A Study of Distribution

Strategies of Automobile
Sector in China

By
Soumyajyoti
Kundu
Under the Guidance of Roll:26
Dr. Monica Khanna PGDM-
International
Business
( 2010-12)
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A Study of Distribution Strategies of

Automobile Sector (Cars & Passenger
Vehicles) in China
Hypothesis: Changing consumer preferences in terms of product design & after sales
services, stringent environmental friendly manufacturing practices & norms & finally global
economic recession have had an impact on distribution strategies of MNE’s of automobile
sector in China. Is this a point of inflexion for the Chinese automobile industry distribution?

As China’s economic development promotes the upgrading of consumption, cars have

turn into the everyday necessities of ordinary men and women instead of exclusive luxury
goods to the high-income group. Due to the financial crisis, the economic growth of global
major economies such as China slows down obviously. Nonetheless, in China, the sustaining
growth of the demand prospective in the auto business displays the growingly prominent role
of this business in the national economy. In 2009, China realized the auto sales volume of
over 13 million, becoming the global largest new vehicle marketplace for the first time. The
role of the auto industry as the pillar of the national economy is unanimously recognized by
Chinese governments at all levels. This lays a favourable policy foundation for the
sustainable development of Chinese auto marketplace in the future.

Even so, the situation of the auto market differs in different regions of China. On one hand,
large gaps exist in the economic development levels of various regions. For example, in
2009, the GDP per capita was over USD 11,000 in Shanghai, practically ten times the USD
1,300 in Guizhou(17). On the other hand, the geography, climate and history culture also vary
from region to region. The local special culture functions will be demonstrated much more
prominently in the auto markets of small and medium cities however there are many small
and medium cities in China the scale of a single marketplace is relatively little and the
difference in culture &amp economy will be significant. Thus, the auto distribution industry
has to establish channel models in accordance with the situation of the markets.

The auto markets in Chinese initial-tier cities (Shanghai, Beijing, etc.) are comparable to that
of developed countries (USA, Europe, Japan, etc.) in the limited market growth space. The
rigid demand in Chinese auto market comes from those urban families that have not
purchased cars. These families mainly concentrate in little and medium cities. It is forecast
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that the auto purchase demand in Chinese small and medium cities will be fully released in
the coming years. The effective channel models and marketing modes in Shanghai, Beijing
and Shenzhen, etc will be adopted by hundreds of small and medium cities. Even so, there
will be the issue of inapplicability then. Therefore, in the following years, a core difficulty to
be solved for the competition of the auto distribution business is how to establish the
applicable sales and marketing systems in those high-speed developing auto markets of
Chinese modest and medium cities.

With the sustaining growth of Chinese income per capita and the rapid growth of personnel
automobile purchase, Chinese auto purchasers will pay more attention to services instead of
items. In the future, service will turn into a key aspect for Chinese auto distributors to
establish competition advantages. Besides the essential services for sales and right after-sales
repair, value-added services (auto leasing, auto maintenance, auto replacement and quick
service chain) will accomplish fast development.

Major Players in China’s Automobiles (Cars & Passenger Vehicles):

According to CAAM report:

China‘s 10 largest car

manufacturers
Growt Market
Name Units 2010 h 2010 Share
SAIC 3,558,400 31.53% 22.8%
Dongfeng 2,724,800 36.05% 17.47%
FAW 2,558,200 31.55% 16.40%
Changan 2,378,800 27.22% 15.25%
Beijing Auto 1,489,900 19.86% 9.5%
Guangzhou 4.76%
Auto 724,200 13.74%
Chery 682,100 36.33% 4.3%
BYD 519,800 15.93% 3.33%
Brilliance 501,400 43.94% 3.21%
JAC 458,500 42.46% 2.85%
Total 15,596,100
Market share 86%
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China‘s 10 largest passenger vehicle

makers
Growt Market Share
Name Units 2010 h 2010
SAIC-GM-Wuling 1,135,600 16.26% 14.57
Shanghai GM 1,012,100 42.87% 12.98
Shanghai Volkswagen 1,001,400 37.50% 12.84
FAW Volkswagen 870,000 30.01% 11.96
Chongqing Changan 710,000 36.93% 9.11
Beijing Hyundai 703,000 23.27% 9.02
Chery 674,800 34.87% 8.65
Dongfeng Nissan 661,000 27.37% 8.48
BYD 519,800 15.93% 6.66
21.24% 6.49
Toyota 505,900 .
Total: 7,793,600
Market share: 57.00%

IMPORTANCE & NEED FOR AN EFFECTIVE DISTRIBUTION STRATEGY:

China’s geography puts a huge challenge to car manufacturers for setting up distribution
networks. With 9.6 million square kilometres, mainland China has the third largest extension
of all countries in the world, behind Russia and Canada. Of its more than 1.3 billion
inhabitants, around 570 million people are considered as urban population, with an estimated
20 million people moving from rural into urban areas every year. According to government
estimations, the urbanization rate will reach 47% by 2014 (17).
Urban consumers live in 660 cities of different sizes (17):
• 11 mega cities with more than 4 million inhabitants
• 22 very large cities between 2 and 4 million inhabitants
• 141 cities between 1 and 2 million inhabitants
• 274 cities between 500,000 and 1 million inhabitants
• 172 cities between 200,000 and 500,000 inhabitants
• 40 cities below 200,000 inhabitants
This impressive urban structure signifies a significant challenge for all car manufacturers in
terms of the establishment of their distribution networks. In the context of the booming car
market all vehicle makers have quickly enhanced their distribution towards the lower tier
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cities, while the number of overall sales outlets has remained most dense in the most
developed Tier 1 cities. From the viewpoint of consumers, this means that car buyers have
the biggest selection of dealerships in the big cities, which give them the opportunity to
choose between dealers of different brands but also between various outlets of one brand. The
key factors that have affected the consumer choices are (17):

Attributes Tier1 Tier2 Tier3

Recommendations from 22% 32 22%
friends/ acquaintances
Availability of preferred 15% 12 31%
brands
Good service quality 16% 17 17%
Convenient location 18% 15 10%
Low prices 11% 11 12%
Good advice 9% 5 3%
Wide range 6% 3 2%
Close customer relations 3% 2 3%

A look at the Chinese car market reveals structural disparities in mainland distribution net
works, as well as considerable behavioural differences among customers. This is due to an
extremely fast-growing car market where manufacturers and dealers are rapidly aligning their
infrastructure to meet the requirements of a huge, diverse and increasingly complex
environment. The behaviour of sellers as well as buyers is still heavily influenced by the
emerging stage of the Chinese economy.
The findings of this research reveal a relatively low level of customer loyalty. Dealers who
seek to strengthen customer relationships must improve customer service to meet demand.
Significant opportunities appear to exist to succeed through enhanced product and service
offerings.

THE ROLE OF CAR DEALERSHIPS IN THE DISTRIBUTION SYSTEM

In all markets car dealers play an essential role within a car manufacturer’s distribution
strategy, because they ensure the sales and after sales service of the vehicles to end-
consumers. In China, car makers rely mainly on 3S and 4S dealerships which cover the
relevant geographic regions, and are mostly run by independent entrepreneurs. Following a
government regulation in 2005 to professionalize the automotive distribution all car dealers
must receive authorisation from car manufacturers to sell cars and provide after sales
services. This regulation has led to the exclusion of traditional small and independent car
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distributors, and given car makers a better control of their distribution networks. As they
increase the number of sales outlets in order to respond to growing market demand, all car
manufacturers face the challenge of ensuring a consistently high level of sales and service
performance across their dealer networks. To lay the ground for successful operations, car
manufacturers have to offer consumers (and their dealers) attractive car models and
competitive prices, as well as establish appealing brands in the market place. Car dealers, on
the other hand, manage an essential part of the interaction with end-consumers and
significantly impact customer satisfaction and brand perception. Their task is to “translate”
vehicle manufacturers’ marketing activities into optimal customer service. The better car
dealers understand what consumers are looking for when buying a car, and the more
accurately they are able to anticipate changes in demands, the more successful their
operations will be. However, dealer activities are not limited to the sales of new cars to new
customers: Ultimate success will be achieved by accompanying customers throughout the
consumption life-cycle, and, thus, ensuring repeat purchases in the long-term. In this sense,
the quality of dealer performance plays a critical role in the purchase decision process, and is
essential to win and retain customers.

THE STRUCTURE OF AUTOMOTIVE RETAIL INDUSTRY IN CHINA

China’s demand for cars has led to a significant increase in the number of auto dealers.
According to CAAM, China had over 30,000 dealers in 2005, with second level dealers —
dealers that purchase cars from other dealers — accounting for more than 40 percent of the
total. At the same time, the automotive dealership sector is highly fragmented, comprising
many small and independent players, which have been set up over time. This process has
brought with it many issues. In an attempt to overcome these, in 2005, the Chinese
government issued new rules aimed at better regulating the market and ultimately improving
the services delivered by car dealerships to consumers. Under the new rules, car dealers must
be granted an authorisation from car manufacturers, or general auto distributors, to sell cars
and provide after-sales services. Since this regulation was introduced, many small and
unqualified operators have been forced out of business.

China’s Retail Distribution Model

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Historically, auto manufacturers and car distributors in China have had a multichannel
distribution strategy selling cars via direct outlets, 3S or 4S shops and second-tier
distributors. Dealerships are mainly local businesses, driven by geographic location and
owned by local or foreign entrepreneurs. However, as the market consolidates, OEMs rely
less on distributors. Direct-selling outlets as well as 3S/4S shops are emerging as the major
channels for distribution.
4S Stores: They are intended to be more responsive to consumers’ needs and expect actions.
They offer sales offices, showrooms, high standard service facilities, follow-up services,
customer service, and spare parts areas in the same location. 4S stores drive consumer loyalty
and sales, but traditional single brand dealers currently remain prevalent, both in terms of
geographic reach and numbers.

Traditional Distribution Model

Car Manufacturers/ OEM Independent Distributors Customers

Spare Parts
Customer Relationship Building

New/Emerging Car Distribution Model in China

OEM

DISTRIBUTOR

DIRECT SELLING OUTLETS 3S/4S OUTLETS SECOND TIER

DISTRIBUTORS
Directly managed by Sales, Services, System,
OEM/Distributors Spare parts Small scale, mainly present
in Rural parts

Distribution Model of Second Hand Automobiles in China

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Original OES/ Service

Equipment Centres (4S
Distributor Customers
Manufacturer outlets)
(OEM)

Many dealers are choosing a multi-brand strategy to broaden their product offering to
consumers in China. This is creating a tier of large dealerships that build their businesses by
driving scale and achieving cost efficiencies due to their size, whilst offering more brands to
the customer. Multi-brand dealerships present a significant risk to OEMs, as brand loyalties
can shift more easily.

OEM: They are original equipment manufacturers of critical parts in cars. They manufacture
products or components that are purchased by a company and retailed under that purchasing
company's brand name. They provide warranties & support in maintenance for a stipulated
time. All car manufacturers source critical components specific to their design &
competencies from OEM’s.
Electrical Equipments: Siemens
Lubrication: Kluber
Role of OEM in Distribution: Companies try to become independent in developing their
own distribution network as independent distributors move towards multibrand product
distribution to enhance their product offerings. OEM distributorship enhances the service
offered & thus increases customer satisfaction.
OES: They are original equipment suppliers who are authorised to the OEM’s to supply &
distribute assemblies & subassemblies where the OEM is not present or have standardised
equipments on offer.
Role of OES in Distribution: They infuse reliability, greater efficiency & increase higher
brand loyalty of customers. Incorporation of OES in the distribution network reduces the
dependency on independent distributors, who have a tendency of shifting brand loyalty.

ISSUES IN THE CURRENT ENVIRONMENT

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According to our research and the various market participants we have spoken to, the car
dealership sector in China is currently facing some serious challenges (18).
Macro environment tightening — The industry is continually exposed to sudden or
unexpected changes in industry regulations and fluctuations in fuel prices. Any further
increase in oil prices will affect the costs of car usage, potentially slowing the demand for cars.
Rapid urbanization — China’s increasing urbanization is having an impact on the availability
and cost of land, especially in Tier 1 cities. Land costs as a proportion of total dealership set
up costs are becoming more significant.
Profitability — China’s auto industry made a profit of RMB 76.8 billion (approximately
USD10 billion) in 2006, up 46 percent from the previous year, according to CAAM. However,
dealers have generally experienced tough times in the last three years. In 2006, out of a
reported 1,800 franchised auto dealers, about 700 were making losses, of which 300 have been
forced to exit the market (18).
Pricing pressures — Product proliferation and increased competition are putting pressure on
price levels. Car prices in China declined on average by 4.5 percent in 2006, although this was
an improvement in comparison with trends in previous years. It is estimated that the average
price decline across dealer companies for the period 2002-2005 was 31 percent over these
three years. Although, price levels are stabilizing, pricing pressures are likely to persist at the
dealer level as competition intensifies.
Management of operations — As the market grows and profitability declines, OEMs and their
dealers face increasing operational challenges and cost pressures that affect their efficiency
and performance. Any slowdown in car demand is likely to impact inventory levels and
‘inventory push’ to the dealers, which may have an impact on dealers’ financial performance.
New competitors — New formats and players are emerging in China and represent a threat to
OEMs’ retail strategies. Large multi-brand dealership chains are being to compete with OEM
single brand dealers.

FACTORS EFFECTING DISTRIBUTION STRATEGIES IN CHINA:

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IMPORTANCE OF RECOMMENDATIONS AND ADVICE (17)

As China’s passenger vehicle market is still quite young and driven by a high share of
consumers who purchase a car for the first time, it is hardly surprising that the level of
experience among these first-time buyers is relatively low. Therefore, during the purchase
decision process, they rely heavily on advice and recommendations. The latter are above all
sought from family and friends. Overall, for half of new car buyers’ private recommendations
figure among the most important purchase criteria and every fourth car buyer chooses the
dealership where the vehicle was finally bought upon specific recommendation. On the other
hand, in terms of advice, consumers have apparent reservations towards salesmen. Only one
out of ten motorists states good advice at the dealership as one of the major reasons for
purchasing the car. The main cause for this lies in the fact that numerous sales people are
only little automotive experienced themselves, and can rarely impress customers with
comprehensive product information. Car buyers perceive advice from salesmen much less
informative and credible compared to recommendations from friends and families.
Attributes Most influential factor 2nd most influential factor
Recommendations from friends/ 26% 11%
acquaintances
Availability of preferred brands 18% 14%
Good service quality 17% 21%
Convenient location 15% 9%
Low prices 12% 11%
Good advice 6% 5%
Wide range 4% 5%
Close customer relations 3% 6%

ROLE OF PRODUCT INFORMATION AND BRAND COMMITMENT

Due to the relatively low knowledge about cars, Chinese consumers gather the maximum
possible information to eventually decide on a car brand and model. This happens through
various information channels, such as car magazines, advertisements in various media, or
sponsorship events. Apart from recommendations, auto shows figure among the most
informative and credible means to learn about cars. Motor shows can be considered as a
convenient way for consumers to come into “physical” contact with different models, an
essential experience for them in order to constitute a vehicle “shopping list”. Car
manufacturers have understood the importance of such vehicle exhibitions, and present their
products on numerous regional auto shows across the mainland. For car makers it will be
essential, however, to receive any car knowledge obtained by promotional channels deepened
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in their distribution networks. Thus, individual vehicle presentations directly at the point of
sales become a crucial element in brand marketing strategies. As research findings reveal, car
dealers in China still have potential for improvement in presenting their products to
prospective customers, such as explaining vehicle exterior and interior, inviting potential
buyers to sit in the car and proposing test drives. Impeccable dealer performances in this
respect are extremely important as Chinese car buyers, on average, consider three brands and
visit each dealership before making the purchase decision. Product attributes have high
importance for their final choice. In China, brand commitment, i.e. the strength of
relationship between consumers and car brands, is still relatively weak compared to the more
mature auto markets. More than half of car owners are not strongly attached to a certain
brand, which makes them vulnerable to change brand (and dealership) when replacing their
current vehicle. Looking at the length of private car ownership in the Chinese market reveals
that a significant share of motorists is likely to make a replacement purchase over the next
years. This has moved the notion of brand loyalty into the centre of considerations, and
challenges car manufacturers as much as car dealers to meet the expectations in the market.

RECOMENDATIONS
CRM: The key to a successful automotive dealership is the idea of organization, a lot of the
precious time nowadays are spent on organizing your files, contact list, inventory, price list,
so on and so on. A very good CRM solution will save you useful time and energy. Several of
the tasks of running your dealership can be automated, or streamlined by your CRM solution
if used and deployed correctly.
Focused Distribution Strategy: To win in China, OEMs must develop world-class, but locally
relevant distribution networks that provide geographic coverage and adequate functionality,
such as after-sales servicing (3S/4S models). OEMs must identify and discontinue
relationships with under-performing dealers offering low market potential, whilst building
stronger partnerships with their better-performing dealers. OEMs have realized the importance
of selecting dealers very carefully and have set very high financial and operational standards.
For instance, 1,000 Chinese car dealers applied in 2005 for permission to sell Mercedes Benz
cars, but fewer than 10 percent received an authorization to operate ( 1). OEMs are increasingly
recognizing the importance of establishing high performance dealer networks. Besides
delivering the basics of product sales effectively, they also need to be capable of:
 Understanding broader concepts like “customer lifetime value”
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 Investing in expanding the scope and scale of their businesses, possibly into added-
value product areas
 Managing their facilities, operations and people, such that performance gains work to
the mutual benefits of the OEM and the dealer
Mergers & Acquisitions: In many respects, 2010 represented a continued steadying of the
automotive industry and its supply base. During the last two years, the turbulent and dynamic
environment was punctuated by a worldwide financial crisis and collapse of vehicle sales,
especially in China. These factors have moved into the background as the industry continues
to stabilize and focus on strategic mergers and acquisitions. In contrast to global trends, two
regions experienced significant increases in deal activity and value: Asia and Europe. Asia’s
disclosed deal value more than quadrupled from 2009 levels due to a few large vehicle
manufacturer transactions (5). As companies plan for future growth and success, the focus
should be to develop critical competencies, acquire new technologies, and expand geographic
reach. Companies should consider M&A as one of the tools to achieve their strategic
objectives and goals.

Product design: With increasing consumer awareness about the negative impact of
automobile emissions, auto-manufacturers were readily going for technological
improvements, thereby launching new products. These innovations were broadly classified
under engine modifications and improved transmissions. Engine modifications were aimed at
reduction of pumping losses, reduction in engine friction and improved combustion. Based on
technological innovations, auto-manufacturers were offering a wide range of products for
consumers. A shift in consumer preference in favour of fuel-effective light trucks in
comparison to passenger cars was noticed.

Production Technique: The importance of standardisations in components & incorporation

of modular design have a profound impact on the distribution strategy in terms of
warehousing, material handling, housekeeping, inventory management, spare parts allotment
etc. The comparative is as follows:
Mass Production Lean Production
Complete inter-changeability of standardized More general resources e.g. multi-skilled
parts and the simplicity of attaching them to workers and general purpose machines, for
each other. flexible production
A standardized product design that enabled Small buffers and lot sizes to facilitate a
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production in large batches to achieve market

economies of scale, coupled with large strategy of responding quickly to demand
buffers of inventory stock to prevent any fluctuations with a greater variety of product
interruptions in production. designs.

A centralized hierarchy that controlled and
coordinated specialized and narrowly defined
tasks.
More decentralized authority with greater
lateral
communication across functional boundaries,
team work, and operators’ participation in
quality circles and continuous improvement
activities

Trends In Production:
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Supply Chain Optimization:

Traditional Buffered Supply Chain

1st tier Flow of Production

2nd tier

Assembler

Flow of Information
Customer
Demand

Just In time Supply Chain:

2nd tier
Flow of Production

1st tier

Assembler
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Flow of Information
Customer
Demand

Sales & Supply Chain: Today, most automotive OEMs typically still distribute their cars and
spares via controlled wholly owned National Sales Companies (NSCs), who buy the goods
and sell them in their own name and on their behalf to local retailers and fleet companies,
such as hire companies, large customers etc. This model creates significant working capital
needs, inefficient inventory management, significant administration costs (for example
internal transactions, transfer pricing, statutory reporting), as well as making it harder to
manage the business on a regional level. For example, trading with regional or global
customers is harder via national companies. Until now, the automotive industry has been a
slow mover, and other multinational companies (MNCs) in sectors such as high technology
and consumer goods have increasingly been moving to a new distribution model, the most
recent trend being towards a Central Supply Company. In this model shown below, a Central
Supply Company can sell products directly to retailers / wholesalers in each country. To
facilitate and promote local sales, the Central Supply Company is supported by marketing
and sales support services companies or sales agents (either one by local country, or a single
marketing and sales support entity cross-border). The local service companies can be separate
legal entities, however further benefits could be achieved from converting these into branches
of the Central Company. Since the inventory is owned centrally by the central supply
company and the sales are made directly, such a model can optimise working capital, trade
receivables and inventory management, as well as significantly reducing the administration
costs and the group’s overall business risks.

Proposed Distribution Channel Enhancements to the New Channel:

1. Adhere to the status of brand franchise as the main channel.
2. Automotive value chain optimization by improving current service system, insurance,
spare parts supply.
3. Explore other innovative channels such as e-commerce service provided by modular
network systems to meet customer needs, reduce transaction links, reduce distribution
costs & facilitate communication.
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CONCLUSION
There is no doubt that China will maintain its dynamic development and remain one of the
most important market places, if not become the key market for the automotive industry. The
Chinese car market is influenced by various internal and external factors that give it a unique
character amongst all car markets in the world. This has major implications for an efficient
customer service at car dealerships. The main challenge for dealers is to understand the
various facets of consumer needs and appropriately “deliver” according to individual
customer expectations.

So on the basis of the study done I accept the hypothesis that the distribution channel is on
the point of inflexion to be true, & in brief due to the following changing roles of the
stakeholders involved in the distribution channel:
1. Dealers play an influencing role for the purchase decisions of end consumers
2. Their service quality impacts the brand perception & customer satisfaction to a large
extent.
3. As the market growth is driven by first-time car buyers, inexperienced themselves,
sales representatives with profound car knowledge and vehicle presentation - as well
as negotiation skills – are a prerequisite for winning new clients.
4. Secondly, dealers have to anticipate changes in consumer demands accurately, and
should offer advanced customer service as early as possible. As the market matures
and competition increases quickly, performing ahead of the curve not only helps to
attract new clients but also to retain existing clients over time.

References:

1. Business Competitiveness: Strategies for Automobile Industry

Sumit Jain & Dr. R.K.Garg
1.1 The automotive supply Chain by Fransicco Veloso & Rajiv kumar
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BETWEEN THE EUROPEAN COMMUNITY AND MERCOSUR- AUTOMOBILE
SECTOR STUDY Prepared for European Commission
3. Global Automobile Perspectives- PWC
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