Things seem to be going well for Malaysia's first national carmaker, Proton. Record earnings and the ability to make its own models without technological reliance on other carmakers are legitimate causes for satisfaction and pride. But what about the company's ambitions outside Malaysia? Ford has been touted as a possible strategic partner before. Tony Pugliese reviews Proton's progress and considers its strategic dilemmas.

With Malaysia's first national carmaker, Proton, set to release record earnings for the fiscal year ending in March 2002 of at least four times the previous year's levels, all would seem to be well in Malaysia's auto industry. The first Malaysian-developed car, the Waja (Impian nameplate in some export markets), eventually made it to market after some initial teething problems and is now in full production. The reward for the company: its most profitable car yet, thanks to much higher local content and very little in terms of royalty fees. With the costs incurred upfront, it's a shame Proton can#;t make more of them. Proton had wanted to price the car lower, but its older, less attractive cars cost more to produce.

Launched in the fourth quarter of 2000, the Waja enjoyed its first full fiscal year last year. Other home-grown models are set to follow, including a replacement for the Satria small car and eventually a replacement for the Perdana. All will make use of Proton's expanding family of SENG engines, which will eventually range between 1.0L-2.4L displacement capacity. To spice up the portfolio, the Mitsubishi Mini-Pajero will be launched later this year, if plans are still on schedule.

While the domestic market continues to recover, Proton will do well as long as other carmakers are kept at bay. But the company does face some impending dilemmas. The main problem is a shortage of production capacity. Linked to this are serious questions regarding its long-term future. Does it seriously attempt to compete in the global marketplace? In which case it will need to invest heavily in a modern, high capacity assembly facility. Would its own R&D centre, and its suppliers, be able to keep pace in such a competitive environment? Unless it develops a strategic partnership, Proton looks likely to be increasingly confined to its own national borders, and other car companies look likely to be kept out indefinitely. Malaysia has one of the most mature car markets in South-East Asia, and as such it has to expect more muted growth in the future.

Market performance

The Malaysian domestic market itself has recovered at a much faster rate than anyone could have anticipated from the 1997-98 Asian financial crisis - and well ahead of the improvement in Proton's own balance sheet performance. Last year, Malaysia's domestic vehicle market rose to its second-highest level ever last year, according to the Malaysian Automotive Association. Furthermore, the industry association is expecting the market to set a new record high this year - with sales rising to 410,000 units.

While the Malaysian economy has struggled in the last 18 months with the sharp decline in overseas demand for manufactured goods, the government has provided significant stimulus to the domestic consumer, which has also been sheltered from currency exchange rate volatility. New car buyers have enjoyed the lowest interest rates for a long time, attractive finance packages and easy access to loans. Civil servants have been allocated additional bonuses, wage increases and special car purchasing incentives. Vehicle manufacturers, too - led by Proton - have been offering discounts and special promotions to car buyers.


Malaysian new vehicle registrations by type, 1997-01
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  1997  1998  1999  2000  2001
==================================================================

Passenger cars  307,901  137,690  239,647  282,103  327,447
SUVs/Commercial
vehicles  97,186  26,161  48,900  61,070  68,934
Total market  405,087  163,851  288,547   343,173  396,381
==================================================================

Sources: Malaysian Automotive Association.

Proton's sales exceeded pre-crisis levels in 2001, with volumes having more than doubled since the 1998 low. The quality of its sales has also improved tremendously, with the profitable Waja model accounting for almost one-quarter of sales and a much greater proportion of profits. Demand for this model remains high, and the company continues to struggle to meet demand. The Tiara, based on the Citroen AX, was dropped in 2000 - following in the tracks of the ageing Saga which was jettisoned a couple of years earlier.  The Iswara continues to sell well, as does the Wira, but these are far less profitable models for Proton. They are made much less efficiently and are subject to technology transfer royalty payments to Mitsubishi Motors of Japan. The performance of the Juara, launched late last year, has been a massive disappointment, however. Imported in kit form from Mitsubishi Motors of Japan, the rebadged Towner mini-MPV has been received with scorn by the market and volumes have fallen far short of the 10,000-12,000-unit originally targeted.

Proton domestic sales by model and export sales, 1997-01
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  1997   1998  1999   2000  2001
==============================================================

Juara  0  0  0  0  768
Tiara  11,072  1,031  5,098  1,576  0
Iswara  57,852   50,038   65,708  57,773   51,991
Satria  19,121  5,412  8,878  8,452   6,258
Waja  0  0  0  11,013  55,104
Wira  98,605   29,156   71,239   87,938   86,366
Putra  3,073  259  684  621  409
Perdana  6,453  1,227  4,113   11,587  8,618
Domestic sales  196,176  87,123   155,720   178,960  209,484
Export sales  27,920   17,479  16,458  17,000*  17,000*
Total sales  224,096  104,602   172,178   195,960  226,484
===============================================================
*Estimate. Source: MAA.

As for exports, Proton has neither the brand image, the products nor the production capacity to develop into a serious international player. It sells most of its cars in the UK and in the rest of Europe at rock-bottom prices, and a couple of thousand or so a year in Singapore. It stopped sending kits to the Philippines a few years ago, though volumes there were negligible in any case. The strong technological progress made by South Korean vehicle manufacturers in recent years, and the recent acquisition of Daewoo by GM, will make it all the harder for Proton to compete abroad. Overseas sales account for far less than 10% of group sales at present, and the cost of sales is high. With its current capacity constraints, Proton is unlikely to be too bothered by this in the short-term, however, especially as its domestic market continues to recover. But this does leave serious questions regarding its long-term strategy.

R&D

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While Proton's effort to bring its first ever home-grown model to market should be seen as a major success story, and in fact a brave step forward for the company, inevitably there have been some teething problems. It took longer than expected to get the production lines running at full potential, mainly due to problems with suppliers as they switched to deliveries of assembled modules. Delays in releasing its new in-house SENG engine range also held back the launch of additional model variants, and the company has had to buy in some engines from outside. Starting with 1.3L and 1.5L units, Proton aims to expand this range to between 1.0L and 2.4L, in time with the release of a new small car next year and the replacement for the Perdana later on.

Despite the hickups, the Waja does mark a major leap forward for Proton in improving its manufacturing efficiency. By shifting more of the assembly process to its suppliers, it has reduced significantly the assembly time at the plant (to around 25 hours). Royalty payments have fallen significantly, as have other areas of foreign currency expenditure - including overseas component sourcing. Proton boasts a 90% local content for the Waja, compared with around 60% for the Wira, although we suspect that this disregards some imports from overseas sub-suppliers.

While the Waja marks the way Proton intends to move forward, it is becoming increasingly evident that there are significant R&D limitations. Its capacity to produce new models needs to be increased if it is ever to seriously target overseas markets. Owning Lotus Engineering of the UK has helped immensely in its product development ability, but here too there are reports of friction. With the company under government control,


"Proton has traditionally been run as a government department"
Proton has traditionally been run as a government department, with decision-making of any significance reserved for the highest office in government.

At the end of March, Proton announced that it has licensed the rapid prototyping software from Delmia, a subsidiary of Dassault Systemes of France, to speed up its new product development. This should help. It badly needs to replace its Satria small car, but this is unlikely to surface before mid-2003 despite having been on the drawing board for some time.

In the meantime, Proton will continue to make use of Mitsubishi models to maintain the competitive pressure on fellow "national carmaker" Perodua - which by contrast has not attempted to make its own cars. Proton is set to launch a locally assembled Mitsubishi Mini-Pajero by the end of the year, which will move the company into a market segment that is currently dominated by Perodua. This model should have more local appeal than the Juara in any case.

Financial performance

Although Proton#;s sales bounced back strongly from the 1998 crisis levels, the company#;s earnings have taken longer to recover. Cost cutting, the seemingly indefinite postponement of a major capital expenditure programme (in new capacity) and debt rescheduling did help prevent the company from falling into the red during the regional economic crisis. But the burden of bringing on stream the company#;s first in-house designed car, the Waja, proved to be a major drain on finances. With previous models, Proton#;s up-front R&D and tooling investment had been minimal because technology was mostly outsourced and plant equipment transferred from Mitsubishi Motors. But this also meant that royalty payments to Mitsubishi held back profit margins. The fiscal year ending in March 2000 was a big year for R&D and re-tooling investment, with no related sales and earnings return.

Proton group financial results (M$ m), 1997-01 
(fiscal year ending 31st March)

================================================================

  1997  1998  1999  2000  2001
==============================================================

Turnover  6,222.2  6,788.5  4,075.0  6,496.7  8,301.2
Pre-tax profits  1,029.1  724.6  99.0   141.3  378.3
Net(after-tax)
profits  749.5  459.5  94.8  79.7  278.8
==============================================================

Source: Proton.

In the fiscal year ending in March 2001, net profits more than tripled as Waja sales kicked in in the second half of the accounting period. While financial results for the fiscal year just gone (to March 2002) have yet to be released, earnings are likely to please. Group pre-tax earnings for the first nine months of the last fiscal year were reported at M$985m, compared with M$178m for the same period a year earlier (when the Waja had been on sale for only two months).  For the full year, the figure looks on target to reach M$1,400m - which will be a record year for the company. Slower earnings growth is expected from here, however.

Outlook

Regarding its strategic long-term development, Proton faces a number of dilemmas - undoubtedly food for long hours of thought for the country#;s workaholic prime minister, Dr Mahatir Mohamed. Recent talks with potential strategic partners, including Ford, GM and Mitsubishi, ended in cul-de-sacs for various reasons, leaving the government with no option but to continue to protect the domestic market for the time being. Unless the long-term future of the company can be secured one way or another, this policy is unlikely to change.

One of the main dilemmas facing Proton is capacity - both in the quality of the existing capacity (which has grown as a result of bolt-ons) and its lack of significant spare capacity with which to embark on an aggressive export campaign. For the moment, Proton appears happy to ride the domestic market recovery and prove to the world that it too can make cars of its own. Provided that the market remains protected indefinitely, then bolting on additional bits of capacity like it has done in the past will do the trick. After all, the domestic market is more mature than most in South-East Asia. Realistically, sustainable annual new vehicle sales in Malaysia are unlikely to exceed 550-600,000 units per year ten years from now. In the next few years, the Malaysian vehicle market is likely to remain in a narrow volume range of between 400-460,000 units.

Proton#;s current production capacity is 260,000 units per year. Of this, 30,000 units of annual capacity is available through its AMM affiliate, which makes the Satria model. This leaves little room for manoeuvre, and little scope to build economies of scale that would help it compete internationally. Talk of reactivating its major expansion plan that was shelved at the beginning of the economic crisis has yet to resurface. The plan had been to build a second main plant at Tanjung Malim (North of KL), providing an initial additional capacity of 100,000 units annually and the potential to expand this significantly further in the future.

Building such a facility would be a very expensive and high-risk programme for


"Whether the acquisition of Daewoo Motor by GM will drive Ford back to the negotiating table remains to be seen"
the company, with serious concern that the investment may fail to translate into a corresponding sales increase and return on capital. The example of Daewoo Motor Corporation springs to mind. Proton#;s potential to sell significant volumes overseas has to be questioned. Being a national company, however, any mistakes would be at the Malaysian taxpayers#; expense.

So far, the Malaysian government has failed to offer a package attractive enough to bring in a strategic partner. Whether the acquisition of Daewoo Motor by GM will drive Ford back to the negotiating table remains to be seen. After all, Ford does not have much of a presence in the ASEAN passenger car sector. But whether it would want to take on the Shah Alam facility is another matter. Perhaps a commitment to building a modern plant is the answer, although a foreign partner is unlikely to feel happy about selling Protons abroad. In the meantime, Proton increasingly will become confined to its own national borders.