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Shenzhen, China on 6/6/2017 © Moonfish8 / Shutterstock

China’s Electric Vehicle Market: A Storm of Competition Is Coming

China is the world’s biggest market for electric vehicles — and conditions are ripe for a shakeout.

China’s booming electric vehicle industry is headed for some tough price competition followed by a shakeout, according to experts. The competitive landscape for China’s EV market is changing dramatically on several fronts. The phase-out of Chinese government subsidies on EVs is set to gather speed in June before they are eliminated by 2020. Meanwhile, some 500 manufacturers have registered to make EVs in the country. Global automakers such as GM and Volkswagen are also expected to intensify their efforts in China, bringing superior technology and brand recognition.

Against the backdrop of those corrections came a recent trailblazing show by Shenzhen-based BYD Company, China’s dominant maker of EVs. BYD — which stands for “Build Your Dreams” — counts Warren Buffett among its investors and posted a 632% jump in profit for this year’s first quarter to 749.73 million yuan ($111.4 million). It sold nearly 118,000 vehicles in the quarter, up 5.2% over last year’s first quarter. In comparison, BYD’s US counterpart and EV maker Tesla posted a loss of $668 million on revenues of $4.5 billion in the latest quarter. The 63,000 cars it sold last quarter represented a 31% fall from the previous quarter.

According to Wharton Management Professor John Paul MacDuffie, who is also director of the Program on Vehicle Mobility Innovation at Wharton’s Mack Institute for Innovation Management, BYD’s latest quarterly results reflect the volatility of the Chinese EV market, and its sensitivity to subsidies. He pointed out that the company’s profit growth in the last quarter is dramatic when compared to a sharp drop in its profits for 2017 following the first round of cuts in government subsidies.

The Chinese government had introduced subsidies in 2010 to promote EV sales, driven in large part by its desire to cut pollution levels. China’s EV industry has benefitted also from other government regulations aimed at shifting consumers away from internal combustion (fossil fuel-driven) vehicles. For example, securing a license plate for a new vehicle could take up to a year in many Chinese cities, but in the case of EVs, license plates are issued along with the vehicle. “That’s a huge incentive for somebody who wants to buy an entry-level vehicle,” said Willy C. Shih, professor of management practice in business administration at Harvard Business School.

“China has been willing to pull all of the policy levers available to them to jumpstart the electric vehicle market,” MacDuffie said. “[It wanted to] stake out a claim to be not only the biggest market in the world, but the one that is accelerating the pace of the transition from internal combustion to electric.”

MacDuffie and Shih explored the outlook for China’s EV industry on the Knowledge@Wharton radio show on SiriusXM.

Subsidies Going Away

Good times riding on subsidy props, however, don’t last forever in any market. Beginning 2016, the Chinese government has been steadily reducing its subsidies for EVs, in an attempt to progressively shift costs to its EV makers. The latest round, announced this March, will see the subsidy for pure battery electric cars with driving ranges of 400 km (250 miles) and above cut by half, to 25,000 yuan ($3,700) per vehicle from 50,000 yuan, according to a Bloomberg report. In order qualify for any subsidy, electric cars need to have a range of at least 250 km, it added. Last year, the Chinese government removed subsidies for vehicles that can travel less than 150 km in one charge.

The program to phase out the subsidies by 2020 means that the Chinese government considers EV technology “mature enough to not need the subsidy,” said MacDuffie. Specifically, the phase-out of subsidies for lower-range vehicles “helps the companies that are investing in better batteries,” he added, noting that BYD would be one of the beneficiaries.

Has China’s EV industry truly matured enough to be successful without the subsidies? “Yes and no; it’s complicated,” said Wharton Emeritus Management Professor Marshall W. Meyer, who is also a China expert. “The Chinese government turns sales tax rebates on and off depending on desired support for an industry, including automobiles. Given Chinese driving habits — there is little long-distance automobile traffic because of high speed trains — the EV industry should do just fine on its own.”

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Beijing, China on 5/3/2016 © Humphery / Shutterstock

Companies like BYD have made good use of government policies that encouraged the use of EVs. BYD cut its teeth making batteries for mobile phones and portable electronic devices over the past two decades, and then scaled that technology to make batteries for electric buses and other automobiles, Shih noted. “They have gotten a lot of practice over the last decade for sure.”

BYD’s top selling Yuan EV is priced at between 89,900 yuan ($13,500) and 109,900 yuan ($16,200). At the other end of the price spectrum is the two-seater Bajoun E100, produced by a joint venture between China’s state-owned SAIC Motor Corp., General Motors and Liuzhou Wuling Motors, priced at about 35,800 yuan ($5,300).

MacDuffie said that Tesla, unlike BYD, started as a luxury EV company and has over the years struggled to develop “a model that can sell at a mass market price.” Tesla’s Model 3 is priced upwards of $35,000, compared to the recently lowered starting prices of $88,000 for the Model X and $79,000 for the Model S. By contrast, BYD’s cars are more affordable thanks to government subsidies, he added.

A Gathering Storm

China’s EV push has no doubt attracted global players as well. “You already see that response with companies like Volkswagen, BMW and others agreeing to source batteries in China, for example, or even starting to think about using China as their lead market for the development of EVs,” said Shih. According to Meyer, Hyundai and Kia will also be players in China’s EV market.

As global automakers seek to expand in China, “there is a coming storm of competition for Chinese electric vehicle manufacturers,” said MacDuffie. He noted that almost 500 manufacturers have registered to make EVs in China, and that they would together take the total manufacturing capacity up to 3.9 million vehicles annually, or about three times current sales levels.

For now, foreign brands have a small presence in China’s EV market, with a share of about 5%, while imports account for about 3%, according to a CleanTechnica report. “I’m worried that the US will miss this market,” Meyer said. “GM has dropped the Volt, and the [Chevrolet] Bolt lags Kia’s new entry (the Soul EV).”

However, “they’re not all going to survive,” MacDuffie said, noting that a shakeout in the industry is inevitable. “Before a shakeout comes some tough price competition, [along with] higher-end, technologically sophisticated competition from the multinationals. The big players – the ones with experience like BYD – are in a better position to survive a shakeout.” Added Shih: “There will be inevitably some kind of shakeout and consolidation, [similar to what occurred in the] American auto industry in the 1920s.”

Bullish Growth Outlook

Even in the face of those headwinds, China’s EV industry is expected to continue growing; sales grew 62% in 2018 to 1.3 million vehicles, while those of fossil fuel-driven cars fell nearly 3% last year to about 28 million vehicles, as they did in the US and in Europe as well.

No major casualties are expected in the immediate aftermath of the withdrawal of China’s EV subsidies. “[China’s] EV makers — which for now prioritize volumes and market shares over profitability — will subsidize customers for the time being to mitigate the subsidy cuts, while passing on some of the losses to suppliers,” said ratings agency Fitch.

Over time, China’s EV industry has more than enough room to grow. Even as it is the world’s biggest market for EVs, sales of those vehicles account for just about 4% of total vehicle sales, MacDuffie noted. Some studies projected EVs to command a market share of 50% by 2025.

Growth opportunities await Chinese EV battery makers as well. MacDuffie pointed out that Western makers of EVs have mostly been using either Japanese or Korean batteries. However, as they expand their EV manufacturing in China, they would have to source Chinese batteries as mandated by the government. That scenario would present expansion opportunities for Chinese battery makers, he said. “It will be interesting to see if China becomes a lead market for Volkswagen, GM or any other EV maker [not just] because of the mandates but also because of the size of the [Chinese] market,” he added.

China could also position itself as a compelling location for the manufacture of EV batteries. A cluster of major battery manufacturers is driving economies in the supply chain, Shih said.

Limited Room for Exports

According to MacDuffie, the Chinese government has had a desire for its domestic automakers to be exporting to the world by now. Its policy that required foreign automakers to form joint ventures with domestic Chinese companies was “a way for them to learn from the foreign multinationals,” he said. 

However, Chinese automakers did not extend those capabilities in manufacturing internal combustion vehicles for exports, especially to the US. “The market was growing so quickly in China that it was partly easier to sell into that rapidly growing domestic market than to reach for the high levels of quality and safety that are expected in the US market, for example,” MacDuffie noted.

China’s EV makers are not likely to make inroads into the US market any time soon. That is because safety regulations and other standards vary across countries, Shih pointed out. BYD already has a facility in Los Angeles County in California, where it manufactures electric buses, fork lifts and trucks, and has been periodically expanding its capacity there.

“The question is: Will their cars make it into the US market?” said Shih. He didn’t see any immediate openings for that, noting that EV imports from China into the US have been few thus far. “They haven’t been very successful in the US,” he said. Meanwhile, he saw opportunities for Chinese EV makers in many emerging markets, and added: “It’s only a question of time before they are in the US.”

“I don’t think the Chinese makers will try this market until there is equilibrium in trade relations [between the US and China],” said Meyer. “It’s a little while … before conditions are ripe for BYD and others to enter the US.”

China hopes that the transition from internal combustion engines to EVs will present an opportunity for its manufacturers to become global leaders in that space, said Shih. “They [won’t be] burdened with any of the infrastructure or the existing ways of working associated with making internal combustion engines,” he explained. “If you start with a clean sheet you don’t have anything to protect.”

Chinese automakers are, however, growing their exports of internal combustion vehicles in Latin America and Africa, replacing those from the US and Japan, said Shih. “Over time, they will develop that sales, service and support infrastructure and that will set them up well for electric vehicles.”

*[This article was originally published by Knowledge@Wharton, a partner institution of Fair Observer.]

The views expressed in this article are the author’s own and do not necessarily reflect Fair Observer’s editorial policy.