Growing demand in tier-2 and tier-3 cities drives China's auto industry

John Zeng
Senior Market Analyst
China Representative
Global Automotive Group
Global Insight

Gasgoo.com: Mr. Zeng, could your share with us your views on China's auto market in 2007?

John Zeng: In 2007, China's auto market continued to grow about 20% after a rapid growth in 2006. With a growth rate like this, China will be able to catch up with the United States or replace it as the world's biggest auto producer in a few years.

There are two prominent phenomena in China's passenger vehicle market last year: The first thing is the rise of Japanese auto makers, especially Toyota, and the second thing is that China's local auto makers are losing market shares. Even before coming to China market, Toyota had established its auto parts supplying system in south China regions. Once Toyota decided to produce cars in China, it could quickly find suitable suppliers.

Many people might also be stunned to learn an over 20% growth in China's commercial vehicle market and over 60% in heavy duty commercial vehicle market. Many buyers rushed to buy these commercial vehicles because they know that a mandatory State III emission standards (similar to EU-III standards) which Chinese government vows to put in place in 2008, would drive up commercial vehicle prices. In addition to that, the construction of stadiums for 2008 Olympic Games has also stimulated market demands for commercial vehicles, especially heavy duty trucks. The first month of this year continues to see a rapid growth in the commercial vehicle market, but it is unlikely to see a similar growth rate as last year, because a large number of commercial vehicles have been purchased prior to 2008 and secondly, market demand for commercial vehicles will come down after the completion of the Olympic constructions. 

Gasgoo.com: In the Chinese passenger vehicle market last year, China's local automakers are losing market shares; part of the reason is that local players are trying to enter higher market segment, whereas joint venture automakers are expanding to lower segment.

John Zeng: You are right. A good example is that the price of Livina produced by Dongfeng Nissan has been reduced to only RMB 70,000-80,000. As for local auto makers like Chery and Geely, there is no room left for more price cuts. Without this price advantage, they have no strength to compete with the foreign brands. Though Chery has achieved a spectacular growth in overseas market last year, its sales record in domestic market is much less impressive, a moderate growth of 5% from one year earlier. As you know, Chery's enormous successful in overseas markets has much to do with China's export tax rebate policy. If there were no such policy for Chery last year, could you imagine its enormous success abroad? It is simply unimaginable.
 
Gasgoo.com: It's much easier for the foreign automakers to expand to lower segment market than for China's local automakers to enter higher segment. Is that right?

John Zeng: Foreign automakers also face many challenges. Like their local counterparts, foreign automakers have many considerations before launching a new model in Chinese market. Can this model become profitable in the market? Would the model promote or damage its product image? I bet they would not like lower their standards in order to better compete in the lower segment market.

Gasgoo.com: Some joint venture automakers seem to have been determined to explore the lower segment. For example, Shanghai GM has lowered the price of Lova to less than RMB 60,000. And BMW is also planning to bring its 1 Series to the China market and finally to realize its production here. That clearly indicates their determination to enter the lower level segment in China. China is fast growing market. The foreign automakers are more interested in grabbing market shares than making profits. Do you agree with me?

John Zeng: General Motors is very much good at multi-brand operations, and its Chevrolet is positioned at the middle and lower level market, so it's not surprising to see Lova price down. The foreign brand companies will not be interested in A segment vehicle market until they find a growing market demand in the tier 2 and tier 3 cities driven by the soaring oil price. And if the fuel tax is put in place in 2008, A segment vehicles would become the best choice for the second and third tier city buyers. But it is not easy for foreign brands to squeeze in the market where China's local players like Chery, Geely, Haima, Changcheng and BYD have already held a big market share. Last year some A segment vehicles like Chery QQ experienced a negative growth due to the lack of new models.

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Gasgoo.com: Which car segment do you think has a better performance?

John Zeng: C segment remains the mainstream of China auto market. It's very much different from other Asian countries like India and Japan. In 2007, the fastest growth still falls in the C segment, which is followed by D segment, B segment. The SUV and MPV market also grow significantly. Only A segment is flat.

Gasgoo.com: A segment's flat performance is due to the lack of new models in 2007 as you mentioned. I think another important reason might be our government hasn't really encouraged the development of small displacement vehicles.

John Zeng: It's true. The government has to have a thorough consideration. The prices of small displacement vehicles are usually so low that most families can afford to buy, but a vehicle is not only a personal property, but also takes up much public transportation resources, uses oil resource and affects public environment. The government has to consider if encouraging small displacement vehicles purchasing, the capacity of public transportation system can afford or not. The world's cheapest car ”Nano” in India also incurs some opposition.

Gasgoo.com: But large displacement vehicles have greater impact on the public transportation and environment.

John Zeng: Yes, but the cost of buying and maintaining a large displacement vehicle is much higher, so it will not become very prevalent.

Gasgoo.com: Maybe that is also because the regulatory and legal system is not well established in China. In the densely populated Europe, public transportation resources is also rather limited, yet Europe has very high per capita car ownership and small displacement vehicles gain great popularity.

John Zeng: Although China has lower per capita car ownership, broader city roads and four-lane highways, the actual capacity of transportation is relatively small compared with the developed countries, because our law and regulation system and transportation notions still fall behind.

Gasgoo.com: what drives the rapid growth of China auto market in 2007?

John Zeng: A basic issue is that the main vehicle consumption in China has changed from government-owned vehicles to privately-owned vehicles. There are still too many driving license holders preparing to buy a car. After the passenger vehicles in tier-1 cities like Beijing and Shanghai are almost saturated, tier-2 and tier-3 cities gradually become the main destination of vehicle consumption.

Gasgoo.com: Does the growth of tier-2 and tier-3 city vehicle consumption contribute to the sales of C segment vehicles?

John Zeng: Yes. Now in China, a car is still a symbol of social status. In tier-2 and tier-3 cities, a C segment vehicle has been good enough to show the buyer's status. While in tier-1 cities, D segment vehicle consumption is the mainstream. 

Gasgoo.com: Would Chinese people's vehicle consumption notion change in future?

John Zeng: I think it will. The rapid growth of new car ownership will generate a large used car market. When used car buying becomes popular, a car would only be regarded as a transportation tool, not a symbol of social status. But it may take five to ten years for the symbolism significance to fade away in China.

Gasgoo.com: A unique phenomenon in China auto market is that the best selling cars are always the oldest models. In 2007 the oldest Volkswagen models put into China -- Santana and Jetta are the No.1 and No. 2 best selling cars. What do you think of that?

John Zeng: It is related with the growth of vehicle consumption in tier-2 and tier-3 cities. In those cities, most car buyers are buying their first car. They wish their first car be cheap both in the sales and after sales stages. And Santana and Jetta just match the needs. Santana and Jetta are much cheaper than the new models in the same segment. Having been in China market for over 20 years, it is much easier to find an aftermarket service for Santana and Jetta, and the repair cost is much lower than the new models.

Gasgoo.com: In the China auto market, there are too many brands competing, and many new models put into market. But not many are remembered by the consumers.

John Zeng: Yes. Almost all the auto makers have entered the China market, and China itself has dozens of auto makers. Consumers have little recognition on so many brands, and brand loyalty is relatively low.

Gasgoo.com: Could you give us a forecast on the 2008 China auto market?

John Zeng: Our forecast on the 2008 China auto market is more conservative than last year. The growth rate of overall vehicle market would be about 17%, in which commercial vehicle market would grow slower. But even with this speed, China's auto sales in 2008 would be over 10 million.

Note:
In China, tire-1 cities in China usually refer to biggest cities in China -- Beijing, Shanghai, Guangzhou, and Shenzhen.
Tier-2 cities usually refer to the other provincial-level cities such as Chongqing, Tianjin, Chengdu, Nanjing, Wuhan, and the sub-provincial-level cities, such as Dalian, Qingdao, Ningbo, Xiamen.
Tier-3 cities usually refer to the prefectural-level cities and the smallest level cities -- county-level cities.

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