China bubble bursts painfully

The world’s oldest car-maker could face fines in the tens of millions of dollars after becoming the latest to fall victim to a pricing crackdown in the world’s biggest car market.

A report yesterday from China’s official Xinhua news agency said Mercedes-Benz had been found guilty of manipulating the price of aftersales parts and servicing, but made no mention of a fine or penalty.

Mercedes-Benz had been cooperating with investigators from China’s antimonopoly regulator, the National Development and Reform Commission NDRC), but that didn’t save it from following Audi and Chrysler into a conviction. Audi was fined 250 million yuan ($44 million) and Chrysler is still negotiating a settlement.

The NDRC this year launched a slew of investigations into foreign-owned car-makers in China, including Germany’s Big Three prestige brands -- Audi, BMW and Mercedes-Benz -- all of which have manufacturing bases in China.

Audi expects the Chinese market to make up 40 per cent of its global sales by 2020, while Mercedes-Benz expects China to soak up 300,000 cars next year, up from 218,045 last year.

It is also investigating other premium brands like Lexus and Jaguar Land Rover, along with volume brands like GM, Honda and Toyota. All foreign car-makers operate in China in joint-ventures with locally owned Chinese companies.

The only significant premium players not targeted by the NDRC are Alfa Romeo, which doesn’t sell cars in China, and Volvo, which happens to be owned by Chinese company, Geely.

The NDRC’s main point of attack has centred around aftersales costs, with regulators citing a China Automotive Maintenance and Repair Trade Association report to highlight that replacing a C-Class Mercedes-Benz from spare parts would cost 12 times more than a new car.

Audi, BMW, Mercedes-Benz and Volkswagen (which is not currently thought to be under investigation) reacted swiftly to the investigations by lowering their spare parts prices in China in the last month. Mercedes-Benz cut its spare parts prices by an average of 15 per cent, BMW leapfrogged that with a 20 per cent cut and Audi cut prices by up to 38 per cent on some parts.

Under China’s 2008 anti-monopoly law, the price cuts could see reductions in fines, which can be as much as 10 per cent of a company’s Chinese revenues from the previous year.

While the late blooming of the Chinese car market allowed established car-makers to build uniquely overbearing relationships with their dealers, its continued strength means it is not only the biggest car market in the world, but has the biggest margins as well.

Industry analysts from JP Morgan insist lowering the margins in China would have a large impact on the bottom line of all the car-makers involved over the next five years.

In a note released earlier this month, JP Morgan indicated that if companies cut its spare parts and service prices by 20 per cent in China, it would slash a full percent off the pre-tax profit of Daimler and BMW but, much more significantly, nearly three per cent at Audi’s parent, the Volkswagen Group.

The Mercedes-Benz case saw dealerships raided in Shanghai and in the Jiangsu Province, Xinhua reported.

“It’s a typical case of a vertical monopoly in which the car-maker uses its leading position to control the prices of its spare parts, repair and maintenance services in downstream markets,” Xinhua quoted the chief of the antimonopoly investigation in Jiangsu, Zhou Gao, as saying.

It’s not the only bad news for Daimler in China, with China’s General Administration of Quality Supervision, Inspection and Quarantine (GAQSIQ) demanding the recall of 50,000 smart fortwos.

The GAQSIQ told Daimler it thought the cooling fan and alternator v-belt on the three-cylinder engine could tear and fail, even though Daimler sources insists China has seen no recorded injury from the supposed problem nor a single case of severe engine damage. While it is also recalling 4000 fortwos in Japan to rectify the issue, Daimler will try to cover the problem with standard servicing in the rest of the world.

The antimonopoly investigations aren’t isolated to the car industry, however, with Mead Johnson Nutrition and Danone being fined for price fixing, while Microsoft and computer chip giant Qualcomm are also being investigated.