SAIC Drives to Lead Market Through Merger

The Shanghai Automotive Industry Corporation (SAIC), which had long been engaged in tug-of-wars with counterparts for market leadership, resorted to a tried-and-true corporate strategy: If you can't beat them, then join them. SAIC secured its position as the largest automobile group in China by signing last December a merger agreement with Nanjing Automobile.

The deal cost 2.059 billion Chinese yuan in cash plus 320 million in share swap was estimated to be worth over 10 billion yuan based on the SAIC's stock price of around 27 yuan at the end of last year. The merger is the largest ever in China's automobile sector and may set an example to trigger market consolidation at a faster pace in the future.

Prior to the merger, the value of SAIC's assets exceeded 100 billion yuan, or about ten times higher than that of Nanjing Automobile; while the merger is expected to expand the latter's operational scale and triple its annual productivity by 2010. At the same time, the SAIC group is targeting to achieve an annual capacity of 2 million units overall, far surpassing the 1.3 million by the First Automobile Works (FAW) or the 1.1 million at Dongfeng Motor.

Key Significance

"The overriding significance of this deal," said SAIC Chairman Mao-yuan Hu, "is not only for the SAIC to solidify its leadership in the local market, but also strengthen its global competitiveness, specifically its prowess to rival foreign counterparts on the international market." Hu's remarks seem to suggest that the Chinese automobile groups already evolved to a certain stage of development, one that is sophisticated enough to compete against foreign makes, which may be a milestone considering that Chinese carmakers have mostly cut their teeth via technology transfers enabled by partnerships with foreign counterparts in the earlier years.

Despite the merger, most of China's carmakers still have not been able to cut their umbilical cords, or jumper cables sort to speak, as they continue to work with one or more foreign partners. The SAIC, for example, has Volkswagen and General Motors on its team; the FAW has Volkswagen and Toyota; and Dongfeng has Honda and Nissan. Meanwhile, the above-mentioned merger may enable the SAIC to liven its line-up with a degree of exotic know-how from the land of Ferraris and Lamborghinis: Nanjing Automobile has onboard as partner one of the most historical European marques-Fiat, likely one of the earliest makers of affordable rear-engined sports cars such as the 850 and X/19.

In 2005, Nanjing Automobile set the global automobile sector on its ears by announcing its plan to acquire the assets of the bankrupt British MG Rover, a maker to be lauded for continuing to roll out the MG TF to carry on the hallowed MGB, a signature British sportster of the 1960s and 1970s. Incidentally, the SAIC had procured technologies from the same company to roll out certain models under its own brand. So besides being able to tap Nanjing Automobile's Italian lineage and expertise, the merger is expected to also bring closer together China's largest auto group and the British marque with one of the last-surviving sports ragtops dating back to the days of lightweight runabouts as the MGA with wire-spoke wheels.

Backgrounder

Among the "Big Three" Chinese automakers (the other two are FAW and Dongfeng), the SAIC runs around 50 plants in the Shanghai area, producing passenger cars, tractors, motorcycles, trucks, buses, as well as auto parts, in addition to auto-related subsidiaries engaged in car leasing, auto parts retail and wholesale, auto financing, and so on.

The SAIC is underway to carry out a plan to set up an auto research center, tentatively called SAIC Motor Technical Center, of which the construction of the first phase was completed at the end of 2007, with the newly-completed buildings spacious enough to offer employment opportunities for about one thousand engineers and technicians.

With the home-based SAIC Motor Technical Center to serve as the group's R&D headquarters, the SAIC currently also runs two counterparts abroad-one in Britain and the other in South Korea.

Though Nanjing Automobile operates on a much smaller scale, it's one of the oldest automobile companies in China, dating back to the 1940s when its predecessor operated a ferrous-metal factory for the national army. NA's road towards auto production began when it took over a truck plant in 1947. And after a decade of consistent effort, NA finally successfully launched the first China-made truck in 1958, under the brand Guerin, which literally means "leap forward." Apparently the name does make a difference: The firm later diversified to roll out small cars and passenger coaches, even keeping its lead in the light auto sector in China.

After the merger, Nanjing Automobile will run 28 subsidiaries and seven holding companies who invest in over 400 corporations, with an annual productivity of around 200,000 vehicles.

Market Consolidation via Downsizing

As industrial observers commented, the merger between SAIC and Nanjing Automobile suggests an inevitable trend in the market, one where a small group of investors and industrialists wield heavy influence over the market without necessarily being able to come up with innovations or raise self-content capabilities, such as building in-house critical parts of advanced technology. Moreoever, the Chinese carmakers, despite growing quickly in size, have yet to prove their worth in terms of technical innovation. And most insiders know that it is far more savvy to resort to M&A for fast technological upgrading and to expand capacity to achieve economy of scale, both features of which need to be sharpened to better fend off rivals either local or foreign.

The Beijing authorities, according to China's mass media, is promoting a program, despite its harshness and questionable political-correctness, to encourage M&A among state-managed companies, or simply shut down those showing inefficient operation-in a bid to reduce the number of state-owned companies to less than 100.

Last December, Chinese General Auto Company, a state-owned company engaged in auto trading and investments, was the first to be forced under by the above-mentioned downsizing policy. The company had long struggled at the brink of bankrupcy saddled with a deficit of 400 million yuan.

Regardless of how China's auto market changes, the world's most populous nation has successfully driven, in a sense, into the biggest dealership among international automobile groups: China formally replaced Japan as the world's second largest auto market last year, only trailing the U.S.

Market competition would become even more severe than before as one after another automaker, either local or international, plans to expand as a means to sharpen competitiveness. Such stepped-up rivalry has led to often-reported underselling that has significantly reduced profit margins on some models of cars to sub-10% levels.

Policy-induced Price Wars

About the time when the Beijing authorities started a series of macro-economic policies to curb excessive domestic investments in 2004 was also the emergence of a price war in the auto market: some Chinese carmakers such as SAIC Chery and Geely Automobile have tossed caution to the wind-slashing prices by 10,000-20,000 yuan or more, which may even place the retailers' sanity in question.

To effectively engage in prolonged price wars, the Chinese carmakers are more inclined to plan for expansion of operating scale, which would be a means to maintian steady revenue growth despite thinning margins. Such is another driving force behind Chinese carmakers' willingness to adopt M&A as a shortcut to expand.

Imports Hold Their Own

The market competition, however, won't necessarily be scale-oriented. Long-term success usually hinges on the ability to build quality into cars, and ample examples prove such belief: Jaguar, Renault, Fiat and MG for many years were infamous for suffering from electrical, fit and corrosion problems, hence their relatively lackluster popularity in the North American market. And statistics speak for themselves: China still imports higher-end makes at the expense of much higher price tags.

The Machinery & Electric Products Export Guide, a trade journal published in China, shows there has been steady rises in foreign car imports along with their average unit prices. China in 2007 imported 314,200 cars, up 37.8% from a year earlier, with the import value growing even faster at 41.4% and totaling some 3.127 billion yuan, implying an upswing in the average price of such imported cars.

As in many other parts worldwide, German cars enjoy high esteem and are highly sought-after especially in emerging nations where growing affluence fuels status consciousness, with German cars often seen as a coveted status symbol. Such phenomenon also is true in China-where Germany remains the largest foreign car supplier-having shipped 63,800 vehicles to China in 2007 or commanding a 46% market share. Japan and the U.S. followed with annual shipments of 29,700 units and 18,000 units, respectively; while in 2007, China imported cars from 18 countries.

Although many foreign automakers are in partnerships with Chinese counterparts to turn out co-branded automobiles, China still imports ready-to-drive cars made by their foreign partners, perhaps a sign of China's car-owners' lack of confidence in the local expertise. While carmakers in China eagerly try to expand size of operation to vie for market leadership, time will tell if Chinese auto groups will be able to gradually catch up in terms of quality to their foreign partners, which is the ultimate goal to achieve to realize long-term, sustainable competitiveness.