Analysis: As foreign enterprises seek to expand control, Chinese companies see their profits dwindle

Gasgoo.com (Shanghai) - With China home to the world's largest automobile market, the country is becoming a more attractive target for foreign manufacturers, with their investments constantly on the rise. Joint ventures remain their most profitable avenue to secure higher profits, with foreign enterprises finding ways to increase their say in the companies. This unfortunately leaves their domestic partners in a more and more embarrassing position, with the fear that the future position for them in JVs may be nothing more than an agent.

News of negotiations between Beijing Benz and Mercedes-Benz China has been a hot topic of late, with industry speculation that competition between both sides is playing into partner company Daimler's hands. Meanwhile, FAW Group is conducting a large-scale reshuffle of its dealership network, with plans to open its own logistics and sales channels. The decision is believed to have been instigated by FAW's foreign partners.

As early as 2005, the Chinese automobile market surpassed Japan with sales of 5.92 million vehicles, becoming the world's second largest market. 2005 also saw the introduction of the Administration of Automobile Brand Sales Implementing Procedures, which opened the door for foreign-held JVs to take the market by storm.

According to the legislation, foreign enterprises are required to authorize a respective domestic company or dealer to sell vehicles within the country. The legislation has been under constant fire since its introduction, as it has given a green light to foreign JVs entering China.

BMW, Mercedes-Benz, Volkswagen, Volvo, Rolls-Royce, Lamborghini and Ferrari are among those enterprises which set up sales companies in the country, incorporating previously independent dealers. Via this method, foreign companies were able to maximize their share of the profits. Land Rover and Renault set up similar ventures last year, with Aston Martin's new company currently in the planning stages. There are only a handful of companies, including Subaru and Bentley, without such companies.

Restructuring of joint ventures is another method by which foreign enterprises consolidate control. For example, when BMW established the BMW Brilliance venture in 2003, control was split evenly between both Chinese and German companies, with each side retaining 50 percent stock ownership and three seats in the board of directors. However, during the change in the company's executive posts four years later, BMW took control of the market promotion, brand management, advertising and sales management posts. At the time, industry analysts commented that Brilliance had been reduced from an equal partner to an agent for BMW.

Similar events have occurred in other companies since. Volkswagen increased their stock ownership of the FAW-VW JV from 40 to 49 percent, while GM has already set up plans to recover the 1 percent stock share it yielded to partner SAIC a little more than one year ago.

As always, the bottom line behind such moves is maximizing profits. According to statistics, FAW-VW's net profit last year reached 22 billion yuan. Judging from those numbers, about a fourth of VW's total profits this year look to come from China. Shanghai GM, meanwhile, earned 12 billion yuan last year. "From VW's perspective, gaining another percent [of stock control in a JV] is equal to earning hundreds of millions of yuan in returns per year," industry analyst Jia Xinguang commented.

At the same time, FAW-VW is cracking down on unauthorized dealers in an effort to better organize its dealer network. According to statements from the company, FAW-VW is taking the action to help increase its overall sales performance. However, there are those who speculate that the move represents VW's desire to expand its sphere of control to cover sales and aftermarket services.

According to Lang Xuehong, vice president of Beijing based consulting firm and China Automobile Dealers Association partner In4S, when first entering the country, foreign enterprises couldn't invest too much into the country due to lack of experience with the Chinese market. However, following their expansion in the country, it is only natural for these companies to take greater control of their Chinese operations. This leaves their domestic partners in the undesirable position of seeing their own profits cut. To date, Chinese companies have been complacent in handing over control to their partners. Several in the industry have pointed out that, with Chinese companies reliant on their foreign partners in technology and other aspects and without any innovative products of their own, it has been hard for them to resist their partners' demands.

To some extent, the relationship between the both sides does have a sense of fairness, as domestic companies still retain government and local benefits, in addition to keeping half of overall profits. However, with purchasing, sales, planning and other aspects under the control of foreign companies, Chinese companies are essentially unable to create their own products and brands.

When looking at auto part companies working in highly specialized fields such as electronics, engine and gearbox development, the proportion stock controlled by foreign companies can reach as high as 90 percent. According to some analysts, multinational companies control 80 percent of the industry for sedan auto parts in China.

As competition heats up in the market, the problem of uneven Chinese-foreign control has yet to be solved.