China car market braced for abnormal era of flat sales

The Financial Times, July 27, 2015

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On the eve of China’s largest car show in April, executives and analysts braced themselves for a “new normal”: single-digit sales growth after two fat years. Yet some are beginning to wonder if the world’s largest car market is actually entering an abnormal era of flat or even falling sales.

The catalyst for this pessimism was a sharp fall-off in year-on-year sales — 9.4 per cent higher in March, but 3.4 per cent lower by June than the same month last year, according to wholesale figures compiled by the China Association of Automobile Manufacturers. It was the industry’s first decline since early 2013.

Coupled with an economy growing at its slowest annual rate in 25 years and the recent crisis in China’s stock markets, the outlook appears bleak for an industry that has been a cash cow for mass market and premium car brands for the past five years.

“It will be quite challenging for carmakers because the market is cooling and the trend will not be reversed anytime soon,” says Teng Bingsheng, a professor at the Cheung Kong Graduate School of Business in Beijing.

Analysts at Barclays recently revised their 2015 outlook for passenger car sales growth sharply downward, from 8.5 per cent to 1.7 per cent.

Bernstein Research warned that “we’ll need a stronger word than ‘moderation’ to describe the industry’s challenges”.

Marques as diverse as BMW and Volkswagen have reported falling sales. VW experienced a 3.9 per cent fall in first-half group sales to 1.7m units — the first decline in nine years. BMW also caved in to dealer demands for bigger subsidies — a concession since made by others — while its Chinese joint venture partner issued a profit warning on July 13.

For VW, the pain is exacerbated by having just one mass-market SUV on offer in China at a time when the fast-growing segment accounts for one-third of all passenger car sales.

“That’s clearly been a huge miss on their part,” says Janet Lewis, analyst at Macquarie in Hong Kong. “A lot of first-time buyers are in central and western China where road quality is not as good and there’s more focus on the higher ride that you get with an SUV.”

GM, however, bucked the trend with a 2.6 per cent rise in first-half China sales, helping to send its shares up more than 4 per cent after it reported second-quarter earnings on Thursday.

The US automaker bolstered the view of analysts who say China’s car industry is simply maturing, with growth shifting to smaller cities in the country’s vast interior and increasingly driven by new model launches. The market is merely becoming more competitive with lower profit margins, more in line with those in the US and Europe.

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“It’s easy to be pessimistic when you start to see some year-on-year developments that are negative,” says Bill Russo, a Shanghai-based consultant who notes that car sales also grew less than 5 per cent in China in 2011 and 2012. “But we went through a softening a few years back and I remember having similar conversations about whether this was the big down cycle. It wasn’t.”

“Supply has caught up to demand,” he adds. “[Companies] are going to be giving away some of those very good margins they have enjoyed for quite a long time.”

That may squeeze shareholder payouts too. VW, for example, has seen an almost eightfold increase in the annual dividend it receives from its China joint ventures over the past five years, from €400m in 2009 to €3bn last year

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Mr Russo’s less gloomy big picture is also supported by basic demographics, with only 52 passenger vehicles per 1,000 people compared with a global average of 150.

Incomes are improving too. According to GaveKal Dragonomics, a Beijing consultancy, the annual income of some 15m Chinese households will exceed $20,500 this year for the first time. Another 19m households will break through the $13,500 level.

As a result, Macquarie has adjusted its 2015 China car sales forecast only moderately, projecting an increase of 10 per cent from 7 per cent previously, and thinks the overall market will grow from 19.7m units last year to at least 32m by 2020.

But as competition intensifies, the biggest rewards will flow to the most cost-efficient carmakers with the quickest model cycles — just as they do in other markets. “It’s harder to sell something that’s older in China, particularly if people know the next model is coming,” says Ms Lewis.

Chinese brands regain market share
July began as June ended for the likes of BMW and Volkswagen, according to analysts at Bernstein Research, with falling year-on-year sales for the two German groups as well as General Motors and Ford’s China joint ventures.

Unexpectedly, traditional laggards including Mercedes-Benz and Japan’s ‘big three’ automakers have been reclaiming market share.

Chinese brands have also seen their share of total sales — currently 41.5 per cent — start to grow again after four consecutive annual declines.

BAIC Motor, Daimler’s main China joint venture partner, is planning on a 29 per cent increase in sales of its own brand cars this year, to 400,000 units. “Our domestic brand business is growing substantially and has exceeded our expectations,” Xu Heyi, BAIC chairman, said last week.

In one sense, Chinese brands simply endured their “correction” a year early, after experiencing steep year-on-year declines in 2014. Like the Japanese companies, whose sales were affected by spats between Beijing and Tokyo in 2012 and 2013, they are improving from a low base.

Mercedes, meanwhile, is reaping the fruits of a restructuring begun two years ago by Hubertus Troska, the China head of its Daimler parent unit, as it begins to catch up with traditional leaders Audi and BMW. Mr Troska’s changes unified a fragmented sales and marketing structure, bringing together separate channels for imported and domestically produced vehicles.

On Thursday, Daimler reported better than expected second-quarter results with an underlying margin of 10.7 per cent. “Mercedes now looks to be the most profitable of the ‘big three’ German premium brands, something inconceivable a few years ago,” said Bernstein’s Max Warburton in a research note. “Daimler management . . . must feel vindicated and delighted.”

Mercedes is also benefiting from a series of new product launches at a time when refreshing the model line-up is becoming essential in the world’s largest car market.

Macquarie’s Ms Lewis says the German company is in “about the sixth inning” of a strong new product cycle in China, with new GLC SUV and E-class sedans in its pipeline.

“Products tend to have a very short life cycle in China,” adds Mr Russo. “If it didn’t launch in the past 18 months, it’s unlikely to be hot. You’ve got to rake it in while you can.”

Additional reporting by Wan Li

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KEYNOTE SPEECH ON STATE OF CHINA’S AUTO INDUSTRY AT CITIGROUP CHINA AUTO CONFERENCE

Beijing, China, July 22, 2015

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Gao Feng’s Managing Director and Auto Practice leader Bill Russo will join a panel discussion titled Opportunities and Challenges of the China Auto Industry at 11:10am, and after this will deliver a keynote speech titled “China’s Automotive Industry in Transition:  Is the Golden Age Over?” at 12:00 noon.

Topic: China’s Automotive Industry in Transition:  Is the Golden Age Over?

Following a decade of rapid growth that culminated in a stimulus-driven surge in demand in 2009-2010, the China auto market sharply decelerated, with growth slipping to 2.5% in 2011 and 4.3% in 2012.  This brief slowdown was followed by 14% growth in 2013 and 7% growth in 2014, with overall sales exceeding 23 million units.  While the market growth has been spectacular, there are rising concerns on the sustainability of this performance as the market may be approaching a saturation point in the traditionally strong coastal regions.  Intense competition among automakers as they pursue emerging growth opportunities in specific regions and segments is anticipated.  Mr. Russo will address opportunities and challenges faced by different competitors as they deal with this a transitional period in the world’s largest automotive market.

  • Opportunities and challenges in luxury and imported vehicles market.
  • Opportunities and challenges in emerging provinces and cities, as well as in second and third tier cities
  • Sales and marketing strategies to exploit these opportunities
  • Strategies to diversify profit streams and maximize profit opportunities
  • Structural changes that may occur as the market transitions to a slower growth pattern
 Contact us for more information on this or other topics related to China and our auto practice.
20150722 China Auto Market Briefing vF Microsoft PowerPoint, Today at 6.05.33 PM

Panel Discussion on Connected Mobility at GSMA Mobile World Congress

Shanghai, China, July 17, 2015

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An interactive discussion on connected cars, focusing on the following questions:

  • How will smart devices and the Internet of Things impact the automotive industry in the next decade?
  • Will China play a significant role in accelerating the commercialization of connected car technologies?
  • How will the OEM and supplier landscape shift in this new ecosystem? What type of non-traditional new entrants to the connected automobile space do you foresee?
  • Will companies of different types, i.e. OEM and Internet companies begin developing new products together? What are your views on this?
  • How does China’s digital ecosystem vary compared to western counterparts?
  • What is a smart/connected car in terms of features and functions?

Panelists:

  • Juergen Bauer, Project Manager, Audi-Tongji Lab
  • Tim Shih, Senior Manager Design, R&D, BMW-Brilliance Auto
  • Bill Russo, Managing Director, Gao Feng Advisory Company, Ltd.