Wednesday, December 30, 2009

Gulf Car Sector - Buckle up for the downturn

Executive magazine
By Paul Cochrane in Dubai
The Middle East's automotive industry adjusts itself to meet another difficult year in 2010

The auto industry is shifting gears, but in what direction?

In the wake of the global financial crisis, 2009 has been the worst year ever for the 850,000 unit Gulf automotive market. Sales plunged by 27 percent from previous levels in 2008, and the luxury car segment of the industry dropped by an estimated 30 percent, according to major manufacturers.

The story couldn’t be farther removed from the success of former years, when the $16.2 billion sector experienced prolonged double-digit growth that was among the highest in the world for automotive sales.

“The Gulf has been one of the worst effected regions [globally] as they’ve never seen anything like a financial and liquidity crisis at the same time,” said Jeff Mannering, managing director of Audi Middle East.

Whole car segments disappeared as the real estate, construction and financial bubble burst across the Gulf in the last quarter of 2008 bringing down markets and industries across the board as it caved inward.

“People were making significant financial gains in property and large amounts of money were changing hands, so there was a sense of perceived wealth that had created phenomenal consumer confidence. But that sense of easy wealth has gone, and must have an impact on luxury goods,” said Robin Colgan, managing director of Land Rover and Jaguar Middle East.

Porsche certainly noticed the initial crunch. “The Boxter and Cayman drivers, the bankers, property dealers and the up-and-coming, they disappeared for months,” said Deesch Papke, managing director of Porsche Middle East and Africa.

GCC car sales 2009 (estimates)

In the wider Middle East, the area of operations for car manufacturers, the Gulf Cooperation Council markets were the hardest hit, with the United Arab Emirates, Dubai in particular, taking the brunt of the drop in car sales, down by 47 percent, according to General Motors (GM), followed by Kuwait, Oman, Saudi Arabia, Bahrain and Qatar.

But given the dearth of data on car sales in the region it is hard to assess the true impact on the sector, particularly as a sizable percentage of vehicles are re-exported.

“It is the first place I’ve managed where I can’t get data, and it is a re-export market,” said Mike Devereux, president of GM Middle East. “We try and triangulate with other brands but it is farmers math.”

“A Toyota dealer in Oman may sell say 50,000 units, but only 7,000 stay there, with some 40,000 odd going elsewhere as exports. Over 20 percent of volume leaves the Middle East,” he added.

Ford estimates that automotive industry average sales have fallen this year between 8 and 45 percent depending on the country, and by 27 percent in the GCC as a whole.

But while there is no official registration available to substantiate accurate market share and sales data, it is clear that the financial crisis has been a double whammy for international car companies selling in the region. These companies have been hit by the plunge in demand in the Gulf and at the same time by the effects of the crisis at global headquarters.

“It is the most brutal year in my business since 1929,” said Devereux.

Regional representative offices have had to adjust to restructuring at mother companies, American brands have had to handle a brush with near bankruptcy, marketing budgets have been constrained and banks have reined in access to car loans. Companies have also realized how sensitive the market is to new products, with 2009 models being delivered just as the crisis hit the Gulf, resulting in over stocked inventories this year.

“It’s been a combination of different things, and Land Rover has had a tough year. [All our] new products arrived in the late months of 2008, and from November to January 2010 [we are expecting] a complete line of new products,” said Colgan.

Change at the HQ

Japanese and European manufacturers have had difficult years, with public funds assisting companies and financial restructuring. Manufacturing giant BMW saw global sales drop by 15.7 percent to September; Volkswagen’s third quarter profits are down 85.7 percent from 2008; and Porsche recorded an after tax loss of $8.18 billion, seeking a government injection of $2.6 billion. Last year Porsche SE made $12.6 billion in profit.

Meanwhile, Qatar, through its sovereign wealth fund, has become the third biggest stakeholder in Porsche following an abortive attempt by Porsche SE to take over the Volkswagen Group.

In March, the world’s biggest car maker, Toyota, reported the worst performance in its 72-year history, while Nissan reported a $2.4 billion loss in the 2008-2009 fiscal year. Both companies were forced to cut back production globally. Cost cutting and holding back expansion plans has also forced manufacturers to pull out of Formula 1 racing, with Honda quitting last December, Toyota in November, and BMW entering its final race in Abu Dhabi this year.

But it has been American manufacturers that have really felt the impact of the crisis, downscaling production while dealerships laid off thousands of workers.

“The company I worked for doesn’t exist anymore, GM doesn’t exist,” said Devereux. The US giant has gone through a massive overhaul of its administration and operations, he said.

“We had an obligation to one million retirees and that drove everything, even out here, as products came from the United States and $2,200 from every vehicle was going to benefits. It was not always what was best for the customer. [GM became] a retirement fund that happened to make cars. Our business model now is to build brands and take care of customers.”

Banking and brand equity

The economic impact on the Gulf’s banking and real estate sectors had a corresponding knock-on effect on car sales, affecting consumer buying patterns.

“At the beginning of the year, consumer confidence was at low levels while most banks applied additional restrictions to their financing activities,” said Hussein Murad, director of sales Ford Middle East.

“Buying patterns have changed, people are buying long term, not every 18 months, and are more discerning because banks have stopped funding, and the availability of cash has dried up,” said Porsche’s Papke.

In the UAE, around 80 percent of automotive sales were dependent on financing. After the summer, the UAE pumped liquidity into banks and eased lending for cars.

“Banks couldn’t stop lending altogether, but the application process is far more stringent now,” said Audi’s Mannering. “Before it was 48 hours, now it is seven to eight days. In one way it is a good thing, as now the risk is lower.”

Estimated market share (2009)

Manufacturers and dealers are teaming up with banks to offer zero percent interest on vehicle sales and are making credit more readily available to customers. The most notable change in sales strategy has been the widespread introduction of leasing, a technique dealers had formerly eschewed as vehicle prices were low and customers preferred to buy.

While enticing customers into showrooms is one concern for the manufacturers, so is keeping dealerships afloat, which in many cases have ordered vehicles months in advance that now cannot be sold or re-exported elsewhere. To offload such excess inventory, dealers have been offering discounts left, right and center.

“If you have the cash it’s a good idea to buy a car, as there are some good deals now,” said Porsche’s Papke.

But while such deals might be advantageous in the immediate term, heavily discounted cars are affecting brand equity as well as resale values with, in some cases, new vehicles selling for less than used cars.

“If you discount cars in a new environment you destroy the residual value of the car; that’s something dealers in the Middle East didn’t factor in. And it is important for used cars to retain value,” said Audi’s Mannering. “We made a conscious decision this year to not have half price cars on sale and sell the brand out, whereas others have.”

Dealers have also had to struggle with another effect of the global financial crisis: the flood of used cars from the United States by Americans selling up and downsizing, in addition to the thousands of dealerships affected by forced closures, with up to 150,000 losing jobs.

“What’s happened this year is [GM] got rid of a third of the dealership network in the US. They had big inventories, and shipped overseas to this region too. It was an epidemic this year, and all from the US. How can I compete with that?” said Devereux of GM Middle East.

As a result, manufacturers have focused on certified used car programs that provide warranties for vehicles at competitive prices.

“We only got into that business two and a half years ago, but this was the first year that customers were really looking at used cars,” said James Crichton, sales and marketing director of the BMW Group Middle East, which covers 14 partners in the market in the GCC, the Levant, Iran, Afghanistan, Pakistan and Yemen. He added that while overall sales of new premium cars are down by 30 percent, premium used BMW sales were up 27 percent this year.

A low for high-end cars

“The UAE is the single largest luxury car market in the Gulf, much bigger than Saudi Arabia,” said Colgan, of Land Rover and Jaguar. “But the same way the UAE saw incredible growth, [it] also felt the contraction more acutely than elsewhere in the world.”

Indeed, for luxury car manufacturers, until this year the Gulf was viewed as a veritable paradise, with a populace keen on cars and oil revenues providing the funds to acquire high-end vehicles.

An estimated 20 percent of Rolls Royce global sales in 2008 were to the Gulf; McLaren opened a regional office in Dubai this year and Ferrari, which witnessed triple digit growth in the years before the crisis, opened its largest showroom in the world in Dubai in October.

“During the good times [there were] 130 to 135 sales a month,” said Porsche’s Papke, “Now that it’s 105 in Dubai a month, it’s not a disaster.”

The BMW ActiveHybrid X6, the first gas-electric sports activity coupe, will be introduced during the Dubai motor show

But with luxury sales down 30 percent this year, brands have struggled to maintain sales, particularly of lower priced luxury vehicles. Japanese brands have especially felt the pinch, with one manufacturer calling Toyota’s Lexus brand “a disaster.”

BMW has seen sales drop by 8 percent in the region, “but the luxury segment is not down as much as the mainstream,” said Crichton.

Bolstering sales for the likes of BMW was the introduction this year of the 7 Series, the brand’s best selling model in the region as well as in the premium automotive segment. The company also bagged a deal with the Saudi government to supply 120 ‘750 Series’ BMWs for the Kingdom’s ambassadors worldwide.

“Saudi Arabia is a good market, up 41 percent, and our partner made big investments there. The world’s biggest service center is now in Jeddah,” said Crichton. “It is a positive message that we are still investing in tough times.”

The region’s affinity for luxury cars is likely to help the sector rebound, particularly given that in Europe, North America and Asia there has been a rise in demand for smaller vehicles.

“Around the world [the smaller] Audi A4s and A8s drive sales, but in the Middle East there is still a craving for big, luxury cars,” said Mannering. It is the same for BMW, with the 1 and 3 Series the big sellers in Europe.

“The market is an exact inverted triangle compared to Europe; in the GCC as you go down in size volume decreases,” said Crichton.

All luxury manufacturers reported that there has been heightened activity in showrooms, which signals a return in sales and more confidence in the economy: a paramount factor for car sales.

“Now we have more inventory than before but it allows for sales by speculative buyers, and here people buy on a whim,” said Papke, adding that Porsche sales are only 2 percent down on last year.

While sales in the UAE are not expected to rebound to former levels, other GCC countries pose potential growth.

“The GCC is a fundamentally fantastic place to sell motor cars,” said Colgan of Land Rover and Jaguar.

“Saudi, Kuwait and Qatar are very strong markets. For Jaguar and Land Rover, Saudi Arabia represents a big opportunity, and we will look to Saudi Arabia for positive sales as we are due to launch the Jaguar XJ next year,” he added.

The luxury Sports Utility Vehicle (SUV) segment is still fairly small in Saudi Arabia compared to elsewhere in the Gulf, and is projected to grow.

GM’s Devereux said that Iraq was another market that had great potential: “Iraq had a spectacular year, and will be a 100,000 to 120,000 units a year market. It was a huge surprise and made up sales for us.”

The year ahead

For manufacturers, future sales are being pinned on the introduction of 2010 models, and the Dubai and Riyadh motor shows to spark interest.

“What we’re seeing…is that there is more to life than just economic life, and that this region is driven by product cycle,” said Colgan. “People know 2010 models are coming, and advance orders are picking up dramatically. Despite the crisis, people are still buying expensive cars in this region.”

Manufacturers are not obviously as upbeat as they would have been two years ago, but are not looking into the void like they were at the beginning of 2009.

“We came for a record year with 1 million cars sold in 2008, and 925,000 sold in 2009. In 2010, first indicators in the Middle East are not to rebound to levels [there were] before — growth will be 1.5 to 2 percent, and coming back. It was unhealthy growth [before] and now [it is] normal,” said Audi’s Mannering.

“The first half of 2010 will remain challenging. This year has been hard to predict, but there’s optimism that the second half of 2010 will bring better market conditions. We are releasing a lot of new products as well,” said Crichton.

Much will depend on how well the Gulf rebounds economically and government stimulus’ work to boost consumer confidence. Higher oil prices would also help the region’s depleted coffers.

“Everyone is hoping on the oil price,” said Porsche’s Papke. “But I’ve not heard that people have been made unemployed over the last three to four months. The opportunists and speculators have gone, and you don’t have to grow 20 percent. Between 6 and 7 percent is healthy for emerging markets,” he added.

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