China auto parts market: bullish on the year of the bull

2008 had started so well. China looked back at a record 8.88 million cars made in 2007. 10 million cars in 2008 looked easy. The parts industry was in high gear. China had produced parts worth 403.5 billion Yuan in 2006, and saw predictions that the output value of China's auto parts industry could be 800 billion Yuan in 2010. Many expected an explosion of the export of Chinese auto parts. More and more Western automakers looked to China to supply their domestic industry with low cost components. American, European, Japanese parts makers had already relocated large parts of their production to China. From Bosch to Valeo, from Honeywell to TRW, they all produced in China. Factories were expanded at a rapid clip to keep up with the demand.

Then, the first signs of trouble appeared: The US Dollar steadily lost its value against the Yuan. One US $ bought 6.81 Yuan in July 2008, down from 7.57 a year ago. At the same time, raw material prices skyrocketed. Already razor-thin margins shattered. Contracts with clauses to protect against currency and raw material risks often were not renewed. Orders from the U.S. began to dry up. The exchange rate against the Euro remained stable in the same period, the EUR even improved against the Yuan, raising the interest of Chinese suppliers in the robust European market and shielding the higher material costs in Euro terms.

Then summer arrived. If you are in the auto parts business, you know what happened then: The world car marked crashed, worse and worse from month to month. America first, then Europe, even China slowed down. Now, Detroit’s automakers are on life support by their governments. Global parts manufacturers go bankrupt or are on credit watch. Suppliers demand cash on delivery from automakers. The matters got so ugly lately, that on December 22, troubled US manufacturer General Motors sued their already bankrupt supplier Cadence over some tooling GM needs to build Camaros.

If you are a Chinese parts manufacturer, how should you look at 2009? With optimism. And with a fresh look. Here is why.

For one, you are lucky that you are a Chinese parts manufacturer. China is one of the few places on this planet that still sees growth. The world had set its hopes for growth on the BRIC countries: Brazil, Russia, India, China. At the end of the year, the remaining truly hopeful country is China.

I think George Gao was exactly right when he wrote in Gasgoo: “In mid-2009, the Chinese auto market will start to recover from the slump. The market growth will speed up in the second half.“ China is already the world’s second largest car market. In 2008, China will have sold anywhere between 9 and 10 million units, leaving Japan far behind. Japan’s Nikkei just reported that “this month will become the worst December on record for auto sales.” Japan’s auto sales have been sinking continuously for the last five years.

America is still officially the world’s largest car market. According to J.D.Power, America will end the year with 13.2m light vehicles sold, down 18.5 percent from 16.2m in 2007. What is disconcerting is that the seasonally adjusted rate in November and December is around 10 million cars sold. If the American consumer continues these buying habits, and if China maintains its much slower, but steady growth, China could actually surpass the U.S.A. in 2009 as the world’s largest auto market. If not next year, then in 2010. China’s mass motorization has just begun. There is a huge market for your parts, right in front of your door, right here in China.

There is a second market, right next door: India. According to India’s Economic Times, products by Chinese auto component makers, “are being lapped up by vehicle makers here” and are “giving sleepless nights to Indian players.” Chinese parts are underselling Indian parts by 15-30 percent, reports the paper. According to India’s Automotive Component Manufacturers’ Association, auto component imports from China to India have risen by 130 percent in the past two years.

The neighbor in the North, Russia, should be treated with cautious optimism. On one hand, Chinese exports of autos and auto parts to Russia increased by 322 percent in value in 2007. On the other hand, the value of the Ruble is deteriorating, and Russia has begun to enact measures to protect is own fledgling auto industry, which made several Chinese automakers take a step back from joint venture plans.

Exports to the U.S.A. will continue, albeit at a slower pace. The slowdown of the U.S, new car production takes a heavy toll on suppliers of American OEMs. The U.S. aftermarket will become increasingly interesting for the Chinese parts maker, as people hold on longer to their cars, invest more in repairs, and become more price conscious. A cause for concern is the Yuan/Dollar rate. As the Dollar had declined against major currencies in the first half of the year, it bought less and less Yuan. As mentioned above, in July 2008, a US Dollar fetched 6.81 Yuan. Since then, the US $ had reversed course against major currencies and went to record highs. The Yuan/Dollar rate barely budged. Neither did it move when the Dollar retraced half of its gains against the Euro in the recent weeks. On December 26, a Dollar fetched 6.84 Yuan. Since August, the Yuan/Dollar rate pretty much went sideways. It looks like the Dollar will be stuck in the 6.82 - 6.85 range for quite some time. Currently, nobody wants to bet on the return of the old days of 8 Yuan to the Dollar. This has made Chinese parts less competitive in the U.S. Also, there is renewed propaganda against Chinese parts in the U.S. that bears watching. All in all, the U.S. doesn’t look like a very promising market for 2009. China Daily already wrote: “China's exports of auto parts to the United States may shrink.”

A highly interesting and promising market for Chinese auto parts is in Europe. Europe is actually the only market in the world that is growing by landmass: Each year, the EU admits new members. 11 of the 27 members of the EU share the same currency, the Euro. In the non-Euro states, the Euro quickly becomes quasi-currency. Once in the EU, product can move freely. With almost 500 million citizens, the EU combined generates an estimated 30 percent share of the world's nominal gross domestic product. If counted together, Europe would be by far the largest new car market, with around 22 million new car sales expected in 2009.

Through joint ventures, the European and Chinese car industries are tightly intermeshed. Many European volume models are also built in China and use the same parts. Most European OEMs already have purchasing offices in China, and are doing brisk business. Currency-wise, the Euro had suffered for a few months from the monetary malaise, but in the recent weeks, it came back into its old and steady trading range of approximately 10 Yuan to the Euro. The futures market thinks likewise.

What should be of highest interest for Chinese parts manufacturers is the European aftermarket. In the U.S. and Europe, the auto aftermarket is regarded as the third largest market (after real estate and health care.) There are approximately 250 million cars on Europe’s roads, and they all need service. The older they are, the more service they need. In Germany, the average age of the car is 8.4 years, and 10 percent of the cars are older than 16 years. The slowing economy makes them look for lower priced parts. There is pressure from insurance companies to use lower priced parts for repairs.

With raw material prices way down, with shipping prices at record lows, with European parts suppliers going under and causing supply disruptions, now is the time to break into the huge European market and gain market share – especially in the recession-proof after sales business.

According to recent news from Europe, repair shops see no economic downturn, they are doing the same or more business as last year.

A new regulatory environment, called "Block Exemption Law" has turned Europe into one of the most liberal parts markets, where even a 4S dealer is allowed to buy his parts from any whom and anywhere. However, many of the parts used on a car in Europe must be certified or carry a so-called ”E-mark,” which is the mandatory entry ticket for any parts maker to Europe and the more than 100 states that have adopted the same principle. More on the European market, and how to get in it, next Monday.

About the author: Bertel Schmitt, Gasgoo's columnist, is CEO of Hong Kong based parts sourcing company Sinamotive. Before founding Sinamotive, with the assistance of U.S. venture capital, Mr. Schmitt was a marketing consultant to Volkswagen AG.