Automobiles ‘Made in China’ or ‘Made by China’

Thursday, April 21, 2011 | Posted by: Grant Thornton
Categories: China | Tags: business, tax, India, economy, Grant Thornton, global, China, growth, UK, infrastructure, mergers, mergers and acquisitions, IT, BRIC, acquisition

2009 was an important year for the China automotive industry. This was the year that China exceeds the United States and Japan in becoming the top car manufacturer by production volume. 2010 saw China produce just under 14m units, a 33% increase from 2009 and therefore consolidating its position as the world’s largest automotive manufacturer.  Into 2011, China’s position in the automotive market remains strong and this is unlikely to change for the foreseeable future.

As well as being the largest manufacturer, China is recognised as the largest automotive market in the world, given the size of the population where only one in five owns a car.  The forecast is that by 2015, the demand for cars in China will reach 25m - 30m units. Foreign car manufacturers are therefore naturally drawn to such an exciting market where the number of potential consumers is staggering.

Foreign brands currently hold approximately 85% of the Chinese market and in the recent 12.5 plan (The 12th Five Year Plan of the People’s Republic of China), one of the key goals is to see market share for domestic brands to reach 50% by 2015 and for exports to reach 10%.  The 12.5 plan also emphasises the need for Mergers and Acquisitions (M&A) so to consolidate the industry and in fact, in the view of many, M&A activity is the key to achieving many of the goals of the 12.5 plan.

To date, we have seen many mutual benefit partnerships where the large Chinese car manufacturers cooperate with foreign brands.  These partnerships allow foreign brand to gain access to the Chinese market due to the 50% ownership of a domestic entity restriction whilst the domestic manufacturer can gain experience on the key features of what makes a foreign automobile so desirable to the Chinese and Western consumer.

The direction for the next five years is to move the Chinese automotive industry up the value chain and, for example, for China to become leaders in the green energy vehicle sector.  The 12.5 plan includes objectives and funding for the sector to develop a new energy car where 1m units could be produced by 2015.  With over urbanization and cities like Shanghai restricting the number of non-electric car registrations, going green is high on the agenda and is perhaps the golden prize of the automotive industry.

We will see a number of new hybrid and energy vehicles being revealed at the forthcoming Shanghai Motor Show where the intention is for some of these models to go into production.  The ultimate desire is to however develop a workable pure fossil fuel free automobile which will require significant battery development time. The Government indeed expects to see three to five major enterprises leading the charge on this and would also hope to see the cost of producing batteries to be reduced by half in 2015.

With this drive to move up the value chain and with M&A activity being encouraged, we have already seen the big local car manufacturers acquire famous European brand and parts manufactures.  By acquiring overseas brands and know-how, it allows the benefits of learning how the ever popular western market automobiles are made without having to surrender domestic market share.

Indeed, after acquiring a foreign manufacturer, besides obtaining the brand,  you will have access to their technology, R&D, management know-how, distribution channel and supply chain which can take many years of development to acquire. The affiliation with a high end brand would also send a strong message to the market place regarding your own brand. The acquisition of Jaguar Land Rover by Tata of India saw people’s perception of Tata change. Another example would be Skoda cars where the brand was considered to be at the low end of the market in the 90’s but since joining the VW group, a Skoda Octavia is well known to be a variation of an Audi A3 or a Volkswagen Golf.

Besides foreign M&A activity, the Chinese Government is keen to consolidate the domestic market and reduce the number of manufacturers. There are currently more than 50 but 15 is seen as a more appropriate. Manufacturers in China may therefore look at sharing knowledge and merging. By working together, the domestic players will have an increasingly significant role in the global market.

Although the 12.5 plan is keen for M&A activity, it is also cautious of merging for the sake of merging.  It is important that the merger is of commercial sense and is well executed in order to be successful.

Most people will know what the famous foreign brands are but the challenge is how do you know who is for sale and whether your target company can fit in with your portfolio? How will you structure post acquisition in order to retain talent and know-how? Tax planning? How will you merge culture and experience? It is important to engage with local automotive M&A specialists who know the lay of the land and can assist you in your expansion.

M&A indeed may not be the only solution.  Manufacturers could consider forming local partnerships to share IP and know-how. In the past, we have seen alliances such as Nissan with Renault and Rover with Honda where knowledge has been shared. Chinese companies may also form such alliances in future with mutual respect and common objectives.  With Chinese technology consistently improving and with the drive to develop a new breed of automotive,  we may indeed see a shift of the automotive domestic and global market place within this decade.

Contributed by:

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Managing Partner

Grant Thornton Jingdu Tianhua

Hong Kong

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Audit Partner

Grant Thornton China

Shanghai

If you operate in the UK and would like to discuss any of the issues raised in this article please contact our China Britain Services Group who can provide targeted advice in relation to the rapidly changing China market.

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Tax Partner and Head of the China Britain Services Group