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Zero growth in 2011?

China’s automobile sales in 2010 are expected to hit a record 18 million units, up 35 percent over 2009.

While the country cheers again and probably once for all for the laurel of world’s No. 1 in new vehicle sales, industry analysts are concerned about the prospects of the market in 2011, the beginning of the 2nd decade of the 21st Century.

We at CBU/CAR believe that a number of negative factors may point to a major slowdown of the market and a zero percent growth in the new year may be likely.

After two consecutive years of explosive growth in output and sales, the market suddenly looks like an arrow at the end of its flight as the government decides to remove almost all of the stimulus incentives. These include reduced sales tax for smaller vehicles, subsidies for rural residents and “cash for clunkers” programs. Moreover, rising fuel prices, taxes and fees and new administrative regulations by large metropolises to limit the number of vehicle registrations in an effort to ease traffic congestion will further curb automobile demand. The auto market seems to be in a major setback as chilly as the freezing winter across China.

Two major factors contributed to the average annual growth of 40 percent over the past two years. First, the stimulus policies adopted in early 2009 in the Automotive Industry Readjustment and Revitalization Plan were the biggest driver for increased demand. Stimulus policies included halving the sales tax for passenger vehicles of 1.6L and smaller, subsidies for rural residents in the purchase of small-displacement vehicles, cash for clunkers and subsidies for fuel efficient smaller vehicles.

Second, large numbers of residents in suburban areas have rushed to purchase passenger vehicles over the past couple of years as unlicensed taxis. Offering taxi service in suburban areas where public transportation and licensed taxis are rare and few has become a popular self-employment and personal business. For an affordable fee suburban and rural residents can enjoy a convenient door to door service. For the service providers investing in a small vehicle is either affordable or can be achieved by borrowing from relatives and friends. It has become a relatively profitable individual business because at a lower sales tax and with subsidies the buyer can easily recuperate the investment.

According to unofficial figures from a prefecture city in Sichuan Province, the number of “black taxi cabs” in the city is at least five times that of the licensed ones, or more than 6,000. This means that the total number of such taxis in the country, if counting only the 365 prefecture-level cities and up, could be as many as 2.2 million!

To prevent China’s economy from falling victim to the global financial crisis, the stimulus incentives were meant to prop up the automobile sector, a pillar industry of the country’s economy. The government wanted to make sure that automobile sales would grow at an average of 10 percent from 2009-2011, reaching 10 million in 2009 and 12.4 million in 2011. Quite unexpectedly, however, in just less than one year, sales of automobiles in 2009 reached 13.7 million, far exceeding the target set for 2011. And thanks to the ¥4 trillion ($588 billion) in infrastructure investment, demand for heavy-duty trucks also skyrocketed and sales in 2010 almost accounted for half of the world’s total, exceeding 1 million units.

It seems pretty clear that if decision makers anticipated such a super-fast growth in automobile demand, they would have heisted to adopt any of the stimulus packages in early 2009. Although growth in sales was down to a single-digit of 6 percent in 2008, the market was still the envy of the world.

We may therefore conclude that the explosive growth in 2009 and 2010 has been the result of policy drive and is not sustainable. The termination of the stimulus policies as of January 1, 2011 and the largely spent ¥4 trillion in infrastructure building suggest that China’s engine of automobile growth is running out of gas. The market in 2011 may witness a serious decline in demand.

Moreover, the super-fast growth of China’s automobile market has created growing social issues such as energy consumption and safety, environmental pollution, corruption of official sedans, urban congestion and gridlock, leaving urban planners and municipal governments at a loss in traffic and parking management. Beijing’s traffic gridlock posed by 5 million cars on the roads has forced the government to limit the registration of automobiles in the capital city to no more than 240,000 in 2011. This means sales in Beijing would be down this year by at least two-thirds, as annual registrations have been around 700,000-800,000 units. If other large cities, such as Guangzhou, Chengdu, Chongqing, etc. that are also suffering from gridlocks, follow suit and start limiting the number of vehicle registrations, it would further exacerbate demand.

No doubt China has a basic and potentially growing demand for automobiles as the economy grows and as the per-capita income rises. After all vehicle ownership in China is way below the world’s average, only about 50 vehicles per 1,000 people. But due to issues of energy shortage, environmental pollution, limited arable land, dense population and urban gridlocks, it is not advisable for China to continue following the transportation model of North America in personal mobility. Although analysts forecast that demand of automobiles in 2020 may exceed 35 million, the number may end up including the growing number of mini electric cars, low-speed trucks and three-wheelers. China will hardly be able to entertain an annual sales volume of 35 million nor an automobile parc of 200 million as predicted. 

Most management consulting firms have scaled down their forecast for China, with Roland Berger predicting a 15 percent and Deutsch Bank 11 percent in growth in 2011. IHS GlobalInsight predicts that China’s heavy-duty truck sales in 2010 would hit a historical ceiling and have a negative growth in 2011. CBU/CAR believes that market growth in 2011 may likely be approaching zero, with total sales maintaining the 2010’s level.

China’s auto market has come to a historical juncture of adjustment and consolidation after a decade of high growth. Without an adjustment, the market will not be able to maintain a sustainable and healthy growth in the future. Of the three major goals set in the Revitalization Plan, industry consolidation through M&As has hardly been accomplished. When every player in the market was busy assembling and selling automobiles and making sizeable profits, there was no need for M&As. The real consolidation of China’s auto industry will come only through intensified market competition which will weed out the weak and reward the strong.

Despite a gloomy picture, the good news is that the year 2011 may turn out to be Year One of a major structural change in China’s automobile market, leading to real mergers and acquisitions.

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