ANHUI'S AUTO INDUSTRY HURT BY ECONOMIC DOWNTURN, BENEFITS

UNCLAS SECTION 01 OF 04 SHANGHAI 000096

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TREASURY FOR OASIA/INA -- DOHNER/HAARSAGER/WINSHIP
TREASURY FOR IMFP -- SOBEL/MOGHTADER/CUSHMAN
USDOC FOR ITA DAS KASOFF, MELCHER, MAC/OCEA
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STATE PASS USTR FOR STRATFORD/WINTER/MCCARTIN/KATZ/MAIN

E.O. 12958: N/A
TAGS: ETRD EFIN EINV ELAB EIND PGOV CH
SUBJECT: ANHUI'S AUTO INDUSTRY HURT BY ECONOMIC DOWNTURN, BENEFITS
FROM GOVERNMENT STIMULUS MEASURES

REF: a) 07 SHANGHAI 284; b) SHANGHAI 79

(U) Sensitive but unclassified. Not for dissemination outside
USG channels or posting on the internet. Please protect
accordingly.


1. (SBU) Summary: After years of double-digit growth, Chery
Automobile Company and Jianghuai Automobile Company (JAC),two
large Chinese auto manufacturers headquartered in Anhui
Province, saw sales slump in 2008 due to the economic downturn,
with exports hit particularly hard. Recent government measures
to stimulate growth, such as a tax cut on small sedans, lifted
sales in January. The companies are cautiously optimistic that
additional government measures, including subsidies to rural
consumers, will boost domestic sales in 2009. End summary.

Background: Rapid Growth
--------------

2. (SBU) Feng Ping, Vice General Manager in charge of
international relations at Chery Auto, described the company's
rapid growth during a meeting in Wuhu, Anhui Province on
February 17. Based in Wuhu and founded in 1997 as an auto parts
manufacturer with two factories, Chery manufactured its first
passenger vehicle in 1999. By 2006, Chery had manufactured a
total of 500,000 vehicles, and in August 2007, the company
rolled out its 1 millionth vehicle. Chery's current annual
capacity is 650,000 cars. It has four factories, all in Wuhu,
employing 23,000 workers. Chery's sales have grown quickly.
The company sold only 28,610 cars in 2001 but sold 305,236
vehicles in 2006 and 356,000 in 2008. Chery has 500
distribution service centers throughout China as well as a
global distribution network covering several dozen countries.
Total export volume has grown exponentially from 100 vehicles in
2002 to 50,000 in 2006 and 135,000 in 2008. Exports now account
for 30 percent of total sales; its major export markets include
Russia, Eastern Europe, Latin America, Africa, and the Middle
East. "We export to everywhere except North America and Western
Europe," said Feng. (Note: For more on Chery's background, see
ref A. End note.)


3. (SBU) Gong Renhe, Deputy President of Jianghuai Automobile
Company (JAC),described his company's wide-range of vehicles
during a discussion on February 18 in Hefei, the provincial
capital of Anhui Province. Established in 1999 and based in
Hefei, the company makes light trucks, heavy commercial trucks,
bus chassis, auto parts, minivans, and constructions vehicles.
It also launched its first sedan in 2008. Company sales have
grown 30 percent every year, reaching 210,000 vehicles in 2007
and a "similar figure" in 2008, according to Gong. Minivans
account for a large portion of total sales. According to Huang
Junchun, Deputy Director of the External Relations Department at
JAC, the company sold 40,000 minivans in 2008, placing it among
the top two minivan manufacturers in China. Econoff visited
JAC's minivan factory, which churns out 150 to 200 vehicles a
day. JAC's exports have also grown in recent years. Exports
account for 10 percent of JAC's total sales, amounting to 8000
vehicles in 2006, 20,000 in 2007, and 24,000 in 2008. Chief
export markets include Southeast Asia, the Middle East, Russia,
and Africa, said Huang. JAC's employees have increased from
16,000 in 2006 to over 20,000 now. According to Huang, JAC
recruits university graduates majoring in automotive studies
from across China, many from technical colleges in Northeast
China. Though he did not provide exact figures, Huang said the
attrition rate is low, as JAC employees have ample opportunity
for career advancement through examinations and good
performance. (Note: For more on JAC's background, see ref A.
End note.)

Hitting a Speed Bump: The Global Financial Crisis
-------------- --------------

4. (SBU) The global financial crisis hit both Chery and JAC
hard in 2008. Chery's total sales decreased from 381,000
vehicles in 2007 to 356,000 in 2008, the first year-on-year
decline since the company's founding, according to Feng Ping.

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The company originally planned to introduce six new models in
2008 but ended up launching only one because of the economic
downturn and technical problems requiring additional tests and
certification. The financial crisis has impacted Chery more
than other Chinese auto makers because of the company's heavy
reliance on overseas markets (30 percent of total sales),said
Feng. January exports this year were down 70 percent from
January 2008, with sales to Russia and Ukraine hit hardest.
Feng attributed this to Russia's slowing economy, depreciating
currency, and 5 percent rise in Russia's import tax on cars.
Exports to Latin America and the Middle East are still "so-so,"
said Feng, and the company recently launched a new "global
model" sedan called the M11, which has seen sales pick up after
a slow start since the company recently slashed prices. Despite
the downturn, the company does not plan to layoff employees,
said Feng.


5. (SBU) JAC's sales were healthy through the first half of
2008 but declined sharply after July 2008, said Gong Renhe.
Sales for the full year were up only 10 percent from 2007, a
sharp drop from previous years' 30 percent annual growth. JAC's
sedans, which the company launched in 2008, faced a slow start
due to "fierce competition" exacerbated by the financial crisis,
said Huang Junchun. Although exports (which account for 10
percent of JAC's sales) grew 10 percent in 2008 from the
previous year, JAC "will face a lot of pressure" in overseas
markets in 2009, speculated Gong. Exports to the Middle East
and Africa have been hit especially hard. Huang said the
company does not plan to layoff workers despite the downturn.

Boosted By Stimulus Measures
--------------

6. (SBU) China's economic stimulus measures have had a notable
impact on Chery and JAC, said our interlocutors. The Chinese
Government recently halved the purchase tax from 10 percent to 5
percent on cars with engines 1.6L and smaller, spurring demand
for Chery's sedans, 90 percent of which are under 1.6L,
according to Feng Ping. Though sales are still down from
January 2008, Feng said Chery's domestic sales in January 2009
rose 20 percent from December 2008, calling the tax cut a "gift
from the government for the Chinese New Year." (Note: Japanese
analysts said during a separate discussion on February 9 that
Japanese automakers saw sales in China rise in December 2008 and
January 2009 but attributed this to a sharp cut in prices by
manufacturers. Ref B. End note.) Feng also expects Chery to
benefit from another government plan, due to be implemented in
March, which aims to boost rural consumption by subsidizing the
purchase of low-emission vehicles, including sedans, in rural
areas.


7. (SBU) Gong Renhe hopes the recent tax cut will raise sales
of JAC's small sedans. However, he thinks the government's
effort to boost rural consumption through subsidies will have
the biggest impact on JAC's sales, since the company's light
trucks and minivans are widely used in rural areas.
Infrastructure development projects should benefit JAC's
construction vehicles, such as its cement mixers and heavy
loader trucks, said Huang Junchun. The Chinese Government in
February also announced cash rebates for the purchase of fuel
efficient and alternative energy vehicles in 13 designated
cities across China, including Hefei, where JAC is based, noted
Gong. (Note: The other cities designated for the project are
Beijing, Shanghai, Chongqing, Changchun, Dalian, Hangzhou,
Jinan, Wuhan, Shenzhen, Changsha, Kunming and Nanchang. End
note.) Gong expects sales of JAC's buses to increase as Hefei
switches to more fuel efficient modes of public transportation.

Looking Ahead: Optimism Despite Uncertainty
--------------

8. (SBU) Feng Ping said it is difficult to forecast sales for
2009 but that Chery remains fairly optimistic about the domestic
market. She said the company plans to launch over 10 new models
in 2009 but admitted there "may be some delays," depending on

SHANGHAI 00000096 003 OF 004


the economic situation. Some of the company's new cars are
aimed at niche markets, such as the "QQme," a smaller version of
their popular QQ model tailored specifically for young female
drivers and scheduled to be launched next month, according to
Feng. The company is already producing a BSG (belt
starter-generator) hybrid sedan, and Feng expects the company to
roll-out an ISG (integrated starter-generator) hybrid in 2009.
Feng, however, is unclear how the economic downturn will affect
Chery's development of hybrids but speculated there may be
delays in some new energy vehicle projects. Although Chery
hopes to export 150,000 vehicles this year (a 10 percent
increase on 2008),Feng thinks this target may be "difficult" to
achieve. She expects Chery to focus on the domestic market this
year but said the company will have to eventually expand abroad
to become a "powerful" player able to compete with better-known
brands in the auto industry. Chery is thus looking to improve
the quality of its cars by investing RMB 1.7 billion in a new
testing facility utilizing state-of-the-art equipment from
Germany and Japan, according to Feng. On the other hand, Chery
is delaying construction of its fifth factory due to economic
uncertainties, said Feng.


9. (SBU) Huang Junchun of JAC forecasted "small growth" for his
company in 2009. The company cut several projects this year due
to concerns over cash flow but still expects to launch "at
least" one new 1.5L sedan this year. Huang said JAC will focus
on the domestic market, especially rural areas, in 2009, but the
company is also looking at other areas of potential growth, such
as overseas markets and new energy vehicles. JAC hopes to
increase its exports to 15-20 percent of total sales within the
next few years, according to Huang. JAC is also developing new
electrical buses to take advantage of environmental initiatives
in Hefei and other large cities. The company receives local
government funding for R&D of alternative energy vehicles, Huang
added.

Working With Foreign Suppliers
--------------

10. (SBU) According to Feng Ping, Chery has partnerships with
U.S. localized companies in China, such as Johnson Controls and
Lear Corporation, which provide various auto components. Though
the company procures most of its parts domestically from both
Chinese and foreign-owned suppliers, it also imports
superchargers, electronic control units (ECU),and other
specialized components from the United States, said Feng. Chery
also imports high precision measurement equipment and machine
tools from Germany and Japan. Feng noted that the company
invited several German engineers to train employees, and that a
German national who used to work at Volkswagen for 45 years now
supervises the R&D center at Chery.


11. (SBU) JAC has 500-600 suppliers, of which 40 percent are in
Anhui and 60 percent in other parts of China, said Gong Renhe.
The company set up a "supplier network" at the end of 2007 with
"clusters" of suppliers located in and around Hefei, some of
which are foreign-owned joint ventures (JVs),according to Gong.
JAC currently imports a few components for its minivans but
procures most of its parts from domestic (Chinese and foreign
JV) suppliers, including U.S.-owned Johnson Controls, Lear
Corporation, and Visteon. Although JAC's 11 subsidiaries each
have their own purchasing departments, the company plans to set
up a new Investment Management Department which will coordinate
requests for investment and business opportunities, said Gong.

Comment
--------------

12. (SBU) Econoff observed that nearly all sedans on the
streets of Wuhu, where Chery is based, were Cheries. Hefei, the
hometown of JAC, had a mix of different brands (although most of
the taxis in Hefei appeared to be Cheries). It is not clear
what incentives Wuhu residents and taxi companies receive for
driving Cheries, if any, but both auto makers receive
significant support from the local government, such as

SHANGHAI 00000096 004 OF 004


preferential tax treatment and R&D funding, according to the
interlocutors. A local resident in Hefei driving a Shanghai GM
Buick, however, laughed at the idea of buying a Chery,
commenting that Hefei residents who can afford to buy cars
prefer GMs or Volkswagens, while others just do not buy cars.
The resident added that foreign cars made in China, such as
Shanghai GM, do not cost a great deal more than Cheries but are
better quality. Feng Ping of Chery acknowledged to Econoff that
Chery's greatest challenge in the future will be to improve its
quality and reputation, even among locals, and make it a "cool"
car to drive.
CAMP