More and more industries in China will engage in a fight for a smaller pool of profits, not just among themselves, but also upstream and downstream with their suppliers and customers. Stresses that had lain hidden in an era of rapid growth will become very visible. Industries that have had above average profitability in the past may be most challenged.
Take the automotive sector for example.
While the market for all vehicles is still expected to grow at 7% this year, this is less than half the rate of recent years. Demand for passenger cars is expected to grow at only 3%. You can be sure that the supply of vehicles will grow faster than that. The era when dealers would beg for allocation of vehicles to sell is over.
The fine print in contracts that dealers may never have considered the implications of in the past is now driving relationships. To remain profitable, dealers have to hit volume targets (as is common around the world), leading to a wave of discounting to clear inventories that have reached close to two months across the industry.
Unfortunately for dealers, social media and auto-focused sites on the Internet make it fairly easy for potential buyers to find the best deals, increasing discounting pressures.
Dealers are taking action, however. Many are talking to the media to try to drum up sympathy. More pragmatically, others are consolidating. Almost all are organizing under the umbrella of the Chinese Automotive Dealer Association, a kind of union for owners of car dealerships. And not without impact, as BMW’s recent RMB5.1 billion payment to its dealers shows. Other vehicle manufacturers are “in the headlights” now.
Industry analysts have claimed that some global automotive OEMs have made up to half their global profits in China in recent years. This appearance of having deep pockets creates an expectation that OEMs will help out less profitable parts of the industry. Domestic OEMs may be harder hit as despite being large, their profitability typically remains much lower than their international competition.
And in the medium term are a number of unavoidable challenges for the industry, especially for dealers in first and second-tier cities. Seven major Chinese cities, most recently Shenzhen, have imposed limits on annual sales of vehicles. More are likely to follow. These could reduce sales in these cities by over 30%.
Moreover, with penetration of cars per household in these major cities already hovering at 0.6–0.7, how high is it really going to go from there? Demand is shifting to fourth, fifth and even sixth-tier cities – maybe some dealers will be able to fund expansion into these newer markets, but most will not.
And on the horizon is the challenge posed by the Internet: I can’t believe that Tencent’s and JD.com’s half billion-dollar investment in BitAuto (one of China’s top two internet sites focused on the automotive industry) did not have as part of its logic that they might at some point enable vehicle manufacturers to bypass dealers entirely in selling cars to customers. After all, China’s consumers love buying online.
This year (and next) it is probably better to be a car buyer than a seller.
Image credit: Marianna / Flickr