Reality May Pinch China Auto Sales

Wall Street Journal, December 7, 2009

Heard on the Street

While the global car industry struggles through a downturn, optimism prevails among auto companies in China.

That's hardly surprising. Spurred by China's fiscal stimulus, and some well-targeted tax cuts, auto sales in what's now the world's largest car market could well have risen 45% year-to-year by the end of 2009.

Many are expecting the good times to continue but overheating is a lurking threat. Among the optimists, for sure, is Geely Automobile, whose parent company is the preferred bidder to buy Volvo from Ford Motor Monday, Geely said it expects its car sales to rise 33% next year to 400,000.

If it achieves that aim, it'll most likely see a growth rate quicker than China's auto industry as a whole. Citi Investment Research analysts, for example, expect a 15% rise in China auto sales in 2010. Indeed, next year may add a dose of realism about sales growth and profits to what's still a positive long-term story.

While trends such as rising wealth levels and low car-ownership levels should continue to support Chinese auto sales, maintaining the breakneck pace of this year's growth will be a stretch.

This year's sales growth was driven in large part by a halving of the car sales tax on autos with smaller engine sizes. Beijing has yet to confirm whether this tax stimulus will continue into the new year. Even if it does, it may not lead to such high sales growth if consumers start to see the tax cut as permanent, and hence car purchases as less urgent.

For individual auto makers, the challenge is making sure a more "normal" rate of sales growth can come with healthy profits. Here, there may be less room for general optimism.

Bill Russo, an auto industry expert, points out that heavy competition in the Chinese auto sector was already leading to lower selling prices for cars prior to this year's stimulus. Price declines from 2004 to 2008 ranged from 12.1% in the luxury sector to 32.5% in the compact car market.

As manufacturers continue to pour into China, and capacity grows, the balance between supply and demand should tilt in favor of the consumer. This could be especially noticeable in the mid-market sector where Chinese auto makers are expected to increasingly challenge foreign brands.

In a country that ranks alongside Belize in terms of car ownership per capita, it may seem strange to raise the issue of overcapacity. But it's a problem China's economic planners are already warning about -- and which should temper expectations for auto companies in China.

Write to Andrew Peaple at andrew.peaple@dowjones.com

Click here to see original article on WSJ.com

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