A Nation with More Automotive Dreams to Fulfill  

Frank Liu, CFA
July 14, 2004  

Auto sales in China have been growing at an unprecedented pace in recent years. In 2003, total auto sales in the country surged to 4.4 million units, a growth of 34% over 2002, making China the third largest auto market in the world, trailing only the US and Japan. More impressively, sales of passenger cars during the same period posted an increase of 75%, reaching 1.97 million. 

If you happened to be at the Beijing Motor Show last month, you would have been amazed by the tens of thousands of attendees each day filling the hall  from wall to wall, and from all ranks of the society - just one reflection of how frantically the more affluent Chinese nation is trying to fulfill its automotive dreams. 

China’s explosive demand for cars has made auto manufacturing a vastly profitable business in the country, at least up till recently. Average profit per car sold in China is six to eight times higher than that generated from sales in US, Europe, and Japan. When GM entered China in the late 1990’s, the company’s Chinese joint venture plant posted a profit in the first year of production, a large one indeed - something unheard of in other countries. No wonder automakers around the world are flooding into China. 

Slower Growth in Demand, but Faster Growth in Supply 

But things have been changing more rapidly than the industry expected. China’s passenger car market was still a seller’s market in 2003, when lined-up buyers had to pay a surcharge to shorten the up to six month waiting time for their favorite cars. Since earlier this year, though, car inventories have been building up, and retail prices have been cut for almost all brands and models. 

This is caused partly by a slower growth in demand, and partly by the fast increase in production capacity. 

Car sales in May 2004 dropped almost 20% from April, the second straight monthly decline, a huge difference from the past few years. This could be a sign of China’s auto market growth coming down to a more reasonable and sustainable rate after the explosive growth at the early stage. Another reason for the drop of sales was increasing declines for auto loan applications as a result of the tightened credit control by the central government in an effort to cool down the overheating economy. 

Also, there are clear signs of production overcapacity. Currently, there are more than 100 automakers in China, of which over 30 are passenger car makers. The choices for Chinese car buyers today are astounding - keep in mind that only three or four years ago, there were just a few locally produced brands and car models. 

Historically, China has experienced production overcapacity in several industries since it opened its market - from televisions and washing machines to mobile phones. Foreign investment has played a key role in building up the overcapacity. 

Continue to Bet on China 

Despite the growing competition, automakers have determined to fight for the “historic opportunity” in China. Last month, General Motors announced a $3 billion expansion plan to double its capacity in China to 1.3 million units in the next three years. Other auto makers have also announced plans: Volkswagen’s $7 billion program, Ford’s $1.5 billion proposal, along with ambitious plans for new plants or expansion from Honda, Toyota, Nissan, Mazda, Hyundai, BMW, and Audi… you name it. 

Why are all these automakers still betting heavily on China when there is obviously a car war going to happen?

Because they are betting on the country’s huge potential! 

Currently there is only 1 car for every 100 potentially eligible drivers in China. Although the auto market growth in China has slowed down from the astonishing rate in the past few years, it is still expected to maintain the highest growth rate in the world. Industry leaders generally estimate that auto sales in China could reach 20 million by 2020, even larger than the US market. Nobody wants to bear the loss of being an outsider in the world’s largest auto market. 

However, there is another incentive: by manufacturing in China, automakers can reduce their production costs by benefiting from the lower labor cost and cheaper auto parts sourced locally. If China’s domestic market is no longer able to absorb the country’s auto manufacturing capacity, automakers will eventually turn to the export market. 

In fact, Honda has been setting up an assembly line in south China to produce the ‘Jazz’ compact car for export to Europe. And recently, an auto dealer in Arizona announced its plan to sell lower end Chinese cars in US. Down the road, while most global automakers have been trying hard to fulfill Chinese’s automotive dreams, we will also see more Chinese made cars exported to the global market.

Mr. Frank Liu - Research Consultant, CFA

Frank Liu is a CFA Charterholder. He also holds a MBA from University of British Columbia in Canada and a Bachelor of Economics from University of International Business and Economics in China. Having served both public and private companies in Canada and China, Frank Liu currently works as an independent business and investment consultant, providing industry research, business assessment and financial advising services to clients from Asia and North America.  Feedback: fliu@investorideas.com  

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