COVER STORY: Article on China’s Automotive Aftermarket published in China Automotive Review

China Automotive Review, August 2017

Our recent article on the rise of China’s Automotive Independent Aftermarket was published as a cover story in the August edition of China Automotive Review.

Volvo owner Geely, Jaguar-powered Tata Motors’ shares diverge

Bloomberg News, August 14, 2017

By Bloomberg News

Since Geely’s US$1.5 billion purchase of Sweden’s Volvo Cars in 2010, the Chinese automaker has seen the share price of its listed unit increase sixfold in Hong Kong trading. SOURCE: EPA

(Bloomberg) — Tata Motors Ltd. and Zhejiang Geely Holding Group Co. both bought iconic luxury brands from a struggling Ford Motor Co. in the wake of the global recession. Both acquisitions were met with skepticism from investors, who now view the two companies very differently.

Since Geely’s $1.5 billion purchase of Sweden’s Volvo Cars in 2010, the Chinese automaker has seen the share price of its listed unit increase sixfold in Hong Kong trading. India’s Tata Motors, which bought Britain’s Jaguar Land Rover two years earlier for $2.5 billion, has merely doubled in the same period.

The contrast is even starker if one shortens the timeframe: Tata is down about 21 percent this year, while Geely is up 149 percent.  The difference, says Jochen Siebert, a Singapore-based automotive consultant, lies in what the companies have done with their landmark purchases. Under Chairman Li Shufu, Volvo Cars was able to lower its costs and gain economies of scale by manufacturing and selling in China, the world’s largest auto market. Geely in return benefited from the technology of the more established Swedish automaker through the development of common underpinnings, which Volvo Cars also uses for its smaller models.

When Tata Motors wanted a partner to help it break out of the domestic India market, it looked not to its luxury division, but to Volkswagen AG’s Skoda. JLR and its Indian parent were just “too far from each other” in positioning, preventing them from creating any synergies between them, said Siebert.  Talks about a partnership between Skoda and Tata ended last week without a deal as the projected cost savings fell short of expectations, leaving the latter without a global partner.

“Tata sees JLR as a standalone and a financial shareholding,” said Siebert, managing director of JSC Automotive Consulting. “As long as Tata doesn’t want to develop into a higher-positioned brand in its own right, there is just no way to cooperate with JLR.”

Volvo’s Ethos

Tata didn’t immediately offer a comment on the market perception of its acquisition of Jaguar Land Rover. A spokesman for Zhejiang Geely Holding said in a message sent by WeChat that the success of the acquisition “has been down to Volvo’s strong product range and customer-centric design and engineering ethos.”

Tata is now almost entirely dependent on its luxury unit for profits. Jaguar Land Rover accounted for 78 percent of the group’s total revenue and 96 percent of its operating income.

Sales of Tata’s own namesake brand of vehicles contributed 1.3 percent to operating profit, behind that of construction equipment.  This has made the parent vulnerable to any hiccups at the British unit. When JLR said it expects pressure on profit margins to continue due to higher incentive levels, investors sent Tata’s stock down 8.6 percent to a 15-month low on Aug. 10.

Deliveries at JLR grew at a slower 4 percent pace in the April- to-June quarter because of weak demand including for Land Rover’s Discovery Sport and Range Rover Sport SUVs.  JLR also counts China as a major market and Tata can do little to help in the world’s biggest auto market given its lack of presence there, said Bill Russo, managing director of Gao Feng Advisory Co.

By contrast, Volvo Cars was the first Western carmaker to export a premium China-made car to the U.S. in 2015 with the S60 Inscription. The company last year began building high-end versions of its S90 premium sedan in Daqing, China for global exports and plans to assemble vehicles in India this year, starting with the XC90 SUV. Geely and Volvo Cars also worked together to develop a compact-car platform that will be used by Geely’s upscale Lynk & Co. brand.

Geely’s investments in factories and in-house technologies have resulted in a series of new car models, a spokeswoman for Volvo Cars said in an email response. The transformation continues with two new joint ventures formed between Volvo and Geely this month, she said.

Geely has thrown a lot of money at Volvo without concern for an immediate return, a luxury available to an unlisted company, says Janet Lewis, an auto analyst in Hong Kong with Macquarie Group Ltd. This has enabled the Swedish company to invest in technology, whereas it was relatively starved of development money under Ford ownership, she said.  “The longer-term challenge for Volvo is its tiny scale.  Even combined with Geely for volume, it is going to have a hard time meeting the increasing technology needs when it is up against well-funded giants like Toyota, VW, Renault-Nissan-MMC and GM,” said Lewis. “JLR faces similar challenges with its small scale and its main hope is that Tata ties up with a global partner in India.”

To contact Bloomberg News staff for this story:
P R Sanjai in Mumbai at psanjai@bloomberg.net;
Yan Zhang in Beijing at yzhang1044@bloomberg.net
To contact the editors responsible for this story:
Anand Krishnamoorthy at anandk@bloomberg.net
Chua Kong Ho, Abhay Singh

China Startups Launching Brands Alongside Products

Ward’s Auto, June 13, 2017

The Lynk & CO startup is leaning heavily on the Volvo brand heritage for legitimacy, but an investment analyst says not having the burden of a parent brand actually may help electric-vehicle startup NIO.

NIO, maker of ES8 electric vehicle, plans autonomous EV for U.S. in 2020.

by Alysha Webb

SHANGHAI – Lynk & CO and NIO both launched their first production models at the Shanghai auto show in April. Both tout their unique ownership experience, which includes lots of cool technology.

Cool technology is becoming standard in new cars, however.  The automakers arguably have a bigger task before them on the road to success.

“They must go through the painstaking process of building a brand,” Bill Russo, managing director at Gao Feng Advisory, a Shanghai-based consultancy, tells WardsAuto.

Most new brands can rely on predecessor brands from the same company, for example, Lexus and Toyota, he says.

Lynk may have a leg up in the brand-building battle. It is the offspring of two automakers, Zhejiang Geely and Volvo, which Geely acquired in 2010. “But I’m not sure that helps Lynk & CO very much,” says Russo.

Meanwhile, the Lynk & CO website proclaims, “Forget what you know about car brands and buying.”

Its first model, a compact luxury CUV called the 01, is scheduled to go on sale in China in fourth-quarter 2017, in Europe in 2019 and the U.S. “some months” later.

Lynk will offer the option of shared ownership of its vehicles, which will include electric and traditional internal-combustion-engine models. The brand, which calls itself “the world’s most connected car,” offers a lifetime warranty and, more important to its desired image, lifetime free connectivity.

The car-sharing feature may be a bonus in trying to attract younger buyers in China, says Namrita Chow, principal automotive analyst with IHS Markit. But, she notes, “The tough part will be brand awareness and gaining traction in a market already saturated by existing brands as well as a throng of newcomers.”

The aim, says Alain Visser, senior vice president-marketing and sales at Lynk, is to create a “hassle-free ownership experience” that clearly will differentiate his company from its competitors.

The startup is leaning heavily on the Volvo brand heritage for legitimacy. The 01 and future models will be “built in China in a Volvo plant according to Volvo standards,” Visser says.

NIO, formerly known as NextEV, also displayed its first production model at the Shanghai show. The ES8, a fullsize SUV, is an all-electric vehicle with a swappable battery.

The startup is leaning on its ownership experience to differentiate it from the crowd, although details aren’t out yet.

“We believe that a better electric automotive product and a better ownership experience will make more and more users willing to own an electric car,” NIO founder and Chairman William Li says at the Shanghai show.

NIO says the ES8 will be on the market in China in 2018, and it will offer an autonomous EV for sale in the U.S. by 2020.

Not having the burden of a parent brand actually may help NIO, says Robin Zhu, senior analyst at investment researcher Sanford C. Bernstein in Hong Kong. “NIO is free to build a brand story consisting of Nurburgring lap times, Formula E and other achievements,” he tells WardsAuto.

The NextEV team has competed in the FIA Formula-E Championship race series since its inception in 2014, winning the series in 2015 with driver Nelson Piquet Jr.

In May, its EP9 electric supercar set an electric-vehicle lap record of 6 minutes, 45.9 seconds at the famous Nurburgring track in Germany. In February, an autonomous version of the EP9 set a new record for an autonomous vehicle with a lap time of 2 minutes, 40.3 seconds at the Circuit of the Americas in Austin, TX.

It won’t be easy for the startups to use customer experience to brand themselves, says Tom Doctoroff, senior partner at global brand and marketing firm Prophet. Most Chinese companies still are much more focused on sales than service, he says.

“When you want to talk about customer experience, you have to look at corporate structure and whether it can provide an integrated holistic experience,” says Doctoroff, who lived in China for decades and is the former Asia Pacific CEO of communications firm J. Walter Thompson. “The ecosystem that is required is a very refined ecosystem.”

Click here to read the article at wardsauto.com

Tesla considers building car factory in China

Marketwatch, June 22, 2017

Tesla Inc. said it is exploring with government officials in Shanghai the possibility of opening a facility to build electric vehicles for the Chinese market.

The Silicon Valley auto maker reiterated Thursday it plans to define its production plans for China by year’s end. China, the world’s largest market for new-car sales and a big consumer of luxury vehicles, is an important market for Tesla, especially as the government pushes for more electric vehicles.

“Tesla is deeply committed to the Chinese market, and we continue to evaluate potential manufacturing sites around the globe to serve the local markets,” Tesla said in a statement. “While we expect most of our production to remain in the U.S., we do need to establish local factories to ensure affordability for the markets they serve.”

Tesla didn’t mention a local joint-venture partner. China requires foreign auto makers to operate factories with local partners, though officials have signaled a willingness to relax such requirements. In May, Tesla Chief Executive Elon Musk, who had recently visited China, cryptically suggested such rule changes would be “good timing.”

By making cars in China, Tesla could cut the prices of its vehicles by a third by reducing shipping costs and avoiding import duties, Mr. Musk has said.

In afternoon trading in New York on Thursday, Tesla’s shares rose about 2% to $383.99. The stock is up about 80% this year.

China charges a 25% duty on all imported cars, but the hefty markup hasn’t deterred affluent buyers who regard a Tesla vehicle as a prestige item.

One Chinese Tesla owner, Chen Zhanchong, said he paid $176,000 for a Tesla Model S P90D in late 2015, well over the sales price in the U.S. But the 31-year-old Guangzhou resident, who recently left his job at an internet company, said it was still a good value for a high-performance electric car.

“If a cheap Model 3 is produced in China in large quantities, local companies won’t be able to compete,” Mr. Chen said. “Tesla will enjoy explosive growth.”

Tesla reported over $1 billion in revenue in China in 2016, a figure that analysts believe equates to around 11,000 vehicle sales. The company sold just over 76,000 cars globally last year.

And sales in China have accelerated in 2017: Tesla sold around 5,500 cars in China in the first four months of the year, according to EV Sales, a website that tracks the electric-vehicle market.

Yet while local manufacturing gives Tesla the opportunity to sell cars in far greater numbers, China’s fast-changing regulatory environment is creating uncertainty among foreign auto makers unsure about what Beijing’s requirements will be.

Current regulations also require manufacturers building electric cars in China to source all vehicle components locally. That presents a challenge for Tesla, which won’t be able to use batteries made in its U.S. “gigafactory” in its Chinese-built cars, said Bill Russo, managing director of Gao Feng Advisory, a Shanghai-based auto consulting firm. Tesla may be forced to form a joint venture with a local battery maker, as well as a car maker, he said.

Even so, Tesla has no choice but to manufacture vehicles in China, despite the regulatory uncertainties, in order to achieve scale and tap what is already the world’s biggest market for electric cars, Mr. Russo said.

“On a positive note, China is willing to allow the premier EV brand to plant its flag on Chinese soil,” he said, referring to Tesla. “Tesla needs China. And China needs Tesla — it wants to show they’re not a closed ecosystem.”

Recent events signaled that Tesla is moving closer to committing to opening a factory in China, analysts said. Chinese internet company Tencent Holdings acquired a 5% stake in Tesla for $1.78 billion in March, and Mr. Musk met with senior government officials in Beijing the following month.

–Junya Qian contributed to this article.

Write to Tim Higgins at Tim.Higgins@WSJ.com and Trefor Moss at Trefor.Moss@wsj.com

Click here to read this at marketwatch.com

Tesla Working With Shanghai to Explore Auto Making in China

Bloomberg News, June 22, 2017

Tesla Inc. said it’s working with the Shanghai government to explore local manufacturing in China, a move that would allow the electric-car maker to achieve economies of scale and bring down manufacturing, labor and shipping costs.

The electric-car maker led by Elon Musk expects to more clearly define production plans by the end of the year, according to an emailed statement. While most of its production is expected to remain in the U.S., the Palo Alto, California-based company said it needs to establish local factories “to ensure affordability for the markets they serve.”

Reaching a deal to produce cars in China would help Tesla better compete with local rivals because it would eliminate a 25 percent import tariff that makes Tesla’s Model S sedans and Model X sport utility vehicles more costly than in U.S. showrooms. The company is scheduled to begin production in July of the Model 3, the cheapest model in its lineup so far, from its lone assembly plant in California.

“The entrance of Tesla into local production is a necessary step for Tesla to gain relevance in the world’s largest EV market,” said Bill Russo, managing director of Gao Feng Advisory Co. and a former head of Fiat Chrysler Automobiles NV’s Chrysler unit in China. “Tesla’s participation thus far has been limited to imported Model S and Model X cars. However, unlocking the mass market will require a price point that is only achievable with a locally produced Model 3.”

Tesla shares rose 1.2 percent to $380.92 at 11:12 a.m. in New York and are up 78 percent this year. The company’s statement didn’t specify which Tesla products are being considered for local manufacturing in China.

For more on how Tesla may break the auto mold with its China entry

China has identified new-energy vehicles as a strategic emerging industry and aims to boost annual sales of plug-in hybrids and fully electric cars 10-fold in the next decade. A total of 507,000 new-energy vehicles including electric cars were sold last year in the country, according to the China Association of Automobile Manufacturers. About 15 percent of Tesla’s $7 billion in revenue last year was generated in China, according to data compiled by Bloomberg.

Tesla has signed a preliminary agreement with the city of Shanghai to produce vehicles in China for the first time, Bloomberg News reported earlier. The agreement would allow Tesla to build facilities in Shanghai’s Lingang development zone, according to people familiar with the negotiations. Under existing rules, Tesla will also need to set up a joint venture with at least one Chinese company to obtain the necessary manufacturing permits.

Shanghai Lingang Holdings Co., a state-owned industrial zone developer and landlord, said in a filing it hadn’t had contact with Tesla. The carmaker said in its statement Thursday that it’s been working directly with the Shanghai municipal government.

“It’s just at the right moment for Tesla to localize production because China now has suppliers with world-leading technology,” said Fu Yuwu, president of the government-backed Society of Automotive Engineers of China. “Tesla will also need to develop customized mass-market products for Chinese market, which is unique from the rest of the world.”

— With assistance by Yan Zhang, and Tian Ying

Click here to view on bloomberg.com

Trump’s Toughest Climate Foe Taking Clean-Air Crusade to China

Bloomberg News, June 1, 2017

California Governor Jerry Brown

With President Donald Trump’s withdrawal from the Paris climate pact, the leader of the U.S. state with the strictest clean-car rules is turning toward Beijing in his longtime mission to stem automotive pollution.

California Gov. Jerry Brown departed Friday for China, where he’ll urge the world’s most populous country and largest car market to take environmental cues from Sacramento, not the U.S. capital.

Brown — an anti-smog crusader since a previous term as governor starting in 1975 — is now 79 with less than two years left to serve. His gambit in China could create an environmental legacy beyond what he could hope to accomplish in California itself.

“There’s so much propaganda and outright climate denial in Washington,” Brown, a Democrat who attempted runs at the U.S. presidency in three different decades, said in an interview last week.

The trip to China is a way “to forge agreements that will counteract the misguided Republican efforts in Washington.”

Trump’s decision to dump the Paris accord, announced Thursday at the White House, is “an insane move,” Brown said on a conference call shortly afterward. “California will resist.”

In China, Brown will spread the gospel of California’s auto policies, including a state rule requiring an increase in annual sales of zero-emission vehicles powered by batteries or hydrogen. The Chinese government is weighing a similar requirement for automakers competing in the world’s largest vehicle market.

Standards review
It’s a different story in Washington, where the Trump administration is revisiting stringent vehicle greenhouse gas and fuel mileage standards for 2022-25 following pleas from the auto industry. The rules, enacted by Trump predecessor Barack Obama, would boost the fuel economy of new cars and light trucks to an average of about 50.8 miles per gallon by 2025, up from 30.3 mpg this year.

The pullout from the Paris accord, which Trump called a “massive redistribution of United States wealth,” won’t have a direct effect on the reexamination of the automotive standards. The decision leaves the tailpipe and fuel economy regulations as the lone Obama-era climate initiative that remains largely intact and creates a leadership void that China appears ready to fill.

“China has been working very hard to try and replace the U.S. as the world leader in a number of areas,” said Yunshi Wang, director of the China Center for Energy and Transportation. Trump’s abandonment of the Paris accord, Wang said, “is obviously a big opportunity from the Chinese perspective.”

Chinese rules
Under rules that could be implemented next year, a manufacturer selling 100,000 cars and trucks in China would need to sell about 2,500 battery-powered vehicles with a 200-mile range, said Wang, whose center is part of the Institute of Transportation Studies at the University of California Davis. Other compliance options include buying credits from competitors — as with the California rules that China is using as a model — or reducing sales of gasoline-powered cars, he said. California is also helping China develop a cap-and-trade system to limit carbon dioxide emissions from heavy industry and other sectors of the economy.

Zero-emission vehicles could help China with its national-security interest in reducing oil imports, Wang said. In addition, Chinese automakers now see ZEVs as a chance to finally export large numbers of cars and trucks.

“It is good industrial logic to develop products in and for the largest market,” said Bill Russo, managing director of Gao Feng Advisory Co. and a former head of Fiat Chrysler Automobiles NV’s Chrysler unit in China. “The U.S. move, together with China’s push, will serve to put China in the position to lead the commercialization of new energy vehicle technologies.”

Some automakers are pressing the government for more time to meet the targets, Wang said. But they also appreciate California’s involvement, since it provides a legal template that they themselves helped developed through long years of legal sparring with the state’s Air Resources Board. Mary Nichols, the board’s chairperson, is scheduled to join Brown on the week-long trip.

Plug-in vehicles
Volkswagen AG aims to sell 1.5 million units of zero-emission or plug-in cars in China by 2025 with most of them locally produced, while General Motors Co. is targeting 150,000 units in the same time frame under its Buick, Chevrolet and Cadillac brands.

Wang predicted that by 2025, 10 percent to 20 percent of China’s vehicle sales could come from battery-powered cars or plug-in hybrids. Last year, Chinese consumers purchased 507,000 such vehicles, or more than three times as many as in the U.S.

“China is the world’s largest single market for electric vehicles today,” said Roland Hwang, director of the transportation program at the Natural Resources Defense Council, an environmental advocacy group. A California-like electric car sales mandate “in China will kick the whole global electric vehicle market into even higher gear,” he said.

‘Remain vigilant’
Brown has vowed to fight attempts by the Trump administration to undermine the state’s stringent auto rules and to go to court if there’s a challenge to California’s 47-year-old permission to enact clean-air rules that are tougher than U.S. standards.

In the interview, Brown accused the U.S. auto industry of backing Trump, saying it hasn’t changed much since General Motors claimed in 1973 that it would go bankrupt if California forced the installation of catalytic converters.

“The leopard is not going to change its spots,” Brown said. “We have to remain vigilant.”

In separate statements, GM and Ford Motor Co. signaled that the Paris withdrawal may do little to sway their plans for current and future electric vehicles. Though neither addressed The pullout directly, Ford said climate change is real and GM said “international agreements aside, we remain committed to creating a better environment.”

Brown’s opposition to Trump’s policies could have political ramifications at home. “Climate change could be a unifying issue that pulls the Democratic Party together if the 2018 midterm elections become a referendum on Trump,” said Alan Baum, an independent auto analyst in Bloomfield Township, Mich.

Tesla Takes Off in China

Fortune, June 7, 2017

Vanessa Zhu exits her Model X in front of a Tesla showroom in Beijing. Strong demand for SUVs and their perceived safety advantages have fueled Tesla’s surge in China. Photograph by Adam Dean—Panos Pictures for Fortune

When you climb into a Tesla (tsla, +2.83%) as a first-time passenger, drivers turn giddy at the chance for show-and-tell—especially in China, where Vanessa Zhu is playing host on this sunny spring day in Beijing.

“It’s huge, isn’t it?” she says, pressing the double-size, iPad-like control screen in the center console until the stereo blasts Adele’s “Send My Love.” Then comes the ceremonial closing of the gull-wing doors on Zhu’s Model X. We peer through an expansive glass roof. Zhu, the assistant to the chairman of a major marketing agency, likes SUVs for their safety on China’s chaotic roads—she and her husband upgraded from a BMW X5. One of the first Model X owners in China, Zhu paid a deposit before Tesla had even calculated how much a deposit should be.

“Now put your head back against the seat,” she advises.

The two-lane road we’re on is missing traffic lines, not to mention levelness, but as a section clears ahead, Vanessa floors it. We whir past a small black Hyundai so fast that the car seems to turn stationary. For a second, driver and passenger feel the same head rush. Then Vanessa slams on the brakes to respect a stop sign, chuckles, and changes Adele songs.

The sight of Teslas whizzing down roads in China’s biggest cities is becoming as common as—well, the sight of Teslas whizzing down roads in Silicon Valley.

In 2016, Tesla tripled its sales in China over the previous year’s, to 10,400 vehicles, according to research firm JL Warren Capital, or about 13% of the nearly 80,000 cars it delivered worldwide. The company reported in March that it earned $1.1 billion in revenue in China last year—a boost that helped Tesla join the ranks of the Fortune 500 for the first time, with just over $7 billion in revenue worldwide. And Tesla’s China news has only gotten better since then: Its imports in the first three months of 2017 have put it on pace to easily double sales this year. Wealthy drivers are crowding showrooms in China’s major cities, and Chinese buyers have put down $1,200 to preorder the company’s Model 3 sedan in numbers second only to those in the U.S.

The sales rush is the clearest sign yet that Tesla has turned a corner in the world’s largest auto market. And it has caught almost everyone by surprise. As recently as last summer, the narrative had been that Tesla just didn’t get China. The automaker was on track for its third consecutive year of weak sales. The few consumers who knew about Teslas didn’t know how to recharge one; those who preordered had faced delivery delays and iffy service. What’s more, Tesla lacked the joint-venture partners that helped other foreign carmakers break into China’s market. Michael Dunne, who runs independent advisory Dunne Automotive in Hong Kong, wrote a column in September predicting Elon Musk would reach Mars before cracking China.

Today, Dunne is cheerfully sheepish about that column, and other naysayers are equally befuddled. There’s no single explanation for Tesla’s breakthrough. Sales got a lift from the introduction of the Model X, a luxury SUV for an SUV-mad country. The company also benefited from a critical mass of charging stations; from its direct-sales model, in a country where buyers feel fleeced by dealerships; and from CEO Elon Musk’s celebrity among the technorati.

But chummy government relations also matter in a country where the state exerts enormous economic control, and Tesla’s technology just happens to align perfectly with government priorities. Cofounder Martin Eberhard has said Tesla was started to fight climate change. Nowhere is the climate fight more important than in China, the world’s largest spewer of greenhouse gases, which is in the midst of an unprecedented promotion of electric cars: Last year, sales of electric and plug-in hybrid vehicles in China rose 50% to 507,000, more than three times the U.S. figure.

The government estimates that as many as 7 million electric cars could be sold in China annually by 2025. It sees them as a way not only to clear smoggy skies, but to hack into the top rankings of the global auto industry. In electric, Chinese companies don’t have to match the quality of a Ford or Mercedes-Benz; they think they can quickly build a whole new car. “For electric vehicles in China, we have a new technology model every two years,” says Dong Yang, a high-ranking Communist Party official at the China Association of Automotive Manufacturers, the auto lobby.

Still, virtually all Chinese electric cars are low-cost, relatively low-performance ones, without the luxury trimmings and lightning-fast acceleration that Tesla owners fetishize. Government officials consider Tesla a role model for these Chinese brands, and they’ve cheered the company from the sidelines. Today, a handful of Chinese companies and cities are feverishly courting Tesla for a joint venture, Fortune has learned, and Musk has said his company could begin building cars in China before the end of 2018.

A joint venture could turn Tesla’s China growth stratospheric, because its current model of importing cars from California is costly. Chinese tariffs and taxes boost the price of Tesla’s sedans and SUVs in the country by 50% compared with the U.S.; the Model S sedan starts at the equivalent of $105,000, and the Model X at $130,000. So even as Tesla woos middle-class buyers in the U.S. (the Model 3, due to arrive this fall, will start at about $35,000) buyers in China have mostly resembled Vanessa Zhu: wealthy drivers who view Teslas as luxury vehicles, or at least as the coolest new piece of tech since the iPhone. Most of Tesla’s 2016 sales were concentrated in Beijing, Shanghai, and Shenzhen, China’s centers of capital and affluence.

Even if Tesla doesn’t become a mass-market brand, sales in China alone could soon climb to 100,000 a year, impacting Tesla as intensely as a new, 1.4-billion-person market would Coca-Cola. “I could see a future where Tesla is displacing a lot of those Audis and Mercedes-Benz that are everywhere on Chinese roads,” says Dunne.

Not bad for a company that, until recently, was digging out from under past mistakes.

Tesla began taking preorders in China for the Model S in August 2013. The company didn’t know exactly how much each car would cost, and deliveries were eight months away. But anticipation ran high. The combination of Musk’s renown, stories comparing Tesla’s acceleration to a Ferrari’s, and intrigue over the new technology sent preorders above 5,000 by the end of the year.

The hype was there, but the sales and support were not. The original head of Tesla’s China business was Kingston Chang, formerly of luxury automaker Bentley. Chang wanted to broadly expand Tesla’s operations, including customer service centers, public relations, and car-charging networks, according to tech news site PingWest. But Tesla headquarters told him to build a sales team first, betting that good marketing could bring in more revenue before more stores and charging stations were finished being built. Tesla opened just a single showroom in Beijing, opposite an American Apparel store in one of the city’s glitziest malls.

Tesla’s strategy shifted again after Veronica Wu came aboard in December 2013, after a successful stint in big enterprise and education sales for Apple in China. At Tesla, she discussed adding traditional outlets like dealerships to the mix, similar to the way Apple had added retail channels in China. Though headquarters balked, Tesla in China was soon encouraging fleet sales orders of 100 or more cars from car-rental agencies and institutions, to jump-start demand. Staff, especially salespeople, soared from 10 employees to more than 100, and later to 600.

At the same time, Tesla imposed rules that frustrated individual buyers. Before customers could order a car, Tesla required that they prove they had a parking spot and a home charger, to ensure a good experience. The company also required that buyers live in a city that had a Tesla service center—even though, as of mid-2014, only Beijing and Shanghai had such centers. Some high-rise apartment managers, meanwhile, balked at having chargers installed in their buildings.

The mismatch between Tesla’s approach and customer demand created a big opportunity for gray-market resellers—who bought in bulk and catered to buyers who didn’t meet Tesla’s criteria. The company had no official resellers, but the cars made their way to many, who sold in dealerships, car centers, and even on Alibaba’s TMall for more than the same models cost on Tesla’s website. “There were a lot more scalpers than we expected,” Wu now says. Others questioned whether the company was really in the dark: “Most ‘fleet’ sales were just a flimsy cover for sales to resellers,” concluded Bertel Schmitt of Dailykanban.com, an auto industry site. It was all legal, but also a sign that Tesla had strayed from the high-touch sales approach it used elsewhere.

Tesla’s first China deliveries arrived in spring 2014; Wu later told Reuters that China sales could drive 35% of the company’s growth. But that was already sounding fanciful. Tesla was hurriedly building customer-service centers, and customers outside of Beijing and Shanghai were told they wouldn’t get their cars until those centers were finished. One buyer made national news when he smashed the windshield of his own Tesla, after it arrived months later than expected. Meanwhile, the Chinese press didn’t shower Tesla with as much coverage as the West’s did. As a result, most potential customers didn’t know much about Tesla’s product. Consumers didn’t know they could charge their car at home every night like a cell phone; most thought they had to rely on the still-small Supercharger network.

By the end of 2014, Tesla’s business was a mess. About 4,700 cars had been shipped to China, but only 2,500 were sold and registered to drivers. (The company delivered 18,500 cars in the U.S. that year.) Publicly, Tesla blamed the gap on speculators who entered orders, then didn’t buy the Teslas once they shipped. But several former employees say the real problem was the lack of customer support. Says Ricardo Reyes, Tesla’s former communications chief: “I think Tesla took for granted that they were just going to succeed in China.”

By December 2014, both Chang and Wu had left Tesla. Tesla executives in California griped privately that China wasn’t so unique that it demanded a different strategy. But not long afterward, the company began an apology tour that marked a turning point. On a frigid evening in January 2015, during the Detroit International Auto Show, Musk admitted China sales were “unexpectedly weak.” That spring, he traveled to China to meet with President Xi Jinping and other leaders, tweeting that he remained “very optimistic” despite “earlier mistakes.” Reyes offered a mea culpa at the Shanghai auto show in spring 2015, the first Chinese motor show that Tesla bothered attending: “I think we have been a little bit too impatient in the Chinese market.” It was as contrite as the company would get—and the news it was generating was about to get better.

In 2015, Tom Zhu, a respected engineer responsible for China’s Supercharger network, became the top executive in the country. The company ended that year with a disappointing 3,700 cars sold, but there were slivers of optimism. For one thing, Tesla was building Supercharger locations in China at a faster pace than anywhere in the world, addressing consumers’ “charge anxiety.” About 120 Supercharger locations exist in China today, compared with 370 in the U.S., and Tesla says China will have more than 800 charging stations by the end of 2017.

Just as important: Word was getting out that buying a Tesla was easier than buying other luxury cars. In China, dealerships known as “4S stores” (for “service, spare parts, sale, and survey”) largely corner the market for popular luxury brands like BMW, Jaguar Land Rover, and Mercedes-Benz. The stores inflate costs for consumers by tens of thousands of dollars with various vague fees. Tesla’s direct-sales showrooms eschew that system. And while import tariffs increase their overall cost, Tesla otherwise prices its cars in China at the same level that it does in the U.S. after currency adjustments.

Vanessa Zhu visited three other brands before she settled on her Model X. The Range Rover dealership asked for an additional 300,000 yuan ($45,000) as its standard fee, she says; Porsche told her she had to wait three months for its Cayenne SUV and required a 100,000-yuan delivery fee. Tesla in contrast, put her on a one-size-fits-all waiting list and didn’t impose fees. “In China, a car is a symbol of your status, so most people don’t care what you pay in terms of those extra fees,” Zhu says. “But I do care. I don’t like it.”

Tesla owners also found out they could beat China’s bureaucracy in the license-plate game. China’s local governments restrict the number of drivers on their clogged, polluted streets by controlling the number of plates issued. Drivers have to wait years to get one through a lottery system. (In early 2015, 6.2 million people applied for just 36,757 available Beijing plates.) And once drivers get a plate, they are barred from driving one day a week.

But plates for electric cars now fall under different rules, thanks to the government’s push for electric vehicles. Beginning in 2014, Shanghai allowed electric-car drivers to get a license plate without facing a wait, a $12,000 plate fee, or driving restrictions. Other cities followed suit, and such policies became a boon for China’s electric-car makers. Without them, “there’s no possibility that private consumers would buy these vehicles,” says Zhang Yong, deputy general manager at the electric-car offshoot of state-owned Beijing Automotive Industry Holding Co.

The policies were game changers for Tesla too. The first six cities in China to have exempted electric vehicles from license plate restrictions: Shanghai, Beijing, Shenzhen, Hangzhou, Guangzhou, and Tianjin. The cities with the highest Tesla sales, according to Junheng Li of JL Warren Capital: Shanghai, Beijing, Shenzhen, Hangzhou, Guangzhou, and Tianjin.

While the policies helped sell Model S sedans, Tesla realized quickly that the Model X would be a much bigger story in China. China’s obsession with SUVs is 10 years old and going strong. Their popularity stems from a variety of factors: Domestic ­makers produce good models; their seating can accommodate an entire extended family; they’re widely believed to be safer; and their higher prices imbue status. German luxury-car maker Porsche’s bestselling vehicle in China isn’t a sports car but its Macan SUV.

By 2015, SUV sales were the only growing part of the Chinese auto market; in the first half of 2016, SUVs accounted for 35% of passenger-vehicle sales. It’s no coincidence, then, that a spike in Tesla sales coincides exactly with the first Model X deliveries in China, in June 2016. In the second half of last year, with the SUV available, Tesla notched 7,670 sales—about three-quarters of its total for the year in China. Tesla’s sales had finally caught up to its hype.

Close government relations are a must in China for foreign companies, and Tesla has carefully cultivated them. Like Apple, Tesla has created new businesses thanks to its demand for Chinese-made components, particularly its cars’ giant touch screens. In 2015, Tom Zhu said Tesla would double its spending on Chinese-made parts, committing to buying $500 million worth of supplies from Chinese companies that year; such spending has likely only skyrocketed.

The far bigger question mark is whether, and when, Tesla will announce plans for a factory in the country. Every car brand with significant China sales—including luxury-auto makers like Mercedes-Benz and BMW—runs a joint venture with a local partner. The government has required as much for decades. Imported cars face hefty fees, as Tesla owners are painfully aware. A Model 3 sedan’s $35,000 starting price in the U.S. becomes $50,000 in China after a 25% tariff and 17% value-added tax—a heavy lift for a middle-class buyer. “If they don’t announce plans for local production, they will struggle to sustain this performance,” says Bill Russo, former head of Chrysler North East Asia and managing director of Gao Feng Advisory in Shanghai.

Tesla remains cagey about what those plans could look like. Dong Yang, the auto lobby official, says several potential local partners are courting the company, and that multiple provinces and municipalities want Tesla to build a plant with them: “They all offer better and better options,” Dong says. In May, Musk said Tesla would more clearly define its plans for China production by the end of this year; a spokesman declined to give further details.

Tesla Joins a Very Exclusive Club

When Fortune introduced its list of the 500 largest U.S. companies by revenue, in 1955, it included five U.S. automakers. By 1999, only Ford and General Motors remained. Tesla is the first new car manufacturer ever to join the list. Here, a look at Fortune 500 carmakers from years past.

Tesla may be hesitating because of today’s sales numbers. If you build fewer than 100,000 vehicles a year, it doesn’t make sense to manufacture in China, says Steve Man, analyst at Bloomberg Intelligence in Hong Kong. Tesla’s factory in Fremont, Calif., can churn out more than 500,000 vehicles annually. Even if it doubles China sales this year, Tesla will just pass 20,000 cars. It faces a catch-22: It won’t sell cars at lower prices that drive sales if it doesn’t produce them locally, but local production won’t be economical until sales rise drastically.

Intellectual property is a looming headache as well. Critics of Chinese business practices argue that Tesla faces certain IP theft as soon as it brings manufacturing into China. “Yes, some of its tech will be stolen,” says Crystal Chang, a lecturer at University of California at Berkeley who studies China’s auto market. But Chang adds that the danger inherent in that theft is overstated. “Just stealing tech does not make [a rival] a competitor,” she says. “It’s all about brand.”

Today more than a dozen Chinese-backed manufacturers (many of them American startups that now have Chinese owners) are tripping over one another to promote their electric cars and acceleration times; Faraday Future, Karma Automotive, NextEV, and Future Mobility are but a few. But most are likely to be stuck in the concept or prototype phase for the next several years—even as Teslas zip across China.

That’s one reason Tesla may be able to reach an agreement to produce cars in the country on favorable terms. China lusts after Tesla’s technology but also its management practices. And Tesla already offers its patents to anyone who asks—making it highly plausible that Musk would agree to more information-sharing in return for a vastly expanded market for Tesla’s cars.

One big Chinese corporate player seems to have no doubt about Tesla’s prospects. In late March, Tencent, the politically connected technology giant that recently became one of the world’s 10 largest publicly traded companies, said it spent $1.8 billion buying Tesla stock. Not long afterward, Tesla’s market capitalization edged past that of General Motors, making it the most valuable American automaker.

On a recent Sunday night, three dozen prospective buyers gather in a Tesla showroom in Beijing for a wine tasting. The crowd of mostly thirtysomethings skews wealthy, and cares some about the environment, but they’re mostly in awe of the brand. Tesla’s buyers’ circle has expanded to include the rich along with the very rich. Jeff Yu, whose family runs a yogurt business, thought about buying an SUV from Mercedes-Benz or Maserati, but was put off by their glitz. “Tesla is a tech thing. That’s my taste,” he says.

Evan Qu, a slim man sporting a designer shirt and Buddhist wrist beads, sells audio equipment; he thinks executives at his biggest customer, CCTV, the central broadcaster, will appreciate the environmentalist aura of the Tesla when he rolls up to their next meeting. “This car helps you get more deals,” he says. On Tesla’s website, he’s customized his Model X—color: ocean blue—for a total cost of 1.2 million yuan ($175,000).

A waiter refills Qu’s glass as a promotional video on a loop in the background underscores his aspirations. Choose a Tesla green vehicle, it says, over and over, to advance a better life in the future.

A version of this article appears in the June 15, 2017 issue of Fortune with the headline “Tesla Makes a U-Turn in China.”

Click here to read this article at Fortune.com

Bill Russo to Chair Automobility Panel at JP Morgan Global China Summit

Beijing China, June 5, 2017

How China is Shaping the Future of Mobility

Click here to watch the recording of the panel discussion

The China auto market is transitioning from a period of rapid growth and expansion of individual car ownership to a future where mobility needs are served via a more diverse stream of personal mobility solutions.   Personal mobility solutions now include new cars, an expanding supply of good quality used cars, as well as on-demand mobility (ODM) services (including bike sharing and ride hailing) for people who prefer a pay-per-use model over ownership. 

China’s market is also quite unique with its short history of car ownership, ultra-dense urban population, and high penetration of the mobile internet.  With an urbanization rate of 56%, China’s urban population now exceeds 750 million people, and the transportation needs of this increasingly urbanized population has driven the explosive demand for personal mobility.  With a car population of over 190 million vehicles at the end of 2016, individuals who own cars are still far outnumbered by those who do not, and mobility needs are increasingly served through mobility services “usership” beyond just individual car “ownership”.

In this context, automakers are expanding their focus from the product (the “automobile”), to the utility that is derived from the product (“automobility”), and are challenged to create a business model and digital ecosystem optimized to provide digitally-enabled solutions for both car owners and users.

We will discuss: How are these factors shaping the auto market in China?  What solutions are being developed to ease mobility “pain points” in China?  How do you see these solutions impacting and shaping our everyday lives today and in the future?  How will this impact the structure of the industry going forward?

Innovations such as these, originating from both traditional OEMs and new mobility solutions platforms, many of whom are Chinese, is paving the way to an entirely new business model for China’s auto industry.

Topics for discussion:

  • Defining the disruption in the China context – What are the disruptive trends in the world of mobility?
  • Big picture view of the competitive landscape – What does the new competitive landscape look like and how will it evolve?
  • How should incumbents respond? Disrupting or being disrupted? – What new internal capabilities are required? How to work with local start-ups:  compete or collaborate?
  • China for the world – Will China lead to world’s development and innovation in Connected Mobility?


Prof. Dr. Jochem Heizmann
, Member of the Board of Management, Volkswagen AG; President & CEO, Volkswagen Group China

Mr. Olaf Kastner, President & CEO, BMW Group Region China

Mr. William Li, Founder & Chairman, NIO

Dr. Daniel Kirchert, President & Co-Founder, Future Mobility Corporation

 

Moderated by:

Mr. Bill Russo, Managing Director, Gao Feng Advisory Company