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Logic behind Chang’a’s grand expansio

by Fan Wenqing

Xu Liuping, president of Chang’an Automobile Group Corp. (Chang’an), has cut five expansion deals in the last six months. He is bent on building Chang’an into a world-class automaker. But does he have enough capital and technology reserves to make it?

On July 9, 2010 Chang’an and PSA Peugeot Citroën Group of France signed a joint venturing agreement in Paris.

Days earlier, on June 29, Chang’an signed a strategic cooperation agreement with Beijing’s Fangshan district government on the building of a Beijing production base for Chang’an. According to the agreement, Chang’an will build a new plant at the Doudian area with an eventual capacity to produce 500,000 cars a year, with first-phase target of 250,000 units. Chang’a’s Beijing plant is expected to produce special-purpose vehicles, cars and new energy vehicles.

This is Chang’a’s fifth strategic cooperation agreement with local governments since the beginning of this year. The day previous to signing the Beijing deal, Xu Liuping was in Hefei, Anhui Province, where he had signed a similar agreement with the Hefei municipal government on developing a Hefei production facility also with 500,000-unit annual capacity.

 

Shuttle diplomacy

Over the last couple of months Chang’an has signed strategic cooperation agreements successively with local governments in Heilongjiang, Jingdezhen, Nanjing, Hefei and Beijing. According to an inside source, Chang’a’s next partner may be the Shenzhen municipal government. Selection of Shenzhen is said to relate to Chang’a’s joint venturing project with PSA.  If this is true, Xu Liuping is going to oversee operations at seven locations across the country, including Chongqing, its home base.

Chang’a’s dizzying expansion into all directions has surprised many people in the automotive circles. With seven production bases, Xu may be able to turn Chang’an into a giant automaker almost overnight, but a considerable number of people are worried: does Chang’an have enough capital and technology reserves to make itself worth the name?

Xu Liuping has logic for every deal he has cut. His cooperative deals with the governments of Heilongjiang, Jingdezhen and Hefei are clearly meant to win protection from these governments for unique development conditions for Hafei and Changhe, the two automakers which Chang’an has recently acquired that have operations in these localities. In the agreements Chang’an has signed with these governments, Chang’an pledges to provide support for Hafei and Changhe operations in nine areas: development planning, investment, fundraising, brand development, product development, marketing, development of overseas markets, development of suppliers and business management. Reciprocally, these local governments promise to give Hafei and Changhe preferential treatment with regard to the local procurement of official cars and taxi fleets. The local governments also promise to give Chang’an preferential treatment in land use, sales and taxation.

Xu’s cooperation with Beijing and Nanjing has more of expansionist significance. On the day he signed the cooperative agreement with the Fangshan district government, Xu said: “It is Chang’an Group’s long-cherished dream to build a Beijing automotive R&D and production base.” A presence in Beijing will enhance Chang’a’s status as a leading automaker in China with strategic manufacturing facilities around the country. The presence in Beijing means a successful northern expansion for Chang’an which is headquartered in the southwest city of Chongqing. Chang’a’s Nanjing deal is construed as a foreshadowing of what Chang’an would do once Mazda goes solo. To an outsider, every agreement Chang’an signs with a local government is a strategic step toward realizing the automaker’s ultimate goal of producing and selling 5 million vehicles a year.

 

Capacity arithmetic

In 2009 Chang’an became the fourth biggest automaker in China. Its sales in the year exceeded 1.8 million vehicles. And then, Chang’an acquired Hafei and Changhe. These have prompted Xu Liuping to have a bold plan, namely, he would spend 10 years increasing Chang’a’s vehicle sales to 5 million units a year. Specifically, Chang’an will achieve the goal by two stages. In the first five-year stage, 2010-2015, Chang’an will reach annual sales of 3 million units and, in the second five-year stage, 2016-2020, it will finally reach annual sales of 5 million units.

Xu says: “Five million looks like a big number at present, but we must catch up with the speed of development of China’s auto market.”

Five million vehicles – what does it mean? In 2009, according to China Association of Automobile Manufacturers (CAAM), China’s Big Three automakers, SAIC, FAW and Dongfeng, sold respectively 2.7 million, 1.94 million and 1.89 million vehicles. If Chang’an can reach sales of 5 million units a year, its sales volume would exceed the combined sales of FAW and Dongfeng in 2009. That means that in about 10 years Chang’an would have moved quite ahead in the lineup of domestic automakers and be a junior peer of international automotive giants.

Xu Liuping hopes to achieve his objective through internal expansion and external cooperation. By 2019, According to Xu’s plans, the Beijing base will have an annual production capacity of 500,000 units, Changhe’s two bases in Jingdezhen and Hefei 1 million units, the Chongqing base (including its joint venture plant with Ford) 1.2 million units and the Nanjing base 200,000 units. These add up to 2.9 million units. Put in the 1 million-unit capacity planned for the Hafei base, the total still falls short of the 5 million-unit goal. Chang’an hopes to make up the shortfall through joint venturing and mergers and acquisitions.

 

Economies of scale

Xu Liuping has a simple logic for launching an expansionist program. Chang’an has a thin profit margin from its current lineup of products. Xu sees economies of scale as the way out.

Xu says the business practices of SAIC-GM-Wuling show that “big profit comes from big scale only.” Xu seeks nothing but economies of scale when he restructures the business of Hafei and Changhe, or when he goes up north to build a Beijing base. However, does Chang’an have enough capital for his expansion projects?

In the first five months of this year Chang’an sold a cumulative 1.08 million cars. Of the total, only 10 percent, or 110,000 units from Chang’an-Ford-Mazda, have fairly high profit margins.

A source who follows China’s automotive industry says: “Chang’a’s major product lines are microvans and own-brand compact cars. The market for these types of vehicles is highly competitive with thin profit margins. Chang’an can hardly acquire ample capital from these types of vehicles. I doubt Chang’an has enough capital for its rapid expansion.”

Chang’a’s new production bases are unlikely to become profit centers. According to plan, these bases will produce mainly new energy vehicles, independent-branded vehicles as well as microvans inherited from Hafei and Changhe.

 

Capital shortage

In the first quarter of this year Chang’an reported total revenues of ¥6.064 billion ($892 million) and total expenses of ¥5.725 billion. For the whole quarter the automaker had only a disposable cash flow of ¥338 million.

A Chang’an executive says: “Chang’an is going to finance its expansion projects with proceeds from share issues and government funds as well as from its operational incomes.”

On February 11, Chang’an Automobile Co., a listed subsidiary of Chang’an, began issuing ¥4 billion worth of shares, money it says will be used to revamp its assembly lines, upgrade its small automotive engines and enhance independent R&D capabilities. But as share prices keep falling these days, Chang’an Automobile Co. has so far failed to raise the planned amount of money.

Last year Chang’an received support funds from the central coffers to the tune of ¥210 million. But this is a drop in the bucket for Chang’an. 

Xu Liuping says: “In profit-making capability, Chang’an ranks upper middle among all listed automotive companies. But, if the business state of Hafei and Changhe is taken into the picture, Chang’an Group faces huge challenges,” which is euphemism for a shortage of capital. Xu’s prescription for the problem is “increase sales and cut costs.”

In the eyes of some industry observers, however, rather than rushing across the country acquiring land and cutting deals, Chang’an would render itself a far greater service by concentrating on producing better cars and, in particular, by making the best of product resources of Ford, Suzuki and Mazda.

Rewritten by Raymond Chen based on author’s story

carried by 21 Shiji Jingji Baodao or 21st Century Business Herald

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