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      How to change lanes and overtake: Opportunities and challenges for Chinese automotive parts companies
      Source: | Author:anonymous | Published time: 2023-11-15 | 142 Views | Share:

      Among the top 20 global automotive companies, there are 5 in China, but among the top 20 global automotive parts companies, there is only one in China. China contributes 31% of global automobile production, but among the top 100 global parts companies, China only accounts for 12%. Chinese component companies should have enormous development potential. However, the overall growth of the automotive industry has slowed down, profits have narrowed, and the structural adjustment of products brought about by the "new four modernizations" trend has added multiple pressures to Chinese component companies. On the one hand, it is the potential for development, and on the other hand, it is the pressure of transformation. How can Chinese component companies change lanes and overtake in the process of switching tracks?

      China's top automotive parts companies are adopting measures such as expanding diversified customer structures, promoting product transformation and upgrading, actively seeking overseas M&A opportunities, and implementing digital transformation; However, traditional cost reduction and efficiency enhancement methods have little effect, supply chain uncertainty has increased, investment demand in new tracks has increased, traditional R&D and supply chain cooperation models are outdated, and there are many challenges such as insufficient experience and capabilities in large-scale mergers and acquisitions integration. It is not easy to grow rapidly in the process of transformation.

      1、 The challenges faced by component companies

      1. The overall profitability of the industry has declined

      The pressure of product price reduction and rising costs have put overall pressure on the profitability of the automotive parts industry. Downstream vehicle manufacturers need to concentrate funds and increase investment in new energy and intelligent driving. However, with the continuous increase in capital demand, the profit pool is constantly narrowing. Therefore, the demand for annual cost reductions from suppliers is also increasing, leading to continuous pressure on component companies to lower product prices. In terms of cost, upstream raw material prices are in an upward cycle, and labor costs are always in an upward channel.


      Chinese enterprises include 50 private enterprises and 13 state-owned enterprises listed in the "2021 Top 100 Chinese Automotive Parts Enterprises List" published by China Automotive News; Foreign companies include 62 listed companies in the 2021 Global Top 100 Automotive Parts Suppliers List released by Automotive News.

      The overall production of the downstream passenger car market has declined, leading to a decrease in overall revenue for component companies. From 2016 to 2021, the compound growth rate of global passenger car production decreased by about 4.6%, while the compound growth rate of China's passenger car production decreased by about 2.6%.

      2. The trend of "new four modernizations" brings about structural adjustments to products

      Faced with the development trend of "new four modernizations", automotive parts enterprises are gradually entering the markets of autonomous driving, intelligent cockpit, and software products while promoting the intelligent upgrading of traditional hardware products, aiming to achieve the integration of software and hardware and the transformation and upgrading of product structure. Considering that the development of electronic and intelligent products requires sustained high R&D investment, the proportion of R&D costs to revenue has significantly increased.


      However, the adjustment of product structure has not brought large-scale income to Chinese automotive parts enterprises. Although the "New Four Modernizations" have promoted the rapid rise of new energy vehicle companies, the total number of vehicles has not increased, resulting in a doubling of cost pressure for vehicle manufacturers. In addition, the "New Four Modernizations" require a large amount of research and development investment, and in the short term, this part of the business is difficult to provide effective support for the revenue and profits of traditional automotive parts enterprises.

      3. The pace of overseas business expansion is slowing down

      For some top Chinese automotive parts companies, the proportion of overseas revenue to total revenue has been declining in the past three years, and the growth rate of revenue has also slowed down. On the one hand, due to the impact of the epidemic, the productivity of overseas vehicle companies has decreased; On the other hand, after several years of overseas mergers and acquisitions, component companies are still exploring the integration and control of overseas business.

       

      2、 The Transformation and Challenges of Component Enterprises

      We have observed that Chinese component companies are promoting enterprise transformation from three aspects:

      1. In response to the decline in profitability: optimizing customer structure and providing digital transformation support

      Faced with the rapid growth in sales of new energy vehicles, automotive parts companies have realized that orders from new force customers may become a new source of revenue. Many leading enterprises are also increasing their cooperation with new forces and enterprises on the basis of traditional customers.

      China's leading automotive parts companies are all building intelligent factories, viewing them as secret weapons to enhance production capacity and efficiency. Some companies have also carried out business and data center construction, as well as the development of smart retail apps and artificial intelligence products, to achieve digital transformation in business and management.

      2. "New Four Modernizations" Transformation: Promote product transformation and upgrading through self research/mergers and acquisitions

      In order not to fall behind in the transformation of the "new four modernizations", Chinese automotive parts companies have accelerated their research and development of intelligent, lightweight, and new energy products. In 2021, China's leading automotive parts companies invested approximately 46 billion yuan in research and development, a year-on-year increase of about 26%.

      In addition, in order to achieve the goal of improving the product matrix and rapidly promoting product transformation and upgrading, top domestic automotive parts companies are targeting overseas enterprises with core technologies and high-end products to achieve transformation in the fields of new energy and intelligent cockpit products.

      3. Overseas business expansion: Through cross-border mergers and acquisitions, build global production, sales, and research integrated collaborative capabilities

      In response to the global localization requirements of international customers, China's top automotive parts companies plan to expand their production capacity in Europe, North America, Southeast Asia, and other regions. At the same time, accelerate the expansion of international business and actively seek overseas M&A opportunities. Through horizontal mergers and acquisitions of overseas automotive parts companies with complementary businesses, achieve goals such as customer resource exchange, acquisition of core technologies, expansion of product lines, and expansion of overseas business revenue scale; In addition to horizontal mergers and acquisitions, actively expand outward mergers and acquisitions, screen high-quality targets in the upstream and downstream of the industrial chain, and seek new profit growth points.

       

      However, the transformation of component companies faces six major business challenges:

      1. Traditional cost reduction and efficiency enhancement methods have little effect

      Faced with the cost pressure brought about by the continuous rise in raw material prices, Chinese automotive parts companies have adopted measures such as linkage price adjustment mechanism, negotiation and price difference compensation to transmit some of the raw material cost pressure to downstream customers; In addition, we will combat cost pressures through product optimization, customer upgrades, and increased capacity utilization. These measures can bring about a certain cost reduction, but the results are minimal and have not curbed the continuous decline in gross profit. However, for digital transformation, component companies lack systematic thinking and practical experience in digital implementation, resulting in stagnant digital work and failure to fully leverage the performance improvement brought about by digitalization.

      2. Supply chain faces uncertainty

      One reason is that the decline in downstream demand has led to excessive adjustments in the global automotive supply chain. Due to the inertia and delay in transmission of the automotive supply chain, upstream and midstream enterprises usually adjust their impact more than downstream industries. During the epidemic, the shutdown of whole vehicle factories directly results in a reduction or shutdown of parts suppliers; Secondly, the trend of regionalization in the automotive supply chain is becoming increasingly evident: in order to timely locate the optimal supplier and respond to trade frictions and rising sea freight rates, vehicle manufacturers are optimizing and integrating suppliers, which means that component suppliers need to perform localized matching near their factories.

      3. Traditional R&D models need to be reshaped

      In this era of software defined cars, traditional R&D and supply chain cooperation models urgently need to be reshaped. Component manufacturers need to actively participate in the early research and development process of vehicle manufacturers, and change the way industry cooperation is carried out. The average SOP cycle for new car models in traditional car companies is about two years, compared to only 1.5 years for new car manufacturers, and the iteration requirements for new product features are high; In addition, in the context of new projects not being scaled up on a large scale, suppliers are required to build nearby facilities to improve decision-making and response efficiency. The shaping of automotive brands is increasingly focused on both consumer and technological attributes, thus placing particular emphasis on appearance and interaction scenarios. The seats, headlights, doors, speakers, and other aspects involved also emphasize design thinking.

      4. The existing business management model is not suitable for new businesses

      Advanced technical talents are the key to breaking through technological bottlenecks in automotive parts enterprises. In order to promote product transformation and upgrading, automotive parts enterprises need to introduce a large number of professional management and technical talents. Most Chinese companies are still using traditional organizational structures and talent incentive models, which cannot attract outstanding senior technical talents. How to improve and optimize organizational structure, develop and implement effective incentive mechanisms, and improve talent development plans will become another major challenge faced by Chinese automotive parts enterprises.

      5. Lack of experience and ability in large-scale mergers and acquisitions integration

      Compared to European and American companies, Chinese automotive parts companies have pain points of insufficient experience and capabilities in post merger integration. Therefore, they are more willing to adopt a letting go strategy and lack confidence in integration. In this context, over the past decade, Chinese automotive parts companies have always focused on seeking stability, allowing independent operations, and focusing on one or two important areas to seek synergy and efficiency, such as research and development sharing or Chinese manufacturing to reduce costs. It is obvious that this "let go integration" has not fully realized the value of mergers and acquisitions. Although many companies are familiar with this, building a team with experience in cross-border operations and post merger integration is not an easy task.

      6. Insufficient global business and cross-cultural team management capabilities

      For Chinese automotive parts companies expanding overseas business, the uncertainty of international politics and economy not only brings a series of challenges, but also puts higher requirements on their own business management capabilities and financial strength. Once the operation fails to meet expectations, it may affect the stability of the company itself. In addition, Chinese component companies lack understanding of the overseas legal environment, and language and cultural differences also make cross-border operations face certain difficulties. In the future, it is necessary to enhance the ability of global business and cross-cultural team management.

      3、 The Road to Transformation for Changing Lanes and Overtaking

      1. Digital Transformation: From Followers to Pioneers

      Chinese automotive parts companies need to re-examine the value of digital transformation, develop a roadmap for digital transformation, establish a digital operation system guided by business value, and transform management architecture, thinking, and capabilities.

      Develop a digital transformation roadmap and clear digital goals: comprehensively evaluate the potential of digitization, set clear digital goals, and develop a clear transformation roadmap at the company level. Avoid departments blindly exploring, conducting simple pilot projects, and facing a dilemma.

      Establish a digital operation system guided by business value: expand digital transformation from production to value chain links such as product development, supply chain management, and procurement, identify digital application scenarios in each link and conduct pilot verification, such as advanced scheduling plans for digital supply chain links, predictive maintenance for digital production links, etc., and promote them to various modules; Integrate IT systems and data lakes from various digital platforms to achieve a closed loop of data sensors machine learning automation equipment.

      Change management architecture, thinking, and capabilities: Build a digital transformation promotion office at the company level, reorganize the IT department into a digital center, establish digital business processes and performance management, establish effective talent attraction mechanisms guided by enterprise needs, and cultivate digital talents through the establishment of digital colleges and other means.




      2. Industrial chain cooperation: from manufacturing collaboration to ecological alliance

      In the era of intelligence, product development models urgently need to be adjusted. Automotive parts companies need to focus on product technology research and development and end-users, and have in-depth communication with vehicle manufacturers to intervene in the early stages of research and development as early as possible, in order to shorten response time; Fully share user and product data to jointly respond to rapidly changing market demands and technological trends.

      At the same time, component companies can establish various partnerships based on clear positioning to build an industrial chain ecosystem:

      Strategic partners: Build strategic partnerships with vehicle manufacturers, jointly invest to promote value creation, such as developing new travel scenarios, software joint research and development, etc;

      Innovation partners: Establish innovation incubators or collaborative platforms with vehicle manufacturers and research institutions to achieve disruptive innovation in technology or products;

      Industry Alliance: Collaborate with multiple vehicle manufacturers and component companies to obtain development opportunities in key areas.

      In order to enhance the flexibility of industrial chain cooperation, component enterprises can establish specialized "new four modernizations" business units, such as intelligent business units, new energy business units, etc; Empower the business unit with certain strategic and decision-making autonomy, reduce approval processes in daily operations, improve efficiency, and stimulate innovation vitality.

      3. Integration after mergers and acquisitions: from active buyers to true owners

      In the past decade, after mergers and acquisitions by Chinese automotive parts companies, they have usually maintained the independence of the target company's operations, mainly managed through the board of directors, with less involvement in substantive integration. According to the degree and speed of integration, substantive post merger integration can be divided into the following three modes:

      Selective integration: The target enterprise remains largely independent, but will collaborate more closely in one or two specific areas that can generate significant synergies, such as research and development;

      Progressive integration: Starting from one functional area or business line, gradually expanding to other areas;

      Comprehensive integration: Try to incorporate the target enterprise into the acquirer's management system as much as possible, and it is necessary to restructure the target enterprise. Usually, it is handled by the newly appointed board of directors and management team of the buyer, integrating various functional departments comprehensively. Identify and implement appropriate key talent retention mechanisms during the process, and build a new corporate headquarters to establish professional capabilities for managing diversified multinational enterprises.

      With the acceleration of new energy and intelligent trends in the automotive industry, the purpose of mergers and acquisitions for Chinese component companies is no longer simply to expand overseas and business. How to fully utilize the technological, talent, R&D, and business innovation capabilities of the acquired enterprises, especially overseas enterprises, and combine the huge domestic market space with the company's own in-depth insights into the Chinese market, effectively achieve the overall incubation and transformation acceleration of the enterprise through integration, and achieve 1+1>2, is worthy of deep thinking for Chinese parts enterprises. However, considering the outstanding stage of merger and acquisition integration capabilities of Chinese enterprises, as well as the challenges in cross-cultural and cross regional environments, we believe that the effect of gradual integration may be slightly superior.

      To achieve success in incremental integration, enterprises need to first understand the differences in management models and cultures between both parties with an open mindset; Secondly, enterprises need to develop a clear integration roadmap, starting from the easiest and most valuable integration areas, sharing the collaborative resources of both parties in research and development, technology, and market customers, and quickly promoting quick wins. After establishing good integration confidence, they gradually expand into production, operations, and other fields. Enterprises can consider managing key integration and strategic matters in a project-based manner, building green channels, and creating examples and templates for future collaborative mechanisms.

      At the same time, the acquirer needs to put themselves in the position of the acquired party during the integration process, identify and solve a series of key risks, especially ensuring transparency in the decision-making process, clarity in the authorization of appointing executives, and timely sharing of key business and operational information, in order to establish confidence and trust in the management teams of both parties for future common development.

      Finally, the current VUCA environment has also brought new challenges to mergers and acquisitions integration. On the one hand, enterprises need to pay more attention to external pressures such as cost increases, supply chain disruptions, and cash flow depletion brought about by the integration process; On the other hand, in a cross regional and cross-cultural context, it is also necessary to establish a faster and more agile mechanism for information collection, transmission, and decision-making between mergers and acquisitions and the acquired companies.

       
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