What about vehicle production ?

　　Unlike Japan or Korea or Germany, China domestic demand is the primary driver of vehicle production levels in China. Growth in exports by Chinese brands has been very healthy in recent years and I expect further healthy growth but export are likely to account for around less than 10% of production during the next decade. Imports are restricted to luxury and niche vehicles and this situation is also unlikely to change.

　　So, broadly speaking, vehicle production will remain highly dependent on domestic demand and the role of exports will increase slowly and gradually.

　　China’s expected production levels of around 19.5 million units in 2012 will be over twice Japan’s level and over 30% higher than combined production of USA, Canada and Mexico. However, with so many players and joint ventures, the industry structure is highly fragmented.

　　Do you think the government should introduce stimulus measures to boost auto demand ?

　　As was seen in 2009, the abilities of national and provincial governments to prop up demand should never be underestimated. So it is always dangerous to predict a slowdown in China.

　　What happened in 2009 and 2010, while positive for the industry in the short term, was not necessarily healthy from a medium and long-term perspective. Incentive fuelled boom generally result in market distortions and over-optimism when it comes to future planning and there is generally always a “post-stimulus” hangover when demand growth either declines sharply or actually falls. It is unhealthy for automotive market and the industry to become addicted to government support measures.

　　So, I think the market should be allowed to determine its own level of natural level without much government support and intervention. In the medium and long term, the emphasis should be on sustainable growth, striking the balance between mobility, aspiration to won a car, congestion, environment, energy supplies and the health of the auto industry. Any government intervention to should ensure that it does not adversely impact balanced long term sustainable growth.

　　With the rapid development of China's auto industry, the conflict between vehicles, the environment, and traffic have become increasingly severe. So what kind of development do you think is sustainable? Do you think the “traffic regulation” taken by the government to slow the pace of urban traffic congestion is desirable? Are there any good examples overseas we can learn from?

　　It is quite interesting that on the one hand there is a lot of talk of further stimulus measures to boost demand and on the other hand many cities are facing chronic congestion and are considering measures to control car ownership and use.

　　In the short term and at national level, the market needs to find its natural level of demand without distortions from policy measures.

　　In the medium and long term, of course, individual cities will have to find their own solutions and this could be Beijing/Shanghai/Guangzhou style controls on ownership, either via lottery or license place auctions, congestion charges similar to London and Singapore to discourage driving in congested central areas, more emphasis on traffic and parking management. Preferential treatment for cars carrying multiple passengers (e.g. priority lanes on expressways) and to fuel efficient and environmentally friendly cars is also common in some countries. Public transport in many of the Chinese cities is improving rapidly and many of the cities are learning from the experience of cities such as Tokyo, which has managed to achieve a good balance between public transport, taxis and private cars and move large numbers of people everyday in fairly efficient manner.

　　At present, inventory levels at many auto dealers in China have reached “a red line”. Does this mean the Chinese auto market is saturated and begins to slump down? What suggestions do you have for the manufacturers and auto dealers whose inventory has reached the red line?

　　After spectacular growth in 2009 and 2010, I am not surprised to see that demand has been sluggish in 2011 and 2012. Although growth rate is disappointing by China’s standards, the fact that demand has not shown major declines is a promising sign but mounting inventory levels is very destablising.

　　In simple terms, dealer inventory has reached high levels because demand growth has slowed and manufacturers have set ambitious growth targets and have been reluctant or slow to adjust their production and have been pushing sales to dealers too aggressively even when demand from end customer is weak.

　　Of course, the situation varies from brand to brand and from dealer to dealer but in general, excess inventory is intensifying price competition and discounting.

　　So, the first solution would be for manufactures to work more closely with dealers to set more realistic sales goals. This is a major challenge and learning exercise for both parties as they have got used to high level of demand growth, waiting lists, high margins and capacity constraints.

　　As I have stated above, the medium and long term outlook is still healthy and I don’t think that this signals a major slump in demand from a medium and long term perspective. However, it is a strong indication that growth rates are moderating because there are some macroeconomic headwinds and a lot of pent-up demand has been satisfied after strong buying in recent years.

　　All players need to acknowledge this and maintain flexibility in their growth plans and strategies. There will be pressure on margins and profits and this is bound to discourage aggressive investments at manufacturer and dealer levels.

　　The spectacular growth of Chinese auto industry has meant that China features more prominently in their global strategies. Can you summarize how the strategies of foreign companies have evolved to take into account the importance of China? What key challenges do they face?

　　In 1990, China’s share of global auto sales was just 1.1%. Even in 2002, it stood at just 5.2%. But by 2011 this had risen to 22.7%. In the same period, the share of N. America, Europe and Japan (so called developed triad markets) dropped from 76% to 47% because the boom in China was accompanied by stagnation or declines in developed markets. Also, until the last decade, most automakers had been locked out of China due to the tight controls on entry and investment.

　　So, it has been not surprising that global automakers and component suppliers have been putting more and more emphasis on China to support their global growth objectives. Even with more moderate growth, China will continue to remain a key market for virtually all automakers and the main growth engine for their global sales, production, revenues and profits. China will also continue to be their main destination for investment. There is no other growth market like China. Other BRIC countries have not enjoyed such spectacular growth and there are few signs that they will do so consistently in the future.

　　Operating in China via a JV structure does make it much more complex for foreign automakers to properly integrate their China operations into their global strategies and supply chains. This is one of the major reasons why foreign brands are reluctant to even plan to use China as a significant export base …in the same way as they are using countries like India and Thailand. For example, Hyundai is a major exporter of cars made at its Indian factories while Toyota is major exporter from Thailand but neither of these companies are exporting from China. Of course, the spectacular growth in China has meant that most companies have had their hands full expanding their operations to satisfy domestic demand rather than consider exports from China.

　　The challenge for most manufacturers continues to be to build a competitive product portfolio, have high level of local content and cost competitiveness, establish an extensive and efficient distribution network and have sufficient products and production capacity to take advantage of the growth opportunities. It is fair to say foreign companies are becoming more “Chinese” while Chinese companies are learning from foreign players. In the current environment, they also need to exercise some caution when planning major investments. A slowdown in China and excess capacity could trigger a change in strategy and put more pressure on join ventures to step up export activity.

　　Do you think it is time for the Chinese government to change its provisions regarding the 50:50 ratio for Sino-foreign auto joint ventures?

　　Foreign auto assembly cannot have a wholly owned assembly ventures and under the current regulations, foreign assemblers can have a maximum of 2 joint ventures per vehicle category and the maximum stake in restricted to 50%.

　　In a sense, I find it quite surprising that China has not faced more pressure from developed countries to relax these restrictions …especially as China has been in the WTO for nearly 10 years.

　　These types of restrictions were common across Asia until the 1990s. In India, these restrictions in the auto industry were removed in 1997. In countries like Thailand and Indonesia, most such restrictions were removed in the post Asian crisis period, in 1997/1998 when the IMF started putting pressure on the respective governments to deregulate and many of the local players were facing financial difficulties.

　　Today, large parts of the auto assembly sector in India, Thailand, Indonesia, Brazil, Mexico are wholly owned by global OEMs and fully integrated into the global strategy and operations,

　　Immediately after China joined WTO there was a lot of debate on this issue but it is interesting that this no longer seems to be a talking point. Part of the reason is that many of the foreign companies have already signed very long term JV agreements and accepted this situation and see this restriction as a small price to pay for participating in China’s booming market. China has not really been put under any international pressure on this issue and without significant external pressure the government is unlikely to change these rules.

　　In the meantime JVs have become bigger and bigger and quite mature. Now we have a situation that even if China relaxed the restrictions, the current JV structure will continue to dominate. Exiting or restructuring current JV agreements would be very complicated …and most foreign assemblers may not even be able to afford to buy out the Chinese partner’s stake even if this became possible in law.

　　So …in theory, wholly owned operations foreign companies could one day be possible but they would most likely face a whole new set of new obstacles.

　　So we have to assume that the current JV structure will remain as the only way in which foreign assemblers can participate in China’s auto industry.

　　From Chinese point of view, it can be said that Chinese government and SOEs have been able to maintain control over the industry and reap significant financial benefits from the current rules and industry structure but it can be argued that this structure has not helped in the development of independent technology and brands. Independent Chinese automakers such as Geely, Great Wall and Chery who have operated without JV partners have made more progress.

　　How will the competitive dynamics Between JVs and Independent Brands Evolve ?

　　13 major Chinese Groups plus their JV partners currently account for over 90% of the vehicle production.

　　Chinese brands are dominant in the commercial vehicle market but in the car sector (excluding minibus), more than two third of the production is accounted for by JVs.

　　Will JVs continue this type of dominance? In summary yes, mainly because of JVs continue to improve their competitiveness and will continue to be the main mechanism for bringing in the latest products and technologies into China and also for producing and marketing vehicles that modern Chinese customers want.

　　Initially, independent Chinese brands enjoyed success with low price strategies and focus on smaller cities but in recent years, most JVs have made very impressive progress in terms of having a broad product portfolio, becoming very price competitive and expanding their distribution to inner provinces and smaller cities. Meanwhile, operating performance of individual Chinese companies has also been erratic. In 2011 and 2012, most Chinese independent brand have been underperforming the market.

　　The most recent development is introduction of joint venture brands such as Baojun, Linian, Kaili etc. The product strategy is based on the use of old/outgoing platform from the foreign partner, carrying out some restyling and upgrades and then repositioning the model to appeal to price sensitive buyers, especially in smaller cities. This development will be putting even more pressure on Chinese independent brands.

　　So overall, the outlook for independent brands is becoming very challenging. I expect JVs to continue their dominance and account for at least 60% of China’s car production in the medium term.