On a bright spring day in March 2003, Peter Kroll, vice president of Capgemini, the leading European consulting firm, pronounced that China would become the biggest automaker worldwide in five years. Three years later, it does not appear things will work out that way.
Speculation about the glorious future of China’s automotive industry has surfaced again in recent months with the bankruptcy of Delphi, General Motors’ key parts supplier. Delphi could no longer meet the huge pension payouts and wages for its US-based workers plus high-priced medical coverage for pensioners and their families.
Layoffs in the US
As 2005 neared its end, Ford announced layoffs of 4,000, 10% of its North American white-collar work force, on top of another 2,750 layoffs announced earlier. GM’s year-end plight was no better. Its US$7 billion cost cutting program in North America, involving plant shutdowns and healthcare cuts, failed to win over Wall Street as ratings agencies doubted it would bring GM positive numbers due to mounting obligations to the creditors of bankrupt Delphi.
Faced with greater "legacy costs" than Delphi, would GM and Ford switch production to China, thereby allowing it to conquer the global car market just as Kroll had predicted?
"Companies like GM need alternative sources of supply," said Jack Nerad, chief analyst and editorial director of the US car rating bible, Kelley Blue Book. He said he sees a day coming fast when made-in-China cars will be plying the highways and byways around his home in Irvine, California.
"US car manufacturers are hamstrung by union contracts, but they can get around that by going to suppliers for parts, components and, eventually, complete cars. China is a real possibility. There is nothing so sacred about car manufacture that it could not be done just as well in China," Nerad added.
Not so fast, say some cautious colleagues, who see China’s auto production challenged by the realities of an industry with increasingly sophisticated demands for technology, anti-pollution and safety measures. Today’s car manufacture is more capital intensive than labor intensive, they stress.
China’s auto industry has made great strides – so many, in fact, that last month the central government warned that China was on course to produce twice as many cars as it needs. Annual capacity, now at 8 million units, has already exceeded anticipated sales of 5.5 million units this year. Beijing sees vehicle production hitting 20 million units in 2010, more than double the expected sales of 9 million automobiles. Overproduction doesn’t necessarily translate into exports, but it certainly will put downward pressure on global prices.
To most analysts, though, China’s main advantage is not all that crucial any more. "Labor is not important," said Graeme Maxton, managing director of Autopolis Asia, a Hong Kong-based automotive consulting company. "The most efficient car plants in the world are in Japan where labor costs are 10 times what they are in China. What China lacks are economies of scale in both vehicles and in components."
Maxton doesn’t see China having a great influence on the global car scene for many years to come. "Making cars in China doesn’t make a huge amount of economic sense right now. Everybody gets excited about China and there is a lot of investment, but investors are here because they want to supply the market in China," he said.
Counter-intuitively, the pension payouts, or "legacy costs" in the old world do not necessarily play to China’s advantage. US automakers are still incentivized in a number of ways to leave production at home.
"Legacy costs don’t go away," said Maryann Keller, the doyenne of American car analysts since the 1970s, who now runs her own auto industry consulting firm. "It is better to have those individuals continue to work in the US than to face the enormous expenses of setting up entirely new plants in China. Anyway, China cannot build cars to meet US consumer demands. They just don’t have the know-how yet."
Keller said what auto parts manufacturers produce in China are basic and not top technology. And cars that are produced include at least a proportion of imported parts.
"BMWs are assembled in China from imported parts. Parts manufacturers are not interested in shipping their best technology to China where it will be stolen. Reverse engineering will not solve the problem for them. One can over-simplify the process of creating," she said.
Nor does Ford or GM have the money to build factories in China. So it is reasoned that as bad as the situation is for Ford and GM, it is better to have overpaid workers generating some revenue to cover their own legacy costs than to pay them to do nothing while employing the Chinese to build cars for the US market.
Confirming this is Jasper Wang, an associate analyst at Morgan Stanley in Shanghai, who watches auto exports from China. "There is not much going on. Honda is selling the Jazz, a little car, in Europe. But it is a small effort. I don’t see any big development happening."
Is it possible, then, that China will fail to achieve the global domination in the auto field that it has managed in just about every other area of manufacturing? Detroit certainly hopes so.