This could be the next growth driver for Toyota

Toyota, Honda betting on hydrogen fuel-cell cars
Toyota, Honda betting on hydrogen fuel-cell cars

A weak yen has been a key factor bolstering balance sheets of Japanese automakers in recent years, but aggressive investment into hydrogen fuel cars could be the sector's next major growth driver, according to a senior industry analyst.

By concentrating on research and development in technology, the profits of Japanese carmakers could even surpass their U.S. peers, Vivek Vaidya, vice president at Frost & Sullivan told CNBC, adding that Toyota is likely to be the most profitable name.

Hydrogen fuel doesn't emit carbon dioxide when burned so it's classified as a zero-emission fuel that can help reduce greenhouse gases. Unlike traditional gasoline-powered vehicles, these fuel cell cars run on hydrogen gas that is used to power an electric motor.

"Both Toyota and Honda are investing heavily into hydrogen fuel cell cars, which is the future, that's going to be the industry's next game changer," Vaidya told CNBC in an interview.

Toyota Motor and Honda already have unveiled mass-market hydrogen fuel-cell cars: The former's model launched last year while Honda debuted its Clarity fuel cell vehicle at last week's Tokyo Motor Show.

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Both are benefiting from around $25,000 in government subsidies as Prime Minister Shinzo Abe aims to embrace alternative energy sources to nuclear power, which has received widespread public rebuke following the 2011 Fukushima disaster. In 2014, Abe announced grand plans for the world's third-largest economy to become a 'hydrogen society,' one in which the chemical is a secondary energy source.

An opportune time

The long-term focus on hydrogen fuel comes at an opportune time for Japanese companies.

While current yen levels continue to underpin profits for companies, the currency is strengthening against a range of emerging market currencies, a factor that weighed on Honda's lower-than-expected earnings, flagged Koji Endo, managing director of Advanced Research Japan.

Why this expert is disappointed with Honda earnings
Why this expert is disappointed with Honda earnings

Results season for the July-September period is currently underway. Honda reported a 2 percent annual decline in operating profits on Tuesday while Toyota, the world's second largest carmaker by sales, posted a 13.5 percent spike in net profit on Thursday.

Moreover, high fixed costs, such as selling, general and administrative (SG&A), and expectations for slowing demand from the U.S. will likely see earnings momentum slow in 2016, Endo warned.

The hope is that investment into new technologies will be the next catalyst for these companies.

"Hydrogen fuel is not really taking off in South Korea or China so there's no real competition from rivals like Hyundai or Kia Motors. Toyota and Honda are at the forefront," Vaidya said, adding that Korean and Chinese carmakers are presently more focused on design rather than technology.

But in order to make progress, more work needs to be done on fuel distribution, he warned. Like battery-powered electric vehicles that have charging stations, these cars need hydrogen refueling stations but high construction costs are a problem, he explained.