September 30, 2013 / 9:14 PM / 5 years ago

Smaller car makers face squeeze from China's 'lemon law'

BEIJING (Reuters) - A beefed-up vehicle warranty law that takes effect in China on Tuesday is unlikely to burden global automakers, but will likely raise costs for smaller local players that may add to pressure for eventual consolidation in China’s fragmented car industry.

Employees work along a Geely Automobile Corporation assembly line in Cixi, Zhejiang province in this June 21, 2012 file photo. REUTERS/Carlos Barria/Files

The new “lemon law” gives Chinese consumers nearly as much protection as enjoyed by their counterparts in the United States to obtain free repair of faults or replacement of defective vehicles.

Big global manufacturers such as General Motors Corp (GM.N) or Toyota Motor Corp (7203.T) are well-equipped to take the regulations, which are no more stringent than those they already face in their home or international markets, in their strides.

But for some indigenous players, especially smaller, little-known car makers with less rigorous quality control, the tougher requirements could sharply increase warranty-related costs.

“This will add pressure on many low-quality local brands in 2015 onwards,” said Jeff Chung, a Hong Kong-based analyst with Daiwa Securities, adding warranty costs could double for some.

“I do not see this new regulation driving those smaller and weaker players into the ground in the next 12 months, but yes, they could be in trouble longer-term because industry consolidation is the ultimate goal for the central government.”

China has more than 70 registered automakers, most competing for just a thin sliver of the world’s biggest car market. Many are already feeling the pressure from a slowing economy and tougher fuel economy requirements due to be implemented.

As in other manufacturing industries, such as steelmaking and shipbuilding, policymakers in Beijing are trying to encourage automakers to merge and combine operations to create bigger and more globally competitive homegrown firms.


Under the new law Chinese customers will, for example, have the right to a full refund or replacement vehicle if serious safety issues, such as problems with steering or brakes, are not resolved after two repairs within a two-year, 50,000 km (30,000 miles) warranty period.

Before, dealers and automakers in China were under no obligation to buy back or replace cars with such defects.

Daiwa Securities’ Chung pointed to the example of Great Wall Motor Co (601633.SS) to forecast how the changes may raise costs for domestic manufacturers.

Two years ago, Great Wall began offering warranties similar to those now required by law, and has seen warranty costs nearly double to 1.8 percent of revenue from 1 percent in 2010, Chung said.

Bigger, deeper-pocketed players such as Zhejiang Geely Holding Group Co GEELY.UL and BYD Co. (002594.SZ) should be able to weather the impact, but smaller players will find it tough, he said.

According to Mei Songlin, a Shanghai-based analyst for consulting firm J.D. Power, the new law could prove burdensome for auto dealer-operators, too.

Mei expects dealer-operators on average would have to set money aside as reserves to handle increased warranty claims.

That financial burden could possibly be shared among car makers, dealers and part suppliers, depending on their actual responsibilities, but would be “next to impossible” to pass on to consumers, Mei said.

The past few years have already seen some small moves towards consolidation in China’s auto industry, such as Changan Automobile Group’s takeover of micro-van maker Harbin Hafei Automobile Industry Group in 2009 and Guangzhou Auto’s move to take control of small pick-up truck maker Gonow and Changfeng Automobile, which has a 50-50 manufacturing and sales joint venture with Japan’s Mitsubishi Motors Corp (7211.T).

More recently, Beijing Automotive Group Co BEJINS.UL said in August it had agreed to buy smaller domestic firm Zhenjiang Automobile for 15 billion yuan ($2.45 billion) to gain more scale and compete better with its rivals.

($1 = 6.1202 Chinese yuan)

Reporting By Norihiko Shirouzu; Editing by Alex Richardson

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