ASIA/EUROPE Global autos in Chinapg.jrj.com.cn/acc/Res/CN_RES/INDUS/2014/5/27/a8068...Beijing Haval...

Please refer to the important disclosures and analyst certification on inside back cover of this document, or on our

website www.macquarie.com.au/disclosures.

ASIA/EUROPE

GWM’s delayed H8 still on display at a Beijing Haval dealer

Source: Macquarie Research, May 2014.

Analyst(s) Macquarie Capital Securities Limited Janet Lewis, CFA +852 3922 5417 [email protected] Zhixuan Lin +86 21 2412 9006 [email protected] Leo Lin +852 3922 1098 [email protected] Macquarie Capital (Europe) Limited Jens Schattner +49 69 50957 8026 [email protected] Christian Breitsprecher, CFA +49 69 50957 8014 [email protected] Macquarie Securities Korea Limited Michael Sohn +82 2 3705 8644 [email protected] Macquarie Capital Securities India (Pvt) Ltd Amit Mishra, CFA +91 22 6720 4084 [email protected]

27 May 2014

Global autos in China 4 themes from the road in China Event

Macquarie’s global auto team hosted its 5th annual Global Autos in China Tour

the week of 19th May (being followed this week with the Indian Auto Tour).

Visits with industry experts, OEMs, dealers and parts suppliers all provided a

picture of a healthy and growing industry. We present our key conclusions

from the week-long trip as well as write-ups on our in-depth meetings with

Volkswagen (VW), Great Wall Motors (GWM), Changan and Guangzhou

Auto (GAC).

Demand outlook remains robust

Meetings with industry experts from both CAAM and LMC Automotive

Consulting reinforced our view that the China passenger vehicle (PV) market

can grow at a low double-digit pace. Both experts highlighted China’s still low

level of automobile penetration and expanding middle-class population as key

drivers of volume growth, even as more cities consider restrictions on auto

sales.

Wide range of technology and automation in the plants

We toured the assembly plants of GWM, Ford, local brand Lifan and GAC’s

own brand Trumpchi. While GWM and Trumpchi showed plants not far off

what one would expect in a developed market, the Lifan factory harked back

to the days of hand-made cars. GWM noted that while automation is often

more expensive than labour, the payback comes with enhanced quality.

Premium autos support dealers even as some turn to pre-owned cars

We met with Zhengtong, Yongda and Lentuo International and visited several

of their dealerships, including dealers for Ford, Jaguar-Land Rover (JLR) and

pre-owned BMWs. Overall we came away comfortable that demand for

premium brands especially is robust, and dealer profits are growing. Although

the pre-owned market is small at roughly a quarter the new car market, both

Yongda and Lentuo are putting in place dealers to meet demand from this

growth market.

Parts makers target both JVs and local brands

We toured factories for Nexteer and Fuyao Glass, both of which supply both

international and local brands. Both factories make some products in China

for export. Nexteer in particular highlighted the growth opportunity with

domestic brands, citing the role the adoption of its electronic steering system

by Wuling is playing in efforts to improve fuel economy.

Outlook

China’s position as the world’s leading auto market makes it hard to succeed

without a presence there. Our top picks among the Chinese OEMs remain

Great Wall Motor, Dongfeng Motor and Brilliance China. Our top pick in

Europe is Daimler, helped by a strong position in the Mercedes-Benz model

cycle, which is helping it regain market share in China. In Korea we like

Hyundai Motor and in India we prefer Tata Motors for the JLR business,

both of which are seeing robust growth in China.

[email protected] Barbara Tong 05/28/14 03:00:16 AM CITIC Bank International

http://www.macquarie.com.au/disclosures

Macquarie Research Global autos in China

27 May 2014 2

Auto demand remains robust

Consensus that auto market is healthy: Whether we were speaking with the OEMs, dealers,

parts suppliers or industry experts, the consensus was that auto demand remains robust in China

and the outlook for future growth is positive. Some speakers admitted to being perplexed that the

slowdown in economic growth had not been reflected in auto demand; however, most mentioned

the linkage to rising personal income, which we view as the main factor supporting auto demand.

Need to improve quality: Both international and domestic brands are aware of the need to

improve quality, but that need is more urgent with the local brands. It is a key factor behind the

automation drive at both GWM and GAC Trumpchi. Even Changan Ford’s new plant will more

than double the robots to over 400. The automation drive is more a result of quality concerns than

labour savings, as for now labour is the cheaper option. Lifan’s plant had little automation, with

even welding done by hand, but it is trying to launch more higher-priced products and use more

parts procured from foreign parts companies.

Pre-owned cars offer affordable luxury: Dealers that specialise in premium brands are seeing

robust demand, and margins on new car sales are stable. Both Yongda and Lentuo International

see strong prospects in pre-owned premium cars. Yongda is doing this through 4S shops that

specialise in one pre-owned brand (BMW), while Lentuo is going the route of a multi-brand

premium shop as it believes pre-owned car buyers prefer to comparison shop in one location.

While it may still be early days for the pre-owned car market, we believe it will show robust growth.

Parts companies seeing strong growth: Demand for parts is being driven by the overall rise in

the market as well as the increasing use of externally procured parts by local brands. Both

companies that we visited, Nexteer and Fuyao Glass, supply both international and local brands,

as well as ship their products overseas.

Fig 1 Low vehicle density in Tier 3 and 4 cities offers growth opportunity

Note: VW has used a broader definition of Tier 1 cities than the usual 4 cities – Beijing, Shanghai, Guangzhou and Shenzhen. Source: Volkswagen Group China, Provincial/Regional Government reports, Macquarie Securities, May 2014

VW leads the pack: VW shipped 921k units in the first 4 months of 2014, up 17.5% YoY, with a

commanding 15.7% market share, up from an average of 13.5% for 2013. Other brands in the

stable also posted solid growth, with Audi sales up 19.9%, Skoda up 7.5% (ahead of new product

launches) and Porsche up 12.3%. VW is not content with its market-leading share and is focused

on putting more production into the South with its new plant in Foshan; it is also adding a new

plant in Changsha. Another arrow in its quiver is the new MQB toolkit, which will be gradually

rolled out in China starting with the new Audi A3, VW Golf and Skoda Octavia.

Great Wall – if at first you don’t succeed...: Despite the recently announced second delay in the

H8 high-end SUV, Great Wall was in high spirits about its growth prospects. It has a number of

new models and facelifts coming over the next few months, including the H2 compact SUV and an

automatic transmission (AT) version of the popular H6 coming over the next few months,

promising a better 2H – even without the H8. Indications are that the H8 could come sooner than

the 2Q 2015 in our forecasts as it was still on display at a Beijing Haval 4S shop we visited.

Beijing Dalian Shantou Guyuan

Shanghai Xi'an Hengshui Yaan

Guangzhou Changsha Jingdezhen Zhangyue

119

95

62

29

Number of

cities

Average # of

inhabitants (m)

68 109

16.7 8.4 4.9 4.0

Tier 1 cities Tier 2 cities Tier 3 cities Tier 4 cities

Cars/1,000

inhabitants

9 26



27 May 2014 3

GAC – Toyota and Honda remain pillars of business: GAC expressed high hopes for the Jeep

brand that it will launch for local production in late 2015, but it is clearly the Toyota and Honda JVs

that provide its bread and butter. Both brands should be boosted by the launch of new models in

2H – the Toyota Levin compact sedan and the Honda Vezel compact SUV. Its own Trumpchi

brand continues to pick up momentum, mainly on the back of the GS5 SUV and expansion of the

dealer network.

Changan – Building on Ford’s huge success: Changan has four JVs with Ford, Mazda, Suzuki

and PSA for the DS premium brand, but it is Ford that contributes the overwhelming volume and

profits. It has rapidly built its market share to 3.8% of China’s PV market in 2013 and 4.0% in 1Q

2014. Changan has leveraged what it is learning from its JV partners and upgraded its own brand

as it endeavours to move away from minibuses into higher-priced sedans and SUVs.

Nevertheless, while it is delivering much more attractive product like its CS35 and CS75 SUVs, its

profitability and distribution network lags Great Wall by a large margin.

CAAM and LMC agree: Chinese autos continue to be a high growth market

We met with Mr. Chen Shihua, Research Director of CAAM (Chinese Association of Auto

Makers) and Mr. John Zeng, Managing Director of LMC Automotive Consulting

Steady growth in 2014: Both of our experts presented a positive outlook for demand in 2014,

with CAAM looking for 10% passenger vehicle growth, while LMC (which was formerly the

forecasting division of JD Power before it demerged in 2011) forecasts 12% volume growth ex-

minibuses. Macquarie forecasts 13.2% PV growth for 2014. Mr. Zeng sees this slowing to 9% pa

for 2015-16 vs our forecast of 10% pa growth.

Fig 2 Growth in PV registrations by province Fig 3 Contribution to PV growth by province

Source: 2013 Registrations, LMC Automotive, May 2014 Source: 2013 Registrations, LMC Automotive, May 2014

First time buyers remain a critical source of demand: Both speakers highlighted that first-time

buyers remain a critical source of demand, and it is central and Western China posting the highest

growth rates. Mr. Zeng noted that a survey conducted by JD Power showed that 82% of buyers in

China are first-time buyers compared with 12% in Germany, 10% in the US and just 5% in Japan.

LMC predicts that PV ownership could triple by 2020, lifting the penetration rate to 147/1000

people vs 50/1000 people in 2012. This would bring it in line with where Japan was in 1974.

Front-loading of demand due to auto restrictions: Both gentlemen indicated that they believe

there has been some front-loading of demand ahead of car restrictions feared in many bigger

cities. The most recent cities to announce restrictions on auto sales are Tianjin in December 2013

and Hangzhou in March 2014 (Beijing, Shanghai, Guangzhou and Guiyang already have

restrictions). Other cities they suggested may consider car restrictions are Qingdao, Nanjing,

Shijiazhuang, Wuhan, Chongqing, Chengdu and Shenzhen. Mr. Zeng noted, however, that

Shenzhen had made significant progress in reducing congestion with stricter enforcement of traffic

laws despite having a higher density of cars than neighbouring Guangzhou. Mr. Chen believes

other cities could follow Beijing’s lead in introducing congestion pricing to reduce volume in the city

centre.



27 May 2014 4

Shift to sales tax could stop restrictions: Mr. Chen noted that CAAM has proposed the

allocation of the vehicle consumption tax (rate 1-40% depending on engine displacement, included

in the vehicle selling price) from the central government to local governments. Currently the

vehicle consumption tax is paid by the OEMs to the central government, and local governments

don’t receive any direct benefit from new car sales or registrations. In the CAAM proposal, the

vehicle consumption tax would be paid to the local government by consumers at the time of

registration. That could in turn lead to cities anxious to fill their coffers abandoning or not

implementing volume restrictions in an effort to post higher sales of high ticket autos. The income

from the consumption tax could provide local governments with more financial resources to

improve infrastructure or public transportation systems. Cities like Shanghai and Guangzhou have

cited their plate auctions as ways of raising money to fund public transportation construction.

Slightly different views on new energy vehicles: Mr. Chen of CAAM indicated that they do not

expect sales of new energy vehicles (NEVs) to take off any time soon. He cited 3 obstacles to

NEVs: 1) technology is inadequate – even Tesla; 2) infrastructure – many people can’t install

charging stations (including CAAM, which was not granted permission at their offices to install a

charging station for the NEV they bought, leading them to use an extension cord from the office to

recharge their car); and 3) price. LMC’s Mr. Zeng was more optimistic, projecting that NEVs would

account for over 2.5% of annual auto sales by 2020, by which time they estimate close to 30m pa

in auto sales, with PHEV (plug-in hybrid electric vehicles) taking the largest share of the market

followed by BEV (battery EVs) and traditional hybrids.

Fig 4 LMC expressed optimism about the outlook for NEVs

Source: LMC Automotive, May 2014

Increasingly stringent fuel economy requirements could force out weak: Mr. Chen noted that

more than problems with low-quality fuel, it is the inability of small auto makers to meet even

National Standard III (Euro III) emission standards, let alone the National Standard V (Euro V)

required in Tier 1 cities like Beijing and Shanghai. It can add Rmb30k to the retail price to meet

National Standard IV. Mr Zeng echoed this sentiment, highlighting that a 2.9% pa improvement in

fuel economy was needed from 2013 to 2015 to reach the required 6.9L/100km standards

required by the government, but a 6.2% pa improvement will be needed to achieve the

5.0L/100km fuel economy target set for 2020. This is likely to force smaller players out of the

market. Mr. Chen highlighted that 48 auto companies in China had zero production last year. One

outcome is that the proportion of turbo-charged engines is likely to double by 2020 from close to

20% in 2013 due to their greater fuel economy.



27 May 2014 5

Wide range of technology and automation in the plants

Four different plants, four different production set-ups – Changan-Ford, GAC/Trumpchi, Great Wall and Lifan

Four plants, four different production set-ups – gold medal to Ford-Changan vs.

uncompetitive Lifan: During our one-week China Auto Tour we had the opportunity to visit four

different passenger vehicle plants in China: 1) an international JV plant of Changan-Ford in

Chongqing (Plant II) – gold medal, 2) a Chinese local brand plant of a Chinese OEM that has four

international JV partners, the GAC Trumpchi brand plant in Guangzhou – silver medal, 3) a rising

Chinese OEM's plant – a Great Wall factory in Baoding – bronze medal and 4) a small local

Chinese OEM plant of Lifan in Chongqing – not competitive for the time being.

Increasing automation at Ford: Changan-Ford’s Chongqing Plant II seemed to be close to the

global manufacturing standards of an international OEM, and Ford has concrete plans to further

increase the automation level to more than 400 robots in the welding department of its new

Chongqing Plant IV compared to 200 robots in the Chongqing Plant II at the moment.

Lifan – plant from another era: In sharp contrast to Changan-Ford’s Chongqing Plant II, it was

striking to see how far behind Lifan’s older Chongqing plant was in terms of quality, automation,

production processes, organisation/logistics, safety and cleanliness. Lifan's Chongqing plant could

be characterized by a still very high level of labour intensity (e.g. the whole welding process was

not automated and the stamping process needed 12 workers to manually put the steel sheets in

and out of the huge presses) combined with low levels of productivity (e.g. the parts and

components were arranged in a disorderly fashion along the assembly line) and safety (e.g. most

of the workers we saw did not wear safety shoes and safety lines on the ground were barely

visible).

Fig 5 Pressing at Lifan was manual – watch the fingers

Fig 6 State-of-the-art engine assembly for GAC Trumpchi

Source: Macquarie Research, May 2014 Source: Macquarie Research, May 2014

Great Wall factory closer to Ford than Lifan: We would put Great Wall's plant that we visited in

Baoding in between Ford and Lifan, however, much closer to Ford than to Lifan. Several of us had

visited the Baoding plant before, and there had been noticeable improvements towards 'Western'

standards in terms of quality, automation, manufacturing processes and organisation at what is

one of Great Wall’s oldest factories. The company explained that it has done this more for quality

control reasons as using people for now would be cheaper than the robotics. The paint shop is

now almost entirely automated.

GAC-Trumpchi –self-confident Chinese pupil of Toyota and Honda: We toured both the

engine assembly plant and auto assembly plant for GAC's own brand Trumpchi in Guangzhou.

The design of the plants has been heavily influenced by Toyota, and both were compact and

efficient in layout. The level of automation was close to a JV brand factory.



27 May 2014 6

GAC Manufacturing Way to further improve productivity: GAC has developed its own GAC

Manufacturing Way based on its experience with its JVs with Honda and especially Toyota. This

GAC Manufacturing Way will be implemented in the Guangzhou plant in July 2014, and GAC’s

plant manager claimed to have better manufacturing processes than Honda, while they are still

lagging Toyota (overall an impressive self- confidence shown by the GAC Trumpchi plant

representatives).

The implementation of the GAC Manufacturing Way should lead to a) major productivity gains and

2) reduction of the parts/components inventory level to 4 hrs from currently two days, which would

be a remarkable achievement. The plant’s automation level is more than 85% in the welding

department and close to 100% in the stamping department, which should strongly support GAC’s

ambitions to further improve the quality of its passenger vehicles.

Heavy influence of JV partners: GAC uses Toyota safety technology for its cars, and the

transmissions are sourced from the Japanese supplier Aisin Seiki (manual transmissions are

made locally by Aisin, while automatic transmissions are imported from Japan). In addition, we

highlight that 1) Trumpchi’s current (GA5, GA3 and GS5) models are based on the

platform/architecture of the old Alfa Romeo 166, which was acquired from Fiat SpA and 2) the

company recently hired a car designer from Mercedes, who will be responsible for the design of

the future models for the Trumpchi brand.

Well-paid jobs: Finally, we would highlight that the average wages paid by the local Chinese

OEMs (with the exception of Lifan) are increasingly competitive compared to wages paid by the

international JV Changan-Ford:

1. Lifan in Chongqing – monthly wage of Rmb 2,300-2500 for a shift of 8 hours

2. Great Wall in Baoding – monthly wage of Rmb 3,000 to max Rmb5,000 for a shift of 12 hours

3. Changan-Ford in Chongqing – average monthly wage of Rmb 4,000 for a shift of 11 hours

4. GAC-Trumpchi in Guangzhou – monthly wage of Rmb 4,000-5,000 for a shift of 8 hours

Fig 7 Average monthly wage levels by OEM in China (in Rmb)

Source: Company data, Macquarie Research, May 2014

-

1,000

2,000

3,000

4,000

5,000

6,000

Lifan

(Chongqing)

Changan-Ford

(Chongqing)

Great Wall

(Baoding)

Trumpchi

(Guangzhou)

Rmb 2,300-2,500

Rmb 4,000

Rmb 3,000-5,000 Rmb 4,000-5,000



27 May 2014 7

Premium autos support dealers

We met with Zhengtong management at one of its JLR dealers in Beijing and with Yongda management at one of its Ford dealers in Shanghai as well as visiting a Pre-owned BMW 4S shop owned by Yongda.

Zhengtong Auto (1728 HK) JLR dealer visit

Demand for Land Rover SUVs is especially strong: The JLR dealer we visited is owned by

Zhengtong Auto, a leading luxury auto dealer group in China and a top dealer for BMW and JLR.

The store sold around 1,300 new vehicles in 2013, of which 80% were Land Rover SUVs and the

rest were Jaguar cars. The Range Rover and Range Rover Sport SUVs still command a premium

(Rmb100-500k) on top of the MSRP, which boosts the overall GPM on sales of new cars.

OEM offers high commissions to spur network expansion: JLR offers 12.5% and 15.5%

nominal commission rate for the Land Rover and Jaguar brands, respectively, higher than the

three German luxury brands at around 8%. The primary reason is that JLR lags its peers in the

China market, and it offers higher commissions to attract investors to open JLR dealerships, in the

view of the store manager. Though there is risk of lower commission rates, especially after the

launch of local production of some lower-priced models in early 2015, the store manager doesn’t

believe the commission rate will drop materially in the near term.

Jaguar offers high discounts: The discount for Jaguar vehicles is around 15% as Jaguar is still

not competitive compared with its peers, given the low brand awareness as a result of its late

entry into the China market and its narrow product line-up. However, the store manager remains

positive on this brand as a number of new products will attract customers, like the recently

launched F-type sports car and the upcoming Jaguar SUV in 2015-2016.

Aftersales service is very profitable: The aftersales workshop has a very high customer

retention rate due to several factors including 1) spending per service is around Rmb5,000, which

is not expensive compared with vehicle prices, therefore customers are not very price sensitive; 2)

it is hard to find qualified non-4S service providers or road-side garages in China, especially for

JLR vehicles given their sophisticated technologies.

Inventories remain controllable: Inventory days for Land Rover brand are low at ~30 days while

it is 45-60 days for Jaguar vehicles. The overall sales volume mix for Jaguar vs. Land Rover is

1:4.7 for this dealership therefore the overall inventory level remains healthy at the moment.

Fig 8 Land Rover Evoque at JLR dealer Fig 9 Long-wheel-base Range Rover


Yongda Auto (3669 HK) Changan-Ford and Pre-owned BMW dealer visit

Leading premium dealer group: Yongda is one of China’s biggest auto dealer groups with a

focus on luxury and ultra-luxury brands. Yongda started in the auto sales business in 1990s in

Shanghai, and currently most of its stores are located in East China.



27 May 2014 8

Ford dealer expects substantial sales increase in 2014: The Changan-Ford dealer we visited

was Ford’s first 4S dealer in Shanghai. It was opened in 2003 and relocated to its current location

in 2010. In 2013, it sold a total of 2,300 vehicles and the 2014 target is 2,850 units. It also sells

imported Ford vehicles like the Edge and the Explorer SUVs. Imported models have higher

margins than locally made vehicles given the stronger demand. In 2013, 300 imported vehicles

were sold and the target for 2014 is 500 units. The sales manager expects the Edge SUV to be

made locally in the near future, which should boost overall sales volume at the store. For the first

four months, sales were below expectation mainly because of regulatory changes, i.e. emission

standards were raised to National V from National IV from 1 May, therefore some vehicles are not

allowed to be sold in the Shanghai area. The store manager doesn’t think it is a big issue as the

OEM will upgrade the emission standards soon.

Popular models are the Focus, Mondeo and Kuga: Currently three models (Focus, Mondeo

and Kuga) are selling very well on the back of good product design and improved fuel economy.

The store manager told us that Ford has been taking market mainly from the three Japanese

brands and GM. Most first-time buyers prefer small vehicles like the Fiesta or Focus while second-

time or replacement buyers like bigger vehicles like the Mondeo or Kuga.

Aftersales and extended services generate a lot of profit: The gross profit margin for new car

sales is roughly 4% at the moment and over 50% of the store’s gross profit is generated by

aftersales services. Extended services, including auto financing, used cars and number plate

services, are increasingly contributing to the profitability of the store; 55% of the total vehicles the

store sold use number plates from out of Shanghai given the high auction price (>Rmb70,000) and

limited supply. The dealer charges several thousand Rmb to help customers secure the non-

Shanghai number plate, and it is one of the major contributors to the extended services profits.

Yongda and BMW co-operating to develop pre-owned car business: Yongda opened the first

BMW authorized pre-owned car centre in Shanghai in April. The store sells BMW and Mini brands,

and the two-storey building is able to display up to 200 pre-owned vehicles. It buys used vehicles

from 1) corporates like BMW, 2) other 4S dealers that accept trade-in vehicles from customers, 3)

individuals. The dealer expects to get a 5% gross profit margin after the refurbishment of the used

vehicles, with potential for improvement after the business ramps up going forward. The pre-

owned car centre has an aftersales workshop like a standard 4S dealer, and aftersales service will

be a major profit centre for the pre-owned car shop.

Fig 10 BMW authorized pre-owned cars Fig 11 Price of a BMW 320Li




27 May 2014 9

Pre-owned car business – future growth area

We had two meetings focused on pre-owned car business: one with Lentuo International (LAS US,

NR) in Beijing and the other with Yongda’s BMW authorised dealer shop in Shanghai.

Lucrative business

The average gross profit margin (GPM) on new car sales is 3-5%. The pre-owned car business

can offer a higher GPM. Lentuo is more optimistic , estimating it can be as high as 12%. Yongda is

rather conservative but still believes GPM will be above 5% and has upsides when business scale

becomes more meaningful in the future.

We agree that the pre-owned car business should be more lucrative than new car sales. Moreover,

the pre-owned car business can help dealers generate more profit from refurbishment and body

work, financing and insurance products, after sales service, etc.

Opportunities lie in mature car markets

Beijing has the highest passenger vehicles penetration rate in China: 225/1000 people vs the

China average of 81 in 2012. In such a mature market, car replacement demand is becoming

increasingly important. Lentuo is focused on the Beijing market – they will open their first pre-

owned car shop in June this year and 6 more in 2015.

Shanghai was the first city in China to introduce new car sales restrictions. With a much higher

income level than 10 or 15 years ago when citizens bought their first cars, more people are trading

up, in need of getting rid of their old vehicles and more open to high quality pre-owned cars.

Yongda’s BMW pre-owned car shop manager suggests that over 30% of customers nowadays will

accept pre-owned vehicles, and replacement demand sales can be at a similar level to new car

sales.

As shown in Fig 12 below, pre-owned car sales are only a small percentage of overall new car

sales in China. However, Fig 13 shows that in Beijing pre-owned car sales have exceeded new

car sales volume since 2012 and were stable in 2013.

Fig 12 China pre-owned car sales vs new car sales Fig 13 Beijing pre-owned car sales vs new car sales

Source: CAAM, Macquarie Research, May 2014 Source: CAAM, Macquarie Research, May 2014

Tax reform to make pre-owned sales more attractive

Currently there are 2 major business models for pre-owned car sales, and tax duties are different.

Broker: The car dealer does not take ownership of the pre-owned car from the previous

owner, but simply looks for buyers either by displaying the vehicle in the showroom or posting

an advertisement online or through other media. This is also known as consumer-to-consumer

model and brokers just have to pay 5% tax on the commission they receive.

Sales agent: The car dealer will purchase the pre-owned car from previous owner and then

sells it to customers. Ownership of the vehicle is transferred twice in the transaction. Under

this business model, the dealer is subject to inventory and financing risks, however, it can

enjoy a discounted tax rate of 2%, chargeable on the final sales value to customers. Dealers

are very likely to refurbish the cars and thus be able to earn a better margin.

18,533 19,306

21,984

4,391 4,791 5,203

-

5,000

10,000

15,000

20,000

25,000

2011 2012 2013

'000 units

New car sales Pre-owned car sales

401

586 583

400

699 695

-

100

200

300

400

500

600

700

800

2011 2012 2013

'000 units

New car sales Pre-owned car sales



27 May 2014 10

Lentuo believes the government is close to finalising tax reform that would reduce the tax burden

on pre-owned car transactions. In our view, it would be beneficial for the development of whole

market if there is a set of unified and detailed rules, as there are now various tax rules in different

provinces or cities across the country. From a long-term perspective, a more regulated pre-owned

car market will be beneficial to the larger dealer groups.

Fig 14 BMW authorised pre-owned car showroom Fig 15 Lots of room for expansion


Lentuo to open premium and luxury multi-brand dealer shop

Lentuo’s pre-owned dealership will have multiple premium brands. Management believes potential

pre-owned car buyers often have a budget and are seeking the best value for money. Due to a

lack of brand loyalty, customers tend to compare vehicles within a similar price range – focusing

more on the features and specs rather than brands. Lentuo thinks a multi-brand shop will be more

attractive to customers.

Management indicated that they will only sell premium cars. They are targeting vehicles with a

residual value of at least Rmb400,000. They believe the luxury market will grow at a faster pace

than the overall car market in coming years. In addition, premium car buyers are more likely to use

financing products, and dealers can often make good profits on these too.

Yongda’s pre-owned car shop is focused on BMW brand only

Yongda opened the first BMW authorised pre-owned car shop in Shanghai in April 2014. The

company believes customers tend to have more confidence in OEMs, and a BMW authorised

vehicle is deemed to have more reliable quality. Moreover, this shop has facilities and equipment

required in a standard BMW 4S shop – which can be used for providing after sales service for all

BMW vehicles, regardless of whether they are new or pre-owned cars.

Since it is the only BMW authorised pre-owned shop in Shanghai at the moment, all trade-in

vehicles received by other BMW dealers are fed into this shop. Yongda will also sell extended

warranties to customers.

Challenges and opportunities

It is still early days in China’s pre-owned car market, and only time will tell whether Lentuo’s multi-

brand or Yongda’s pre-authorised single-brand strategy will prove more successful. It could well

be that both succeed, benefiting from the future growth of China’s pre-owned car market.

Transparency of pre-owned car value and pricing is an issue yet be resolved. At the moment,

there is no one single accepted pricing database in the market. There have been some initiatives

like CADA introducing a certification program as well as CADA partnering with Kelley Blue Book.

We believe a comprehensive database of car valuations is crucial for the further development of

the pre-owned market in China.



27 May 2014 11

Parts makers target both JVs and local brands

Nexteer: global leadership, China growth

Global supplier of steering and driveline products: Nexteer Automotive (1316 HK, Not rated) is

a leading steering and driveline parts supplier globally. It has over 100 years’ history and it used to

be part of GM and Delphi. In 2010, Nexteer was acquired by Beijing Pacific Century Motors, which

is a subsidiary of China AVIC Group. It was listed in the Hong Kong Exchange in 2013.

Headquartered in the US, Nexteer has 20 manufacturing plants, 5 engineering centers, 10

customer service centers and three vehicle performance centers covering the globe.

Broad customer base and high growth in China: Nexteer products include 1) electric power

steering (EPS), 2) hydraulic power steering (HPS), 3) steering columns and 4) driveline and

halfshafts. Nexteer has over 50 auto OEM customers, and it supplies 9 of the 10 biggest auto

OEMs globally. In China, Nexteer customers include international brands like GM, PSA and VW

as well as local brands like Chery, Changan, Dongfeng and Wuling. China accounts for 10% of

Nexteer global sales, and the contribution is expected to rise to 12% in the near future given the

strong growth in the China auto market. Nexteer has three manufacturing factories in China, and a

fourth one in Chongqing is under construction.

Product and technology upgrade boost demand for EPS: Fuel economy improvement is one

of the major regulatory objectives globally, and China targets to reduce the fleet fuel consumption

to 6.9L/100km by 2015 and 5.0L/100km by 2020. By using EPS to replace HPS, fuel consumption

can be easily reduced by 3-5% with limited cost increase. EPS penetration in mature markets is

80-90% while it is only 50% on average in China. For Chinese domestic brands, the penetration is

only 30%, and Nexteer expects the implementation of stricter fuel consumption targets to boost

the use of EPS. Other than existing customers like Chery and Dongfeng, Nexteer is developing

new EPS products for China’s biggest mini-bus maker SAIC-GM-Wuling.

Penetrating Changan Group: Nexteer’s major competitors include ZF, TRW, JTEKT, Delphi,

Mando and NSK. Some of them have joint-ventures with major auto groups in China, and this

creates barriers for Nexteer to penetrate some carmakers. However, Nexteer utilizes its

connection with AVIC Group, which is also a major shareholder of Changan Group, and

established a JV with Changan Group in 2014. This should cement Nexteer’s access to carmakers

within the Changan Group like Changan-Ford.

Fig 16 Column Assist EPS from Nexteer Fig 17 Fuyao makes sunroof glass for Mercedes

Source: Macquarie Research, May 2014 Source: CAAM, Macquarie Research, May 2014

Fuyao Glass: high utilisation rate thanks to strong demand

Leading auto glass manufacturer with national footprint. Fuyao Glass is China’s biggest auto

glass manufacturer, and it mainly supplies automakers in the OE market. Headquartered in Fujian,

it has factories close to its major customers in cities like Shanghai, Beijing, Changchun,

Chongqing and Guangzhou. The factory we visit in Guangzhou is a major production base to

supply Japanese carmakers in the Guangzhou area like GAC-Honda, as well as overseas

customers like Chrysler in the US.



27 May 2014 12

High utilisation rate, automated production process. The factory in Guangzhou is running at a

very high utilisation rate level, with three 8-hour shifts every day. Most of the manufacturing

processes are automated, and we saw a lot of robots from Kuka. There are still some labour

intensive process steps, which are mainly packaging-related jobs. However, working conditions

there are not great, and there is no air conditioning in the factory. Only fans are provided for the

working area. In contrast, the Nexteer factory in Suzhou we visited has air conditioning for the

whole workshop and the temperature was very comfortable.

VW Group (Outperform, TP: €230) - Building on dominant market share

We met with Carsten Arntz, Head of JV Controlling and Special Projects, and Thomas Küter,

Senior IR Manager in China

Realistic China market outlook and rising importance of used cars and financial services:

WV Group expects the Chinese automotive market to grow “high single digit/low double digit” in

2014 and to then expand by 5%-8% per annum over the next five to ten years. Major limiting

factors include the possibility of nameplate restrictions in six more megacities over the medium-

term, while the Tier 3-4 cities with overall inhabitants of 333m in Tier 3 cities and 436m in Tier 4

cities (vs. 150m in Tier 1 cities and 218m in Tier 2 cities) and still low vehicle densities will

continue to strongly support Chinese car demand for the foreseeable future.

Fig 18 China car demand driven by Tier 3 and 4 cities with a high number of inhabitants and low car densities

Tier 1 cities Tier 2 cities Tier 3 cities Tier 4 cities

Number of cities (I) 9 26 68 109 Average number of inhabitants in m (II) 16.7 8.4 4.9 4.0 Overall inhabitants per tier in m (I x II) 150 218 333 436 Average No of cars/1,000 inhabitants 119 95 62 29 Examples Beijing Dalian Shantou Guyuan Shanghai Xi'an Hengshui Yaan Guangzhou Changsha Jingdezhen Zhangyue

Source: VW Group, Macquarie Research, May 2014

Expecting growth in used cars, use of car financing: Interesting trends in the car market in

China according to VW will be a) the sharp increase of the used car market to some 20m units by

2018 (vs. just some 3.4m units in 2013) and b) the rising importance of the financial services

business ,with an overall penetration rate of at least 30% in China (vs. some 20% in 2013). In both

respects we think that VW Group – as an international OEM – will have a clear competitive

advantage vs. the local Chinese OEMs due to its long experience with used car markets and

financial services operations in developed markets.

Capacity expansion struggles to keep up with demand: Based on 250 working days per year

VW Group intends to lift its official local Chinese production capacity from some 2.5m in 2013 to

some 4m units by 2018 (2013-18 CAGR of some 10%). Note the actual production was 3.135m

units in 2013 (based on more than 300 working days last year) and implied an unsustainably high

capacity utilisation of more than 120%. At the same time VW Group intends to lift its number of

dealers to well above 3,000 over the medium term, which also represents an annual expansion

rate of some 8% until 2016, in our view.



27 May 2014 13

Fig 19 VW Group in China – capacity expansion plans until 2018


Fig 20 VW Group in China – Targeted expansion of the dealer network


Pushing adoption of MQB by 2016/17: All new VW plants in China including Ningbo, Foshan,

Changsha and Urumqi are already fully aligned to the modular toolkit for compact vehicles MQB,

while the conversion of most of the other Chinese plants to MQB from 2013/14 onwards should be

concluded by 2016/17. VW is still investigating whether their low-price core volume models

Santana and Jetta (sold exclusively in China at base prices well below 100k Rmb and based on

old technology) could be put on the (relatively expensive) MQB Modular Toolkit or whether these

two models will be based on a potential “low cost car platform” in China from 2016/17 onwards.

3,135

2,500

3,000

4,000

-

1,000

2,000

3,000

4,000

5,000

2013

Production

2013 Capacity 2015 Capacity 2018 Capacity

2013 capacity utilisation:

125%

Targeted capacity expansion in China

over 2013-18:

increase of 10% per annunm

2,750

2,395

-

500

1,000

1,500

2,000

2,500

3,000

3,500

4,000

2013 2014 Mid-Term

> 3,000



27 May 2014 14

All about keeping China margins at elevated levels – a tough task even for well positioned

VW Group: Mr Arntz stated that it is getting increasingly challenging for VW Group as market

leader in China with a current passenger vehicle market share that VW estimates at 21% (vs. 10%

PV market share of its closest competitors) to maintain the current elevated operating margin level

in China over the medium term. Based on our calculations we think that VW Group currently has

some 15% EBIT margins in their two Chinese JVs with SAIC and FAW and that China contributed

more than 40% to VW Group’s net income in 2013.

Fig 21 VW - EBIT per unit in China and ex China Fig 22 VW – Net income exposure to China above 40%

Source: Macquarie Research, VW Group, May 2014 Source: Macquarie Research, VW Group, May 2014

Variety of cost pressures: Wage inflation, competition and rising legislation costs (new average

fleet fuel consumption targets for the period 2015-2020 will be implemented in China) are putting

pressure on VW Group’s profitability in China. Nevertheless, Mr Arntz was optimistic that major

productivity gains and cost savings from the implementation of MQB will help VW (in contrast to a

lot of other OEMs) to contain the (in our view likely) operating margin decline in China as growth

rates slow and to further grow its profitability in absolute terms in the coming years.

Fig 23 SWOT analysis for Volkswagen in China

Source: Macquarie Research, May 2014

-1,000

-500

0

500

1,000

1,500

2,000

2,500

3,000

3,500

2001

2002

2003

2004

2005

2006

2007

2008

2009

2010

2011

2012

2013

€ E

BIT

per

un

it

VW China JVs VW Group ex China

Strengths Weaknesses

Leading market share for mass and

premium brandsLack of sub-compact SUV until 2016

Strong brand recognition from long history

in China

Overlapping product offering in both JVs -

blurred distinction of core products

Leading nationwide dealer networkInsufficient capacity to meet current

demand

Outstanding profitability/operatimg

margins

Opportunities Threats

Market consolidation will favour stronger

international OEMs

Loss of market share as SUV growth

outpaces the market

Early move into central & western China

with production facilities should help

secure customers in high-growth region

Complacency by dealers in retaining market

share

Beneficiary of strong growth potential for

financial services and used cars

Profits would come under pressure if market

demand falls short of expectations

Further expansion of luxury Porsche

brand



27 May 2014 15

Great Wall Motor (2333 HK, Outperform, TP HK$50) – Meeting, factory tour and dealer visit

We met with Board Secretary Mar. Xu Hui, toured the Baoding plant that produces the C30

sedan and M4 SUV and visited a Haval dealership in Beijing

Moving on from H8 delay: While investor focus has been on the second delay in the H8 high-end

SUV, Great Wall management downplayed it, noting that it represents a big jump in their product

sophistication and included a lot of innovative features. They are almost there and expect to

launch a top-class product in the not-too-distant future. Mr. Xu did express regret that dealers had

been told that orders would be halted ahead of investors and that they would improve the process

of communicating with investors in the future. A second very important lesson is that they need

more thorough testing ahead of product launches in the future. On that note, the launch of the new

H7 SUV has been pushed into 2H 2015.

The H8 could come sooner than we expect: In our recently revised forecasts, we have

assumed that the H8 and/or other premium products are not launched until 2Q 2015. Of the close

to 1000 orders taken for the H8, only 20% of customers chose to refund the deposit, while the

remaining 80% have kept their orders. The Haval dealer we visited had the H8 on display in the

showroom, and the store noted that it had delivered one H8 before they were withdrawn again.

That customer has chosen not to return the H8, and the dealer has promised to make any

changes that are ultimately recommended or even replace the vehicle if the customer so chooses.

This highlights that there was not a safety issue with the H8. The H9 off-road SUV is likely to come

after the H8.

Lots of new models for 2H: The 2H promises to show much better growth than 1H due to a large

number of new models. In July both the H1 subcompact and compact H2 SUVs will be launched.

GWM will shortly start shipping a facelift of the M4 subcompact SUV as well as launch a facelift of

the C30 and C50 sedans over the next month. The C50 sedan will see meaningful changes to

both the exterior and technology of the vehicle. In September the launch of the AT version of the

H6 and the H2 should help broaden the customer base, especially with women.

Fig 24 GWM’s Baoding factor – working on the doors Fig 25 H8 on display at Haval dealership


Increasing cooperation with international suppliers: Management indicated that it is

increasingly cooperating with international suppliers. For the high-end models like the H8/H9/H7,

only ~50% of parts are made internally, while for the H6 the ratio is ~60%. The high-end models

have automatic transmission and more electronic features that GWM procures from specialised

suppliers. That said, they have a cost advantage in being able to pick and choose their suppliers,

whereas international brands often have to buy from group suppliers.



27 May 2014 16

High margins are sustainable in the medium term: Management is confident it can maintain

the current margin level despite increasing competition in the auto market for the following

reasons: 1) some high-end models will be launched, which have a higher ASP and which should

boost margins; 2) the proportion of sales from SUVs will continue to rise, which is margin

supportive as SUVs have higher margins than sedans or pick-up trucks. Another advantage it has

over JV brands is that it does not have to pay royalties or technology transfer fees back to an

overseas partner.

Boosting R&D investment: In 2013 GWM boosted its investment in R&D from 2.2% of revenue

to 3.0% of its much higher revenue. Much of the increase was due to the recruitment of foreign

technical staff. When we had lunch in the executive canteen we noted a lot of staff from Europe,

North American, the Indian sub-continent as well as Japan and Korea. There are more foreigners,

mainly westerners, at the satellite R&D centre in Shanghai. This recruitment drive is part of Great

Wall’s broader effort to make all its products competitive with international brand cars.

Taking control of export markets: GWM indicated that it wants to take control of distribution in

export markets as it believes local distributors don’t sufficiently push the brand or support

aftersales service. It will continue to focus on emerging growth markets like Russia and smaller

developed markets like Australia. The final places it will tackle are Europe and lastly the US due to

the competitive nature of those markets. Its recently announced investment in Russia for a full

assembly plant will take 3 years to build and will have capacity to fully assemble 150k units pa.

Noticeable improvement in automation: Several of us had visited the Baoding plant before, and

there had been a noticeable increase in the use of automation at what is one of Great Wall’s

oldest factories. The company explained that it has done this more for quality control reasons as

using people for now would be cheaper than the robotics. The paint shop is now almost entirely

automated.

Spiffy new Haval dealer: The Haval dealer we visited (which for now still sells the sedans and M

series) opened just after Chinese New Year in February. Unlike most dealers in China, even for

mid-to-high end international brands, it was light and airy with lots of sheet glass. This is all part of

the efforts to lift the image of Haval products. There were several customers in the store, mostly

looking at the H6, and one customer was taking delivery of an H6. All models indicated the terms

for financing, which was being provided by GMAC SAIC.

Fig 26 SWOT analysis of Great Wall Motor

Source: : Macquarie Research, May 2014


Top-selling SUV in China Limited sedan line-up

Highest (reported) margins in China Lack of experience outside China

Only domestic brand that has established

brand equity with consumers

Insufficient testing of high-end model ahead

of launch hurt brand perception

Strong presence in lower tier cities where

growth in auto demand is highest

Current Chairman is very much the driver of

GWM and bench behind him is not visibile


Launching products that compete from a

quality standpoint with JV brand products

Launch of competitively price products by

JVs in SUV area

Growth potential of export markets like

Russia where SUVs are very popularSUVs lose popularity with consumers

Government procurement to shift to

domestic brands only

Challenge of meeting fuel economy

standards



27 May 2014 17

Changan Auto (000625 CH, Not rated) management meeting and Changan-Ford factory visit

We met with Mr. Chen Hao, Deputy Director of the Finance Department at Changan Auto

Fourth biggest auto group: Changan Auto is China’s fourth largest auto group following SAIC,

Dongfeng and FAW. Other than the four joint-ventures with foreign auto companies (namely

Changan-Ford, Changan-Suzuki, Changan-Mazda and Changan-PSA), Changan also produces

its own passenger vehicles and mini-buses. We met company management for an operational

update and discussed the development outlook of Chinese domestic carmakers and Changan

itself.

Changan-Ford – running at full speed: Sales volume at Changan-Ford is up 46% YTD after a

62% increase in 2013, driven by the strong performance of a number of new products launched in

recent years including the new Focus, new Mondeo, Kuga and EcoSport. Currently the two

factories are running well above 100% utilization rate but the production capacity is still not able to

meet the strong demand, especially for the mid-size SUV Kuga. The Chongqing factory 2 we

visited is running 22 hours per day, 6 days per week. It is one of the most automated and

advanced factories of Ford globally and it assembles 68 vehicles per hour. A third factory in

Chongqing is under construction and it will be on stream by the end of 2014. Total capacity will be

350k units per year, and a new compact sedan will be produced there. The fourth factory in

Hangzhou will be finished in 2015 and it will assemble a new SUV (bigger than the Kuga in size).

Overall, Ford has very ambitious development plans in China, and it announced the introduction of

15 new models by 2015 as its medium development goal in China. Changan management is

confident to see the Ford JV to deliver on its commitment.

Changan-PSA – brand and distribution network are the bottlenecks at the moment. This new

JV to produce PSA’s premium DS brand will have three models by the end of this year: the DS5L

sedan, the DS5 hatchback and the DS6 SUV. In addition to the weak brand awareness in China,

the lack of dealers is another major challenge. At the end of 2013, there were fewer than 50

dealers in operation. Management believes a distribution network of 200-300 dealers is a

reasonable number to sell 150-200k vehicles pa. It is moving firmly in this direction now.

Changan local brand – pay back from investment in R&D: Changan’s sedan and SUV

business is still losing money at the EBIT level given the large amount of R&D spending, which

was 4.5-5% of sales per annum over the past several years. However, the investment in R&D is

now being paid back, and its new sedans and SUVs are selling well. The compact sedan Eado is

China’s best selling sedan YTD among domestic brands. The compact SUV CS35 sells 9-10k

units per month and the mid-size SUV CS75 has got a lot of traction following its launch at the

Beijing Auto Show in April. The gross profit margin of its sedan/SUV business is less than 18%

right now , however, management is confident new models will boost margins going forward.

Despite the fact that Changan has several JVs, it has to do R&D on its own as its foreign partners

don’t share any IP with Changan. Currently Changan has around 400 dealers for the sedan/SUV

products and it targets to have 600-700 by 2020 as a medium-term plan.

Fig 27 Ford models displayed at the factory Fig 28 Changan-Ford sales volume (Ford brand only)

Source: Macquarie Research, May 2014 Source: CAAM, Macquarie Research, May 2014

231 304 321

419

679

48%

32%

5%

31%

62%

0%

10%

20%

30%

40%

50%

60%

70%

0

100

200

300

400

500

600

700

800

2009 2010 2011 2012 2013

k units

Volume YoY chg



27 May 2014 18

Fig 29 SWOT analysis for Changan Auto


Guangzhou Auto (2238 HK, Outperform, TP HK$8.30) management meeting and Trumpchi factory tour

We met with Mr. Liu Xiangneng, Director of the Capital Operations Department, and his colleague Ms. Wu Xiaolin, who also accompanied us on a tour of the Trumpchi engine and auto assembly plants

Fourth biggest group in revenue: Mr. Liu noted that while GAC is China’s sixth biggest OEM in

unit terms, it is fourth largest in revenue. He believes it benefits from its strong supply chain,

located near a big port. The Group includes 4 international JVs with Honda, Toyota, Mitsubishi

Motors and the Fiat/Chrysler group as well as 2 local brands – its own developed Trumpchi brand

and Gonow, which was acquired in 2009. It also has a commercial vehicle business that includes

two brands for heavy duty trucks and buses. Volume growth is projected at 25% for 2014 to 1.25m

units.

Honda awaiting new models: Honda’s sales are down 4% YTD despite the addition of the

Crider since last June, which is now its best-selling model. Part of the weaker numbers relates to

the run-down of inventory ahead of the launch of a new Fit model later this month and a new

Odyssey later in the summer. The compact SUV Vezel will launch in 4Q, providing further support

to volumes. Another factor, however, is the weak sales of the Accord. Although Honda recently

launched an entry model, GAC admits that overall Honda tried to price the Accord too high, even

though the pricing was lowered from the previous model. It also believes the promotional

campaign has not been effective. The Accord has in the past been the top-selling model for GAC

Honda.

Toyota doing much better: Toyota has been doing much better with YTD sales up 32%. This is

before it launches the new compact sedan the Levin (coming in July). The pricing of the Levin

was recently announced at Rmb108-155k, which should make it very competitive in this category.

A Levin equipped with a hybrid engine will be launched in 2015 once Toyota launches local

production of the battery.

Hopes rest on Jeep: GAC was quite downbeat about the prospects for Fiat, and it appears that

hopes for strong volumes from Fiat-Chrysler rest on the launch of Jeep to local production. GAC

suggested that following the launch of the first locally produced model in 4Q 2015. As such this JV

is unlikely to make money until 2016 at the earliest and possibly beyond that.


Strong support from central government

compared with privately owned OEMs

Profitability for three (Mazda, Suzuki and

PSA) of the four JVs and its own brand

Changan is weak

The Ford JV is doing well in China,

providing financial resources to Changan

Distribution network of its Changan own

brand is small - roughly 400 dealers so far

Strong R&D capabilities after several

years investment

Capacity utilisation for Changan's mini-bus

business is low


Ford is increasingly emphasizing China

market

Market share of its Japanese JVs taken by

European or US brands

Rising demand for mini-bus derived MPVs

Rising competition in the mini-bus market,

especially from SAIC-GM-Wuling,

supported by GM

In response to strong SUV demand,

Changan's own brand has developed two

attractive SUV models

Succussful new SUV launches from

Changan's domestic peers like Great Wall



27 May 2014 19

Fig 30 GAC Toyota Levin launches in July Fig 31 Seats being installed on Trumpchi GS5 SUV


Trumpchi brand builds momentum: GAC believes it is finally achieving some momentum with

its own brand Trumpchi, especially with the success of its SUV the GS5. The dealer network is

finally getting the scale it needs, with 347 shops (of which 220 were 4S) at the end of 2013 and

plans to add 200 more shops (including 100 4S dealers) in 2014. A compact SUV is being planned

for the next launch. GAC highlights as its strength its ability to source parts from anyone, whereas

its Japanese JVs are tied to their group companies. For instance, its turbo chargers are coming

from Borg Warner and the transmission from Aisin Seiki. About 20% of its parts are from

Japanese suppliers, 40% from American and 40% domestic suppliers. The Trumpchi brand is

close to making an operating profit - it would have in 2013 without R&D, which is running at about

3-4% of sales net of capitalised costs.

Exports represent new opportunity for Trumpchi: In 2013 GAC exported just 500 units of its

own brand and it plans to ramp that to 5,000 units this year. It is targeting mainly markets in Asia

and Latin America and will consider overseas assembly as needed.

Production facilities close to JV level: We toured both the engine assembly plant and auto

assembly plant for GAC's own brand. The design of the plants has been heavily influenced by

Toyota, and both were compact and efficient in layout. The level of automation was close to a JV

brand factory.



27 May 2014 20

Fig 32 SWOT analysis for GAC



Profitable JVs with Honda and Toyota Fiat JV is losing money

Location in Guangzhou area provides

strong supply chain benefitsOwn brand still loses money

Strong line-up of new models, including

Honda Crider & new Vezel compact SUV

and Toyota Levin

Opaque accounting under IFRS results in

poor disclosure


Jeep is an iconic brand in China and

could offer good growth potentialRenewed anti-Japanese sentiment

Toyota and Honda JVs have strong hybrid

technology, which is a more practical

solution to China's rising energy needs

As an SOE could be called upon to

"rescue" more unprofitable small OEMs

Mitsubishi Motors has solid SUV line-up

When China market goes ex-growth, low

margin JVs like Fiat could lose a lot of

money


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Fig 33 Macquarie global autos coverage valuations and performance summary

Source: Closing prices as of 26 May 2014; FactSet, Macquarie Research, May 2014

Stock Code Rating Mkt cap Price TP +/- Price performance (in US$) FY1 EPS FY1 FY1 FY2 FY1 EV/ FY2 EV/ FY1 Lead analyst

US$m (local) (local) 1-mth 3-mth 12-mth Cents P/E P/E EBITDA EBITDA ROE

Dealers

Baoxin 1293 HK Outperform 1,929 5.85 10.00 71% -2.8% -7.9% -3.2% 2014E 79.1 5.8 4.0 3.9 2.8 36.0 Janet Lewis

DCH 1828 HK Outperform 1,165 4.93 6.55 33% 1.9% 4.3% -30.8% 2014E 65.4 7.3 5.7 5.4 4.5 12.7 Janet Lewis

Yongda 3669 HK Neutral 1,332 6.98 7.40 6% -0.4% -0.3% -10.5% 2014E 59.2 9.5 6.9 5.8 4.4 22.3 Zhixuan Lin

Zhengtong 1728 HK Outperform 1,114 3.91 7.20 84% -8.4% -10.7% -6.8% 2014E 56.8 5.1 3.9 3.8 3.1 15.2 Zhixuan Lin

Zhongsheng 881 HK Neutral 2,769 10.00 11.20 12% 1.1% -11.3% 1.6% 2014E 88.6 8.8 6.2 6.6 5.1 18.6 Zhixuan Lin

OEMs

Brilliance 1114 HK Outperform 8,063 12.44 14.50 17% 2.3% 2.4% 43.7% 2014E 95.1 10.6 8.9 10.1 8.4 31.5 Janet LewisBYD 1211 HK Underperform 12,539 41.30 12.80 -69% -11.8% -13.6% 30.0% 2014E 40.7 80.2 63.8 14.0 12.5 4.2 Janet Lewis

Dongfeng 489 HK Outperform 11,846 10.66 16.50 55% -2.4% 4.2% -10.8% 2014E 145.4 5.8 4.8 4.3 3.6 18.3 Janet Lewis

GAC 2238 HK Outperform 6,432 7.75 8.30 7% -0.4% 7.3% -4.8% 2014E 72.4 8.4 5.8 6.2 4.4 13.0 Janet Lewis

Geely 175 HK Outperform 3,178 2.80 3.80 36% 4.9% -5.3% -27.4% 2014E 29.7 7.4 6.6 3.2 2.9 15.8 Janet Lewis

Great Wall 2333 HK Outperform 12,046 30.70 50.00 63% -12.9% -12.2% -14.7% 2014E 324.1 6.9 5.1 4.7 3.4 31.4 Janet Lewis

BMW BMW GY Neutral 81,768 91.27 90.00 -1% 0.5% 8.1% 35.9% 2014E 851.0 10.4 11.0 4.1 4.3 14.9 C. Breitsprecher

Daimler DAI GY Outperform 101,661 69.61 74.00 6% 3.6% 3.2% 55.0% 2014E 564.3 11.7 8.2 3.9 3.1 13.5 C. Breitsprecher

Fiat SpA F IM Underperform 12,651 7.62 5.50 -28% -11.5% -1.7% 48.4% 2014E 64.5 11.0 5.9 1.6 1.5 9.1 J. Schattner

Peugeot UG FP Underperform 10,956 10.46 8.40 -20% -2.7% -2.0% 90.6% 2014E (73.3) nmf 18.1 3.8 3.2 (5.6) J. Schattner

Renault RNO FP Outperform 27,848 69.94 80.00 14% -3.2% -5.8% 24.6% 2014E 754.9 8.8 6.2 5.5 4.5 8.7 J. Schattner

Scania SCVB Neutral 24,138 199.80 200.00 0% 4.6% 0.7% 38.5% 2014E 852.7 23.2 21.9 12.8 12.1 17.6 C. Breitsprecher

Volkswagen VOW3 GY Outperform 123,918 195.10 230.00 18% -0.4% 3.1% 23.6% 2014E 2,061.8 9.1 8.1 3.6 3.2 11.2 C. Breitsprecher

Volvo VOLVB Outperform 30,121 98.35 115.00 17% -4.2% -0.5% 2.6% 2014E 392.3 25.9 12.7 10.3 7.4 10.3 J. Schattner

Ashok Leyland AL IN Underperform 1,444 31.90 15.00 -53% 41.3% 114.4% 30.4% FY13/14E (181.3) nmf nmf 42.4 16.8 (11.5) Amit Mishra

Bajaj Auto BJAUT IN Underperform 9,649 1,960 1,680 -14% 1.3% 7.5% 2.8% FY13/14E 11,203.2 17.4 16.1 13.5 12.4 37.4 Amit Mishra

Hero MotoCorp HMCL IN Neutral 7,825 2,303 1,950 -15% 7.8% 23.2% 33.3% FY13/14E 10,055.6 24.3 17.7 13.7 11.9 37.8 Amit Mishra

M&M MM IN Outperform 12,356 1,230 1,100 -11% 18.6% 34.9% 20.3% FY13/14E 5,984.1 18.4 18.2 13.8 12.0 23.1 Amit Mishra

Maruti Suzuki MSIL IN Outperform 12,027 2,340 2,325 -1% 23.5% 48.6% 32.8% FY13/14E 9,321.5 22.7 18.3 14.6 12.2 14.2 Amit Mishra

Tata Motors TTMT IN Outperform 24,276 443 475 7% 7.9% 16.8% 45.6% FY13/14E 4,835.3 9.1 8.1 5.0 4.4 34.3 Amit Mishra

Hyundai Motor 5380 KS Outperform 48,033 235,000 310,000 32% 1.3% 3.4% 26.8% FY13/14E 39,975.0 6.0 5.6 4.9 4.6 16.3 Michael Sohn

Kia Motors 270 KS Outperform 23,931 60,500 73,000 21% 7.4% 15.5% 15.4% FY13/14E 9,411.9 6.3 6.0 3.5 3.2 17.2 Michael Sohn



27 May 2014 22

Important disclosures:

Recommendation definitions

Macquarie - Australia/New Zealand Outperform – return >3% in excess of benchmark return Neutral – return within 3% of benchmark return Underperform – return >3% below benchmark return Benchmark return is determined by long term nominal GDP growth plus 12 month forward market dividend yield

Macquarie – Asia/Europe Outperform – expected return >+10% Neutral – expected return from -10% to +10% Underperform – expected return <-10%

Macquarie First South - South Africa Outperform – expected return >+10% Neutral – expected return from -10% to +10% Underperform – expected return <-10%

Macquarie - Canada Outperform – return >5% in excess of benchmark return Neutral – return within 5% of benchmark return Underperform – return >5% below benchmark return

Macquarie - USA Outperform (Buy) – return >5% in excess of Russell 3000 index return Neutral (Hold) – return within 5% of Russell 3000 index return Underperform (Sell)– return >5% below Russell 3000 index return

Volatility index definition*

This is calculated from the volatility of historical price movements. Very high–highest risk – Stock should be expected to move up or down 60–100% in a year – investors should be aware this stock is highly speculative. High – stock should be expected to move up or down at least 40–60% in a year – investors should be aware this stock could be speculative. Medium – stock should be expected to move up or down at least 30–40% in a year. Low–medium – stock should be expected to move up or down at least 25–30% in a year. Low – stock should be expected to move up or down at least 15–25% in a year. * Applicable to Asia/Australian/NZ/Canada stocks only

Recommendations – 12 months Note: Quant recommendations may differ from Fundamental Analyst recommendations

Financial definitions

All "Adjusted" data items have had the following adjustments made: Added back: goodwill amortisation, provision for catastrophe reserves, IFRS derivatives & hedging, IFRS impairments & IFRS interest expense Excluded: non recurring items, asset revals, property revals, appraisal value uplift, preference dividends & minority interests EPS = adjusted net profit / efpowa* ROA = adjusted ebit / average total assets ROA Banks/Insurance = adjusted net profit /average total assets ROE = adjusted net profit / average shareholders funds Gross cashflow = adjusted net profit + depreciation *equivalent fully paid ordinary weighted average number of shares All Reported numbers for Australian/NZ listed stocks are modelled under IFRS (International Financial Reporting Standards).

Recommendation proportions – For quarter ending 31 March 2014

AU/NZ Asia RSA USA CA EUR

Outperform 51.32% 60.23% 41.25% 40.21% 58.52% 48.74% (for US coverage by MCUSA, 8.21% of stocks followed are investment banking clients)

Neutral 34.54% 24.97% 40.00% 53.19% 35.56% 32.77% (for US coverage by MCUSA, 6.67% of stocks followed are investment banking clients)

Underperform 14.14% 14.80% 18.75% 6.60% 5.92% 18.49% (for US coverage by MCUSA, 0.00% of stocks followed are investment banking clients)

Company-specific disclosures: Important disclosure information regarding the subject companies covered in this report is available at www.macquarie.com/disclosures.

Analyst certification: The views expressed in this research accurately reflect the personal views of the analyst(s) about the subject securities or issuers and no part of the compensation of the analyst(s) was, is, or will be directly or indirectly related to the inclusion of specific recommendations or views in this research. The analyst principally responsible for the preparation of this research receives compensation based on overall revenues of Macquarie Group Ltd ABN 94 122 169 279 (AFSL No. 318062) (MGL) and its related entities (the Macquarie Group) and has taken reasonable care to achieve and maintain independence and objectivity in making any recommendations. General disclaimers: Macquarie Securities (Australia) Ltd; Macquarie Capital (Europe) Ltd; Macquarie Capital Markets Canada Ltd; Macquarie Capital Markets North America Ltd; Macquarie Capital (USA) Inc; Macquarie Capital Securities Ltd and its Taiwan branch; Macquarie Capital Securities (Singapore) Pte Ltd; Macquarie Securities (NZ) Ltd; Macquarie First South Securities (Pty) Limited; Macquarie Capital Securities (India) Pvt Ltd; Macquarie Capital Securities (Malaysia) Sdn Bhd; Macquarie Securities Korea Limited and Macquarie Securities (Thailand) Ltd are not authorized deposit-taking institutions for the purposes of the Banking Act 1959 (Commonwealth of Australia), and their obligations do not represent deposits or other liabilities of Macquarie Bank Limited ABN 46 008 583 542 (MBL) or MGL. MBL does not guarantee or otherwise provide assurance in respect of the obligations of any of the above mentioned entities. MGL provides a guarantee to the Monetary Authority of Singapore in respect of the obligations and liabilities of Macquarie Capital Securities (Singapore) Pte Ltd for up to SGD 35 million. This research has been prepared for the general use of the wholesale clients of the Macquarie Group and must not be copied, either in whole or in part, or distributed to any other person. If you are not the intended recipient you must not use or disclose the information in this research in any way. If you received it in error, please tell us immediately by return e-mail and delete the document. We do not guarantee the integrity of any e-mails or attached files and are not responsible for any changes made to them by any other person. 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Recommendations contained in one type of research product may differ from recommendations contained in other types of research, whether as a result of differing time horizons, methodologies, or otherwise. Before making an investment decision on the basis of this research, you need to consider, with or without the assistance of an adviser, whether the advice is appropriate in light of your particular investment needs, objectives and financial circumstances. There are risks involved in securities trading. The price of securities can and does fluctuate, and an individual security may even become valueless. International investors are reminded of the additional risks inherent in international investments, such as currency fluctuations and international stock market or economic conditions, which may adversely affect the value of the investment. This research is based on information obtained from sources believed to be reliable but we do not make any representation or warranty that it is accurate, complete or up to date. We accept no obligation to correct or update the information or opinions in it. Opinions expressed are subject to change without notice. No member of the Macquarie Group accepts any liability whatsoever for any direct, indirect, consequential or other loss arising from any use of this research and/or further communication in relation to this research. Clients should contact analysts at, and execute transactions through, a Macquarie Group entity in their home jurisdiction unless governing law permits otherwise. The date and timestamp for above share price and market cap is the closed price of the price date. #CLOSE is the final price at which the security is traded in the relevant exchange on the date indicated. Country-specific disclaimers: Australia: In Australia, research is issued and distributed by Macquarie Securities (Australia) Ltd (AFSL No. 238947), a participating organisation of the Australian Securities Exchange. New Zealand: In New Zealand, research is issued and distributed by Macquarie Securities (NZ) Ltd, a NZX Firm. Canada: In Canada, research is prepared, approved and distributed by Macquarie Capital Markets Canada Ltd, a participating organisation of the Toronto Stock Exchange, TSX Venture Exchange & Montréal Exchange. Macquarie Capital Markets North America Ltd., which is a registered broker-dealer and member of FINRA, accepts responsibility for the contents of reports issued by Macquarie Capital Markets Canada Ltd in the United States and sent to US persons. Any US person wishing to effect transactions in the securities described in the reports issued by Macquarie Capital Markets Canada Ltd should do so with Macquarie Capital Markets North America Ltd. 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27 May 2014 23

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Asia Research Head of Equity Research

John O’Connell (Global – Head) (612) 8232 7544

Peter Redhead (Asia – Head) (852) 3922 4836

Automobiles/Auto Parts

Janet Lewis (China) (852) 3922 5417

Zhixuan Lin (China) (8621) 2412 9006

Amit Mishra (India) (9122) 6720 4084

Michael Sohn (Korea) (82 2) 3705 8644

Banks and Non-Bank Financials

Ismael Pili (Asia, Hong Kong, China) (852) 3922 4774

Jian Li (China, Hong Kong) (852) 3922 3579

Matthew Smith (China) (8621) 2412 9022

Suresh Ganapathy (India) (9122) 6720 4078

Nicolaos Oentung (Indonesia) (6221) 2598 8366

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Chan Hwang (Korea) (822) 3705 8643

Gilbert Lopez (Philippines) (632) 857 0892

Dexter Hsu (Taiwan) (8862) 2734 7530

Passakorn Linmaneechote (Thailand) (662) 694 7728

Conglomerates

Gilbert Lopez (Philippines) (632) 857 0892

Consumer and Gaming

Gary Pinge (Asia) (852) 3922 3557

Linda Huang (China, Hong Kong) (852) 3922 4068

Jamie Zhou (China, Hong Kong) (852) 3922 1147

Elaine Lai (Hong Kong) (852) 3922 4749

Amit Mishra (India) (9122) 6720 4084

Lyall Taylor (Indonesia) (6221) 2598 8489

Toby Williams (Japan) (813) 3512 7392

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Best Waiyanont (Thailand) (662) 694 7993

Emerging Leaders

Jake Lynch (China, Asia) (8621) 2412 9007

Michael Newman (Japan) (813) 3512 7920

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Patrick Dai (China) (8621) 2412 9082

Saiyi He (China) (852) 3922 3585

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Andy Lesmana (Indonesia) (6221) 2598 8398

Kenjin Hotta (Japan) (813) 3512 7871

Sunaina Dhanuka (Malaysia) (603) 2059 8993

Somesh Agarwal (Singapore) (65) 6601 0840

David Gambrill (Thailand) (662) 694 7753

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Scott Russell (Asia, Japan) (852) 3922 3567

Jian Li (China, Hong Kong) (852) 3922 3579


Software and Internet

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Jiong Shao (China, Hong Kong) (852) 3922 3566

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George Meng (China, Hong Kong) (852) 3922 4128

Nitin Mohta (India) (9122) 6720 4090

Nathan Ramler (Japan) (813) 3512 7875

Prem Jearajasingam (Malaysia) (603) 2059 8989

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Aditya Suresh (Hong Kong, China) (852) 3922 1265

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Polina Diyachkina (Japan) (813) 3512 7886

Anna Park (Korea) (822) 3705 8669


Trevor Buchinski (Thailand) (662) 694 7829

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Joseph Quinn (Taiwan) (8862) 2734 7519

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Tuck Yin Soong (Asia, Singapore) (65) 6601 0838

David Ng (China, Hong Kong) (852) 3922 1291

Raymond Liu (China, Hong Kong) (852) 3922 3629

Kai Tan (China) (852) 3922 3720

Abhishek Bhandari (India) (9122) 6720 4088

Andy Lesmana (Indonesia) (6221) 2598 8398

William Montgomery (Japan) (813) 3512 7864


RJ Aguirre (Philippines) (632) 857 0890

Brandon Lee (Singapore) (65) 6601 0024

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David Liao (Taiwan) (8862) 2734 7518

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Rakesh Arora (India) (9122) 6720 4093

Riaz Hyder (Indonesia) (6221) 2598 8486

Polina Diyachkina (Japan) (813) 3512 7886

Anna Park (Korea) (822) 3705 8669

David Liao (Taiwan) (8862) 2734 7518

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Jeffrey Su (Asia, Taiwan) (8862) 2734 7512

Steve Zhang (China, Hong Kong) (852) 3922 3578

Nitin Mohta (India) (9122) 6720 4090

Claudio Aritomi (Japan) (813) 3512 7858

Damian Thong (Japan) (813) 3512 7877

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George Chang (Japan) (813) 3512 7854

Daniel Kim (Korea) (822) 3705 8641

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Ellen Tseng (Taiwan) (8862) 2734 7524

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Danny Chu (China, Hong Kong) (852) 3922 4762

Riaz Hyder (Indonesia) (6221) 2598 8486

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Prem Jearajasingam (Malaysia, Singapore) (603) 2059 8989

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Gary Chiu (Asia) (852) 3922 1435

Alan Hon (Hong Kong) (852) 3922 3589

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Prem Jearajasingam (Malaysia) (603) 2059 8989

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Colin Hamilton (Global) (4420) 3037 4061

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Burke Lau (Asia) (852) 3922 5494

Suni Kim (Japan) (813) 3512 7569

Tim Sharp (Hong Kong) (852) 3922 1318

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Viktor Shvets (Asia) (852) 3922 3883

Chetan Seth (Asia) (852) 3922 4769

Joshua van Lin (Asia Micro) (852) 3922 1425

Peter Eadon-Clarke (Japan) (813) 3512 7850

David Ng (China, Hong Kong) (852) 3922 1291

Jiong Shao (China) (852) 3922 3566

Rakesh Arora (India) (9122) 6720 4093

Nicolaos Oentung (Indonesia) (6121) 2598 8366


Yeonzon Yeow (Malaysia) (603) 2059 8982

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Ruben Boopalan (Malaysia) (603) 2059 8888 Gino C Rojas (Philippines) (632) 857 0861 Eric Roles (New York) (1 212) 231 2559

Regional Heads of Sales cont’d

Paul Colaco (San Francisco) (1 415) 762 5003

Erica Wang (Taiwan) (8862) 2734 7586 Angus Kent (Thailand) (662) 694 7601 Julien Roux (UK/Europe) (44) 20 3037 4867

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Regional Head of Distribution

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Sales Trading

Adam Zaki (Asia) (852) 3922 2002

Phil Sellaroli (Japan) (813) 3512 7837 Kenneth Cheung (Singapore) (65) 6601 0288

Sales Trading cont’d

Mike Keen (UK/Europe) (44) 20 3037 4905

Chris Reale (New York) (1 212) 231 2555 Marc Rosa (New York) (1 212) 231 2555 Stanley Dunda (Indonesia) (6221) 515 1555

Suhaida Samsudin (Malaysia) (603) 2059 8888 Michael Santos (Philippines) (632) 857 0813 Isaac Huang (Taiwan) (8862) 2734 7582

Dominic Shore (Thailand) (662) 694 7707


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