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Models display sedans at the Chery Automobile Co., Ltd. in Wuhu of Anhui Province, China. CHINA PHOTOS/GETTY IMAGES
The attendance at the Shanghai auto show in April said it all: No major automaker dared to miss it. While Nissan (NSANY) skipped Detroit's North American International Auto Show last winter, and several companies are expected to stay home from this fall's Tokyo Motor Show, the glitz and glamour at Shanghai were as flashy as ever. Porsche even decided to launch its new luxury sedan, the Panamera, at a posh event at the 101-story Shanghai Park Hyatt hotel—rather than in Frankfurt or Detroit. "For the last 100 years, the auto market was about the U.S. and Europe, but now everything is changed,"says Atsuyoshi Hyogo, chief operating officer for Honda Motor (HMC) in China, which showed a new concept car in Shanghai under the Li Nian brand, a new marque for the Chinese market.
As car markets sputter around the world, global automakers are looking to China as the big hope for growth in 2009. The Middle Kingdom is on track to rival the U.S. as the world's largest auto market this year. In the first quarter of 2009, sales in China rose 4.3%, to 2.7 million vehicles, and the pace could pick up to as much as 10% for the year, says Intelligence Automotive Asia, a London consultant. That compares with an expected decline of 23% in the U.S. and 15% in Europe. With March and April showing particularly strong growth, China might overtake the U.S. by yearend. In the global auto market, China "is the only bright spot," says Daimler (DAI) CEO Dieter Zetsche.
Yet for the world's automakers, all the optimism about China may be short-lived. As the market takes off, local players are coming on strong and taking market share from foreign rivals. That marks an important shift. Foreign automakers have been China's market leaders ever since the government invited them to form joint ventures with local partners two decades ago. But in the first quarter of 2009, Chinese brands boosted their market share to 30%, up from 26% during the same period in 2008, while foreign automakers' share fell to 70% from 74%.
That trend is expected to continue. Chinese automakers are producing better cars than ever before, yet still enjoy substantial cost advantages over their foreign peers. They are investing in luxury models and clean vehicles, and are better placed than foreign rivals to benefit from the tax cuts and government incentives that have fueled a spurt in car sales. And as they launch more upscale cars, Chinese automakers are also improving their production facilities and keeping a closer watch on quality control. "As their products [advance], they will also upgrade the plants that produce their vehicles," says Mei Songlin, general manager of research at J.D. Power Asia Pacific's (MHP) China operation.
As a result, Chinese players are speeding quickly toward a 40% or higher share of the local market. "It's been coming, but suddenly the Chinese automakers have the critical mass and the momentum," says Ashvin Chotai, managing director of Intelligence Automotive Asia. He estimates that Chinese automakers will control 38% of the domestic car market by 2015. Others are even more bullish. Scott Laprise, an analyst at brokerage CLSA in Shanghai, figures that if Beijing gets serious about electric vehicles, local automakers could account for half of all new car sales within three years. "Within a year the government could turn around and start telling people to buy electric cars," he says.
China's independent automakers—companies such as Chery, Geely, and BYD Auto—are scrambling for position. They've set challenging growth targets and aim to introduce dozens of new models in the next few years. Chery wants to increase sales by 18% this year, to 419,000, despite a sluggish start. It has high hopes for the latest version of its stylish A3 city car, which comes with three choices of engine (1.6, 1.8, or 2.0 liter) and starts at $11,000. The car, which Chery featured in 60,000-mile promotional test drives between Beijing and Wuhu before the Shanghai show, was the first to receive a top five-star rating under China's safety standard.
Chery also plans to introduce 36 new models over the next two years. Many will be launched under new marques such as Riich, which as the name suggests is aimed at wealthier car buyers. The first model, the Riich G6 sedan, will come equipped with a 3.0 liter, V6 engine or a turbocharged four-cylinder engine that will meet European emission standards. Chery says the car will compete with the Audi A6, a luxury model that goes for $51,000 to $102,500. Price for the G6? Just $29,000 to $43,000.
Other local companies are hoping to see sales soar, too. Last year billionaire Warren Buffett paid $231 million for a 10% stake in BYD Auto. BYD General Manager Henry Li says the company expects domestic sales to more than double, to 400,000, in 2009. "We didn't spend a lot of money on advertisements. It's the cars themselves,"he says. "The Chinese makers are getting stronger." BYD's hottest car, the F3, was China's best-selling auto during the first quarter, with sales soaring 84%, to 47,800. Meanwhile, Hangzhou-based Geely is expecting 25% growth in 2009 and plans to triple domestic sales, to 700,000, by 2015. Geely showed 22 new models at the Shanghai show, including a sleek Rolls-Royce look-alike called the GE, which may hit the market in three years for around $22,000
Geely has been working hard to improve the quality of its cars. "The quality gap between domestic brands and foreign brands is a reality, so it is a tough job to be a dealership for a domestic brand," says Lu Wannian, vice-general manager at Beijing Tengyuan Xingye Automobile Service, a Geely dealership. He acknowledges that sometimes image-conscious customers buy a Geely car, then replace the Geely badge with a Volkswagen or Toyota (TM) logo.
To counter that image, in 2007, Geely replaced several older models with new three new lines—Ziyoujian, Jingang, and Panda. More than 1,000 engineers developed the Panda over a three-year period. Although still a small car, the Panda comes with six air bags, antilock brakes, and other features found previously only on larger, more expensive models. "The improvement of [Geely's] quality is concrete," says Li Chunbo, automobile industry analyst at Citic Securities in Shanghai. Yet the Panda's price, from $6,200 to $8,800, means the car sells below levels foreign players can match.
To get ahead, Geely is also prepared to pay for technology it doesn't have. While the company denies speculation that it is interested in buying Volvo from Ford (F) or Saab from General Motors (GM), Geely acquired Australian transmission maker Drivetrain Systems International for $40 million in March. Jie Zhao, an executive director at Geely, says the purchase equips the company with automatic transmissions for larger models—something it lacked. "This [type of deal] is very helpful," he says. "Engines and transmissions are very important for carmakers and something we want to make ourselves."
As they expand their model offerings, the automakers' race for Chinese customers is putting heavy downward pressure on prices—and profitability. That's especially true among makers of small cars. More carmakers go head-to-head in this market than in any other in the world. Jae Man Noh, president of Hyundai Motor's Chinese operation, which increased sales 49%, to 109,072, in the first quarter, estimates that operating margins are down from double-digit levels in 2002-03 to between 5% and 6%. For vehicles below $15,000, competition is most intense and profitability is wafer-thin.
Even foreign luxury automakers say it's important not to underestimate the Chinese—especially over the longer term. "It's amazing how fast the Chinese car manufacturers are developing," says Klaus Maier, president and CEO of Mercedes-Benz's (DAI) China arm. "First they are coming up in the lower segments, but we will see one or two become serious competitors."
Local Chinese partners in joint ventures with foreign companies are beginning to make big plans. For years global automakers have given their Chinese partners access to technology, knowhow, and global designs. Now, Chinese partners aim to develop their own vehicles outside their long-standing joint ventures. Shanghai Automotive Industry, for instance, works with GM to build and sell Chevrolets, Buicks, and Cadillacs, and with Volkswagen to make its Santana and other models. Yet analysts predict that Shanghai Automotive will increase sales of its own vehicles tenfold, to 300,000, in the next five years.
Many of those models would compete with GM and VW. One example is Shanghai Auto's Roewe brand, which is based on old MG Rover technology. At the Shanghai show, the company unveiled a sporty new version of its Roewe 550 sedan powered by a turbocharged 1.8 liter engine. It's expected to go on sale in 2010, with a hybrid version slated for 2012. "Domestic players want to develop their own brands and take footholds in the market," says John Zeng, senior analyst at IHS Global Insight, an auto consultant in Shanghai. To stay ahead in the market, foreign automakers keep improving their own technology. "We have to always advance," says Honda's Hyogo. "If we fall behind, [our partners] don't need us," he adds. That doesn't bode well for ailing global automakers with little money to invest in next generation technology, however.
In the end, the future of China's auto market may depend largely on Beijing government policy. In March, China's State Council announced plans to encourage consolidation in the industry. The government envisions the emergence of two or three Chinese automotive groups producing 2 million vehicles a year. An additional four to five Chinese-controlled enterprises would exceed 1 million vehicles a year "within a few years" officials said.
So far, details of this shake-up are far from clear. Smaller Chinese automakers are likely to be concerned if the government moves to engineer the industry's consolidation. Some analysts think the move is really a signal to foreign companies that they will play a secondary role to the domestic players as China moves to become an automotive powerhouse.
It's hard to predict how the government's auto industry policy would play out in the medium-to-long term. In the meantime, Beijing's plans to promote environmentally friendly cars could have a bigger impact. In January, the government said it would spend $1.5 billion over the next three years to develop hybrid cars and electric vehicles. The goal is to increase China's production capacity of clean energy vehicles to 500,000 a year, up from almost nothing.
The government also aims to stimulate demand for clean cars. Electric-car charging stations will be set up in Beijing, Shanghai, and Tianjin. And Beijing is now offering subsidies to taxi operators and local government agencies for each electric vehicle or hybrid they buy. For an electric vehicle, the subsidy is as much as $8,700. "These subsidies will make the real purchase price of EVs and hybrids close to the price of conventional vehicles," Zhang Shaochun, China's Vice-Finance Minister told an industry forum in Beijing in April.
No doubt, Chinese automakers are eager to take advantage of government incentives for clean cars. At the Shanghai show, almost every Chinese automaker showed off electric vehicles or hybrids. BYD Auto promoted its e6 electric car, which has a range of up to 250 miles on a single charge and will hit the market later this year. Geely said it would begin selling its first electric car, the EK-1, in China this year and a second by 2011.
With so many competitors, picking winners in China's automotive market will remain tougher than anywhere else. Foreign carmakers still dominate sales and make solid profits. But their fight against China's own ambitious automakers is likely to be fierce.
—With Charlotte Li in Shanghai and Suker Wu in Beijing