"MADE IN CHINA" MAY BE STAMPED on the wares of your local auto showroom in not too many months. Leading the way are two eccentric entrepreneurs, Malcolm Bricklin, creator of the ill-fated Yugo, and David Shelburg, a colorful Arizona-based dealer. But more conventional auto makers are likely to follow.
This month, Honda Motor (ticker: HMC) begins exporting the Honda Jazz from China to Germany, and expects to sell some 10,000 in the first year. Honda hasn't said when it plans to export to the U.S., but DaimlerChrysler's China chief created a hullabaloo at April's Shanghai Motor Show by saying he's looking at manufacturing subcompacts in China for export to North America. "We've retracted that statement," snaps a Chrysler spokesman in Auburn Hills, Mich. "I can unequivocally tell you there are no plans to export any Chinese vehicles to the U.S."
Perhaps not immediately. But even as China's auto industry suffers from anemic volume and surging overcapacity, the pressure is on to ramp production. Consider that, according to J.P. Morgan estimates, sales of domestically manufactured cars totaled 2.33 million last year, versus total capacity of 3.8 million. And auto makers are adding capacity at a 20% to 30% rate, driving margins to the bone. The squeeze hit auto makers like Volkswagen (VOW GR) and General Motors (GM), and damaged an array of Chinese auto shares, including Brilliance China Automotive, Denway Motors, Qingling Motors, China Zhejiang Geely Group, Great Wall Automobile Holding, Shanghai Automotive Industry, and Jiangling Motors.
Malcolm Bricklin, who brought the Yugo to America, plans to import China's Chery (the convertible model is shown above), which he modestly claims "has the soul of a BMW or Lexus, at prices between $19,000 and $30,000."
"Selling 20,000 units domestically isn't going to do it because the cost structure is so high," says Michael Dunne, president of Automotive Resources Asia, a Shanghai-based auto consultant. "To have a chance of surviving in China going forward, you need to export." Dunne is betting on Chrysler (DCX) and VW exporting to North America in the next five years. (VW and GM are starting to export cars made in China to China's neighbors.) Chinese-made Corollas and Camrys from Toyota (TM) may not be far behind. Such plans are likely to cause tremors in Detroit's factories, and also in the American plants run by Japanese and Korean manufacturers.
For all the hype, it's still too early to bet on exports as an investment theme. China exported just 90,000 cars last year, most of them to places like the Middle East and Eastern Europe. The global giants aren't likely to risk their 100%-owned North American factories in favor of ventures that, for now, they are limited to owning 50% of by Chinese law. (Honda owns 65% of its exporting factory.) And car-production costs in China, counter to what you might believe, are still too high, given low total sales volumes.
"In three-to-five years, the export issue will be material to the investment case for Chinese auto stocks," says Jack Cheng, auto specialist at Boshi Fund Management in Shenzhen. Cheng believes that valuations have bottomed and earnings are recovering. But for now, it will be tough for profitability to snap back to last year's levels. THE BOTTOM LINE Chinese auto production already exceeds domestic sales, and is growing rapidly. But investors should be wary of the stocks, except a few already selling at distress prices.
Much also depends on lower prices for auto parts. That's sure to come as China pumps out more and more parts, many of them already destined for North America. Last year, China's auto-parts exports totaled $7 billion. That's expected to jump to $10 billion this year, and the government wants that number to grow to $100 billion by 2010.
Key for the imports to succeed is quality and dependability. "American buyers have become uninterested in where a car comes from if it offers good value," says Kevin Smith, editorial director at the Edmunds.com auto Website. Still, it took Hyundai Motor a decade to fix public perception of disastrous quality.
The boldest plans come from Chery, a private company that's working with Bricklin's Visionary Vehicles to bring cars to the U.S. beginning in 2007. Yet Chery is currently being sued by GM for stealing designs. Visionary optimistically plans to import 250,000 Chery vehicles in the first year and eventually 2 million annually -- out of 16 million annual U.S. car and light-truck sales. Bricklin claims Visionary will sell Chery vehicles "with the soul of a BMW or Lexus, at prices between $19,000 and $30,000."
There are several question marks, not least because Chery made fewer than 100,000 cars last year, and "is barely established in the domestic market, and its quality image is questionable," says Ashvin Chotai, head of Asian automotive research for Global Insight in London.
Shelburg's China Motor claims to have signed up 30 dealers to offer a line of Chinese-made cars beginning in October, priced at 30% below the U.S. competition. There's widespread skepticism about the plans of Shelburg, who's run afoul of transportation officials in the past. Shelburg claims he will introduce a four-door sedan called the Solo, complete with leather interior, with an suggested sticker price of $6,995 and a limited lifetime warranty. He says his manufacturers include Great Wall Auto, Geely Group, and Hebei Zhongxing Automobile Manufacturing. Shelburg figures he'll sell 75,000 Chinese-made cars in the first year.
Whatever the prospects, some fund managers are finding value in Chinese auto shares. One is Louis So, a portfolio manager at Hong Kong-based Value Partners, which oversees several China funds. "Some of the auto makers are trading at distressed levels," So observes. He declines to share specific names, but some of the cheapest certainly include Shenzhen-traded Changan Auto (ticker: 200625 CH), and Hong Kong-traded Great Wall, which has aspirations to export.
Zachary Karabell of Alger China Fund in New York is a fan of Changan Auto, which is down 40% for the past 12 months. "You don't want to get suckered into a value trap," says Karabell. Still, Karabell finds the stock cheap. And the export potential "makes it interesting," he says.
