Subsidies Stoke China’s Domestic Car Makers; Local and Central Governments Provided $700 Million to Local Brands Last Year

Subsidies Stoke China’s Domestic Car Makers

Local and Central Governments Provided $700 Million to Local Brands Last Year

Updated May 23, 2014 7:32 p.m. ET

SHANGHAI—China is ratcheting up subsidies to local auto makers worth more than $700 million a year, even as the industry contends with a glut of car factories and about 170 domestic manufacturers.

The subsidies feed Beijing’s desire to create a technologically sophisticated auto industry that could rival Germany and the U.S. and propel local car makers overseas. But they also hinder a goal of consolidating the nation’s many small companies and complicate its trade relations.

On Friday, the U.S. said the World Trade Office ruled that Chinese duties were improperly levied on about $5 billion a year worth of U.S.-made luxury cars and sport-utility vehicles. The panel recommended China revise its anti-dumping regulations.

Experts say Chinese government payouts are prolonging production overcapacity and could hinder the development of local champions that could compete globally. “It is essentially a tug of war between local governments that want the prestige and high-paying manufacturing jobs from the auto industry and the national government that would like to foster consolidation,” said Macquarie Securities analyst Janet Lewis. Derek Scissors, a researcher with the American Enterprise Institute in Washington, D.C., describes China’s subsidy program as a “permanent bailout.”

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A group of 22 publicly traded Chinese auto makers received 5.59 billion yuan ($736 million) in subsidies last year, according to data provider Wind Information Co. That was up 16% from 3.97 billion yuan in 2012 and double the 2.61 billion yuan paid out in 2011.

The subsidies come in many forms, including local government mandates and subsidies for purchases of locally made cars, making a total figure for local and national financial help difficult to calculate. In 2011 the central government alone spent 13.8 billion yuan promoting uses of electric and new energy vehicles, and an additional 2.9 billion yuan in 2012, according to the nation’s top auditor.

China isn’t alone in subsidizing car makers. The U.S. has provided $5 billion in grants to stimulate the development of a domestic battery industry and electric vehicles since 2009. It also has lent out $8.39 billion in low interest loans over the same period to help finance the construction of factories and vehicles that are more fuel efficient.

In China, subsidies for industries from steel, glass and solar panels have been seen as ways to boost growth, increase jobs and create national champions. But such subsidies have added to financial pressures on local governments that provide much of the cash.

Economists have warned that China relies too much on subsidies that encourage short-term growth, leading to overcapacity. According to UBS Securities, China’s overcapacity in the passenger-vehicle market by 2015 could total about eight million cars, most of which would be from domestic auto makers.

Foreign manufacturers also are adding production capacity. Top sellerVolkswagen AG VOW3.XE +1.05% plans to increase its annual production capacity in China to more than four million cars from 3.3 million. While they are adding to the country’s production capacity, their China market share is expanding, unlike Chinese domestic brands. According to the China Association of Automobile Manufacturers, domestic brands’ share of passenger vehicles market fell to 37.1% in April from 39.6% a year earlier.

China’s auto subsidies—largely from local governments—take the form of cash, low-cost loans and tax rebates. They mainly go to research and development and construction of new facilities, according to the companies’ financial statements.

In addition to subsidizing manufacturers, Chinese authorities also offer incentives for purchases of local brands. For example, the southwestern city of Chongqing offers a subsidy of up to 3,000 yuan for buyers of some models made byChongqing Changan Automobile Co. 000625.SZ +1.69% , and the northeastern city of Changchun offers a subsidy of between 3,500 yuan and 7,000 yuan for buyers of some cars made by state-run FAW Car Co. 000800.SZ +0.40%

One recipient of the subsidies was BYD Co. 002594.SZ 0.00% , the electric-car company and battery maker backed by U.S. investor Warren Buffett. BYD received a total of 677 million yuan ($108 million) from local officials and the central government, eclipsing its net profit of 533 million yuan. It was granted 98 million yuan in subsidies in the first quarter, when its net profit plunged nearly 90% to 12 million yuan.

In a statement, BYD cited similar new-energy subsidies in the U.S., Germany and Japan. “With production growing and technology improving, subsidies will gradually decline and eventually cease,” it said. “That is what car makers including BYD want to see.”

One company not included in the Wind data was Hong Kong-listed Geely Automobile Holdings Ltd., whose parent owns Sweden’s Volvo. It received 800 million yuan of support, according to a filing, equal to about 30% of its profit.

Victor Yang, a spokesman for Geely, said most were tax rebates. “Some local governments offered favorable tax conditions to attract auto investment,” he said. Geely runs manufacturing facilities in 10 cities including the western city of Lanzhou and the southern city of Xiangtan.

“We took subsidies as we made contribution to their economies. As our car sales grow, the share of subsidy of the net profit has declined,” said Mr. Yang. In 2011, the ratio stood at 57%, the company’s financial report shows.

Most statements by Chinese car companies on subsidies are ambiguous-many don’t specify how the money is used.  600104.SH +1.17%

 

About bambooinnovator
Kee Koon Boon (“KB”) is the co-founder and director of HERO Investment Management which provides specialized fund management and investment advisory services to the ARCHEA Asia HERO Innovators Fund (www.heroinnovator.com), the only Asian SMID-cap tech-focused fund in the industry. KB is an internationally featured investor rooted in the principles of value investing for over a decade as a fund manager and analyst in the Asian capital markets who started his career at a boutique hedge fund in Singapore where he was with the firm since 2002 and was also part of the core investment committee in significantly outperforming the index in the 10-year-plus-old flagship Asian fund. He was also the portfolio manager for Asia-Pacific equities at Korea’s largest mutual fund company. Prior to setting up the H.E.R.O. Innovators Fund, KB was the Chief Investment Officer & CEO of a Singapore Registered Fund Management Company (RFMC) where he is responsible for listed Asian equity investments. KB had taught accounting at the Singapore Management University (SMU) as a faculty member and also pioneered the 15-week course on Accounting Fraud in Asia as an official module at SMU. KB remains grateful and honored to be invited by Singapore’s financial regulator Monetary Authority of Singapore (MAS) to present to their top management team about implementing a world’s first fact-based forward-looking fraud detection framework to bring about benefits for the capital markets in Singapore and for the public and investment community. KB also served the community in sharing his insights in writing articles about value investing and corporate governance in the media that include Business Times, Straits Times, Jakarta Post, Manual of Ideas, Investopedia, TedXWallStreet. He had also presented in top investment, banking and finance conferences in America, Italy, Sydney, Cape Town, HK, China. He has trained CEOs, entrepreneurs, CFOs, management executives in business strategy & business model innovation in Singapore, HK and China.

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