BEIJING (Reuters) - Daimler AG's (DAIGn.DE) agreement to buy a stake in Beijing Automotive Group's passenger car unit is part of a strategy to revive its operations in China, where the luxury car maker has fallen behind its German rivals and fallen out with its dealers.
The maker of Mercedes-Benz cars hopes closer co-operation with its state-owned local partner will help mend relations with its sales network that were fractured, according to dealership sources, during an overzealous drive to boost sales that hurt retailers' profitability.
On Tuesday, Daimler and Beijing Auto BEJINS.UL signed an agreement that will see the German company take a 12 percent equity stake in BAIC Motor and two seats on the board. Daimler said it would pay 625 million euros ($845.3 million) for the stake.
"Yes, there have been disagreements and there have been disappointments... but we see momentum is building again," said Daimler Chief Executive Dieter Zetsche. "I am very encouraged and very positive about future prospects of this country."
On Monday, Beijing Auto Chairman Xu Heyi had described the deal in a speech as indicating a future in which the two companies "will never be able to live apart from each other".
Mercedes-Benz's previously strong momentum in China - where demand for luxury cars is forecast to surpass that of the United States by 2020 - has stalled since last year, with sales volume falling far behind its key rivals BMW and Audi.
The deal will see BAIC Motor's share of the two companies' manufacturing joint venture rise to 51 percent, with a corresponding increase in Daimler's share of their sales joint venture to 51 percent. Both had previously been 50-50.
A more unified approach is needed in China, the world's biggest car market, where the problems of Mercedes-Benz have been compounded by a backlash from aggrieved dealers, who were particularly incensed by a letter from Daimler's China sales chief in February that accused them of "slackness".
Zetsche on Tuesday dismissed that as "a very minor issue, which I don't know whether many dealers still even remember".
Executives at dealerships told Reuters that at the start of 2012 Mercedes-Benz began pushing retailers to take on more inventories of new cars in pursuit of aggressive sales goals.
According to the boss of a dealer group with several dozen outlets across China, the move sapped profitability of many dealer-operators, especially smaller ones that had to take on loans to finance additional inventory.
When sales of luxury cars slowed last year amid weaker growth in China, dealers were forced to get rid of those additional cars through heavy discounting. "We couldn't go on like that," said the dealer executive at the time.
That, combined with Mercedes-Benz's ageing product line-up, stalled the German brand's momentum.
Mercedes-Benz had been neck-and-neck with BMW in sales volume in China in 2010. Three years later, its sales lag far behind.
Through October this year, Mercedes-Benz sold a total of 186,267 vehicles in China, up 9 percent from a year earlier, compared with the 317,822 cars BMW sold during the same period, up 27 percent, according to consulting firm IHS Automotive.
Audi's volume during the first 10 months of this year totaled 358,200 vehicles, up 6 percent.
Speaking to reporters at a briefing following a signing ceremony in Beijing, Zetsche said that, outside China, Daimler was selling more cars than Audi and was close to BMW.
"In order to accomplish our 2020 target, we have to get close to the levels of BMW and Audi within China," he said.
As part of an effort to ease the pain for dealers, Mercedes cut sales objectives last summer to match them more closely with demand. Freshly updated versions of the brand's key products are hitting showrooms starting this year, too.
Still, it will take time for its frayed relationship with dealers to heal, especially after Nicholas Speeks, head of Mercedes-Benz sales for China, sent out a sharply-worded letter in February.
The letter, emailed on February 21, and subsequently seen by Reuters, opened: "Based on our sales data since February, our current sales condition is far from being satisfactory. I'm greatly concerned about the performance of our dealers."
Speeks went on to point out that sales were falling far short of the company's forecasts.
"In fact, we have already cut our sales target by 30 percent from a year earlier, with the goal of alleviating pressure on your sales activities and making room for profitability..." he wrote. "But regrettably, such a decision resulted in your slackness and obliviousness to our ambition to develop the Benz brand."
The letter, written in Chinese, ended with a threat of possibly dissolving rights to sell Mercedes-Benz products.
"If your competence, or your efforts, cannot live up to the requirements of the Benz brand ... Benz will no doubt take appropriate actions," Speeks wrote.
Hubertus Troska, a Daimler board member and head of Greater China operations, said on Tuesday that Mercedes-Benz's success in China hinged on "motivated, happy and very customer-oriented dealers".
"I don't see any major issue with our dealer groups," he said. "Whatever that was written in February I think is long past." ($1 = 0.7394 euros)
Editing by Alex Richardson