When Shanghai Automotive Industry Corp (SAIC), China's biggest carmaker, announced last month it would spend US$1.7 billion to develop and export its own range of cars by 2010, it joined a long queue of domestic players preparing to take on global manufacturers in their own backyards.
The joint venture partner of both GM and Volkswagen is targeting a relatively modest 50,000 exports a year by 2010.
Others are more optimistic. Geely Automobile, the Zhejiang-based independent carmaker headed by farmer-turned-entrepreneur Li Shufu, hopes to sell 300,000 units a year by 2015; Ford's Chinese partner, Chang'an Motor Corp, plans to spend US$625 million to launch between three and eight new own-brand models every year up to 2010, 25% to 30% of which it hopes to sell offshore.
Most optimistic of all, government-owned carmaker Chery Automobiles is targeting 1 million units sold a year in the US within six years of launch, and a ranking among the top three automakers in the world's largest market, or so says its likely US distributor, Malcolm Bricklin.
Reportedly backed by billionaire financier George Soros to the tune of US$200 million, Bricklin – the self-styled visionary who brought America the Yugo in the 1980s – is close to finalizing a joint venture with Chery to distribute its vehicles in the lucrative US market.
On the radar
Global giants are quietly starting to pay attention. "I wouldn't characterize it as shaking in their boots," said Richard Spitzer, global managing partner of Accenture's automotive practice.
"I would just say the industry as a whole fully respects what the Chinese OEMs [Original Equipment Manufacturers] are capable of doing down the road."
China's car market is the fastest-growing in the world, with sales of cars, sport utility vehicles, multi-purpose vehicles and minivans up 45% in the first half of 2006.
But with new entrants piling in and existing players ramping up capacity, it is predicted that China will produce 18 million cars a year by 2010, while consumers will only want 10 million. Add to that idle capacity, which Morgan Stanley has warned will reach 1.2 million units this year, and domestic automakers have no choice but to expand offshore.
When China exported more vehicles than it imported for the first time in 2005, the future appeared bright. But the bulk of the exports were low-cost, low-margin and destined for developing markets in Africa, the Middle East and Southeast Asia.
China's 172,639 exports last year were worth US$1.58 billion, including 31,125 sedans worth US$271 million, or an average of US$8,700 each. In comparison, the 161,608 imports were worth US$5.2 billion, including 76,542 sedans valued at US$2.6 billion, or US$33,968 each.
As Chinese automakers increasingly turn their attention to foreign markets, the earnings to export ratio is getting worse. China's sedan exports ratcheted up 458% growth year-on-year in the first quarter of 2006 to 16,813, but revenues grew a relatively meager 302% to US$116.8 million, or US$6,900 per unit. Industry insiders attributed the sharp drop to a cutthroat price war among Chinese automakers.
Having learned from its mistakes of the past, when infighting saw export prices of motorcycles and auto parts plummet, the government is stepping in to halt some of the more optimistic automakers.
From January 2007, manufacturers will have to meet a minimum export quota to qualify for an export license. Beijing is aiming to create national champions to fulfill its objective of a 10% share of global sales by the end of the next decade.
Kenneth DeWoskin, a senior consultant with PricewaterhouseCoopers, said the government would back the dominant domestic producers to ensure China's auto exports are competitive. "It will be like Chinese durable appliances, which are a good proxy or antecedent," he said.
If China positions its vehicles at the low end of the market, as Haier has done in consumer electronics, the government will need deep pockets to subsidize the loss-making exporters.
"There will be efforts made to export cars at very low prices but it's going to be a test of the appetite to lose money on the part of some of these companies, how much lending and how much subsidy of some sort or another that they are actually able to get," DeWoskin said.
He estimates it will cost the government billions of dollars to keep auto exporters viable, a figure far in excess of the hundreds of millions required to keep a durable appliance exporter afloat.
But China's auto push is more than just about selling cars.
It is a cornerstone of the government's efforts to create global Chinese properties to destroy current perceptions of cheap, low-quality Chinese production; in other words, to have China's automakers do for China's manufacturers what BMW did for Germany and Toyota did for Japan.
"I can't imagine a more visible project to raise the tide of all Chinese goods," said Bricklin. "That's what the car has the opportunity to do and I believe they are not missing that opportunity."
Trimming the fat
The car that many say will be Chery's first US-bound export looks nothing like a cheap, low-quality vehicle. Unveiled last month, the V525 crossover six-seater MPV was developed in-house with a team including Lotus Engineering and Italy's Bertone design house.
It features a Chinese-made Mitsubishi engine, four airbags, ABS with electronic brake-force distribution, traction control, GPS navigation and a DVD player.
"Chery is pulling no punches," Bricklin said. "They are building the car first, and worrying about cost later." Unlike fellow export hopeful Geely Automobile, which is targeting its exports in the US$10,000 range, Chery is concentrating on the Audi-class, but at a 30% to 40% discount.
"The bottom line is I can take a US$40,000 car and put in an interior that will make it look better, an engine and transmission that is as good or better, and end up selling it for the middle or high 20s," Bricklin said. "That's the way to get an early acceptance of your product, and if you get that then you win."
The numbers look fanciful. Analysts and industry executives estimate that it can cost as much as 20% more to manufacture a car in China compared with developed economies due to a lack of trained engineers and quality parts. But Bricklin claims that high production costs are a myth, with the high costs of production only applying to domestic sales due to duties imposed on imported parts and a 17.5% sales tax.
He also plans to exploit the fat that exists in the industry, particularly the legacy costs of pension and health care plans that have crippled US manufacturers like GM.
Accenture's Spitzer agrees efficiencies exist that China can exploit. "The legacy players would love to have a clean sheet to deal with but they don't have that luxury."
Geely Automobile is taking the slow approach to the US market, testing the waters with US consumers by launching first in the US territory of Puerto Rico.
The carmaker has hired auto industry novice John Harmer, a former lieutenant governor of California, to head its international operations, banking on the connections he forged in his previous career as a lobbyist to help it open up the market.
Harmer told the Detroit-based Automotive News that in return for a 100% warranty, every buyer will be required to visit a dealer every month and be interviewed about the car's performance. "We want to find out what the American consumer likes and dislikes about the car," he said.
Bricklin laughs at the idea, claiming an immediate impact is essential. "We decided that we'd rather take a little longer and really introduce a dynamite line of cars with no excuses than end up with 'gee, we're sorry, we'll fix it next year'."
China has played the PR game well – perhaps too well – and the world's attention is firmly focused on the Middle Kingdom, and Bricklin knows he must deliver.
"Is there a little bit of hype or exaggeration built around the messaging and readiness?" asked Accenture's Spitzer, referring to the endless stream of export announcements from China. "I think so. There is clearly a gap between what people say versus what's real.
"It's a risk because the buying public in these mature markets is pretty unforgiving."
It all started with Beijing Jeep, China's first auto joint venture, back in 1984. Ever since, the world's biggest players have spent billions of dollars establishing joint ventures to gain a foothold in the world's most dynamic car market.
Now, the joint venture partners are looking to strike out on their own. Michael Dunne, president of consultancy Automotive Resources Asia, described Shanghai Automotive Industry Corp's (SAIC) recent announcement it would compete against its joint venture partners as a "watershed" moment in China's auto industry.
"The Chinese formed joint ventures for one purpose: to learn how to do it themselves one day. That day is here."
But according to Richard Spitzer, global managing partner of Accenture's automotive practice, the day was long anticipated. "All global OEMs [Original Equipment Manufacturers] go into those relationships with their eyes wide open. The notion of a partner becoming a competitor is not foreign to these legacy players. They dealt with that in the past and they will deal with it in the future."
Dale Sullivan, former Chevrolet brand director for Shanghai General Motors, said GM owes its success to its joint venture partners. He believes the company's strong relationship with SAIC and First Auto Works (FAW) makes independent makers Chery and Geely more of a worry.
In 2005, GM sold more cars abroad than it did in North America for the first time, and surpassed VW as the top automaker in China. In the first half of 2006, GM's sales in China climbed 47% to 453,832 cars.
"We couldn't have come here by ourselves," Sullivan said. "All the advantages that we have gained we can say yes, thank you SAIC for what you have done for us."
Giving the domestic industry a legup is a worthwhile tradeoff for market access, said Philippe Coquelle, Director of Automotive Research, ACNielsen China.
He cited the early experiences of PSA Peugeot Citroen, which paid the ultimate price for refusing to bring the latest technology to its 1985 joint venture with Guangzhou Automobile Group. Rather than bring its latest models, the company chose to give China outdated Peugeot 505s and 504s.
Although Guangzhou-Peugeot initially proved successful, earning the company a 16% market share by 1991, consumers soon tired of the high fuel consumption, difficult maintenance and expensive parts. By 1994 it was in the red and it returned to France with its tail between its legs in 1997, having racked up an annual loss of US$349 million.
Peugeot returned in 2004 in a joint venture with Dongfeng Motor Corp, but this time brought its Peugeot 307 sedan, making it the first time Peugeot has launched one of its latest models outside of France. It admitted it had learnt from its mistakes, and Dongfeng Peugeot Citroen is now the ninth biggest automaker in China.
"They had to close the factory, and now they are just starting to come back with success, but it took 10 years to turn around because they didn't accept the tradeoff," said Coquelle.
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