cost or marginal

revenue.This divergence between price and marginal cost, according to Professor

Lerner, is the indicator of the existence of monopoly power. The greater this

divergence between price and marginal cost, the greater the degree of monopoly

power possessed by the seller.Based on this, Lerner has given the following

precise index of the degree of monopoly power:Degree of monopoly power = P –

MC/P.

'Cournot Competition' An economic model that describes an industry

structure in which competing firms that make the same homogeneous and

undifferentiated product choose a quantity to produce independently and

simultaneously. An essential assumption of this model is the "not conjecture" that

each firm aims to maximize profits, based on the expectation that its own output

decision will not have an effect on the decisions of its rivals. Price is a commonly

known decreasing function of total output. All firms know N, the total number of

firms in the market, and take the output of the others as given. Each firm has a

cost function c_i(q_i). Normally the cost functions are treated as common

knowledge. The cost functions may be the same or different among firms. The

market price is set at a level such that demand equals the total quantity produced

by all firms. Each firm takes the quantity set by its competitors as a given,

evaluates its residual demand, and then behaves as a monopoly.

Farrell indexes of productive efficiency to nonhomothetic production

technologies, and at the same time maintain the cost interpretation of the Farrell

measures. Since the generalized indexes rely heavily on recent developments in

the estimation of frontier cost and production functions, several frontier models

are reviewed. In addition to generalized indexes of technical, allocative, and

69

overall productive efficiency, a variety of single-factor efficiency measures are

discussed.

Williamson argues that asset specificity is the most important dimension.

This is in part because actors are assumed to be opportunistic, and a transaction

regarding a specific asset puts people in both sides in a vulnerable position. In the

case of one supplier, for example, a buyer can be forced to pay a higher price and

if there is only one seller, the opposite situation is in play. In Williamson's terms,

under high asset specificity, "buyer and seller are effectively operating in a

bilateral (or at least quasi-bilateral) exchange relation for a considerable period

thereafter." In general, Williamson claims that high specificity will drive

transaction costs up. Essentially, firms are attempting to design "efficient"

boundaries in a world where there is a firm-market dichotomy. Firms allow

hierarchy to invoke fiat to resolve differences to provide better access to

information. Similarly, increased uncertainty may drive the firm to internalize

resources and/or work upon which it is dependent.Williamson argues that his

model also applies to human assets. For example, if a company is investing in

firm-specific skills, it won't want to lose employees with those skills. It might

therefore choose to focus on internal labor markets.

Economic efficiency is essentially just a theoretical one; a limit that can be

approached but never reached. Instead, economists look at the amount of waste

(or loss) between pure efficiency and reality to see how efficiently an economy is

functioning.

Measuring economic efficiency is often subjective, relying on assumptions

about the social good created and how well that serves consumers. Basic market

forces like the level of prices, employment rates and interest rates can be analyzed

to determine the relative improvements made toward economic efficiency from

one point in time to another.

A broad term that implies an economic state in which every resource is

optimally allocated to serve each person in the best way while minimizing waste

and inefficiency. When an economy is economically efficient, any changes made

to assist one person would harm another. In terms of production, goods are

70

produced at their lowest possible cost, as are the variable inputs of production.

Some terms that encompass phases of economic efficiency include allocational

efficiency, production efficiency and Pareto efficiency.

Choice theory and decision-making

Research on choice theory and decision-making ,culture and context have

great influence in making purchase decisions and suggested that American,

European or Japanese companies that want to operate in India should have Indians

on the ground to help them penetrate the market. implications in emerging

countries such as China and India where there is a surge in the number of young

people with disposable income. As consumer markets emerge in countries such as

these, increased income and the introduction of new products and marketing

strategies create major changes in the choices.

One could predict how increasing disposable income might change

spending habits in emerging markets, younger generations may respond

differently to choice than older generation as the cultures in these countries

continue to be affected by globalisation. However, my recent research has shown

that urban Chinese are more similar to urban Indians than rural Chinese in terms

of how many choices they want and how important choices are to them.

2.22 CONTEMPORARY THEORIES OF MANAGEMENT

Contingency Theory

Basically, contingency theory asserts that when managers make a decision,

they must take into account all aspects of the current situation and act on those

aspects that are key to the situation at hand. Basically, it’s the approach that “it

depends.” For example, the continuing effort to identify the best leadership or

management style might now conclude that the best style depends on the

situation. If one is leading troops in the Persian Gulf, an autocratic style is

probably best (of course, many might argue here, too). If one is leading a hospital

71

or university, a more participative and facilitative leadership style is probably

best.

Systems Theory

Systems theory has had a significant effect on management science and

understanding organizations. First, let’s look at “what is a system?” A system is a

collection of part unified to accomplish an overall goal. If one part of the system

is removed, the nature of the system is changed as well. For example, a pile of

sand is not a system. If one removes a sand particle, you’ve still got a pile of sand.

However, a functioning car is a system. Remove the carburetor and you’ve no

longer got a working car. A system can be looked at as having inputs, processes,

outputs and outcomes. Systems share feedback among each of these four aspects

of the systems.

Let’s look at an organization. Inputs would include resources such as raw

materials, money, technologies and people. These inputs go through a process

where they’re planned, organized, motivated and controlled, ultimately to meet

the organization’s goals. Outputs would be products or services to a market.

Outcomes would be, e.g., enhanced quality of life or productivity for

customers/clients, productivity. Feedback would be information from human

resources carrying out the process, customers/clients using the products, etc.

Feedback also comes from the larger environment of the organization, e.g.,

influences from government, society, economics, and technologies. This overall

system framework applies to any system, including subsystems (departments,

programs, etc.) in the overall organization.

Systems theory may seem quite basic. Yet, decades of management

training and practices in the workplace have not followed this theory. Only

recently, with tremendous changes facing organizations and how they operate,

have educators and managers come to face this new way of looking at things. This

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interpretation has brought about a significant change (or paradigm shift) in the

way management studies and approaches organizations.

The effect of systems theory in management is that writers, educators,

consultants, etc. are helping managers to look at the organization from a broader

perspective. Systems theory has brought a new perspective for managers to

interpret patterns and events in the workplace. They recognize the various parts of

the organization, and, in particular, the interrelations of the parts, e.g., the

coordination of central administration with its programs, engineering with

manufacturing, supervisors with workers, etc. This is a major development. In the

past, managers typically took one part and focused on that. Then they moved all

attention to another part. The problem was that an organization could, e.g., have a

wonderful central administration and wonderful set of teachers, but the

departments didn’t synchronize at all. See the category Systems Thinking

Chaos Theory

As chaotic and random as world events seem today, they seem as chaotic in

organizations, too. Yet for decades, managers have acted on the basis that

organizational events can always be controlled. A new theory (or some say

“science”), chaos theory, recognizes that events indeed are rarely controlled.

Many chaos theorists (as do systems theorists) refer to biological systems when

explaining their theory. They suggest that systems naturally go to more

complexity, and as they do so, these systems become more volatile (or susceptible

to cataclysmic events) and must expend more energy to maintain that complexity.

As they expend more energy, they seek more structure to maintain stability. This

trend continues until the system splits, combines with another complex system or

falls apart entirely. Sound familiar? This trend is what many see as the trend in

life, in organizations and the world in general.

73

2.23 BEHAVIORAL MANAGEMENT THEORY: UNDERSTANDING

EMPLOYEE BEHAVIOR & MOTIVATION

Behavioral management theory was developed in response to the need to account

for employee behavior and motivation. The shift moved management from a

production-orientation (classical leadership theory) to a leadership style focused on the

workers' human need for work-related satisfaction and good working conditions.

A Shift in Theories

Long before theorists started writing about employee satisfaction and good

working conditions, management considered classical leadership, with its sole

interest in high production and efficiency, to be the most important to an

organization's success. Later, it was concern for worker satisfaction and good

working conditions that formed the foundation for behavioral management theory.

Behavioral management theory relies on the notion that managers will

better understand the human aspect to workers and treat employees as important

assets to achieve goals. Management taking a special interest in workers makes

them feel like part of a special group.

As time went on, thinking shifted, and management started looking at

employee satisfaction and working conditions as a way to increase productivity.

Theorists like Elton Mayo and others studied employee productivity under

different conditions to determine a connection.

Mayo's Hawthorne experiment provides a good example of this. In the

Hawthorne experiment, a group of telephone line workers were separated and

observed working in a private room. During their workday, the group members

were given special privileges, like freedom to leave their workstations, changes in

pay rates, and even company-sponsored lunch. What they discovered was the

control group produced more than the other employees. The rationale for this

74

increased production was that the group felt that management was interested in

their well-being.

This began the human relations movement for management. If all

management had to do was spend time, express interest in workers' personal well-

being, and reward them for a job well done, workers would feel motivation to

work harder. In fact, behavior towards work would be positive.

Behavior and Motivation

Let's see how behavioral management theory works in a modern day

telephone line company. Total Telephone Line Company workers perform the

monotonous job of weaving telephone lines together. Managers know the work is

boring and often results in poor productivity and absenteeism.

Percy oversees the workers as they weave away, making sure each set of

wires is perfect. Workers like Lucy and Marcy chit-chat during most of their shift,

getting very little done. Daphne daydreams about working as a fashion designer

and uses much of her workday sketching haute couture on lunch napkins.

Percy used to yell at the ladies and banish them to silence. Daphne even

had her pencils taken away from her on several occasions. But productivity did

not increase. In fact, it decreased. Percy knew she had to try something new. She

had a tough challenge. She is responsible for high productivity. After all, Total

Telephone Wire is profit motivated.

Percy researched ways to improve productivity and came across a book on

behavioral management theory. She found that a greater concern for employee

needs leads to higher satisfaction levels and better overall performance, which

leads to behavioral changes in their response to work.

Percy changed the way she managed the ladies. She asked questions about

their work environment. She even took suggestions about how they can perform

75

their job more efficiently. What Percy discovered is that the more she connected

with the ladies, the more motivated they were to perform and do a good job. This

changed their behavior towards Percy's drilling orders, and it increased their

productivity.

Behavior is defined as the way a person conducts themselves towards

others. When workers are treated as humans rather than machines, they respond to

their particular work situation in a positive way - by increasing individual

productivity.

Percy read the work of theorists who described the things that inspire

people to go to work. What she learned was astonishing. While salary is

important, it is not the only important consideration. Workers had more intrinsic

motives for working, like:

Self fulfillment

Autonomy and empowerment

Social status

Personal relations with co-workers

In terms of market structure, market reforms can be seen as a movement

from the public and private sector monopolies to a competitive market. In the

static framework of microeconomics, a shift to a competitive market structure can

be seen simply as a movement on a given cost curve (a given technology) towards

the lowest point on the average cost curve. If there were global economies of

scale, the market structure would be a natural monopoly or a natural oligopoly

depending on the size of the market. In such a case6 contestability of the market

(threat of new entry) forces a monopolist to price at average cost and operate with

full capacity utilization. Market reforms also reduce X-inefficiency of large firms

with market power induced by increased contestability of the market (Patibandla,

1998). In dynamic terms, the issue is impact of market reforms that drives firms to

undertake technological and organizational efforts, which cause downward shifts

76

in cost curves and increase in productivity. The market reforms initiated since the

mid-80s have led to the entry of quite a few multinational firms into several

Indian industries. Intangible asset theory of TNCs shows that TNCs possess

superior technological and organizational practices in comparison to local firms in

developing economies.

The entry of TNCs and implications for industrial productivity operate at

several levels. At one level, the new entry increases competitive conditions, which

should induce local firms to replace inefficient technologies and organizational

practices through imports of capital goods and R&D efforts (Patibandla, 2001)

and in turn increase overall industrial productivity. However if the market

expands at a lower rate than increase in capacity due to new entry, new entrant

TNCs can cut into the market shares of local firms. In such a case it could result in

decline in average industrial productivity as local firms operate at suboptimal

scales. On the other hand if the number of firms increase under the increasing

demand conditions without any loss of scale, the increase in the number of firms

could result in external economies at the industry level which shifts cost curves

down for all the firms (Rotenberg and Saloner, 2000). This effect will be more

dominant if firms belonging to an industry form into a dynamic industry cluster

(Patibandla and Petersen 2001).

Larger number of firms would be able to support a larger production of

differentiated intermediate godsend also increases demonstration effect of

superior practices. If the demand increases slowly or stays the same, competition

through R&D and advertising races could increase degree of concentration as

firms spread the fixed costs of R&D and advertising over larger sales (Sutton,

1991). In other words, given the market size an industry will become a natural

oligopoly of anew large players if there are economies of scale in production,

R&D and advertising. If there were continuous R&D races among the incumbents

to protect their market share, it would increase productivity over time. The sunk

costs of R&D and advertising could be a source of entry barriers and long run

market power to incumbents especially if there is implicit collusion among the

77

few large players. In such a case one of the ways to increase the contestability of

the market and force the incumbent to make continuous technological efforts is to

allow free imports of the final goods.

Another implication of the entry of TNCs on productivity is spillover

effects. Property rights on intangible assets being underdeveloped, they are

partially public goods and others can use the assets developed by one firm at a

small cost (Caves, 1996). If local firms, through deliberate effort or spillover,

obtain the superior practices of MNCs, it would improve overall industrial

productivity (Grossman andHelpman,1991; Branstetter, 2000; Kokko (1994).

Local firms would be able to internalize these spillovers. One good example is the

software industry cluster in Bangalore and newly forming cluster of automobile

and absorb them effectively if they make technological efforts in terms of

investing in R&D and adapting imported technologies efficiently. A major part of

the reforms is opening up of the economy to international trade: devaluation of the

currency, reduction in import duties and gradual removal of quantitative

restrictions on imports. The new growth theory shows trade openness is a

significant source of long run growth for developing economies. On one side there

are a static gains in resource allocation- resources will be allocated on the basis of

comparative advantage. On the other side is the dynamic gain of learning by

doing, technological and informational externalities associated with free

international trade. International trade extends the market size and allows firms to

realize static and dynamic economies. International trade also facilitates free flow

of new ideas and technologies and reduces the idea-gap which is a major source of

spillovers and growth (Romer, 1990). This argument is especially important for

developing economies because most of the new ideas and technologies are

developed in the developed economies and trade with them helps in realizing

these dynamic gains. Imports of differentiated intermediate and capital goods and

technologies with non rivalries properties improve productivity.

On the other hand, free international trade for a developing economy could

lead to specialization in those sectors with limited learning economies on the basis

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of static comparative advantage which will result in the economy being get stuck

at low level growth (Lucas, 1988, Patibandla and Petersen 2001).Lucas (1988)

shows how a natural (comparative) advantage in specializing can backfire in the

long run. He shows a world in which an initial comparative advantage in farming

can cause a region to become a food producer. Growth potential may, however, lie

not in farming but in industrial goods, goods that people living in regions that do

not have good farmland will turn to. People in these countries will eventually

come expert manufacturers, whereas farmers will in the long run lag far behind

because they are specialized in a good with no growth potential. Following from

this line of reasoning, a developing country needs to have a certain level of initial

industrial and human capital endowments in order to realize the dynamic gains

associated with free trade with developed economies. One of the important

determinants of firm-level productivity is firm-level organizational practice.

Williamson’s (1985) theory of transaction costs shows that in the presence of high

market transaction cost sowing to incomplete contracts and opportunistic behavior

of agents, firms pursue vertical integration. Inefficient market institutions cause

high market transaction costs that make firms to adopt a high degree of vertical

integration and diversification strategies. There are organizational costs associated

with integrated operations- a large firm faces internal informational imperfections

and loss of organizational control. The efficiency loss associated with integrated

strategies gets magnified if firms adopt centralized organizational structure. This

had been the case in India in the pre-reforms period large diversified and family-

run firms with a highly centralized organizational structure ( Patibandla,

1998).The market reforms can be seen as a partial shift in the market institutions

to a more efficient mode. The removal of industrial licensing policies would

imply lower transaction costs for dealing with government and for entry of new

firms into industries. Greater the entry of new firms, higher the scope for firms to

adopt specialized operations. This provides opportunities for firms to do

outsourcing and take advantage of economies of specialization, which should

contribute, positively to productivity. However, on the technology side if there are

79

strong economies of scope for firms in producing different related products,

integrated operations will contribute to higher productivity.

While the tyre industry is mainly dominated by the organised sector, the

unorganised sector holds sway in bicycles tyre. The major players in the organised

tyre segment consist of MRF, Apollo tyres, Ceat and J.K. Industries, which

account for 63 percent of the organised tyre market. The other key players include

Modi Rubber, Kerosin Industries and Goodyear India with 11percent, 7 percent

and 6 percent share respectively. Dunlop, Falcon, Tyre Corporation of India

Limited (TCIP), TVS-Srichakra, Metro tyres and Balkrishan Tyre are some of the

other players in the industry. MRF the largest tyre manufacturer in the country has

strong equity. Whiles it rules supreme in the industry, other player have created

niche markets of their own.

Choice theory and decision-making

Research on choice theory and decision-making ,culture and context have

great influence in making purchase decisions and suggested that American,

European or Japanese companies that want to operate in India should have Indians

on the ground to help them penetrate the market. implications in emerging

countries such as China and India where there is a surge in the number of young

people with disposable income. As consumer markets emerge in countries such as

these, increased income and the introduction of new products and marketing

strategies create major changes in the choices.

One could predict how increasing disposable income might change

spending habits in emerging markets, younger generations may respond

differently to choice than older generation as the cultures in these countries

continue to be affected by globalisation. However, my recent research has shown

that urban Chinese are more similar to urban Indians than rural Chinese in terms

of how many choices they want and how important choices are to them.

80

2.24 FIRM SPECIFIC MONOPOLY POWER IN DIFFERENTIATED

OLIGOPOLY

In the context of differentiated oligopoly the monopoly power of any one

firm is determined by its ability to develop non-price strategies while taking the

reactions of the rivals into account. However, in current practice, estimates of firm

level monopoly power account for only differences of prices over costs measured

in different ways. Further, these differences are always attributed to the demand

conditions and the associated elasticity of demand for the differentiated products.

That is, it is presumed that firms maximize their profits based on margins rather

than volumes or other aspects that shift their demand curves. By way of contrast,

the present study acknowledges that the elasticity of demand per se may not be the

only source of monopoly power. Hence, an attempt has been made to develop an

empirical procedure to identify firm specific monopoly power incorporating non-

price dimensions.

From a practical standpoint it must be acknowledged that every firm

operates in a market that can be characterized as differentiated oligopoly. As a

result, it may be argued that each of the firms in such a market will have a certain

monopoly power relative to its competitors in the market. Clearly, aggregate

measures of monopoly power, as of now very few attempts have been made to

address this issue in any meaningful fashion. The Lerner measure approaches the

measurement of firm specific monopoly power in the following manner. A unique

product, though the products of rival firms can be substitutable to some extent,

creates a certain inelasticity of demand. This is acknowledged as the source of

monopoly power. For all practical purposes this implies an exclusive dependence

on price cost margins in the firm’s quest to maximize profits. Product

differentiation is generally acknowledged as the distinguishing feature of

differentiated oligopoly. It enables a firm to create a niche for itself in the market

or carve out a greater share of the market instead of (or, in addition to) changing

its elasticity of demand. Product differentiation may be along many dimensions.

In particular, product diversification may offer some advantage to the firm. For,

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by offering a wide range of substitutable, or complementary, products the firm

may be in a position to capture a larger share of the market.2Similarly, the firm

may indulge in non-price competition to gain some market advantage. There is a

consensus that even advertising by a firm enables it to improve its market share

instead of price cost margins. Basically, therefore, it must be acknowledged that

the firm may depend on the volume of sales, rather than high price cost margins,

in its efforts to maximize profits. This approach emphasizes the shifts in the

demand curves rather than changes in the elasticity of demand. However, a

measure of firm specific monopoly power based on this logic is not available as

yet.

Several studies indicated that the current approaches, to the study of

monopoly power of firms in differentiated oligopoly, are inadequate.Cairns

(1999), in particular, suggested that characteristics of the industry, such as the

elasticity of demand and conjectural variation, may not be the ultimate sources of

profits that firms make in differentiated oligopoly. Similarly, Fischer

andKamerschen (2003) acknowledged that observed variations in the behavior of

firms cannot be explained by assuming that all of them compete along the same

dimensions or characteristics. In a basic sense the differentiating characteristics

and the decisions regarding their quantitative magnitudes are the fundamental

source of monopoly power of firms. It is therefore necessary to define firm level

monopoly power keeping the differences in the strategies and choices of the firm

in perspective. Hence, it is important to identify these sources of monopoly power

in the first instance. Following up on this the measurement of monopoly power

should emphasize these differences alone. Fundamentally, as Classens (2009)

pointed out, there is a necessity to develop new concepts designed to address

changes that are typical of the structure of differentiated oligopoly.

Assume that the Lerner measure defined to capture firm specific monopoly

power indicates significant differences across firms. It would be pertinent to

investigate the sources of such an outcome. To illustrate this viewpoint consider

the following. First, a firm may be able to sustain high price cost margins by

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efficient production organization or advertising and sales promotion. Second, the

firm may choose to make profits by increasing the volume of sales instead of

depending on price cost margins. It may achieve this by implementing several

non-price strategies. From an analytical perspective it is necessary to identify the

monopoly advantages of a firm with respect to specific non-price strategies as

well. More to the point, the analysis should highlight the monopoly advantages of

specific non-price decisions that enabled the firm to pursue its profit maximizing

strategy. It would then be natural to argue that a firm has monopoly power with

respect to a certain non-price choice if a suitably defined index is the highest for

that firm relative to all other firms.

The present study defines a procedure for identifying these underlying

monopoly advantages of firms in differentiated oligopoly. The primary purpose of

this study is to set up an appropriate framework in this context. identifies the

direction in the change of emphasis more specifically. presents an approach based

on market shares of firms. procedures based on non-price decisions by means of

which firm level monopoly power can be disentangled. some dimensions of the

problem that require further analysis.

It is necessary to make the Cournot assumption that all firms take the

output decisions of the rival firms as parametric. See, for example, Kiyota et al

(2009). Otherwise it must be presumed that the above reduced form specification

already accounts for the conjectural variation across firms in the market.The effect

of product differentiation on the demand curve of a firm is sometimes captured by

utilizing the notion of conjectural variation. See, for example, Fischer and

Kamerschen (2003b). For, it can be argued that this is the essential aspect of

competition and that the changes in elasticity of demand, if any, are incidental to

it. Most studies, however, find it difficult to clearly identify this effect. For, if the

product differentiation results in less substitutability from the perspective of the

consumer it will be expected that the conjectural variation will be low. Quite the

contrary, Classens and Laeven (2004) pointed out that differential oligopoly may

be a contestable market. That is, competition between incumbent firms, combined

83

with competition made possible by entry and exit, may make firms more

competitive. This tends to increase the conjectural variation. There is hardly any

consensus on this aspect of monopoly power of firms in differentiated oligopoly.

Most of the studies assume that the firm is efficient in its use of inputs and

hence the marginal cost is minimal for a given level of output. However, a variety

of recent studies made attempts to investigate the inefficiency in the choices of the

firm and its implications for the measurement of monopoly power. See, for

example, Brissimis et al (2008) and Delis and Tsionas (2009). Two distinct

strands of thought are discernible. First, the Panzar and Rosse (1987) method

postulates that firms in differentiated oligopoly may also have some monopoly

power in factor markets. Hence, the marginal cost of a firm varies with factor

prices. Consider a change in the price of one of the factors of production. This

creates a certain change in marginal cost. Further, observe that there will be

differential changes in factor prices and distinct changes in marginal cost

corresponding to each such change. Hence, rather than aggregate all such changes

into one measure of marginal cost the Panzar and Rosse approach suggests

calculating the elasticity of marginal cost with respect to each of the factor prices

distinctly and aggregating them to obtain the measure of firm specific monopoly

power. Second, efficiency in production, or the lack of it, and its effect on the

profits of the firm has also been a subject of fairly extensive analysis. Studies of

regulated markets adopt the lead of Hausman and Sadak (2007) and Hausman et

al (2009). Their approach estimates the minimum long run marginal cost,

representing the welfare maximizing efficient pricing, and utilizes the Lerner

index to redefine monopoly power.In addition, the changes in the marginal costs

per se have received a great deal of attention. The contention of such studies is

that a firm may exhibit a high price cost margin not necessarily due to the

inelasticity of demand but because they will not pass on all their cost reduction,

perhaps achieved by their efficient operations, to the consumers. The extent of

pass through may depend on the number of firms in the market in addition to

other differentiating features. In general, the consumers have no way of

84

identifying such cost reductions achieved by a firm or to alter the nature of

demand for the product. See, for example, Zimmerman and Carlson (2010).

Non-price Decisions

In the context of differentiated oligopoly the non-price choices of firms

may be along a variety of dimensions. For instance, the range of products the firm

offers, the nature of such products (substitutable or complementary either in

demand or in production), quantum and type of advertising, distribution networks,

and the entire method of supply chain management, and soon.10 Studies relating

to the performance of firms find it difficult to incorporate the vast amount of

choices, of the firm under consideration and all its existing and/or potential rivals,

into the analysis. Concentration and diversification measures, have not been

adequately generalized to deal with the type of data that differentiated oligopoly

presents. The multidimensional nature of the data is at the apex of the problem.In

general, the data is of the following form. For each of the n firms in the industry

the data relates to p characteristics. Let x be the resulting nxp matrix. The basic

problem is to define the monopoly power of a firm that can summarize the

information contained in the characteristics of any one firm as they relate to the

competitiveness reflected in the data regarding the rest of the firms. As Rao

(2009) pointed out, in the context of defining industry level monopoly power, two

broad approaches are discernible. The first is reflected in the work of Martin and

Voltes-Dorta (2004). The basic strategy is to define a Her findahl type of index on

each of the characteristics and then aggregate the indices over all the

characteristics. The second approach can be developed from Bossert et al (2008).

The basic principle underlying this approach is to compare any two firms at a time

utilizing a distance metric over all the characteristics and then aggregating such a

measure over all firms.

Landes and Posner (1981) was perhaps the first to utilize the market share

as a measure of monopoly power. It emphasizes the position of a firm relative to

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its rivals in the market. A firm may not increase profits by increasing its price

relative to other firms. Instead it may do so by improving its volume of sales.

Elzinga and Mills (2011) documented the following features from a

historic perspective. First, p = MC is a social optimum only if the products of all

the firms in the market are homogenous, perfect competition prevails, and

production exhibits constant returns to scale. Second, firms may have monopsony

power in factor markets and MC does not represent cost minimizing behavior.

Subsequent studies, such as Hausman and Sadak (2007) and Hausman et al

(2009), preferred estimating a long run cost curve and utilizing the implied MC

for calculating the Lerner index. Third, MC is not an adequate measure if the

firms incur fixed costs. In such a case p = MC pricing is not feasible. The Lerner

index may reflect the need to cover the fixed cost and, consequently, may not

signal the firm’s ability to increase prices or reduce output. Fourth, the Lerner

measure is static and does not convey the possible changes in a dynamic market

where entry and exit are prevalent. Fundamentally, therefore, the Lerner measure

is an indication of market inefficiency and cannot capture the relative monopoly

power of a firm vis-à-vis its rivals in a market that has firms offering

differentiated products.

Many recent studies defined measures of industry level monopoly power

taking nonprice decisions and oligopolistic interaction into account. Lijesen

(2004), Genevicius and Cirba (2007), Morgenroth (2008), Genevicius (2009), Aw

and Li (2009), Shi and Chavas (2009), Bailey and Taylor (2009), and Rao (2009)

is the exhaustive list of relevant references. Practically all these studies utilize

pairwise comparisons of market share and/or other nonprice choices of firms.

Morgenroth (2008) prefers statistical measures of the distance between the firms

taken together. Most of the methods proposed are not amenable to adaptation at

the firm level.