China Invites Major Auto Makers In; Slows Market Pace Down

Global auto makers rushing into China this year, as the flood gates open and tariffs fall in line with the country’s ascension into the World Trade Organization, now are wondering what hit them as the earlier bull market continues to weaken thanks to government’s fear of an overheated economy.

Breathless proclamations from every major auto maker and supplier abounded following the Shanghai auto show in early June regarding new partnerships, new product and new plants; firing up the competitive juices while pushing China’s potential for overcapacity to new heights.

No one seemed worried at the time. Even seasoned veterans, such as General Motors Corp., Ford Motor Co., DaimlerChrysler AG, Volkswagen AG and Honda Motor Co. Ltd., waxed eloquently about fresh investments, new models and joint ventures.

GM Chairman and CEO Rick Wagoner described China as the world’s third-largest market, headed for second and stealing first within the next 15 years. GM China in the first nine months sold 369,744 units, up 38% on the year – 57.6% of that in the year’s first half.

But in a country where the central government dictates how many children citizens can have, it was only a matter of time before bureaucrats began to manipulate the number of vehicle sales the market could bear.

An abrupt slowdown in sales was evident by July, primarily brought about by Beijing’s effort to restrict credit in order to cool growth and curb alarmingly high investment levels.

Installment loans, a relatively new phenomenon for Chinese consumers and which accounted for about 30% of sales for some auto makers, quickly fell to about 2% of purchases.

Production cuts followed, sliding 20% by August as auto makers began shaving targets, hurt by weakening demand and increasing power rationing that forced widespread plant closings.

Ironically, declining car sales were prompting unrestrained price-cutting at the same time multinationals were pumping in $13 billion to boost production to about 6 million cars annually by the end of the decade – a situation that now is sparking fears of a glut.

Analysts say car sales, which doubled year-on-year in 2003 and rose at a rate of about 40%-50% in June, slowed to 2% growth by July. However September sales rose 14% over August to 194,100 units.

Forecasters now are calling for 2004 passenger-car sales to grow 10%-20%, compared with 2003 sales of about 2 million units, dependent on a hoped-for fourth-quarter growth spurt.

Meanwhile, margins are being squeezed as auto makers continue to be hammered by the price war, escalating costs of energy and raw materials, plus foreign exchange issues – all taking their toll on profits.

Tianjin FAW Xiali Automobile Ltd., for example, which builds Toyota Motor Corp.’s Vios and Corolla sedans, posted a 79% drop in second-quarter earnings, its problems compounded by the appreciation of the yen.

Volkswagen announced in August it would fail to meet its China target of like-2003 profits, blaming a strong euro.

PSA Peugeot Citroen last month also said its sales likely will fall short of goal. The French auto maker in the first seven months reportedly sold 52,064 cars in China, down 15.6% from year-ago. Brilliance China Automotive Holdings Ltd., BMW AG’s Chinese partner, saw its traded shares slide 62% in the same period.

The China Association of Automobile Manufacturers says passenger-car sales hit their zenith in March at 226,000 units, falling each successive month until August, when they crept up 0.2% to 170,300.

While industry blames government meddling for declining sales, some observers say China’s dualistic economic consumer structure plays a crucial role.

Economist Shi Xiaomin, vice president of the China Society of Economic Reform, says in a published report that consumers capable of car purchases account for some 10% of the country’s 1.3 billion population – or about 130 million, which leaves out about 800 million people who reside in the rural interior.

The imbalance, he says, is due to regional development, which concentrates high-income earners in big coastal cities, where the relatively rich become car owners.

Toyota will produce its Prius hybrid in China.

Regional governments add to the glut of cars by luring foreign auto makers into JVs based on unrealistic expectations of high returns instead of long-term profitability. The result, says the report, is that the growth of manufacturing quickly has outpaced demand.

If there is a new direction for China, it is in new fuel-efficiency standards that are prompting foreign auto makers to develop technologies to reduce consumption, including hydrogen and hybrid powertrains, such as those being developed by GM and Ford. Additionally, Toyota plans to produce its Prius electric hybrid in China.

GM, which is heavily banking on China to become a major revenue source, believes the government-orchestrated economic deceleration will not affect long-term forecasts.

Unlike some foreign auto makers that are reassessing the pace of their expansion, GM says it is not revisiting its plan to spend $3 billion during the next three years to double capacity in China, predicting the Chinese market will rebound as soon as next year.

– with Brian Corbett

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