Foreign carmakers milk China’s cash cow

June 11, 2014 5:31 pm

Foreign carmakers milk China’s cash cow

By Tom Mitchell in Beijing

In the 1950s, a former GM president reportedly observed that “what’s good for General Motors is good for the US”. Charles Erwin Wilson was in fact misquoted, but 60 years later it would appear that what is really good for GM is the China market.

In the first quarter of this year, GM’s China joint ventures reported net income of $595m, compared to just $100m for the company’s global operations.

While GM’s quarterly results were affected by a $1.3bn charge for its recall crisis and another $400m loss related to its Venezuelan operations, China has for years been an extremely lucrative market for the US company. China accounted for 35 per cent of GM’s global vehicle sales in 2013, yet the $3.7bn in net income reported by its China joint ventures came close to exceeding the $3.8bn in overall net income attributable to shareholders.

China is also a cash cow for Volkswagen, which last year just beat its US rival for the No. 1 spot in the world’s largest car market. While China accounted for 31 per cent of VW’s vehicle sales last year, its joint ventures in the country reported operating profits of €9.6bn compared to €11.7bn for VW worldwide.

Apart from booming car sales, multinational car companies also collect technology and brand royalties from their China joint ventures, and make additional money from selling components to them.

The huge profits have also benefited the foreign carmakers’ local joint venture partners and much has been reinvested, but they have nevertheless become controversial in China.

“Making cars in China is very profitable but nobody wants to highlight it,” says Janet Lewis with Macquarie Securities in Hong Kong. “You’re just printing cash in this market – if you’re good.”

Carmakers’ reticence is understandable, given the way some have been targeted by Chinese media for the cost of their vehicles relative to other markets, with China Central Television broadcasting a report in May on the high price of imported BMWs. BMW and other foreign carmakers say prices are a function of market demand and, in the case of imports, government tariffs.

In April, the head of the China Association of Automobile Manufacturers also urged foreign auto groups to transfer more technology and R&D capabilities to their joint ventures.

Carmakers seek to raise stake in China JVs

That the Chinese car market has surpassed the US to become the world’s largest is a source of immense pride for the architects of China’s car boom. That the market is dominated by foreign brands is not, write Henry Foy and Tom Mitchell.

Chinese branded cars together account for less than 40 per cent of the total market of more than 18m vehicles in China, trailing well behind market leaders such as Germany’s Volkswagen and General Motors of the US.

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The domestic lobby group remains opposed to the quickest route to even greater China profits for multinational carmakers – a lifting of the 50 per cent foreign ownership cap in the sector. The 50 per cent limit means that GM and VW’s share of their joint ventures’ considerable profits cannot be consolidated into their financial statements and are instead reported as equity income.

“The majority of our JVs’ profits are paid to GM as dividends,” says a spokesperson for the company’s China division. “Most of those dividends are sent back to the US.”

VW said its share of its China joint venture’s operating profits increased 14 per cent to €4.3bn last year. The company received dividends of more than €2.7bn from its Chinese operations in 2013 and expects a similar payment this year.

“China will remain a very important market for the Volkswagen group, with sustainable growth rates and attractive returns,” VW says. “In the long run we expect China to develop into a more mature market, with prices and margins which are closer to the world market average.”

Foreign car companies’ China earnings are also used to fund badly needed expansion plans at their local joint ventures.

“The China market is continuing to grow quite rapidly and they want to be ready for next year – and for five years down the road – when demand will be much higher,” says Barclays analyst Yang Song. “There is a strong case for them to keep investing in their China businesses.”

Chinese car buyers have confounded the expectations of many analysts and automobile executives, who expected the market to cool off after last year’s 16 per cent surge in car sales to 18m units – 10 times the number sold in India. From January to May, China’s car market grew more than 11 per cent year-on-year despite slower first-quarter GDP growth of 7.4 per cent.

Peugeot is making way more money in China than in the rest of their business

– Janet Lewis, Macquarie Securities

Macquarie estimates the average capacity utilisation rate of foreign-invested car factories has been running at 100 per cent or higher since 2010. Full capacity is generally calculated on the basis of two eight-hour shifts five days a week, or 80 hours per week. GM and Ford’s joint ventures, with SAIC and Changan respectively, are expected to lay on extra shifts to boost capacity utilisation to more than 120 per cent this year.

The pressure is particularly heavy on Ford, whose Focus sedan is China’s best selling car. Ford’s China sales grew more than 30 per cent year on year in May, albeit from a lower base than both GM and VW.

“Basically all capex is funded out of [joint ventures’] retained earnings but you also see some pretty chunky dividends paid by the more mature joint ventures,” says Ms Lewis of Macquarie Securities.

These payments also benefit the local joint venture partners. Ms Lewis notes that Peugeot disclosed net dividends of €101m last year from its China joint venture with Dongfeng, the Wuhan-based group that earlier this year agreed to pay €800m for a 14 per cent stake in the struggling French carmaker.

Dongfeng has profited handsomely from having more foreign joint venture partners than any other Chinese carmaker. “Peugeot is making way more money in China than in the rest of their business,” Ms Lewis adds. “And how did Dongfeng get so much cash? It’s the dividends received from its joint ventures over the years.”


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 (, 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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