GUEST COMMENTARY: China Enters Its 'Aftermarket Era' - aftermarketNews

GUEST COMMENTARY: China Enters Its ‘Aftermarket Era’

Schwartz Advisors (SA) has a team of experienced professionals with extensive industry knowledge. This month, SA partner Steven Ganster, shares his in-depth knowledge of China's automotive sector and the opportunities and challenges for the aftermarket.

By Steven H. Ganster,
partner, Schwartz Advisors and managing director,Technomic Asia

 
an important phenomenon in china’s auto aftermarket has been the growing development of auto parts cities (“qi pei chen”). auto parts cities evolved historically from the fragmented parts supply structure of an emerging local auto market still in its infancy. China’s new car market is now the largest in the world. As these new vehicles pour into China’s vehicle parc, the aftermarket for parts and services is beginning to take off. While there is still a substantial gap with the United States, it is only a matter of time before China also takes over the No. 1 position in the world’s aftermarket.
 
The overall parc for four-wheel vehicles exceeds 100 million units on the road, while the passenger car (PC) parc is approaching the 75 million mark.
Parc growth for all light passenger vehicles has been growing at a rapid pace of 22 percent per annum over the past five years up to 2012. This growth will decelerate over the next five years to 15 percent per annum given the slowdown in new vehicle sales, but is still very attractive by global standards. By 2017, we forecast the light passenger parc to reach almost 180 million units, with passenger cars more than doubling to 154 million.
 

 
In addition to this attractive absolute growth, the parc’s composition continues to evolve in terms of model proliferation, age and geographic concentration. The average age of light passenger vehicles on the road in China is estimated at 4.2 years today, which is well less than half that of the United States. Nevertheless, the continued aging of the parc is an important trend, especially for those suppliers with replacement parts coming into play as vehicles reach four years and older. By 2017, the mid-aged segment of the parc (four to nine years) is expected to exceed 50 percent of the market.


 
Additionally, China’s parc continues to show more balance by vehicle maker as all major foreign car companies are present and actively trying to grow share. Local Chinese vehicle groups, such as Chery, BYD, Geely and Great Wall, also have made great strides in vehicle development and quality, especially at the lower end of the market. These Chinese suppliers lead unit market share in the passenger car parc, slightly ahead of European makers that historically have dominated.
 

 
From a geographic standpoint, the parc is still concentrated along the Eastern seaboard in what are called first and second tier cities. However, as other markets in China have experienced, the parc has shown some spread to third tier and even fourth tier cities over the past few years, which is moving the market west into China’s less developed regions. These lower tier urban market cities often will “feed off” the parts distribution of a neighboring, larger first or second tier city, such as Shanghai or Hangzhou. But this will change as these markets begin to build scale and their own channels and infrastructure. Suppliers to the China market will need to develop adequate distribution to cover these more outlying markets.
Based on China’s parc growth and development, the parts and service value of China’s light passenger vehicle market reached an estimated RMB608 billion in 2012 (US$98 billion).[i]
 
This market is expected to grow by 17 percent per year to RMB~1,300 billion in 2017 (US$209 billion) based on continued aggressive parc growth, an aging vehicle population, improved parts quality in the vehicle and better service standards. The aftermarket’s supply chain continues to represent a key challenge for all market participants as it remains fragmented and highly dynamic. At the service level, there are more than 360,000 accredited garages with an additional vast number of low-end mom and pop operations. Service chains still represent a small share of the market, but are starting to grow rapidly in quick service and lube changes. Garage sourcing channels are complex and multiple. Garages and customers employ multiple sourcing channels, such as original equipment service (OES) dealers, retailers, first and second tier distributors, local parts manufacturers and import agents in order to get the parts needed.
 
An important phenomenon in China’s auto aftermarket has been the growing development of auto parts cities (“Qi Pei Chen”). Auto parts cities evolved historically from the fragmented parts supply structure of an emerging local auto market still in its infancy. The aftermarket was served by an extremely diverse base of mom and pop distributors. Garages needed to cover a wide number of these distributors in order to secure the parts they needed. As a result, these distributors naturally congregated into central areas for convenience and exchange of parts. Today, there are more than 840 parts cities across the country, generally falling into two types. One type is the regional parts city, such as Shanghai Dongfang, where sub-distributors from neighboring provinces come to buy parts to bring back to their local markets. These parts cities can assimilate 500 to 1,000 independent dealers. The other type comprises more local parts cities, which are smaller in scope and primarily serve the immediately surrounding urban market, with 50 to 150 dealers.
 
There are no formal and effective regulations, and the administration of auto parts cities is only responsible for property management, so the market is full of fake parts. Major auto parts cites are offering more services now, such as inventory mortgages, warehousing, group buying, etc., and are trying to be more like platform service providers. Some industry observers believe the future role of auto cities will have a stronger logistics/warehouse service function.
 
Most repair shops use the telephone for ordering with frequent, daily (or two-hour) delivery being a standard practice for most shops. Today, many of these garages have computers, though their use is limited when it comes to purchasing.
 
Most repair shops keep virtually no inventory except for lubricants and the like. To retain customers, such as garage/quick fix shops, payment extensions are often accepted by distributors. "4S" shops (short for sales, service, spare parts and surveys) are starting to struggle to make money on vehicle sales and have turned more aggressively to parts and service, as well as value-added businesses (e.g. used car sales, finance and insurance, etc.), including servicing all makes. The OES channel still comprises upward of half the repair and service value, but this share is under stress by more aggressive independents. The do-it-yourself (DIY) segment is minimal, but there is a growing do-it-for-me (DIFM) market.
 
Parts distributors still remain largely regional in nature, with small scale and unsophisticated business systems, though they are getting stronger. Larger distributors are developing retail outlets at key parts cities across China; some going upstream into parts manufacture and others downstream into service. There are a variety of distributor “types” operating in China, which fall on a spectrum between more model/platform-focused and product type-focused. In general, most are relatively small scale (<$15 million in sales) and are regionally oriented.
 
Those who are considered model/platform-based “specialists” tend to be bigger players who claim that they offer a “one-stop-shop” for a couple makes. Others are considered product line “generalists” who claim they offer a “one-stop-shop” for limited product parts lines, but which are applicable to multiple makes/models. In both cases, these distributor groups will drift outside these limits in order to survive. Securing, retaining and managing good distributors is and will continue to be a major challenge for foreign parts suppliers.
 
On the parts supply side, there is continued localization by foreign parts companies seeking to improve competitiveness and response time to market, as well as consolidation among many of the smaller, local players. China’s parts trade showed a surplus in 2012 after a deficit in 2009 and 2010 due to the global automotive recession. Price and quality tiers indicate four to five different levels with counterfeits remaining problematic for branded players. Private label parts could grow rapidly, and many distributors are trying to expand into this area more aggressively. OEM parts suppliers are taking the majority of parts supply today, while independent aftermarket (IAM) parts suppliers are emerging quickly. Large, relatively independent 4S dealer groups are even starting to invest in their own IAM suppliers by organic start-up and acquisition.
 
Aftermarket Distribution Structure
 
In summary, China’s aftermarket offers both opportunities and challenges as it moves deeper into its “Aftermarket Era.” On the plus side, the market will show continued strong and steady growth. The competitive environment, while challenging, is fragmented with no dominant players or brands. Despite its complexity and inefficiency, the supply chain structure is very fluid and offers multiple options to participate. There will be increasing market order as the aftermarket’s structure matures and modernizes. The government is behind this development and the existence of a strong independent aftermarket.
 
However, there also are many challenges. The market is very price-competitive with margin stress along much of the value chain. Finding a profitable way to deal with the distribution fragmentation is not easy. With new car sales profits declining, OEMs /dealer groups are paying more attention to the aftermarket, resulting in stronger competition. Despite its high growth, there is a fragmented model base with limited scale for most vehicle groups. And, as in other markets in China, counterfeits and corruption undermine fair competition.
 
We have seen China reach and exceed the U.S. market in terms of new vehicle sales. It also will continue to close the gap in vehicle parc and eventually repair and service value. This unstoppable trend mandates that automotive suppliers develop a proactive strategy to address this key global market.
 
________________________________________
[i] Defined to include maintenance & light repair, collision repair and general repair. Excludes accessories and car beautification.
 
Steven H. Ganster is a partner for Schwartz Advisors, a mergers and acquisition adviser and consulting firm to companies in the automotive aftermarket. He also is managing director, Technomic Asia. For information, visit www.schwartzadvisors.com, email: [email protected], or call (858) 768-2623
 
 
 

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