skodarapidSmall.jpgThis year's Beijing Motors Show will widely be regarded as a watershed in the short history of China's car market.

Sales are booming and foreign manufacturers are falling over
themselves to talk up the potential of China and downplay the problems
in their mature markets back home.

Ford, for example, announced it expects China sales
to grow 100% this year. To prove it is here to stay, it announced it
would open a research and engineering centre in Nanjing — the latest
in a long line of western companies opening research centres in China.

But before foreign carmakers get too dizzy on the show's champagne,
they should remember one sobering fact: although China now has more car
brands than the US, it also has less buyers.

The overall Chinese vehicle market is on course to reach 6.8m
vehicles this year and it will roar past Japan to be the second most
important market next year, analysts say. That makes the market too
good to resist — and therein lies the problem. There are just too many

Car sales in China have climbed 38% in the first three quarters of
this year, but carmakers have increased their output even faster,
causing fierce competition and a slow erosion in prices.

Mazda, the Japanese affiliate of Ford, said at the show it would
have flat sales in China this year because of increasingly intense
competition and a seven-month loss of production for one model due to
regulatory problems.

Falling tariffs and a plethora of new models and new car factories
in China have brought prices down to international levels for
well-known models like the Honda Accord.

That makes it particularly tough for new entrants, such as Škoda, the Czech carmaker now owned by the Volkswagen, which was at the show
to introduce Chinese carbuyers to the Škoda brand. Škoda hopes to
piggyback its China strategy on the local production facilities and
distribution network of Shanghai Volkswagen, its parent's JV.

In early 2007, it will start manufacturing the Octavia in Shanghai,
and Fabia and Superb models will follow later. In western Europe, Škoda
has struggled to shake of the dated image it acquired in the 1970s with
models such as the Rapid (see picture), which traced their history back
to before the second world war.

Presumably the image problem will not be such an issue in China.
Nevertheless, it is difficult to see a brand like Škoda making much of
an impact in China and it risks getting caught in the squeeze between
better-established foreign volume producers on one side and low-end
domestic brands on the other.

After practically disappearing before an onslaught of
foreign-dominated joint ventures in the 1990s, China's home-grown car
industry has emerged with renewed strength in recent years. Today,
Chinese brands hold more than a quarter of the domestic market and that
figure looks likely to rise.

Indeed, the government is guaranteeing loans for domestic carmakers
and ultimately aims to boost the domestic market share of
Chinese-branded vehicles to 60% by 2010, according to this BusinessWeek story.

Traditionally, Chinese carmakers have acquired their technical
know-how from foreign carmakers either through JVs or, in the case of
SAIC's new Roewe brand, by buying the technology outright from failed
UK carmaker MG Rover.

But many Chinese executives complain that western companies do not
transfer their latest designs, and so Chinese companies are likely to
start spending more on R&D to reduce their dependence on foreign
technologies and brands.

Next year, SAIC will unveil a smaller mid-class sedan based on a new
platform that it has developed itself. In the next five years, it plans
to have a full range of own-brand cars covering all segments and
comprising more than 30 models. More on SAIC's Roewe strategy here.

As the domestic manufacturers move steadily upmarket with
higher-specification vehicles, that will further increase the pressure
on foreign carmakers, particularly as there is little brand loyalty among Chinese car buyers.

One of the few segments that is not yet suffering intense
competition is high-end luxury models, where Chinese manufacturers do
not really compete — at least not yet. Thanks to China's growing army
of tycoons — there are more than 300,000 millionaires — western
luxury brands have found a new and untapped market.

Last year, Bentley sold 64 cars in the Chinese mainland, 30 of which
were Bentley Arnage models, with a minimum price of almost 3.9m yuan.
China is now BMW's fastest growing market and sales soared 50% last
year to more than 23,000 cars.

See this Deutsche Welle story for more on luxury cars at the motor show. BusinessWeek also has a story on the luxury car theme.

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