Five Competitive Forces in China’s Automobile Industry

Zhao Min, Ph.D. Candidate, University of Paris I Panthéon-Sorbonne, France

ABSTRACT

China’s automobile market posted very rapid growth in recent years, and it was the third biggest automobile
market in the world in 2003. Because China’s large market draws many foreign automobile actors, how to be
successful in the competition in China is an essential question for Multinational Enterprises (MNE). This paper will
attempt to define the conditions of competition for MNEs in China through the industrial competitive framework of
Porter, and to demonstrate how it influences the MNE strategy and competitive position. In particularly, this paper
provides a comparison of the competitive position of American, European, and Japanese automobile multinationals
in China.

1. INTRODUCTION

In the past ten years, the production of motor vehicles in China has seen an average annual growth rate of
15 percent, compared to a world average of 1.5 percent in the same period. China produced 4.4 million vehicles in
2003 (OIAC 2004) with a growth of 35 percent from 2002, becoming the fourth biggest vehicle manufacturer in the
world, just after United States, Japan, and Germany. Rising consumer wealth levels have been a major contributory
factor to the sudden explosion in the car market. According to the world market research center, Chinese consumers'
purchasing power has risen to $5,500, which has historically been the level of car consumption in other markets.
With 4.5 million vehicles sold in 2003, China now is the fourth biggest automobile market in the world (WMRC
2004). Several institutes argue that China’s vehicle market is set to almost double until 2008, challenging Japan for
its position as the world's second-largest auto market. China’s big market draws many of foreign automobile actors.
Almost all of the world’s top automobile assemblers and suppliers have invested in China, with Volkswagen, PSA,
General Motor, Delphi, Visteon, Valeo, and Man as early entrants, and Honda, Toyota, Nissan, Hyundai, and Denso
coming in later. The competition is becoming increasingly fierce. With all the world’s leading global automakers
ramping up production in a bid to dominate the local market, the tensions have begun to mount among foreign
automobile enterprises.

In this context, it seems important to know the environment of the Chinese automobile industry with the
view of establishing an appropriate strategy for automobile MNEs to achieve success in China.

We analyze the China’s automobile industry through the Porter’s industrial competitive framework because
it not only offers insights into the environment of the automobile industry, but also influences the MNE’s strategy
and competitive position. We start by presenting this theoretical framework (section 2). We then apply it to China’s
automobile industry (section 3) before our tentative conclusion in comparing the competitive position of American,
European, and Japanese automobile multinationals in China (section 4).

2. THEORETICAL FRAMEWORK

Strategy is the creation of a unique and valuable position, involving a different set of activities (Porter,
1998). The success of competitive strategy is a function of the attractiveness of the industries in which the firm
competes and of the firm’s relative position in those industries (Porter 1980). According to Porter (1982), the
competitive game in an industry entails five forces:
• Context of strategy and of rivalry of enterprises
• Threat of potential entrants
• Threat of substitute products
• Bargaining power of customers
• Bargaining power of suppliers

The strategy of automobile MNEs in China is to create a valuable position in the automobile industry;
above all, it depends on the nature of China’s automobile industry in which exists the international competition. We
will analyze the environment of the Chinese automobile industry through the five forces of an industrial competition
of Porter.

The Journal of American Academy of Business, Cambridge * Vol. 7 * Num. 1 * September 2005 99
 3. ANALYSIS OF CHINA’S AUTOMOBILE INDUSTRY BY FIVE COMPETITIVE FORCES

Contexts of Strategy and Rivalry of Enterprise

The context for strategy and rivalry relates firstly to the automotive industry policy. The Chinese
government declared the automotive industry a “pillar” industry in 1985, targeted for financial and developmental
assistance. The automobile industry is the first among Chinese industries to be backed by a formal state industrial
policy. This policy was first formulated in 1987 and modified in 1994, with emphasis on three points: to shift the
product mix of the industry from commercial vehicles to passenger cars; to boost economies of scale by
restructuring the industry from a situation of fragmentation and miniaturization towards concentration; to seek
technology transfer by inviting the participation of foreign companies. However, operational practices involve a set
of limitation measures for foreign investment. The most important obstacles are high tariff and non-tariff barriers,
foreign investment limits, and local content requirements.

China’s WTO membership (in December 2001) favors the liberalization of trade and the establishment of
foreign corporations in terms of customs rights, property rights, distribution, finance, etc. Tariffs for automobiles
will be reduced to 25 percent by 2006 from about 50 percent currently. With China’s WTO accession, foreign-
invested companies may currently distribute all products manufactured in China. Within one year, they will be able
to distribute both domestic and foreign products. However, the form of investment for automakers remains the major
limitation. Automobile assembly firms have to enter China in cooperation with local partners, and foreigners are
limited to a maximum 50 percent shareholding, although there is a possibility for foreigners to constitute a majority
in joint ventures (JVs) for engine construction. Local content requirements are encouraged in China’s automobile
industry, in order to achieve the complex industrial development and self-reliance requirement. Local contents of
assembled vehicles vary with different tariff rates; for example, the tariff on Completely Knocked Down (CKD) kits
is reduced if local contents are increased. For the first three years, the tariffs on imported CKD parts is 50 percent;
after the fourth year, the local content rate between 60–80 percent corresponds to 48 percent tariff, 40–60 percent to
68 percent tariff, and under 40 percent to 80 percent tariff (Lee et al. 1996).

Figure1—China's big three auto groups and their principal foreign partners

SAIC
GM
FAW
Dongfeng
DaimlerChrysler

VW

PSA

Toyota

The competition in China’s automobile industry is from both domestic and foreign firms. There are more
than 130 car factories, supplied by more than 3,000 companies delivering parts, an industry covering almost as much
as that of the United States, Europe, and Japan together, but the internal production remains well below any of these
big producer countries. The government therefore has designated seven national automotive firms as the “key firms”
to challenge the foreign ones. Furthermore, China’s recent five-year plan (2001–2005) for the automobile industry is
aimed at forming three auto giants in the years ahead. These three groupings are: First Automobile Works (FAW),
Shanghai Automobile Industry Corporate (SAIC), and Dongfeng Automobile (Dongfeng). While seeking the
consolidation, the government has enabled these three companies to pursue alliances with foreign automobile
manufacturers. These alliances favor domestic firms by raising technology levels, achieving greater economies of

The Journal of American Academy of Business, Cambridge * Vol. 7 * Num. 1 * September 2005 100
scale, and assuring a continued strong presence in the passenger car segment, in particular. Indeed, all the big three
have formed links with the world’s leading carmakers (Figure1), which will ensure their survival during the
inevitable consolidation of the industry, while competition heats up over the next five years. Certainly, the Chinese
big three will begin to use their technology and knowledge to mount a challenge to their foreign rivals in the car
segment in the longer term.

FDI inflows in the Chinese automotive industry started to accelerate sharply with the expansion of the JV
from 1992. There were about 20 JVs till the end of 1989, but they increased to 120 in 1993 and skyrocketed to 604
in 1998, with an accumulated investment of $21 billion, accounting for 9 percent of China’s total FDI stock during
this period (according to Ministry of Foreign Trade and Economic Cooperation data). Since the first ten original
world equipment manufacturers were set up in China (Tables 1 & 2), the automotive market is considered
increasingly competitive worldwide.
Table 1—World motor vehicle production by manufacturer in 2003
Total Passenger Commercial Heavy Coachs &
Manufacturers Vehicles Cars Vehicles Trucks Buses
1General Motors (Opel-Vauxhall) 8,185,997 4,682,656 3,479,713 23,628 -
2 Ford (Jaguar-Volvo Cars) 6,566,089 3,320,706 3,189,662 55,721 -
3 Toyota 6,240,526 5,369,176 638,748 232,602 -
4 Volkswagen Group 5,024,032 4,843,085 158,856 15,819 6,272
5 DaimlerChrysler (with Evobus) 4,231,603 1,819,973 2,149,526 228,461 33,643
6 PSA Peutgeot Citroën 3,310,368 2,934,641 375,727 - -
7 Nissan 2,942,306 2,363,155 448,849 130,302 -
8 Honda 2,922,526 2,868,705 53,821 - -
9 Hyundai-Kai 2,697,435 2,275,535 92,504 144,809 184,587
10 Renault-Dacia-Samsung 2,386,098 2,110,557 275,541 - -
Source: OICA Statistics Committee
Table2—Ten top passenger car manufacturers in China in 2002
Manufacturer Sales (unit) Market share
(Growth rate to 2001) (Ratio of 2002/2001)
SVW 301,095 (24.9) 23.8 (-6.6)
FAW-VW 207,858 (66.4) 16.4 (0.6)
SGM 110,763 (89.9) 8.8 (1.4)
FAW-Toyota 95,433 (35.7) 7.5 (-1.3)
Dongfeng Citroen 85,088 (60.0) 6.7 (0)
Changan Suzuki 65,018 (50.9) 5.1 (-0.3)
Guangzhou Honda 59,151 (15.9) 4.7 (-1.7)
Cherry 50,155 (73.8) 4.0 (0.3)
Geely 45,972 (97.0) 3.6 (0.7)
Fengshen auto 41,060 (133.0) 3.2 (1.0)
Passenger car in total 1,265,050 (59.6)
Sources: China Auto News, Japan Economic Journal. 2003. Cited in Lee & Fujimoto, 2003, The Chinese automobile industry and the strategic
alliances of China, Japan, and US Firms, IMVP working paper.

Figure 2—Market share of passenger car in China in 1997and in 2002

1997 2002
4%5% SVW SVW
5% 24%
FAW-VW 26% FAW-VW
7% SGM
Toyota
48% FAW-Toyota
Suzuki/GM-Changan
5% Dongfeng Citroen
21% Dongfeng Citroen 16%
5% Changan Suzuki
Daimler/Chrysler-BAIC Guangzhou Honda
10% 7% 8% 9%
Others Others

Source: Company reports and Chinese auto news.

The Journal of American Academy of Business, Cambridge * Vol. 7 * Num. 1 * September 2005 101
 As a pioneering foreign carmaker in China, Volkswagen was the colossus of China’s car scene for years.
Since the start of production in its Shanghai JV in 1985, Volkswagen has been the carmaker leader in China’s
automobile market. Together with its second JV with FAW, the company represented more than 50 percent of market
share in China for almost 15 years (Figure2). Another pioneer in China’s automobile market is the PSA Group, with
its JV: Dongfeng Citroën, which handled about 5 percent of market share in 1997, 7.5 percent in 2000 and 6.7
percent in 2002.

Threat of Potential Entrants

However, the monopolistic position of Volkswagen in China is seriously threatened by new entrants and
developments of other foreign and national carmakers, due to the explosion of vehicle demand in China since 2001.
The passenger car market in China continued to expand in 2002, with a 42.8 percent increase to 0.5 million units
sold. The rapid expansion of China’s automobile market has attracted global automobile manufacturers (Table 2,
Figure 2), such as GM, Toyota, and Nissan, challenging the dominance of VW in the car market. GM entered the
Chinese market with a $1.5 billon investment in its Shanghai joint venture with SAIC in 1997, which is the biggest
Sino– American joint venture, producing its famous Buick Saloon. Toyoto made its alliance with China's largest
automobile manufacturer, FAW, in 2002, and will manufacture Toyota's luxury "Crown" model in Tianjin beginning
in 2005. Japan's third largest automaker, Nissan, has made a foothold in China by its $2 billion JV with China’s third
largest car firm, Dongfeng Motor, in 2003, which is the largest automobile JV (in financial terms) in China. The
venture will offer six new models in the marketplace.

Furthermore, carmakers have all been reported to be mulling expansion plans in China (Table 3). For
example, Toyota will raised its production to 400,000 by 2010 with the launch of its Lexus luxury brand in China at
the end of 2004, following the start-up of six dealerships in major cities, including Beijing and Shanghai.
Meanwhile, BMW will raise annual output to 100,000 units by 2010 with its joint venture partner Brilliance in
Liaoning province in northeastern China; Hyundai is planning to double its annual production capacity at its Beijing
facility by 2005 to 300,000 units. Nissan is attempting to make up for lost time with a wider range of products,
although it trails its competitors, Volkswagen, General Motors, and Honda. The Nissan–Dongfeng hookup will
produce 220,000 cars and 330,000 commercial vehicles by 2006, according to company executives.
Table 3 Production expansion plans in China (unit)
Automaker Annual Capacity 2002 Planned annual capacity of production
SVW 280,000 330,000 in 2003
FAW-VW 200,000 300,000 in 2003
SGM 100,000 150,000 in 2003
Toyota 50,000 400,000 by 2010
Honda 120,000 240,000 by 2004
Nissan n/a 550,000 by 2006
Hyundai n/a 300,000 by 2005
BMW 0 100,000 by 2010
Ford 50,000 150,000
Source: according to company’s official report and China auto news

While General Motors, Citroën, and Honda have increased their investment in joint ventures with local
partners competing with the leader position of Volkswagen in China at the end of last century, BMW, Fiat, Toyota,
Peugeot, and Ford have all stated their intention to become major manufacturers in the country post-WTO.
Competition is heating up in China, not only in the passenger car sector, but also in the commercial vehicle sector,
while DaimlerChrylser is negotiating a joint venture agreement with FAW, and in the potentially lucrative bus
industry, with Fiat subsidiary Iveco, Mercedes-Benz, Volvo, and Daewoo all vying for market share.

Moreover, independent Chinese carmakers, such as SAIC-Chery and Geely (Table 2), have meanwhile
emerged as significant players by adopting aggressive pricing strategies in the fast-growing economy car segment.

Threat of Substitute Products

The recent emergence of the petrol-electric hybrid passenger car has drawn the most attention as a potential
mass-market environmentally friendly vehicle. By combining power sources, a hybrid vehicle reduces emissions and
is more energy-efficient than a conventional petrol-powered car.

Prius, the world’s first hybrid petrol-electrical vehicle, can be mass-produced for the ecologically
concerned market segment. It uses an electric motor, gets sixty-six miles to the gallon, and produces only half the

The Journal of American Academy of Business, Cambridge * Vol. 7 * Num. 1 * September 2005 102
normal amount of carbon dioxide as waste (WMRC, 2004). Toyota is eager to launch the low-emission Prius in
China because the potential for demand is strong amidst the country's expanding middle class, and increasing traffic
congestion due to a boom in the local car market. Indeed, the Chinese government places a great priority on cleaning
up vehicle emissions and improving fuel consumption, increasing the potential market for fuel-efficient, low-
emission hybrid cars.

GM is considering launching a hybrid SUV in China, according to the Detroit News. The hybrid SUV
would be assembled in its Shanghai JV, using technology developed by GM's Japanese affiliates, Suzuki and Fuji
Heavy Industries. There is strong potential for low-emission hybrid vehicles in China as the boom in car demand has
caused a major increase in air pollution levels. GM and Toyota are reportedly awaiting government regulations to
enable the launch of their hybrid cars in China.

BARGAINING POWER OF CUSTOMERS

The rapid economic growth of China has triggered a growth in purchasing power and sophistication levels
of local customers. Moreover, government policies can directly and indirectly influence conditions in a variety of
ways, such as the credit system and environmental safety regulations.

Before the 1990s, the majority of the automobile market in China was constituted by public buyers (groups,
and state companies) and there were few individual purchases. By 1995, private purchases had accounted for 30
percent of total vehicle purchases. Private ownership of automobiles has grown at a remarkable pace, from 0.8
million units in 1990 to 5 million units in 1999, or a 23 percent annual growth rate. In 2000, the percentage had risen
more than 50 percent, with more than 80 percent of minibuses and medium trucks purchased by individuals. The
total number of vehicles sold in China in 2002 is 3.25 million units, of which the private car segment has been for
the first time above 1 million units (1.09 M), a progression of 55 percent to the last year. According to the State
Development Planning Commission, private cars are expected to comprise 70 percent of China’s auto sales for the
next 10 years.

The withdrawal of state power from Chinese economic life and the emergence of the private consumption
modifies the profile of buyers. This tendency should be favored also by the progressive credit solutions; for instance,
four banks are authorized to offer credit: Construction Bank of China, Industrial Commercial and Bank of China,
Bank of China and Agricultural Bank of China. Private individuals can request a loan covering 60, 70 or 80 percent
of the total cost of the vehicle, repayable in five years. The proportion of vehicles purchased on credit has been
weak, but the entry of China into the WTO authorizes foreign finance services, and builders such as GM or VW, to
propose this type of service in favor of vehicle sales.

BARGAINING POWER OF SUPPLIERS

The presence of capable specialized suppliers and related industries constitutes an important local condition
for MNEs in China’s vehicle industry. Component suppliers tend to be scattered throughout China on a small
economic scale; according to official Chinese government statistics, at the end of 2001, there were 2,401 automotive
enterprises in China: 116 motor vehicle assemblers, 525 remanufacturers, 148 motorcycle assemblers, 148 engine
makers, and 1,558 automobile and motorcycle parts and component companies.

Half of the total production of parts would, officially recognized, originate with 387 firms that are mostly
situated in the big automobile production centers. More than 60 percent of major component suppliers are located in
two cities and three provinces: Shanghai, Tianjin, Hubei, Zhejiang, and Hebei. Standards in product development are
weak and there are no local suppliers able to operate on a modular or systems basis. The technology gap is
increasingly being filled by the arrival of global and Taiwanese parts suppliers, such as Tong Yang Industrial or
Cheng Shin Rubber, which have achieved a foothold in southeastern China by supplying mainly local Taiwanese
operations. In addition, nearly all the world leaders in the automobile equipment industry are installed on the
Chinese market: Delphi, Bosch, Valeo, Siemens, Allied Signal, ITT, as well as the top Japanese and Korean
corporations investing in JVs in China. The establishment of powerful worldwide automobile equipment-makers in
China offers automotive manufacturers support to develop and innovate. With the local content policy in China,
carmakers will continue to stock up from the increasingly competitive local market, and bring to market better
quality products with added value. Currently, the big worldwide automotive groups present in China are beginning
to get their supplies directly from the Chinese market to meet their international plans. The other important
supporting industry, the steel industry, is concentrated in the region of the Yangsi basin, stretching from Shanghai
(complex of Baoshan) to Anhui (complex of Ma’anshan), to Hubei (complex of Wuhan), up to the confines of

The Journal of American Academy of Business, Cambridge * Vol. 7 * Num. 1 * September 2005 103
Sichuan to the border of Yunnan (complex of Panzhihua). Thus, this region produces more than half of the vehicles
with engines made in China. First comes Shanghai (home of Shanghai VW and Shanghai GM) with about 30
percent of the regional steel production. Then comes the Hubei (half production of trucks, home of Dongfeng PSA
and Dongfeng Nissan) and Chongqing (half production of trucks, home of FAW Toyota), each with 20 percent of the
regional production; and next, the Jiangsu and the Jiangxi with respectively 12 percent and 10 percent of the
regional production (essentially of trucks).

4. TENTATIVE CONCLUSION IN COMPARING THE COMPETITIVE POSITION OF AMERICAN.

EUROPEAN, AND JAPANESE AUTOMOBILE MULTINATIONALS IN CHINA

Volkswagen’s success in China is due to its pioneer position there. In the ’80s, China applied a policy that
limited market entry for cars, and divided up the production of the automobiles between eight builders in defined
market segments. By this bias, Volkswagen controlled 60 percent of the Chinese car market. By the end of the ’90s,
the industrial policy had the objective of creating a competitive environment while trying to reinforce competition
among the foreign investors. Meanwhile, the Chinese automobile market was becoming one of the most widespread
in Asia, and the success of Volkswagen in China attracted foreign automakers. Announcements of joint ventures
between local and foreign carmakers have therefore come thick and fast. The monopoly position of Volkswagen was
destabilized by American and European leaders: General Motors and PSA Peugoet-Citroën. The competition in
China was becoming fierce, with the late Japanese comers, led by Honda, Toyota, and Nissan, after China’s entry to
WTO. Furthermore, the South Koreans are now seeking to enter the chase for market share through the expansion of
their operations.

GM now possesses a strong competitive position in China, with its largest alliance in Asia (about 49
percent stake in Isuzu Motors, 20 percent stakes in Fuji Heavy Industries and Suzuki Motor, a 42 percent stake in
Daewoo Motors. Isuzu has its subsidiaries in Jiangxi and Chongqing province of China, engaged in light truck
production). GM should take an overall consideration of accession strategies of its numerous subsidiaries and
holding companies, and make the most of China's advantages in human cost and market size processing to secure a
promising future in China. Indeed, GM’s strong competitive position is justified already by augmentation of its
market share, about 10 percent in 2003. Its sales in the first quarter of 2004 (68,304 vehicles), achieving a year-on-
year increase of about 140 percent, demonstrate the success of SGM and its competitive position in the future.
However, the other American carmakers: Ford and DaimlerChrysler’s current investments and cooperations in China
are far from enough for such a huge market.

European carmakers’ dominance in China is due to Volkswagen’s first entrant position, which gave the
company plenty of time for market exploration. Its two partners, SAIC and FAW, are the strongest in China, and
Volkswagen had good reasons to set up its Asian production base here. Volkswagen intends now to introduce the
most advanced manufacturing techniques into China, and bring its two Chinese ventures into its global orbit of
purchase, product R&D, and marketing. Making the most of its advantages, it will continue to strengthen its research
and development capability in China. Beside Volkswagen, the French company PSA offers product choices for
Fukang, Picasso, or Peugeot 307 in China; however, its market share has been limited to 8 percent for about fifteen
years.

Meanwhile, Japanese automakers ares stepping up their local production capacity in order to be the main
challenger to European and American companies in the Chinese car market over the coming years. Toyota is going
to deepen its cooperative relationship in extensive areas through a full-line strategy, targeting 10 percent of market
share in China. Nissan has entered into partnership with Renault to map out a "revival plan," in which investment in
China for sedan manufacture is a key link, with specific models and investment partners under consideration. In
addition, Japanese household sedans would have been the most competitive models in China if not hindered by a
long, slow market exploration. Seeing European and American car makers rushing into the Chinese market and
turning China into their production base, Japanese corporations have to consider the importance of China's market
from the angle of global competition. However, the target of 400,000 annual units of Toyota by 2010 is behind that
of Volkswagen and General Motors. Toyota's ambition of obtaining 15 percent of worldwide new vehicle sales,
becoming essentially the world's largest automaker by 2010, will not be achieved unless it capitalizes on a strong
performance in China, the fastest growing market.

Faced with the competitive intensity and to reinforce their competitive position in China, foreign
automakers not only need to accelerate their introduction of new models, including substitute products, such as

The Journal of American Academy of Business, Cambridge * Vol. 7 * Num. 1 * September 2005 104
hybrid or fuel cell cars of Toyota and GM, but also must develop the construction of after-sale service networks and
of financial services. For example, GM, Ford, and Volkswagen are negotiating with the Chinese government for auto
financing rights. Furthermore, while selling locally in China, Honda and Nissan are utilizing China as a production
base for export, in order to obtain preferential tax treatments and to receive permission to have more than 50 percent
ownership granted by the Chinese government to foreign companies specializing in exported car production.
Therefore, the cost of production is expected to fall sharply, as a result of expansion of production scale and rising
productivity.

REFERENCES
Annual Report of Volkswagen, General Motor, Toyota 2003
Dupuy Gabriel, Bost François. 2000. L’automobile et son monde. Aube
Heike Holbid, Robert Ash. 2002. China’s accession to the world trade organization, national and international perspectives. RoutledgeCurzon
Huang Yasheng. 1997. Between two coordination failures: automotive industrial policy in China with a comparison to Korea. Working paper No.
67, William Davidson Institute, University of Michigan Business School.
Lee Chunli, Chen Jin, Fujimoto Takahiro. 1996. Different strategies of localization in the Chinese Auto industry: the cases of Shanghai
Volkswagen and Tianjin Daihatsu. Working paper of MIT 1996 IMVP sponsor meeting. Sao Paulo, Brazil
Lee & Fujimoto, 2003, The Chinese automobile industry and the strategic alliances of China, Japan and US Firms, IMVP, 2003 working papers
Noble Gregory, 2002. Japanese auto production networks in China: too little, too late? Social science Japan, In China in transition, October 2002
OICA Statistics Committee
Porter Michael. 1980. Competitive strategy, techniques for analyzing industries Competitors. The free press
Porter Michael. 1982. Choix stratégiques et concurrence. Economica
Porter Michael. 1997. L’avantage concurrentiel. Dunod
Porter Michael. 1999. La concurrence selon Porter. Village mondial
World Market Research Center bases, 1999–2004

The Journal of American Academy of Business, Cambridge * Vol. 7 * Num. 1 * September 2005 105