Western carmakers have in the past been encouraged, for political reasons, to partner with local manufacturers in China, even if the commercial sense in adopting that strategy was questionable. For the more risk-averse companies, the wholesale contracting and licensing of the production of models to Chinese contractors offers an alternative strategy with large cost savings. However, there are risks too in adopting that strategy. Michael Dunne of ARA offers his views.
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Paul Gao, in the current McKinsey Quarterly, writes a thought-provoking piece on China’s auto industry in which he recommends that global auto makers contract car manufacturing to Chinese firms. By saving on investments in plant and equipment, Mr. Gao posits, global automakers can focus their resources on what they do best: developing products and brands.
Letting Chinese companies build your products makes for a tempting strategy. It saves hundred of millions of dollars in fresh capital in the short term. And it lets China take advantage of it’s number one strength: low cost manufacturing. One only has to visit a department store to find low cost and sound quality products made in China. But over the long haul, such an approach to China’s auto industry will come back to haunt foreign brands.
Why? Because China will insist on its own products and brands.
Mr. Gao himself hints at the risk. For the outsourcing strategy to work, he writes, Chinese companies must “embrace contract manufacturing as a more profitable path to creating a globally competitive industry than launching their own brands.”
From the perspective of many global auto makers I’ve talked to, Chinese automotive brands’ days are numbered. Conventional thinking is that the world already has too many car makers and that the trend is toward consolidation. Who needs more new auto companies from China? And who says China can keep pace, given the competitive pressures brought by its entry into the WTO? Gao, for example, rightly points out that Chinese brands (in 2000) accounted for only three percent of China’s car market.
But from within China one sees a different picture: the steady ascension of Chinese brands across of vehicle segments. Chinese-badged products already account for a dominating 98 percent of China’s truck and bus sales. And in the car segment, Chinese share of the market doubled abruptly to seven percent in 2001.
Two new passenger cars made by Chinese companies are jolting foreign companies who had heretofore dismissed Chinese competition in the car sector. First is the QiRui (Lucky Magic), a Jetta-sized small sedan. Priced at just over $10,000 the Qirui racked up sales of 28,000 units in 2001, it’s first year of full production. The QiRui is built from an imported assembly line from SEAT of Spain. The car is powered by a 1.6 liter gasoline engine imported from the United Kingdom.
The second market upstart is the Jili, a Chinese version of the Daihatsu Charade produced under license in Tianjin. It too managed sales of more than 20,000 units in 2001. Make no mistake: these two new entrants are no icons of design or technology. But they are cheap, which appeals to a broad swath of cost-conscious Chinese.
Foreign auto makers may publicly deride the newcomers. But privately, they are worried. By competing on price, Chinese firms will gradually accrue market share. Greater market share will mean more money to re-invest into research and development. I am aware of no less than 5 Chinese companies that are now working with independent design and engineering houses to create their own products.
Foreign companies entering and competing in China’s car industry would be smart to heed the counsel of Lee Kuanyu, former Prime Minister of Singapore: “You may slow China down. But you can’t stop it.” Let the contractor beware.
Michael J. Dunne is the founder of Automotive Resources Asia (ARA), a strategy and communications company specialising in Asian automotive markets.
He can be contacted be e-mail at: mdunne@auto-resources-asia.com
ARA’s website: www.auto-resources-asia.com
