Brazil, Russia, India and China disappoint as manufacturers face investment demands of EVs © Bloomberg
Less than a third of China’s 31,000 auto dealers were profitable in the first half of 2019, as I describe in my latest post for the Financial Times, published on the BeyondBrics blog
Auto markets in the Bric countries are facing two major challenges. The first relates to the downturn already under way in the two largest markets, China and India, where 2019 sales seem likely to be at least 10 per cent below the previous year’s levels.
The second is the need for manufacturers and parts suppliers to spend billions of dollars on the transition to electric vehicles in order to meet Chinese government production targets in 2021-23.
It therefore seems probable that winners and losers will emerge over the next 18 months, as companies along the value chain find themselves short of cash to fund the new investments required.
China’s downturn is particularly important as sales in Brazil, Russia and India have already fallen by 20 per cent since peaking in 2012, as the chart below shows (January-November basis). Chinese sales have been in a downturn for more than a year, and the impact is broadening along the supply chain.
As Automotive News reported: “We knew China had been in a prolonged auto sales slump, and we knew the market was under pressure from tougher municipal and provincial emissions standards. Now, we’re seeing how these factors are devastating dealerships, to the tune of half of them being sold and several hundred being driven out of business.”
Less than a third of China’s 31,000 dealerships were profitable in the first half of 2019. The downturn is particularly bad news for western manufacturers, whose global profits have depended on China volumes.
US brands are worst hit, with January-November sales down 23 per cent due to frictions caused by the US-China trade war. General Motors reported third-quarter China sales down 17.5 per cent, continuing their slide since the second quarter of 2018, with sales also hit by strong competition in the key mid-priced sport utility vehicle segment. Ford saw its third-quarter sales fall 30 per cent — accelerating the downturn that began at the end of 2017.
French brands are having a difficult time, with volume down 54 per cent in January-November. Seventy per cent of Peugeot, Citroën and Renault’s dealerships were lossmaking in the first half of last year.
Korean brands were down 15 per cent, and even German brands had no growth over the previous year.
The problem is magnified by the fact that China’s market has seen rapid growth since 2008. Many companies and dealerships therefore assumed that the sales ramp-up from 550,000 vehicles a month in 2008 to 2m a month by 2016 was somehow “normal”. They have no concept of a slowdown, or how to survive it.
The downturn is likely to intensify as the government continues to squeeze the shadow banking sector and hence the property market. As the chart below shows, shadow lending remains well down on its earlier peaks, averaging just $67bn a month in the 10 months to October. This means, as we noted here a year ago, that “buyers can no longer count on windfall gains from property speculation to finance their purchase”.
As Reuters notes, the scale of the previous stimulus-driven growth also means that today, “much of the urban middle class has already purchased a vehicle. Household ownership rates were nearing 50 per cent in the provincial-level cities of Beijing and Tianjin and the wealthy province of Zhejiang by the end of 2017… Pushing ownership further down the income scale in urban areas as well as out into the poorer countryside is harder without generous tax incentives, plentiful credit and fast growth in incomes.”
Sales in the other Bric markets are also slowing. India’s sales were down 13 per cent at the end of November, while in Russia the industry is now forecasting a 2 per cent decline. Even in Brazil, industry trade group Anfavea has reduced its growth forecast to 8 per cent, due to the slowing Latin American economy.
The downturn creates a major dilemma for the industry, as it coincides with the need to commit to major new investments in EV manufacture.
China is proposing to set a 14 per cent target for EV production in 2021, rising to 16 per cent in 2022 and 18 per cent in 2023. Similarly, the industry ministry has called for EVs to be 25 per cent of total new car sales by 2025, and announced that “regions with ripe conditions have our support if they establish trial projects to establish no-go zones for gasoline-powered vehicles and replace them with new energy vehicles in the urban public transport system”.
Companies therefore have to move forward with EV investments, even though their profits are under pressure from the sales downturn.
Volkswagen, for example, is planning to open two Chinese EV factories this year with total capacity of 600,000 cars, and aims to produce 11.6m EVs in China by 2028. Tesla is opening capacity for 250,000 cars and plans to double production in the future.
With other manufacturers following suit, some in the industry expect EV prices to fall below those for internal combustion engines within the next two years, which would further accelerate the transition.
The industry is therefore faced with a stark choice. The need to commit to EV manufacture means there is no “business as usual” strategy for either manufacturers or parts suppliers. Those who decide to conserve their cash risk finding themselves without the relevant products and services in the world’s largest auto market.
Paul Hodges publishes The pH Report.
Serious questions need to be asked about the likely level of future demand growth for oil and auto sales in Emerging Markets (EMs), as I describe in my latest post for the Financial Times, published on the BeyondBrics blog
Oil market volatility has reached near-record levels in H1 this year, as the first chart shows. It has averaged nearly 10% a week, and over the past quarter-century its three-month average has only been higher during the Gulf War and the subprime crash. Yet there have been no major supply disruptions or financial shocks to justify such a dramatic increase. Instead, July’s report from the International Energy Agency reminds us that:
“OECD commercial inventories built by 13.5 mb in May to end the month at a record 3 074 mb. Preliminary information for June suggests that OECD stocks added a further 0.9 mb while floating storage has continued to build, reaching its highest level since 2009.”
The problem is two-fold:
- Financial markets are now reaching the hard part of the Great Unwinding of policymaker stimulus, which began nearly two years ago as we have described in beyondbrics. Their key role of price discovery has been subverted by the tidal waves of central bank liquidity, and today’s elevated levels of volatility suggest it will be a difficult journey back, as markets return to valuations that are instead based on the fundamentals of supply and demand
- Life has not stood still over the past few years, and so there will also be plenty of surprises along the way as players are forced to recognise that many of their core assumptions are either untrue or out of date. The excitement of the 2009–2014 stimulus period, for example, seems to have led many investors to ignore the 2012 warning from then Saudi oil minister Ali al-Naimi that “Oil demand will peak way ahead of supply”. Today, they are being forced to play catch-up, as they digest the implications of Saudi Arabia’s new National Transformation Plan. Yet its core objective that “Within 20 years, we will be an economy that doesn’t depend mainly on oil”, is clearly linked to Naimi’s earlier insight.
New data from the US Energy Information Agency (EIA) confirms Saudi Arabia’s need for a change of direction, as the chart shows. The EIA’s reference case scenario out to 2040 suggests that US energy consumption will increasingly be led by natural gas and renewables, and notes that
“Petroleum consumption remains similar to current levels through 2040, as fuel economy improvements and other changes in the transportation sector offset growth in population and travel.”
Nor are these trends confined to the US. As Nick Butler has argued recently in the FT, conventional forecasts of ever-rising energy demand driven by rising populations and rising prosperity in the EMs appear far too simplistic. Instead, as he notes: “Demand has stagnated and in some areas is falling.”
Developments in the transportation sector (the largest source of petroleum demand), confirm that a paradigm shift is now underway along the whole value chain. As Dan Amman, president of GM, highlighted in the FT last year, when discussing the value proposition for city dwellers of buying a new car:
“It’s the last thing you should do because you buy this asset, it depreciates fairly rapidly, you use it 3 per cent of the time, and you pay a vast amount of money to park it for the other 97 per cent of the time.”
China’s slowdown confirms the depth of the challenge to conventional thinking about future auto and oil demand. Many still assume that EMs will account for two thirds of global auto sales by 2020, and underpin future oil demand growth. But the China-induced collapse of commodity export revenues in formerly high-flying economies such as Brazil and Russia means that this rosy scenario is also in need of major revision.
As noted last November, Brazil was temporarily the world’s fourth largest auto market in 2013, whilst Russia was forecast to reach fifth position by 2020. But as the chart of H1 sales in the BRIC countries shows, volumes in both countries have almost halved since then. China’s own sales growth is also slowing, as the government’s need to combat pollution has led it to focus on implementing policies aimed at boosting the role of car sharing and public transport – while its focus on electric vehicles is a further downside for future oil demand.
As we move into H2, it therefore appears that the fundamental assumptions behind the $3tn of energy market debt – $100/bbl oil and double-digit economic growth in China – are looking increasingly implausible. And given oil’s pivotal role in the global economy, today’s near-record levels of oil market volatility may also be trying to warn us that wider problems lie ahead for financial and energy markets.
4 years ago, Brazil’s polyethylene market flagged up the first warning signs that its GDP was hitting headwinds, as China’s stimulus programme begin to slow. Today, sadly, the economy is in major recesssion, with the impeachment process against President Rousseff adding further pressure:
- World Bank data shows GDP fell 3.7% last year: they forecast “only” a 2.5% fall in 2016, but this looks optimistic
- The impeachment process is intensely bitter, with Rousseff in New York today to denounce what she calls “a coup d’état without weapons” at the United Nations
- Whatever happens, it is hard to see a quick return to normal, where all sides agree to work together
- And all this is taking place just before Brazil becomes the first LatAm country to host the Olympics in August
I saw the problems at first hand last December, when giving a keynote presentation at the 20th Annual Meeting of Brazil’s chemical industry association. The industry itself is run by people with plenty of energy and vision. But they are let down by a weak and seemingly corrupt political leadership, that blocks progress.
Now, of course, Brazil’s problems are starting to impact the wider world. As I noted last week, Brazil’s domestic car market is in crisis, with sales down 44% in Q1 versus 2013. As a result, auto manufacturers are starting to ramp up their exports, which grew 24% versus 2015, and accounted for 1 in 6 of all cars made in Brazil.
Polyethylene (PE) is following the same pattern, as the chart shows:
- Brazil used to be a net importer of PE, but Q1 saw net exports of 60kt versus net imports of 60kt in 2015
- Imports from the Middle East, plus NE and SE Asia, virtually disappeared; even NAFTA imports fell 16%
- Instead, Brazil’s own exports to Latin America jumped 49%, and rose 35% to China
This would be bad enough in terms of regional impact. But, of course, there is a much bigger impact just around the corner. This month has seen the start-up of 1.05 million tonnes of new PE capacity in Mexico from the Ethylene XX1 JV between Brazil’s Braskem and Mexico’s Idesa. This volume will have attractive economics, being based on advantaged cost ethane from Pemex.
As ICIS news reported, sales will be focused on both the domestic Mexican market and internationally. Inevitably, therefore, it will displace more exports from the US – just ahead of the vast expansions due to start up next year. Its production will also boost downstream output from local convertors, adding to pressure in these markets.
It is hard to see how all these new volumes can be accommodated without a major price war taking place. And whilst the war will start in Latin America, it must inevitably spread to other regions. Those companies which have lost their sales to Brazil, are already fighting to gain market share elsewhere in order to maintain their volumes.
The only solution, as we discuss in ‘Demand – the New Direction for Profit’, is for producers to invest in new business development. Areas such as water and food could potentially absorb major new volumes, if the effort was made to understand their currently unmet needs.
Common sense says this needs to be the top item on every CEO and business manager’s agenda. There really is no “business as usual” option, given the tsunami of product that is about to appear. And the the Losers in any price war will almost inevitably go bankrupt.
China’s slowdown is continuing to reverberate around the world. One way of measuring this is to look at auto sales in countries closely linked to China’s market such as Japan, Russia and Brazil. As the chart shows, they did well during China’s stimulus period, but they are struggling now. By comparison, more self-sufficient India has so far avoided the worst of the storm:
- Japan’s sales fell 24% in January versus 2014, confirming the 1.4% decline in its 2015 GDP
- Russia’s sales almost halved, as its currency collapsed in response to China’s slowdown
- Brazil’s sales were hit even more badly, down 52%, as the political crisis continues to escalate
- Only India was a relative island of calm, seeing its sales rise 7% over the period
Overall, January’s sales in the 4 countries were down by almost a third, 29%, to 800k. And during the 2008 – 2013 period, when China’s stimulus programme went into over-drive, the 4 countries sold 1 in 5 of all cars sold in the world. Today, they are back at just 16% of the global total, close to 2005′s level.
Its easy to overlook these second order impacts. But they are just as important, perhaps even more important collectively, than the direct impact of the slowdown in China itself.
One key issue is that China is aware of its problems, and has been focused for the past 3 years on overcoming them – hence its New Normal policies. But Japan, Russia and Brazil had no thought for the future:
- Japan introduced its own form of stimulus in Abenomics in 2013, even though the previous 20 years of stimulus showed this would inevitably fail
- Brazil and Russia assumed their export revenues would always continue, and allowed corruption to flourish at the expense of economic reform
- Only India has set out on a realistic reform programme since Premier Modi’s election victory in 2014, focused on meeting real needs for toilets and better living conditions
Russia highlights the scale of the reversal. Its real wages (ie adjusted for inflation) fell 11% last year. People don’t buy many cars, or other non-essentials, against this type of background. Yet less than 3 years ago, just as the bubble burst, Boston Consulting had forecast it would be the world’s 5th largest market by 2020, with sales of 4.4m.
These developments create major challenges, even for those not doing direct business with China. They highlight how the chemical industry has reached a fork in the road, just like the auto industry – its major customer. GM’s President, Dan Ammann, put it very well last month, when he warned:
“We think there’s going to be more change in the world of mobility in the next five years than there has been in the last 50 years”
His use of the word “mobility” is also significant. People around the world will still need mobility, but will they need to own cars to achieve this? Probably not, if they live in cities, which most people now do in the wealthy developed economies. Ammann highlighted this in June 2015, when commenting:
“It’s the last thing you should do because you buy this asset, it depreciates fairly rapidly, you use it 3% of the time, and you pay a vast amount of money to park it for the other 97% of the time”.
This paradigm shift is one of the main topics in our new Study – “Demand – the new direction for profit”, which will be published early next month. In it, we focus on describing the new business models needed for future success, and detail practical ways of using these to develop major new revenue and profit streams for the future.
The world, as we see from the second order impacts of China’s slowdown, is dividing into Winners and Losers. There really is no going back to the BabyBoomer-led economic SuperCycle. And whilst all change is uncomfortable, the experience of Japan, Russia and Brazil suggests that failure to change can produce an even more unpleasant result.
I am just back from Sao Paulo, Brazil, where I was giving a keynote presentation alongside Brazil’s Finance Minister and other senior figures at the 20th Annual Meeting of the Brazilian chemical industry association, ABIQUIM.
As we all know, Brazil is facing difficult times. I lost count of the number of times the word “crisis” was mentioned during the meeting – the economy is in recession following the collapse of its commodity exports to China; major corruption scandals circulate around the state-owned oil company, Petrobras; and the country’s President, Dilma Rousseff, is threatened with impeachment. Ordinary life also remains difficult for the majority of Brazilians:
- GDP/capita at $6k is just 47% of the global average, despite rising 35% as the economy boomed due to China
- It peaked in 2013, and may well fall now that the economy has hit problems
- The core problem is that GDP/capita had stagnated at around $4k from 1980 – 2000
A key issue for today, as I discussed in my presentation, is that Brazil is now seeing its former ‘demographic dividend’ turn into a ‘demographic deficit’:
- Brazil’s population rose 70% from 122m in 1980 to 208m this year, but will rise just 10% to 229m by 2030
- The reason is shown in the slide – its high fertility rate in 1950 has now fallen 70%, from 6 babies/woman to just 1.75 babies/woman
- At the same time, life expectancy has risen by 40%, so the average Brazilian can now expect to live a further 18 years at age 65 – fantastic news for individuals, but a major strain for the country’s finances
As a result, Brazil’s median age is set to nearly double from 19 years in 1950 to 37 years by 2030.
In the past, Brazil always had the reputation of being ‘the country of tomorrow’. Brazilians would all agree that things weren’t perfect “at the moment”, but believed they were about to improve. And for a period, during the China boom decade, it seemed as though this confidence was well-founded. Today, however, the picture is not so rosy.
The good news, however, is that Brazil’s chemical industry – like other key parts of the economy – is run by people with plenty of energy and vision. If the dead-weight of corruption and political cronyism could be removed, then it could move ahead very strongly. Brazil is, after all, the 6th largest chemical industry in the world, with a domestic market of over 200m people.
In addition, I heard very positive comments from senior executives on the new administration in Argentina. President Macri has only been in power a few days, but is already moving fast to try and clear up the mess he has inherited. And elsewhere in the region, the opposition victory in Venezuela’s parliamentary elections is spurring hope that political change might finally be underway – although political crisis is likely to be the immediate result.
It is no exaggeration to say that a continuation of the status quo would be a disaster for Brazil. But real and sustainable change is possible if leaders come forward who focus on sensible policies rather than slogans. Such a change would also make a major difference in the rest of the continent, and support those in Argentina, Venezuela and elsewhere who are trying to change the failed policies of the past.
Hi data for auto sales in world’s top 7 markets is confirming my suggestion last October that global auto sales had reached their “top of the mountain moment“. Total volume was down 2.1% versus 2014, with sales in Russia and Brazil showing major downturns. As the chart shows, the sales decline is focused on the BRIJ nations (Brazil,Russia, India and Japan), where only India is now in positive territory.
These had previously been expected to show fast growth, but the picture has changed with China’s slowdown underway:
Russia is the worst affected, with sales down 41% versus 2013 and 37% versus 2014. It has been hit by lower oil prices and the Ukraine-related sanctions. Ford have now joined the list of foreign companies having to recapitalise their business. And Russia’s Industry Ministry and Boston Consulting Group analysis suggests recovery could take till 2020. One sign of the liquidity problem is that used car sales are down 24% at only 1.8 million.
Brazil is also badly affected, with sales down 26% versus 2013 and 20% versus 2014. It has been hit by China’s slowdown, which has impacted its major commodity exports. Around a quarter of the economy depends on the auto industry and already 10k employees have been laid off, with 36k on paid leave – even so, inventories have risen to 55 days. Dealers’ association Fenabrave now forecasts a 23% fall in total 2015 sales – equaling 1998′s collapse after the Asian crisis.
Japan saw sales down 3% versus 2013 and 12% versus 2014. Its key problem is its ageing population – older people drive less than when they were young, as they no longer drive to work once retired or need to act as a taxi service for children. Auto sales thus confirm the lack of logic behind Premier Abe’s vast stimulus programme. People brought forward auto purchases in Q1 2014, in advance of April’s sales tax increase. But contrary to the government’s expectation, sales have still not rebounded after this downturn.
India remains the bright spot amongst the 4 markets, with sales up 6% versus both 2013 and 2014. Its 1.34m volume means it has now overtaken both Brazil (1.27m) and Russia (0.8m), and is heading back towards its peak year of 2012. But it will take a long time for car sales to catch up those of motorbikes, which continue to dominate the market at 81% of total sales: car sales are currently at just 13%.
One interesting development is Eicher Motors‘ launch of a diesel truck that doubles as a miniature power station. Retailing at just Rupees 232k ($3645), its 3kW supply could be ideal for wealthier homes and small businesses amongst the 300m Indians who lack reliable electricity supplies.