Interview: The Development of China's SUV Market

Directors & Boards Magazine, December 2009


What’s your opinion on the development status and patterns of SUV industry? What is the opportunity and challenge in SUV industry?

Bill Russo:

The overall SUV segment in China is experiencing healthy and steady growth, despite the impact of the global financial crisis and the increase in oil prices. Year-to-date September 2009 SUV sales have experienced a 32% year-over-year growth, totaling 441,600 units. Opportunities for SUV growth still come from fast-growing demand for compact SUVs. Chinese consumer preferences are developing in recent years, and Chinese drivers are beginning to seek the enjoyment of both on and off-road utility vehicles. Compact SUVs provide a good balance of capabilities and low fuel consumption for such consumers. This preference for compact SUVs is evident from the year-to-date sales volumes, where 4 out of the top 5 SUVs are compact, accounting for 50% of total SUV sales. Challenges mostly lie in those large displacement and medium to low-end SUVs. Many products above 3.0L lack brand and technology advantages, and concern over higher fuel cost make customers hesitant to choose them.

What are the brand characteristics of SUV industry

Bill Russo:

In the Chinese SUV market, there are two groups of OEMs that enjoy high brand loyalty which contribute to success in the market. One group are Japanese products such as Toyota RAV4, Highlander, LandCruiser, Honda CR-V, Nissan Patrol, etc. They are volume leaders and dominating the compact and full-size SUV segments. Another group are the German makers, Mercedes, BMW and Audi. Their luxury SUVs are mainly leading the imported and premium segments. Hyundai is also growing very fast after localization of their Santa Fe in Shandong province.

Local brands such as Great Wall, Chery and Jianghuai are attempting to leverage their cost advantages by offering lower-priced models, but are confronting the challenge to establishing their brand value proposition in the SUV segment. Building their brand value proposition must be their first priority, or these manufacturers will not be able to compete in the middle and high end segments of the SUV market

What are your thoughts on the SUV development of the main local OEMs, such as Jiangling Motors Corporation, Chery and etc ? What is the gap between local OEMs and foreign brand?

Bill Russo:

International brands still lead the market in China with products like Honda CR-V, Toyota RAV4 and Toyota Highlander. Chinese brands are improving gradually, and occupy three seats among the top 10 best selling SUVs in the China market. Great Wall leads the domestic SUV market. They sold 5600 units SUVs in September. Great Wall sold over 43000 units from January to September and ranks the third overall in China.

As noted above, the gap between local and foreign brands is mainly in brand image and brand equity, but not limited to that. Chinese manufacturers must strive to close the gap of technology and quality with international OEMs, particularly in safety, emission and durability. Whether they can break through major technical barriers such as powertrain, active and passive safety will determine their competitiveness against foreign brands. Successful entry to developed markets (EU and US) by Chinese brands is also subject to closing these gaps.

For these reasons, the SUV market share of local OEMs has decreased from January to August from 46% 28%.

How does brand image influence on SUV segment?

Bill Russo:

The above mentioned two groups of International OEMs are good examples. One of major sources of profitability is their brand premium, which can be determined simply from price comparison. Honda CR-V is listed at double the price of a similarly-sized sized Great Wall Hover. Having brand equity and a clear value proposition is a key success factor for Chinese SUV makers to compete in the developed markets. It is also very critical to the long-term success in the domestic market. The growing SUV market in China also demonstrates the maturity of the market, as the taste of Chinese drivers grows beyond sedan cars. As consumer buying power increases, they will seek brands that fit their lifestyle and aspirations. Improving brand image is critical to local SUV makers such as Chery, Geely and Great Wall.

Compared with high-end SUV, is low-end SUV still attractive in China market?

Bill Russo:

We first need to clearly define of “high-end” and “low end” SUV. With regard to technology, low-end SUVs have been based on older truck platforms, which fail to meet stricter safety and emission standards. These should eventually phase out from the China market. If it is about price, competitively priced and good quality local brands can still maintain their growth momentum in broad Tier 2 and 3 markets. Great Wall Hover and Chery Tiggo are good examples. By this definition, it seems that the low-end SUV is still attractive but it will hard to predict market volume. But competition in the low-end is purely on price so profit margin is low which may not be attractive to manufacturers seeking to raise their brand equity and image.

Which kind of SUV will take more market share in China market in the future, low-end or high-end?

Bill Russo:

As described earlier, local brand economical SUVs, Japanese compact SUVs and European luxury SUVs are serving different customer groups and markets. It’ll be quite certain that local brands will capture more market share based on their aggressive product launches and pricing advantages.

Do you think there is decline in SUV market? Some of the companies are in poor performance, what are the main reasons ?

Bill Russo:

SUV market can maintain a two digit market growth over the next few years, given the robust demand and product offerings. Some knock-off products without technical and brand advantages will lose in the market very soon. Market share will be dominated by several leading brands that will broaden their product reach in regional market, including Tier 3 and 4 cities.

What is the trend of M&A in SUV industry?

Bill Russo:

The entire automotive industry is restructuring and consolidating, and SUV is no exception. GAIC acquired Changfeng Motor, a SUV producer of Liebao and MMC Pajero is one good example. Similar potential acquisitions also happened between other SUV and car manufacturers, such as BAIC and Fujian Motor, Chery and Jianghuai (ongoing). There are many medium and small SUV producers, like Zhongxing, Shuanghuan, Beijing Auto Works that are quite vulnerable and will face challenges to survival in a hyper-competitive market.

Another type of M&A trend is overseas acquisition and expansion. However, whether it is economically viable to acquire expensive but small volume SUV platforms is a question for almost every intended Chinese OEM. Tata’s experience with Land Rover is a good example of the financial burden and risk associated with such an acquisition.

What is your suggestion on the strategy and innovation of local SUV OEMs?

Bill Russo:

There are several alternatives for China local VMs to close the gap with international peers on technology and brand image, such as M&A, JV, strategic alliance, and license manufacturing. Independent of which alternative is chosen, it is imperative for Chinese OEMs to fully evaluate their core competency and desired value propositions. All local SUV OEMs must focus on improving brand value, quality and differentiation, and not purely rely on low cost. One good example is Huatai Motor, they built their own SUV capabilities from a license manufacturing relationship with Hyundai to produce the Santa Fe, and subsequently developed their own brand SUVs and sedans.

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2010 China Auto Sales: Robust or Bust? - China Automotive News

Gasgoo.com, December 14, 2009

By Bill Russo From:Gasgoo.comDecember 14, 2009

As discussed in the recent CCTV-International Dialogue program, 2009 was a year of tremendous historical milestones for the China auto industry. Triggered by the global financial crisis, the global automotive industry witnessed a year of unprecedented restructuring, as many industry icons struggled for their survival. After peaking in 2007 at 70 million units, the global automotive markets have experienced a contraction of nearly 10 million units over the past 2 years. The mature “triad” markets of North America, Western Europe, and Japan have led this decline.

China is the noteworthy exception. In 2009, China will easily surpass the US in total car sales to become the world’s largest automotive market. China’s vehicle sales will surpass 13 million units – approximately 3 million units more than the second largest market, the United States. To highlight how fast things have changed, auto sales in 2009 will be about the mirror image of sales in these same markets in 2008, when the US sold a little over 13 million versus China’s 9.7 million units. While it may not be apparent to the rest of the world, these initiatives are accelerating not just China’s economic development – they are also accelerating the transformation of the automotive business model, as global auto makers shift their focus to the growth markets, led by China.

The astonishing growth in car demand is a direct result of many factors that are fueling China’s economy. This includes aggressive tax cuts as well as a significant investment made in the development of the infrastructure to support transportation. The China government views the automotive industry as a “pillar” of its economy since it brings technology, jobs and investment to the economy. As such, several agencies of the China government play an active role in sponsoring initiatives to further stimulate automotive development and growth.

Driven by the onset of the global financial crisis, the Automotive Industry Stimulus Plan published in early 2009 took specific measures designed to spark the growth of consumer demand. Measures including the reduction of sales tax for cars below 1.6L engine displacement, along with subsidies for new minibus or light truck sales for rural residents have accelerated the auto market expansion particularly in China’s lower-tier cities, helping to boost the performance of the manufacturers of these smaller vehicles.

While aggressive tax cuts and subsidies have been behind much of the demand growth in 2009, the question now turns to whether this robust demand growth can be sustained in 2010. While very few expect a repeat of the 45% growth experienced this year, most auto executives believe that the fundamentals are there for growth to push sales up at least 10 percent in 2010 even without the incentives.

A key reason for continued growth is the rapid development of China’s lower tier cities. While China’s explosive automotive growth has been most evident in the Tier 1 cities, it is important to note that the trends of urbanization and growth of per-capita GDP will continue into the foreseeable future. As these factors are directly linked to the growth in demand for automobiles, one can expect a continuation of growth next year and thereafter. Urban wealth accumulation is undoubtedly fueling the growth in automotive sales. The fact that 85% of all vehicles are sold to urban residents is a clear sign of the relationship.

There is no mistaking the trend of permanent migration of rural population to existing urban areas. Looking forward, it is expected that nearly two-thirds of China’s population will be in urban areas by 2020. This represents a whopping rise in urban population of nearly 200 million people in just over 10 years. Essentially, China creates the population-equivalent of a city of between 1.5 – 2 million people each month! It is no wonder why China’s cities are continually under construction.

Independent of whether stimulus measures are extended, it is likely that next year’s demand will likely shift to from an “exponential” to “stable” path. As income levels continue to rise, demand may begin to shift towards vehicles and segments offering more appealing content and features, which may create opportunities for manufacturers to improve their product mix.

While many Vehicle Manufacturers have reported robust sales in 2009, what may not be understood or appreciated among those who are observing the growth in sales is that this is a market where quantity of sales should not be confused with quality of sales. The China market is now experiencing what many companies doing business globally have come to understand call “hyper-competition”.

Early-movers in the China market such as Volkswagen and General Motors have enjoyed significant profit margins by occupying mid-size, full-size and MPV segments without a great deal of competition. In such a market environment, strong profits could be made on products such as the VW Santana and the Buick GL8 minivan – older technologies that dominated their segments with good margins. However, today’s China market no longer offers such an easy road to profitability. Virtually every major vehicle manufacturer is now present in the China market. A recent J.D. Power & Associates study has reported that many of the cars sold in 2009 were in low-end segments that are eligible for tax incentives and that many of these cars earn the manufacturers as little as $100 each.

However, hyper-competition actually began several years ago, with the onset of a phenomenon called “net negative pricing”. The future outlook is that local brands and international brands will install more capacity in China, placing even more pressure on pricing in order to increase capacity utilization. Weak brands and older models will become the first casualties as market and competitive forces squeeze them out. The competitive battle can only be won with strong brands and contemporary models that can be delivered profitably to savvy Chinese consumers with choices that demand a competitive price.

In 2010 we can expect to see even more intense competition among the foreign and domestic brand vehicle manufacturers as they attempt to capture growth opportunities in China. As this is happening, the local manufacturers will strive to upgrade their brands and product portfolios to meet the more upscale image aspirations of Chinese consumers.

The dramatic shifts that have occurred over the past year in the structure and brand portfolios of the vehicle manufacturers are simply the early stages of a process of asset reallocation and global realignment that will unfold over many years. These trends are reshaping the brands, products and global footprint of those who hope to prosper in the 21st century automotive industry. Indeed, China has taken center stage in the battle for global auto industry dominance.

About the author: Bill Russo, Gasgoo's columnist, is a Senior Advisor with Booz & Company as well as the Founder and President of Synergistics Limited. He lives in Beijing and has more than 20 years of experience in the automotive industry, most recently serving as Vice President of Chrysler's business in North East Asia.

Gasgoo: auto parts source