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Under pressure from OEMs, dealers are poised to revolt

by Yang Xiaolin and Zhang Xu

The independent passenger vehicle brand of a large state-owned automobile group has just hit a record high dealer inventory ratio of 8:1, according to a dealer executive who has been selling cars for over 10 years.

Inventory ratio refers to the number of inventories vs. the average number of monthly sales of an OEM.

Normal dealer inventory ratio is around 1.2:1 and if it exceeds 1.5:1, dealers would face high risks, according to Luo Lei, deputy secretary of China Automobile Dealers’ Association (CADA).

CADA statistics indicate that the average dealer inventory ratios in May were 1.47 for JV brands, 1.34 for imports and 3.45 for local independent brands. Average dealer inventory for 13 passenger vehicle brands exceeded 2.5. These included imported Infiniti, Mitsubishi and Acura. In June, the average national dealer inventory ratio reached 2.09:1.

Once again the conflict of interests between OEMs and dealers is ready to explode.

Inventory ratio of automotive dealers in January-June 2012

Month Inventory  ratio
January 1.49
February 2.32
March 1.53
April 1.72
May 1.88
June 1.98

Source: CADA

“My cash flow is going to be broken if carmakers continue to put pressure on me,” said the owner of a dealer group. So far dealers have been silently accepting OEM pressure to increase inventories because there was still money to be made. “But now it is no longer an issue of reduced margins,” he said. “Adding inventories is now equivalent to cutting dealer flesh. Some dealers are confronted with a life-and-death situation.”

An insider told Economic Observer that some dealer groups have issued an ultimatum to CADA to act on their behalf. “If CADA fails to do so, they would threaten to quit the association,” he said. 

Extreme pressure

“To tell you the truth, several of our dealers have stopped taking vehicles from OEMs over the past two months,” said the president of one of China’s top 20 dealer groups. “We don’t have space for more cars. But most important, of course, is our cash flow.”

His complaints about OEMs are well founded. As the link between OEMs and consumers, dealers are the first group of businesses that are taking the brunt of a slowed economy and a slowed auto market. The said dealer group has annual revenue of ¥10 billion ($1.59 billion) and its inventory value is now as high as ¥1.5 billion, equivalent to two months of sales. That amount is based on having not taking any vehicles in over the past two months.

“Our situation is better than many others. We are offering discounted sales on the one hand and putting a hold on taking in any more inventories on the other,” the president said. He admits that not every dealer group has the courage to refuse taking OEM deliveries.

The president of a top 5 dealer group admits that his inventory cost has by now exceeded ¥10 billion. “This time the pressure comes from almost all brands, including luxury brands,” he said.

A Beijing-based dealer said: “Only a few vehicle brands, such as those of Volkswagen’s two JVs and Dongfeng-Yueda-Kia, have normal inventory ratios. High inventory risks are now seen for a number of mainstream vehicle brands such as Honda, Volvo, Land Rover and the three German luxury brands.”

According to him, the inventory ratios of independent brands such as SAIC Motor’s Roewe, FAW’s Besturn and Xiali and GAC’s Trumpchi are now between 3 and 4. “The hardest hit are domestic micro cars, which have an inventory ratio over 3. Dealers with strong financial resources are now beginning to refuse taking in more inventories,” he said.

The result of such actions is obvious: the danger of being taken off the franchise by OEMs for not complying with commercial terms. “But dealers one after another have taken such actions in the first half of the year, some of them even willingly giving up the franchise,” the Beijing dealer said.

The relationship between OEMs and dealers is now at a historical low. According to a study of 2012 branding satisfaction conducted by Lane Shin International, 70 percent of dealers were “dissatisfied” with their operations. Those who were “very satisfied” and “satisfied” accounted for 17.3 percent, much lower than in 2011.

“Judging from the initial feedback, the OEM-dealer relationship is at a critical point,” said Lane Shin’s Chen Hua in charge of the study. “If OEMs fail to create a new form of relationship with their dealers and change their dominating role, it would affect their future sales and market performance. The nature of adding pressure to dealer inventory is to transfer crisis, which is short-sighted and not sustainable.”

 

Problem with dealer system

In order to reach the half-year goals of output and sales, OEMs have been pressuring dealers to increase inventory since early this year.

Of the 24 leading passenger vehicle manufacturers, the only OEMs that have met sales goals in the first six months are Shanghai-GM and FAW-VW. Sales of Chang’an-Ford-Mazda, Chery, JAC, GAC-Toyota, Dongfeng-Yulon and FAW-Mazda were about 30-40 percent of target and those of FAW Car and Beijing-Benz were less than 30 percent of target.

Dealers have been coordinating in an effort to find ways of dealing with OEM inventory pressures. At an internal seminar participated by officials from the Ministry of Commerce, CADA and executives of leading dealer groups, it was proposed that CADA intervene on behalf of dealer members and request that OEMs stop forcing inventories onto their dealers.

Up to now, CADA has not published actual inventory levels of specific vehicle brands. But a CADA official told Economic Observer that quite a number of brands have exceeded the 1.5:1 inventory ratio, or the alarm level adopted by CADA through its monthly tally of inventory numbers from 699 dealers around the country.

“We would need inventory numbers from at least 2,000 dealers to make our tally more accurate and authoritative for publication,” said Luo Lei.

But a dealer executive believes that CADA would never be able to publish dealer inventory numbers because of its weak position vis-a-vis OEMs. “OEMs are the boss, and the boss does what he wants to do,” the executive said.  OEM has the authority to offer franchises to dealers on an annual basis.

 

Dealer consolidation

Under pressure from dealer members, CADA has started a study of OEM inventory practices. A number of dealers are informing CADA that it should publish its findings based on solid numbers without having to consult the OEMs.

A responsible official from CADA said that after an in-depth study, they may directly contact OEMs for a discussion. And if the inventory situation does not improve, CADA may decide to publicize the information “at an appropriate time.”

With rising inventory levels and declining profit margins, dealer consolidation is expected. Starting from GAC’s launch of its independent Trumpchi, new brands such as the Volkswagen Seat, Chang’an PSA DS and Qoros have all run into the problem of reduced dealer investment interest. A slowed market has added risk factors for investors.

During the last two years of explosive market growth, a number of large dealer groups made significant acquisitions. The China Grand Auto Group in Xinjiang bought Shenrong in Sichuan for ¥1.4 billion. Zhengtong Auto spent ¥5.5 billion to acquire the Volvo and Jaguar Land Rover dealerships under Zhongqi Southern. Today these deals mean not only shrunken assets but also high operating costs, creating problems for the acquirers.

The executive of one of the top 5 dealer groups said that he has allocated ample funds for the possible acquisition of a leading dealer group that is running into cash problems. “Last year, the offer from a dealer of German luxury brand in a provincial capital city was ¥500-¥600 million,” he said. “Their price now is down to ¥360 million. Our evaluation now is less than ¥300 million.”

(Based on authors’ article published in Jingji Guancha Bao or Economic Observer)

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