Baojun is SGMW’s new brand of affordable passenger vehicles that will be sold across China

Baojun is SGMW’s new brand of 'affordable' passenger vehicles that will be sold across China

The nations of Brazil, Russia, India and China form a neat acronym - the BRICs. These countries possess rapidly developing economies, large populations and plenty of untapped potential for consumption growth as incomes rise. They are also experiencing rapid vehicle market growth as well as rising automotive industry activity. For May's briefing theme, Dave Leggett reviews the latest developments and prospects for the BRIC automotive markets, starting with China.

Is China's economy and vehicle market running out of steam?

With the vehicle market up by a third in 2010 to a whopping 18m units, the outlook for 2011 has provoked some debate among analysts. On the economic front, though, conditions are generally very good.

After growing by just over 10% in 2010, the IMF expects China’s economy to grow at a still robust 9.5% this year and next, with the drivers of growth shifting increasingly from public to private demand. Consumption, the IMF believes, will be buttressed by rapid credit growth, supportive labour market conditions, and continued policy efforts to raise household disposable income. Concerns over overheating have been largely allayed as the government has taken steps to rein in credit and stimulus spending is largely over, allied to a squeeze in real estate investment. However,  strong income growth will support consumption, and the government will be careful not to allow growth to slow too sharply, remaining prepared to switch to a more supportive stance should it feel that it has tightened too aggressively.

So far, so good – strong economic growth is a prerequisite for automotive market growth and that still looks broadly fine. However, the immediate concerns on demand prospects are more specific to the auto sector:

  • that vehicle market growth was above trend in 2010 due to a number of factors, including stimulus package incentives that have now been switched off;
  • chronic road congestion and air quality problems will lead to growing restrictions on ownership and use in big cities – such as Beijing and Shanghai - will dampen market growth;
  • the impact of higher oil prices and generally higher vehicle operating costs;
  • supply chain disruption hitting Japanese OEMs in particular;
  • that the next wave of buyers in inland cities will become progressively more difficult to find.

At the outset of this year, there was a broad consensus that the market will slow to 10-15% growth in 2011, which compares with 33% growth in 2011 - but many of the forecasts were made at the beginning of the year. Consulting firm Roland Berger has predicted 15% growth for the Chinese auto market in 2011, while Deutsche Bank expects it to slow further to 11%. Terry Johnsson, vice president for GM's China operations, also remains confident that overall vehicle sales in China will increase by 10%-15% in 2011. And no automaker wants to get caught out with an 'under' forecast that would mean lost sales and share to rivals – remember, the market in recent years has generally out-performed expectations; the temptation is to carry on 'going high', installing more capacity above previous plans.

Bright sales start to 2011 splutters

The automotive sales year certainly got off to a strong start in China in January and February, but some analysts saw evidence of 'industry push' in the numbers, especially around the Chinese New Year. However, signs of a declining underlying demand trend have been appearing since the beginning of the year. Year-on-year vehicle market growth was 13.8% in January, 4.6% in February and 5.4% in March. By April, according to the China Association of Automobile Manufacturers (CAAM), China's auto sales declined by 0.25% versus the year-ago level, at 1.55m units.

Earlier this year, CAAM forecast that the country's auto market would post 10% growth to achieve 20m units this year. It cites factors such as higher oil prices, restrictions on ownership and disruption to production caused by the Japan earthquake as helping to explain the market slowdown and drop in April. Certainly, supply chain disruption has been evident, with the Japanese OEMs hampered most. Toyota and Honda saw their sales in China fall 20% on the year in April as parts shortages forced them to curb output. Toyota cut production in China by 50% in late April.

Nissan earns a quarter of its global sales in China. Nissan has given top priority to distribution of cars and parts in China to prevent its overall global sales from shrinking. It has begun shipping some autoparts to its Guangzhou plant by air also, an indication of how keen it is to avoid share loss in China.

The market will also slow as a result of the ending of tax breaks that have helped drive the market up over the past two years. The Ministry of Finance withdrew small car incentives introduced during the global financial crisis. Sales tax on cars up to 1.6 litres, which account for around 60% of total vehicle sales, returned to 10% on January 1, 2011. And there are efforts by the Chinese government to prevent the economy from overheating by raising interest rates, which will also curb car sales on finance.

Given the confluence of negative factors impacting auto sales in China this year, the market could well struggle to match year-ago levels over the next few months (and there is a high base for comparison presented by last year's numbers). If the next few months post negative numbers against last year, forecasts for the year will almost certainly be revised down. A market somewhere between +5% and -5% is now being talked about by some analysts as a real possibility – where it will fall still uncertain, but nearer +5% more likely than -5%. And the year 2011 constitutes a temporary cooling in what is generally seen as a market with plenty of untapped demand.

Operating environment for cars worsens

Besides the impact of higher oil prices, efforts by the Chinese government to prevent the economy from overheating have led to higher interest rates, which will curb car sales on finance. Chinese cities are also introducing measures to restrict car sales as the local road infrastructure struggles to cope with the traffic. Beijing has led the way here and Shanghai has followed.

Beijing, which has about 5.1m cars, has restricted new sales to 240,000 a year via a monthly lottery. There were 900,000 sales last year in Beijing, so the change is very significant. Shanghai is following a similar policy and others may well follow. The eastern Chinese provinces of Jiangsu and Zhejiang are considering similar measures, including requiring residents to purchase a dedicated parking space before buying a car. Indeed, parking spaces are becoming a national problem, many city centres and office complexes having been conceived way before the recent surge in the car parc.

Some analysts also see a significant shift in the official attitude to vehicles. Ash Sutcliffe, of China Car Times, sees the possibility of a sea-change in the authorities' attitudes. “I think we may be seeing a move towards more aniti-car policies and more emphasis on public transport and infrastructure,” he says. An ambitious plan for a high-speed rail network will reduce long journey driving. Also, a variety of measures including city vehicle registration caps/limits, vehicle taxes and fees, can be utilised by the authorities to further curb vehicle sales growth. Pollution taxes that would hit transportation are another possibility.

Other factors that are also impacting ownership costs include rising insurance premiums (China's accident statistics make for notoriously grim reading), rising maintenance costs, higher parking fees and rising expressway tolls.

Activity high in low-cost local brands and 'inland' cities

The rising tide of traffic congestion in China's major cities may suggest that 'market saturation' is near, but the situation is more complex. Per capita car ownership is still very low and, in practice, a wave of motorisation is heading west, moving inland as new vehicle sales become harder to find.

Ash Sutcliffe, of Qingdao-based website China Car Times, sees a shift taking place. “In the 'first tier' cities [places like Beijing and Shanghai] it's becoming game over,” he maintains. “The industry has been moving to make sales in 'second tier' cities further inland, but now even they are starting to become full of cars and so 'third tier' cities – which are smaller - are becoming a focus for new vehicle sales.”

These first-time buyers in the 'Inner Land' where economic growth has been generally less frenetic are looking for low-cost vehicles. This is where the low-cost Chinese brands have been strong and also helps to explain why the big joint ventures are launching new low-cost models and creating new local brands or sub-brands, something that is also being encouraged by China's government.

General Motors, for example, is offering entry-level models exclusively for China, such as the Baojun 630 Sedan, a mid-size car which has been developed to get an aggressive price point. It has also been developed locally using GM technology in order to get a vehicle highly attuned to Chinese market needs. It is the first model in GM's Baojun brand that will be available nationwide. The idea is to differentiate brands and product offerings for discrete market segments. For premium buyers, GM has the Buick brand (and doing very well) in China and Chevrolet is also a major brand in China, offering relatively low-cost vehicles under an international OEM brand. The local brand will do a different job for GM in highly price-sensitive territories where auto brand visibility is low and brand loyalties are yet to become established.

In a similar vein, Honda has already launched the low-cost Li Nian brand with JV partner Guangzhou Auto. Nissan plans to launch the Venucia brand in 2012, with its JV partner Dongfeng. After releasing the first model, the brand is expected to add another within the first year. Changan – JV partner to Ford and Mazda – has said it is considering rolling out its own brand.

Mitsubishi is integrating its Chinese low-cost strategy with its ASEAN strategy. It plans to begin production of its 'global small' vehicle in Thailand next year, with Chinese production to follow. The production capacity at a factory in Hunan Province is expected to be similar in scale to the Thai operation, turning out 200,000 units or so a year.

In another intriguing development, Volkswagen is planning the launch of a new brand, named Kaili, with its joint-venture partner FAW. The difference here is that Kaili is going to promote as its first model an electric car.

Long-term China market outlook still highly positive

If this year looks like seeing a slowdown to market growth of uncertain magnitude, the same cannot be said of the outlook further out. Automakers and analysts appear united in the view that underlying demand positives will drive the market much higher. The optimism evident at the recent Shanghai Show was pervasive. Managers at PSA Peugeot Citroen (the Citroen DS5 will be made in China) told journalists that China's car market will continue to grow by about 10% a year for several years. A government official said that vehicle sales are anticipated to rise to 23m units by 2015, up 27% from their level in 2010.

Further out, the numbers become mind-boggling. "The Chinese automobile market will double that of the US to 30m vehicles in 2020," said Finbarr O'Neill of JD Power. Larry Wang at McKinsey predicts that annual car sales in China could reach 26m by 2020.

John Zeng, analyst at JD Power, points out that urbanisation in China is expected to continue to rise. And the wealthier urban population travels a lot more than the rural population. The urban population rises from 47% in 2009 to a projected 60% in 2020 according to the Chinese government. Even if the Chinese government wants more people on public transport, the clamour for car ownership from a richer and more urbanised population will nevertheless be getting stronger.

Meanwhile, the OEM stampede to add capacity continues, international suppliers following. But there are some clouds ahead.  A shake-out among the domestic players is widely expected. The foreign joint ventures are also expected to decline in importance as the Chinese brands grow in the Chinese market. Western premium brands will benefit from growing second time replacement car purchase.

But will there be enough overall demand in China or is overcapacity and a price-war looming? Manufacturers' estimates of annual production volume by the middle of this decade add up to around 40m units a year. That looks well above what the domestic market will absorb. By then, we may well be moving into a new phase – China as a major automotive exporter. Honda  exports the Jazz/Fit from China now. The Chinese government is very pleased with Honda and it has had some breaks that other investors have not had. International OEMs with operations in China will surely follow Honda's lead.

China Light Vehicle Production
OEM Group 2009 2010 % change
Beiqi Foton 539777 582180 8%
BMW Group 44004 55582 26%
Brilliance Jinbei 314189 456850 45%
Chang'an Automobile Group 1126240 1380304 23%
Chery Group 508567 691924 36%
Chrysler Group 1305 1131 -13%
Daimler Group 14634 50272 244%
Dongfeng Motor 449777 670201 49%
Fiat Group 27458 36808 34%
Ford Group 266496 353345 33%
Geely Group 345399 433780 26%
General Motors Group 771467 1110691 44%
Honda Group 602455 676813 12%
Hyundai Group 815302 1042803 28%
Isuzu Motors 39913 47150 18%
Jianghuai Automotive 283122 407068 44%
Mazda Motors 173889 228090 31%
Mitsubishi Motors 31616 44204 40%
Proton Group 20993 35015 67%
PSA Group 262889 376331 43%
Renault-Nissan Group 565820 757645 34%
SAIC Group 1160091 1342997 16%
Suzuki Group 243656 280740 15%
Toyota Group 607959 773677 27%
FAW Group 488860 623343 28%
Volkswagen Group 1387328 1899629 37%
Other 1015535 1472619 45%
Great Wall Motor 226817 398692 76%
BYD Auto 422732 521232 23%
Grand Total 12758290 16751116 31%

Source: JD Power Automotive Forecasting