Thursday, December 23, 2010

The missing link in China's auto development?

An interesting article in today’s WSJ by ace China auto reporter Nori Shirouzu summarizes an interesting trend in China’s auto development. China’s state-owned automakers, along with their foreign joint-venture partners, are beginning to develop China-only brands.

Battleground in the small car segment

At least part of the impetus behind this trend, I believe, is the popularity of small economy cars in China. Beginning in early 2009, when China halved the sales tax on cars with engines 1.6 liters or smaller, sales of these small cars have really blossomed. (The number of cars sold in the less than 1.6 liter category rose by 71 percent over 2008 while sales of larger cars rose by only 23 percent.) The tax on smaller cars was increased slightly at the beginning of 2010, but small cars have nevertheless remained hot sellers in China.

The good news for makers of Chinese-branded autos was that the foreigners had almost nothing to offer in the less than 1.6 liter space, so Chinese brands dominated. The bad news for Beijing, however, was that the SOEs also had very little to offer in this space. It was the private automakers (along with independent SOEs such as Chery) that benefited most.

New Strategy: Joint development

Enter this new strategy of jointly-developed, Chinese-branded cars that, nearly as I can tell, is a win-win for the big SOEs and their foreign partners – at least in the short-run.

This strategy appears to have two variations. One is for the Chinese and foreign partner to develop a car together, combining the intellectual property of both sides. SAIC-GM-Wuling have taken this route with the Baojun (pictured below). According to the authoritative China Car Times, “The platform was designed in Korea, whilst the body design was done in China with GM’s help, the brand was developed in China and also the engine was developed by [Shanghai Auto] in the UK technical center.”

The SAIC-GM-Wuling Baojun

Shirouzu’s article today reveals that Volkswagen and PSA Peugeot Citroen are considering a similar strategy.

The other variation is simply to re-badge an older model from the foreign partner. Honda and Nissan are doing this with their respective partners in China, Guangzhou Auto and Dongfeng Auto. Guangzhou-Honda is a new Linian model which is a re-badged Honda City from a few years back, and Dongfeng Nissan are building the Qichen from old Nissan technology.

What's driving this trend?

There are a couple of factors at work behind this trend. First, although China’s central government has been pushing hard for development of Chinese brands since China joined the WTO, only China’s independent automakers (both private and local SOEs without JV partners) have made significant headway in introducing Chinese brands. Yes, the big SOEs have also introduced their own brands, but they have been “developed” mostly through purchased technology. That is, the big SOEs have yet to demonstrate any real engineering prowess.

Second, there is a big gap between the foreign-branded, mid-sized cars sold in China and the small, Chinese-branded cars. It’s a gap in terms of both price and quality, and Chinese consumers understand this very well. This is why, despite the growth of Chinese brands (they now make up over 30 percent of passenger cars sold in China), Chinese consumers would still prefer a foreign brand if they can afford it.

The Missing Link

These new, jointly-developed, Chinese-branded cars are, I believe, the missing link between foreign- and Chinese-branded cars. And the fact that this kind of development is happening in almost all of China’s big SOEs at the same time tells me there is some kind of central coordination going on – either that, or it’s just a big coincidence. Regardless, I think the strategy here is to provide Chinese consumers with a new product intended to wean them away from foreign cars and make them more accepting of Chinese brands.

And, if I am right, this should call into question the future role of foreign automakers in China’s market.

Another interesting wrinkle to this story is of whether Chinese automakers are learning any better how to design their own cars.

What some of these SOEs are doing is simply buying (or being given) old designs by their foreign partners, and then slapping on a Chinese badge. On the other hand, China’s private automakers have essentially been doing that for years ... only, they don’t have foreign partners ... and, um, they don’t pay for the stuff they copy. But in the process, the private automakers have probably gotten better at auto design. Even the process of copying must have imparted to the private firms some useful engineering skills that the SOEs have yet really to develop.

Perhaps this new method of (legally) copying what their foreign partners have already done will impart to SOE engineers some of those same skills.