As per press reports, the Ministry of Finance is considering raising the excise duty on diesel vehicles. Our analysis suggests that the break-even kilometre (BKM) needed to recover higher acquisition cost of diesel vehicle has gone up by 10% in the last six months due to larger discounts on petrol models despite a sharp spike in petrol prices. However, the demand is ever more tilted towards diesel vehicles as buyers are more concerned about running cost than the acquisition cost. An incremental hike of 2% in state duties by Maharashtra in April also did not affect the demand. To restore the BKM to FY10 levels, the government would have to raise the excise duty by a steep 6% which seems highly improbable given the stand taken in the Budget and the recent fall in crude prices. An excise duty hike of 2%-3% is not likely to materially alter the demand.
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Fear of a steep excise duty hike burdens diesel vehicles
In the Union Budget 2012, the government did not levy any special excise duty on diesel vehicles giving credence to the industry argument of superiority of diesel vehicles in terms of fuel efficiency besides low consumption of diesel by private vehicles. Media reports suggest that the government is once again mulling a hike in excise duty on diesel vehicles.
Diesel demand driven by running costs, not price tag
Our analysis suggests that the BKM required to recover higher costs of diesel vehicle has gone up by 10% to 44k km in Jun 2012 despite petrol prices increasing by ~7%-10% due to high discounts on petrol vehicles. It clearly implies that buyers are ignoring the difference in rising acquisition costs and are focusing on running costs. Moreover, incremental state taxes on diesel vehicles (Maharashtra hiked by 2% in April) have not affected demand for diesel vehicles. We highlighted in our note `Annual tax on diesel cars may resolve subsidy conundrum’ dated January 10, 2012 that introducing an annual tax is a better solution than raising excise duty.
Limited impact on demand unless excise duty hiked by 6% or more
`Dieselization’ wave started in FY11 and has now more than doubled to 54%. The government would need to hike excise duty by a steep 6% to restore the BKM to FY10 levels. A modest hike of 2%-3% is not likely to affect demand for diesel cars as seen in Maharashtra due to a long waiting period of 3-6 months. However, if the government chooses to increase excise duty by 6%, it may lead to cancellation of bookings for diesel vehicles in the short term, shifting some demand in favour of petrol vehicles. Commercial UV segment may pass on the cost though some near term demand may be hit in the entry level personal UV segment.
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