Chinese auto dealers are struggling

Feb. 12, 2015
China is seen by most of the world's automotive OEMs as the engine that will drive sales growth over the next decade. However, a recent slowdown in sales is putting the pinch on Chinese auto dealers, and they are asking the automakers to provide cash assistance to keep them afloat.

China is seen by most of the world's automotive OEMs as the engine that will drive sales growth over the next decade. However, a recent slowdown in sales is putting the pinch on Chinese auto dealers, and they are asking the automakers to provide cash assistance to keep them afloat.

According to the China Auto Dealers Chamber of Commerce, Chinese car dealers have offered steep discounts in order to meet sales targets so that they qualify for year-end bonuses. Those bonuses account for more than half of the dealers' annual profits. In 2011, those profit margins stood at roughly 9 percent. However, demand has slowed in China, and those margins are expected to fall to just 4 percent, according to Hong Kong-based Mizuho Financial Group.

Now, dealers are demanding reimbursement from the OEMs. The China Automobile Dealers Association (CADA) has asked them to share some of those losses, and announced that BMW had agreed to pay 5.1 billion yuan ($820 million) to the dealers. Audi also pledged 2 billion yuan in subsidies, according to a report in Reuters, and Daimler has paid China-based Mercedes dealers nearly 1 billion yuan.

"Prior to recent actions, there has not been a precedent for vehicle manufacturers to compensate dealers," says Randy Miller, global automotive and transportation leader at LMC Automotive. "For years, Chinese consumers have been flooding the market buying vehicles at record volumes. China is now near to being, if it isn't already, a mature market, which means that sales growth is going to slow down and level out. Auto dealers have been selling vehicles at losses to meet sales targets from OEMs. Dealers are pushing back on automakers to lower their sales targets to align with the reality of the market and for the dealers to maintain and/or grow their margins."

Market is big, but slowing down

China is still the world's largest market for cars with 8.3 percent sales growth in 2014 (by comparison, the U.S. saw year-over-year growth of 5.9 percent), according to LMC Automotive. China's compound annual growth rate (CAGR) through 2020 is expected to be 5.9 percent, compared to 0.89 percent in the U.S.

However, that growth has slowed. In 2014, Chinese auto sales exceeded 23 million (including trucks and buses), but annual growth was half of what it was in 2013. Sales rose 6.9 percent, according to the China Association of Automobile Manufacturers.

For passenger vehicles, sales reached 19.7 million, an increase of 9.9 percent, but that growth was down 5.8 points from 2013. For 2015, growth will slow further to 8 percent, half of what it was in 2013, although still better than the outlook for Europe and the U.S.

China is a huge opportunity for OEMs. At BMW, for example, China accounts for between 20 percent and 30 percent of its auto segment earnings, excluding finance earnings. But dealers in China have complained about too-high sales targets as consumer demand slumps and the government places restrictions on auto purchases.

According to CADA, stockpiles at the 22,000 dealerships have risen to 55 days of supply in November 2014, up from 44 days in October. The association also reported that just 30 percent of Chinese dealers reported a profit last year

An Ernst & Young report, "MegraTrends Shaping the Chinese Light Vehicle Industry," notes that the Chinese government, in an attempt to reduce energy consumption and alleviate traffic congestion, is putting policies in place to encourage the use of electric vehicles and more transit planning. Larger cities have restricted vehicle ownership in order to reduce congestion.

According to LMC's Miller, Chinese GDP fell in 2014 and the government has taken action to prop up the economy and consumer spending. Falling infrastructure spending has produced a slump in commercial vehicle sales, and consumers are spending less.

Like their U.S. counterparts, Chinese dealers are developing other sources of revenue to improve profitability. That includes service and parts, but according to Miller, " they are competing against suppliers and independent repair, service and parts chains that have been rapidly expanding and creating regional networks that offer quick repair and other services. Dealerships are also primarily located along the coast and near major markets, so [they] will need to expand out or find a way to reach smaller cities. They are also competing against shops that are also looking to diversify revenue streams away from new car sales by offering more services for new and used cars."

According to LMC, the average age of vehicles in use in China is expected to increase to 4.2 years by 2015 and used car sales could reach the same volumes as new cars by 2020, which represents opportunities for additional revenue. However, increasing vehicle operating costs and vehicle usage restrictions by local governments may reduce demand for repair and maintenance. 

Miller says that light vehicle sales in China will slow, but remain within high single-digit levels based on LMC's data. OEMs are focusing on selling cars in less-saturated smaller cities.

Automakers also have to adjust to the more price-conscious Chinese consumer. According to Ernst & Young, new vehicle segments are emerging in the Chinese market, including the car derived van (CDV), sports activity vehicle (SAV), and fashionable utility vehicle (FUV), and local and global OEMs have introduced China-specific models to address the low-end market in the region.

Local OEMs are also building up their R&D capabilities to better compete with global brands. Similarly, local parts suppliers (and Japanese suppliers) are building up capabilities in China to meet demand for aftermarket parts.

For the dealers, though, OEM subsidies may be the only relief they receive in the short term. "Moving forward, dealers may not have a choice but to accept higher inventory levels, which will have a negative influence on wholesale growth in 2015," Miller says.

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