Detroit Spinning Out Fuels China’s Auto Dreams

(Bloomberg Opinion) -- As Donald Trump drums up a trade war, China's industrial policies are poised to give a boost to some little-known companies that already dominate crucial areas of the global auto industry.

In recent days, Beijing has dialed back the “Made in China 2025” campaign that's been central to the Trump administration's argument that the nation is using unfair business practices to gain an edge. Domestic media have been told not to mention the initiative, according to the New York Times, while the editor-in-chief of a state-owned science magazine said the nation's technological prowess is still far less than the world thinks, the South China Morning Post reported.

But central planners haven't retreated from policies aimed at shaping global leadership for Chinese companies. In draft rules released quietly last month, the National Development and Reform Commission laid out a blueprint that will effectively transform the auto industry. It gave participants unusually short notice to comment, as Mark Schaub of law firm King & Wood Mallesons noted.

The rules strive toward ambitious goals: fewer fossil-fuel cars, better electric models, “intelligent and connected vehicles,” industry consolidation and — most notably — auto components and parts such as engines and batteries.

The focus on parts is astute. Already the likes of Fuyao Glass Industry Group Co. and Minth Group Ltd. are among the biggest exporters of auto glass and other car systems globally.  The U.S. parts industry has gone the other way. In the 1980s, the Detroit Three that accounted for almost 90 percent of auto sales produced their components in-house. Over time, they spun off businesses that now account for 70 percent of auto parts, according to a report by the Case Western Reserve University's Driving Change project. Carmakers leveraged the supply-chain effect to push costs down.

China embraced the spun-off bits. Take Zhejiang Sanhua Intelligent Controls Co., which has become the country's biggest supplier of heating, ventilation and air-conditioning components. The Shenzhen-listed company is increasingly moving into supplying carmakers from its traditional air-conditioner and refrigerator parts. Its electronic expansion valves control energy efficiency in heating and cooling systems.

Last year, Sanhua became the sole supplier of these valves to Tesla Inc., according to Goldman Sachs Group Inc. It also has contracts with Daimler AG, Volvo Cars, and NIO, the electric vehicle startup backed by Tencent Holdings Ltd. Around half of its revenue comes from outside China, with about a 10 percent share of the global auto components market, according to Goldman. Sanhua, which listed in Shenzhen in 2005, has acquired companies in Germany and the U.S. and also had a Japanese partner in the 1990s. 

The auto blueprint represents a strategic shift for Beijing, whose last attempt to forge an industry policy created volume but no domestic champion. While China has become the world's largest car market, sales are dominated by foreign automakers that manufacture through joint ventures with local partners. Government subsidies, meanwhile, have sustained a cluster of unviable and decrepit provincial vehicle manufacturers.

The parts business isn't as splashy as that of cars. But China provides an ideal testing ground for component makers to hone their advantage.

Consider this: China has almost 400 car models on its roads, compared to just over 200 in the U.S. Every buyer is looking for newer models with the latest content and higher efficiency. Beijing's intelligent and connected vehicles policy is central to its auto strategy, with clearly defined goals such as 10 percent of all cars being partly autonomous by 2020. Components are constantly being upgraded — and in a highly competitive industry grappling to contain costs, they help carmakers to differentiate their offerings.

Sure, competition will increase: As part of its tariff reductions in May, the Chinese finance ministry lowered import duties on parts to 6 percent, from 8 to 25 percent. The change goes into effect on July 1. And the broader auto industry is showing signs of slack that will weigh on some suppliers. Sales growth is slowing in slices of the market, with demand for luxury and electric cars from the likes of Beijing Benz Automotive Co., BMW Brilliance Automotive Ltd. and homegrown Geely Automobile Holdings Ltd. outpacing mid-range models.

Still, as long as Beijing's policy support remains in place, the chances are that companies such as Sanhua will stay ahead.

To contact the editor responsible for this story: Matthew Brooker at mbrooker1@bloomberg.net

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