Chinas Next Revolution: Transforming The Global Automotive Industry

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Third article in series on developments in China and the global automotive industry.

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ChinasNextRevolution: TransformingTheGlobalAutoIndustry ByBillRusso President,SynergisticsLimited Summary: HenryFordsintroductionofthemovingassemblylinein1908changedtheworld:making automotivetransportationaffordableforthemasses,acceleratingtheindustrialrevolution,and shapingthedistributionofeconomicwealth.Whiletheworldhaswitnessedgreattechnological advancesoverthepastcentury,theautomobileindustrystillresemblesthatwhichwas pioneeredoveracenturyago.Simplystated,thecrisisfacedbytodaysautomotiveindustryhas alottodowiththeapplicationofa"onesizefitsall"20thcenturyindustrialparadigmtoa21st centuryglobalenvironment.ThispaperdescribeshowtherapidlyexpandingChinamarkethas becomethecatalystdrivingthetransformationofthebusinessmodelandtechnological underpinningsoftheglobalautoindustry. Background IwasrecentlyaskedwhetherHenryFordwouldbeturningoverinhisgravebecauseof whatishappeningtotheAmericancarindustry.Myresponsewasthathewouldprobablybe moredisturbedbythefactthatthemassproductionbusinessmodelhasonlychanged incrementallyinover100yearssinceheintroducedit.Fordsintroductionofthemoving assemblylinein1908changedtheworld:makingautomotivetransportationaffordableforthe masses,acceleratingtheindustrialrevolution,andshapingthedistributionofeconomicwealth. While it is true that there have been significant technological advances as well as paradigmshiftsinthewaytoorganizeautomotivesupplychainsandassemblyoperations,one cannotdenythefactthatthecartodayisstillpropelledbyaninternalcombustionengine,andis assembledinafactoryenvironmentthatwouldnotseemverydifferenttoMr.Ford.Whilethe worldhaswitnessedgreattechnologicaladvancesoverthepastcentury,theautomobileindustry stillresemblesthatwhichwaspioneeredoveracenturyago.Simplystated,thecrisisfacedby todays automotive industry has a lot to do with the application of a "one size fits all" 20th centuryindustrialparadigmtoa21stcenturyglobalenvironment. Itisalessonofhistorythatallgreatdynastiesmusteventuallybereplaced.Thislesson alsoappliestobusinessmodels:theyareonlyrelevantforafiniteperiodoftimeandmustthen betransformedorreplaced.FordsMassProductionparadigmwasthetransformationalshift ofthe20thcenturyhelpingtosparkaneraofmobilityandeconomicdevelopmentpreviously unrivaledinhistory.Itisatestamenttoitspowerthatithasonlybeenincrementallyupdatedin thistimeframe.ThemostnotablerecentadaptationistheToyotaProductionSystemandits principles of lean manufacturing. However, many forces are driving the transformation of the globalautomotivebusinessmodel. The first article of this series entitled The Coming Structural Realignment of China's AutomotiveSectordescribedChinasemergenceasthelargestcarmarketintheworld,andthe potentialchangestothestructureofChinesedomesticindustry.ThesecondpaperentitledThe PathtoGlobalizationofChinasAutomotiveIndustryexplainedthechallengesfacedbyChinese OriginalEquipmentManufacturers(OEMs)intheireffortstoexpandinternationally.Thispaper describes how the rapidly expanding China market has become the catalyst driving the transformation of the business model and technological underpinnings of the automotive industry. 1 AcceleratingtheInevitableTransformation As noted in the first article in this series, we are living in historic times. The global economiccrisispresentstheworldwithacompellingcaseforchange,anditisintimesofcrisis whentrulytransformationalchangesoftenoccur.Itisimportanttonotethattheeconomiccrisis is simply a triggering event that freezes debate on whether change is needed and opens up opportunities for collaboration among governments, industry competitors as well as between government and industry. Several macroeconomic and sociopolitical challenges are directly linked with the automotive industry: the redistribution of global economic power, energy dependence,globaltradebalanceandenvironmentalconcerns.Thesheersizeandinfluenceof theAsianeconomiesespeciallyChinawilltriggertheinevitableandoverduetransformation oftheautomotivebusinessmodel. If you follow the trajectory of the past several years, you find that the strength in the globalautoindustryhasbeenshiftingeastwardtoplaceslikeIndiaandChina.Mostoftherecent growthintheworldsautoindustryhasbeenintheAsiaPacificregion,andmorethanhalfofthat growthoverthenextdecadeisforecastedtocomefromChina.ThegrowinginfluencethatChina wields is not just its ability to influence standards and direction, but also its ability to create opportunitiesthroughpartnershipsfororganizationsthatarefinanciallyweakened.Asaresult of the developments in their home markets, automotive companies and their suppliers must strive to deepen their participation in the China market if they hope to remain viable. It only standstoreasonthatcompaniesthathaveweakenedpositionsintheirdomesticmarketwould benefitbyredistributingsomeoftheirfocustothegrowthmarketsandinparticularChina. For 5 consecutive months in 2009, China has surpassed the US in total car sales, most recently posting May sales of 1.12 million units versus 925,824 vehicles sold in the US market. TheastonishinggrowthincardemandisadirectresultofmanyfactorsthatarefuelingChinas economy.Thisincludesthesignificantinvestmentmadeinthedevelopmentoftheinfrastructure tosupporttransportation.TheChinagovernmentviewstheautomotiveindustryasapillarof its economy since it brings technology, jobs and investment to the economy. As such, several agencies of the China government play an active role in sponsoring initiatives to further stimulateautomotivedevelopmentandgrowth.Whileitmaynotbeapparenttotherestofthe world, these initiatives are accelerating not just Chinas economic development they are also acceleratingtheinevitabletransformationoftheautomotivebusinessmodel. LeveragingtheEconomicCrisistoAchievePolicyObjectives This year, in order to face the financial crisis, many national governments have enacted stimulus plans designed to create jobs and stabilize the economy. In the case of China, the stimulusplanhasseveralintentions: Stimulatetheeconomywithaparticularfocusonbackboneindustries Pushahugeamountofcapitalthroughthebankingsystem(US$588billiontotalwith 45%ofstimulustargetedatinfrastructuredevelopment) Drivedomesticconsumptiontoreducedependenceonexports The China government launched the Automotive Industry Revitalization Plan in March, 2009. The plan included several features designed to stimulate the development of the automotive sector,including: Eight development goals for the industry from 2009 to 2011, designed to ensure domesticgrowthofautomobileproductionandsales Reducehalfofsalestaxfor1.6literorsmallercars Removerestrictionsonautopurchases Boostautosalesincountryside 2 Subsidizenewminibusorlighttrucksalesforruralresidents As a direct result, sales of vehicles engines with 1.6L or lower engines have grown by 56.5 percentyearoveryear.Chineseconsumersespeciallyfirsttimecarbuyersareinfacthelping to boost domestic demand and are taking advantage of the tax and other incentives currently available. The policy also encourages consumers to shop for more fuelefficient cars, which supports Chinas efforts to reduce fuel consumption. Targeting stimulus actions towards purchaseofvehicleswithlowerenginedisplacementhasthesecondaryeffectofcreatingdemand forsmaller,lowerpricedvehiclesandthistiltstheplayingfieldtowardlocalChinesebrands. FocusingtheDevelopmentofNewPropulsionTechnology Asthesizeoftheautomarketinexorablyexpands,Chinawillplayanincreasinglykeyrole inthedevelopmentofnewautomotivetechnologies.Tosomepeoplewhoobservetheindustry, this seems counterintuitive. Most industry watchers believe that development leadership is purelyafunctionofproductinnovation,andChinaisnotaplacewhereyouwillfindleadingedge innovation,especiallyforautomobiles.TheChinaautomotivemarketisstillveryyoung,andin manycasesthedomesticproducersofvehiclesthataresoldinChinaarealsofairlyearlyintheir development stage. But that is the view from the supply side. The area where China has the opportunitytoleadisonthedemandside. Chinasemergenceastheleadingautomotivemarketintermsofsaleshasseveral implications.Whilemostattentionhasbeenpaidtorelativesalesperformanceoftheforeignand domesticcompanies,whatisarguablyofmorelongtermsignificanceistheimpactofChinas marketexpansiononenergyconsumptionandenvironment.Tenyearsago,Bejing,Xian, Shenyang,ShanghaiandGuangzhouwerealreadylistedamongtheTop10citieswiththeworst airpollution.Themassivegrowthoftheautomotivemarketonlyaddstotheproblem. Additionally,Chinaimportstwothirdsofitsoil,anditseverincreasingthirsthashadadramatic impactonglobalenergyprices.Nodoubt,Chinahasaclearandcompellingneedtoreinventthe propulsiontechnologyoftheautomobile.Foralternativepropulsiontechnologiessuchasclean diesel,hybridandelectricvehiclesyouwillfindthatChinadoesnotleadthetechnological development. Toaddressthis,Chinasstimulusmeasuresaretargetinginitiativestoincreaseenergy efficiencyandreducegreenhousegasemissionsbyreducingenergyintensity,increasingthe shareofrenewableenergyused,implementingtoughautoemissionsstandards,andadding investmentsforcleanenergy.ChinasMinisterofScienceandTechnology,Mr.WanGanga formerautomotivedevelopmentengineerforAudihasrecentlyunveiledaplantosupportthe developmentofwhatChinacallsNewEnergyVehicles(NEVs).TheMinistryofScienceand Technology,workingwiththeMinistryofFinanceandtheNationalDevelopmentandReform Commission,issponsoringanambitiousplantopromotetheuseofNEVsinitiallytargeting13 pilotcities,whichincludeBeijing,Shanghai,Chongqing,Changchun,Dalian,Hangzhou,Jinan, Wuhan,Shenzhen,Hefei,Changsha,Kunming,andNanchang. Theplanincludessupportforthe developmentofenergysavingtechnologyforuseingovernmentfleets,includingbuses,postal, andsanitationvehicles.Theplantargetsthedeploymentof60,000energysavingvehiclesin Chinaby2012. WhileChinesecarcompaniestodaydonotleadthedevelopmentofpropulsion technology,theysimplydon'tneedtoatthistime.Considerthatabout45%ofChinas$588 billionUSDstimulusplanistobeinvestedinprojectsrelatedtodevelopingChinas infrastructure.Replacinginternalcombustionengineswithothertechnologiessuchashybrid electric,fullelectric,hydrogenpoweredvehiclesorcleandieselrequirescollaborationbetween businessandgovernmenttodeveloptheinfrastructureintandemwithdevelopmentofthe technology.Theeconomicsoftheproductitselfandultimatemarketacceptanceisverymuch dependentontheavailabilityoftheinfrastructuretorechargeorreplenishthefuel.Itsnot realistictoexpectacompanytoreinventthetechnologicalunderpinningsoftheautomobile unlessthereisaconcurrentdevelopmentandinvestmentintheinfrastructuretosupportthat newtechnologyvehicle.Thisisespeciallytrueintodaysweakenedglobaleconomy. Asthelargestautomotivemarket,andbecausetheChinagovernmenthasthecapacity 3 andwillingnesstoinvestintheinfrastructureforalternativepropulsion,thetechnologywill eventuallycometothemarket.Whenitdoes,theChinesecarcompanieswillbegintoclosethe gaprelativetotheindustryleaders.Whatmakesthedevelopmentofalternativepropulsion technologyparticularlychallengingisnotsimplythevehicleitselfbuttheneedforinventionof theinfrastructurefordeliveringrenewablesourcesofelectricityandinstallationofbattery charging/replacementstations.Asthelargestcarmarket,andtheplacewiththelargestneedfor alternativeenergysolutions,wecanexpecttoseeChinaplaceaheavyemphasisondevelopment oftheelectricvehicle(EV)infrastructure.Thecountrythatleadsthedevelopmentofthis infrastructurewillundoubtedlyleadinattractingtheinvestmentindevelopmentofthe technologiesthatplugintothatinfrastructure. Consumeracceptanceofnewenergyvehiclesisyetanotherchallenge.Whilethe infrastructureinvestmentsalreadydescribedwillhelptipthescalesinfavorofnewenergy vehicles,consumersmustalsobeconvincedthatthepriceandperformanceofthenewenergy vehiclecaninfactmeettheirexpectations.Asanationalpriority,wecanexpecttheChina governmenttohelpbyofferingincentivesfortheretailconsumertopurchasenewenergy vehicles.Chineseconsumershavelessexperiencewithgasolinepoweredcars,andarealready accustomedtoshortdistance,lowspeedcommutingconditionsveryfavorableforelectriccars. TheChinagovernmentswillingnesstoinvestintheinfrastructuretosupportalternative propulsiontechnologywillultimatelyhelpdrivedemandsidemarketacceptance.Thisiswhere Chinahastheopportunitytotakethelead,andthatwilldrivesupplysideinvestmentinnew technology.ForthedevelopmentofNEVs,theinfrastructuremustcomefirstandthiswilldrive supplysideinnovation.Ittakesacombinationofbusinessandgovernmentworkingtogetherto makesuchatransformationalchangepossibleandnowhereintheworldisthereacloserlink betweenbusinessandgovernmentthaninChina.UnliketherecentUSgovernmentintervention thatisoccurringwithnopreconceivednotionofthe"endgame"Chinaspolicymakershavefor manyyearsbeencraftingthedevelopmentplansfortheautoindustry.Theseplansaresurely notperfectbutsuchplanscomeinhandywhennavigatingacrisis. ReshapingtheAutomotiveBusinessModel Anunprecedentedrestructuringoftheglobalautomotiveindustryisunderway.Several OEMs and suppliers have filed for Chapter 11 bankruptcy protection, and are in the process of restructuring and selling assets in order to regain a profitable footing. However, it would be misleadingtolaytheblameforthefailureofthesebusinessesontheglobaleconomiccrisis.As described by this author in General Motors: The Fall of An American Icon, the recent global economic crisis has accelerated the need for restructuring through bankruptcy. The failure of automotive companies is the consequence of not transforming the 20thcentury industrial paradigmtoa21stcenturyglobalenvironment.Itwasneveraquestionofwhetherthedominant auto giants of the 20th century auto industry would fail, but when they would fail. The global financialcrisismerelyexposedthefatalflawsthatwerealreadypresentintheindustry. Thepainfulrealityofglobalizationisthatitisnotastraightforwardprocess.Inorderto becomeglobal,mostautomotiveOEMshaveattemptedtoexportabusinessmodeloptimizedfor theirhomemarkettotheirinternationallocations.Migratingdevelopmentcapacitiestomarkets thatlackthecompetencytoperformtheworkmissestheentirepointofglobalization.Worse,the blind pursuit of cost efficiency has resulted in many OEMs and firsttier suppliers outsourcing critical competencies that are necessary for differentiating the companys products. Pursuing cheappartsorcheaplaborisultimatelyselfdefeatingwhendoingsorobsanorganizationofits core competencies. Similarly, exporting a business model designed for the home market to foreignmarketsonlyservestolimittheabilityoftheorganizationtoembracethecapabilitiesof theforeignmarket. Automotive manufacturers in concert with their key stakeholders must redefine their business models for the new reality of 21st century competition. Going global is not a simple transplantofthecurrentbusinessmodeltoaforeignlocation.Itimpliesatransformationofthe entire automotive value chain to leverage the opportunities made possible by globalized capabilities.Itinvolvesredesigningbusinessprocessesacrossthevaluechaininordertodeliver 4 tothecustomerabrandwitharelevantUniqueSellingProposition(USP).Thiswillrequirethat 21st century global auto companies fundamentally rethink their entire value chain from the consumerbackthroughsalesandservice,production,supplyandR&D.Keystakeholdergroups, including the national governments with an interest in the global competitiveness of their domesticautoindustry,mustcontributetothisdevelopment. ChinasRevolutionaryRole:TheCatalystforTransformation WhilemanymayquestionwhetherChinacantakealeadershiproleinthetransformation oftheglobalautoindustry,onecannotdenytheinfluencethatChinahashadonrecent developments.ThesheersizeandgrowthoftheChinamarkethasforcedmostcompaniesto reprioritizetheircapitalplansandresourceallocation.Thereallocationofproductionand supplyresourcestoChinahasfundamentallychangedthecoststructureoftheindustrywhich changestheentirecompetitivepricinggame.Chinasincreasingthirstforenergyhascreated muchpricevolatilityintheenergyandresourcesector,whichhasadirectimpactonconsumer buyingbehavior.Chinasgovernmentpoliciesandcentrallyplannedeconomyhavesupported thecreationoftheinfrastructureneededtostimulateboththesupplyanddemandsideofthe autobusiness. Acatalystisdefinedasapersonorthingthatprecipitatesanevent.Thisisan appropriatecharacterizationofChinasroleinthetransformationoftheglobalautoindustry.In aglobalizedworld,wewilllikelyfindthatthetransformationoftheautomotivebusinessmodel maynotbelinkedtoanyonecompanyorcountry.Instead,successful21stcenturycompanies willbetheonesthatcanquicklyadapttotherealityofglobalization.Oneofthebestnon automotiveexamplesisAppleCorporation,acompanythathascarefullydeployedabusiness modelthatyieldsinnovativeproductswhileleveragingthebestandmostcosteffective capabilitiesfromhomeandabroad.Whilemanyautocompaniescouldarguethattheyareglobal, thisfundamentalApplestylerethinkoftheentirevaluechainhasreallynotoccurredinthe automotivecontext. The emergence of China as the largest automobile market in the world is a significant eventonlyinthesensethatitcausestheentireworldtotakenoticeofjusthowfastthiseconomy is developing and to also understand precisely how China is transforming the global auto industry.Ratherthantryinginvaintoturntheclockbacktothewaythingsusedtobe,itwould bewisetolearnhowtousethesetransformationalforcestodefineabusinessmodeltoleverage thecapabilitieswhichglobalizationmakespossible. Note: ThisisthethirdandfinalinstallmentinaseriesaboutthedevelopmentsoccurringintheChinese automotiveindustry. ABOUTTHEAUTHOR BillRussoistheFounderandPresidentofSynergisticsLimited,aChinabasedconsultancy focusedonbuildingsuccessfulcrossborderpartnerships.Hehasover25yearsexperiencein operations,strategy,businessdevelopment,andM&Aroles.Billisasoughtafteropinionleader, havingrecentlyappearedonCBSNewsandChinaRadioInternational.Hehasbeenquoted numeroustimesinsuchjournalsasNewsweek,theWallStreetJournal,theWashingtonTimes, StraitsTimesaswellasNationalPublicRadio.Heisalsoaguestautoindustrycolumnistforthe popularChinesenewspaperSouthernWeekly.Hisworkinstrengtheningoperational transparencyhasbeenfeaturedinleadingbusinessjournals(HarvardBusinessReview, Controllingmagazine). 5 Contact: http://www.synergisticsltd.com http://synergisticsltd.blogspot.com http://twitter.com/Synergistics http://www.linkedin.com/in/williamrusso 6

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