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The Effects of the Crisis on the Auto Assemblers Investment Strategies in Brazil and China

18th GERPISA International Colloquium

Enéas G. de Carvalho* Lourenço Faria** Paulo Morceiro**

Michael França***

1. Introduction

The automobile sector was one of the most affected by the current economic and financial international crisis (OCDE, 2009a e 2009b). Typically, the auto sector presents a cyclic behavior (OCDE, 1996 e 2009b), however it has been particularly affected by the current recession. This sector tends to be strongly affected by income, employment and also credit oscillations which normally come with the economic cycles. In this recent crisis, the particularly strong credit crush1 and the fear of a long (and deep) recession should be also taken into account, as additional factors, to explain such an intense and abrupt slump for the vehicle demand in many countries (OCDE, 2009b).

Actually, it can be seen a substantial decrease in the global production of the automobile industry in 2009 (56,9 million light vehicles), concerning the 66,0 million produced in 2008 – in spite of the strong increase in the Chinese production and more moderate, but also expressive increase in the Indian case (Autofcts, 2010)2.

It was possible to highlight -even before the current crisis- the increasing importance of the markets in the emergent countries, especially the BRICs, as one of the important trends in the international automotive industry future development3. In that context, it was already becoming urgent and strategic for the major assemblers to take a suitable position among the mature and the emergent markets (Autofacts, 2008a; Carvalho e Pinho, 2009). Indeed, now it can be pointed out that the BRICs tend yet to gain more emphasis and relative importance in the automobile industry and, probably, in the strategy scope of the major automobile assemblers and auto parts manufacturers,

* Assistant Professor of the Economics Department of the Universidade Estadual Paulista (UNESP – Brasil) and researcher of the Grupo de Estudos de Economia Industrial (GEEIN)- Group of Studies of Industrial Economy. E-mail: egcarva@uol.com.br . ** Students of Master’s degree in Economics of the Universidade Estadual Paulista (UNESP – Brasil) and researchers of the GEEIN. *** Undrgraduate Student of the Economics Department of the Universidade Estadual Paulista (UNESP – Brasil) and researcher of the GEEIN. 1 That was a consequence of the exceptionally wide and deep impact of the crisis in the bank sector. 2 In Brazil, there was a slight decrease in the production by 1%, in spite of the domestic sales expansion by 11,4% in relation to the previous year. As a consequence the results in 2009 (3,14 millions of units sold) were the highest numbers in Brazilian Industry history (Carta da Anfavea, jan. ,2010). 3 About these and others main trends in the automobile industry, see Carvalho e Pinho (2009); Freyssenet (2009); NAS (2008); European Competitiveness Report (2004); NUTEK (2007); DOC (2008 e 2009); Lung (2002);

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at least, if one considers the BRICs auto industry performance along 2009 and especially by their new increase forecasts (BCG, 2010; Autofacts, 2010; CSM, 2010).

This standpoint was presented in the last report about the automobile sector, disclosed last January by Boston Consulting Group (BCG, 2010). The same inference can also be done based on the observation of the changes on BRIC’s automotive market growth forecasts, for instance, by two other important and specialized consultant automobile companies, just to know the Price Water House Coopers (through its division Autofacts) and the CSM Worldwilde4.

The aim of this paper is to reflect on the impact of the increasing (current and prospective) importance of BRIC countries - especially Brazil and China – in the investment strategies of the major international automakers. It should be noted, however, that it has an exploratory nature. The paper is structured in three sections – in addition to the introduction - as follows: In the first section, a brief summary of the recent investments evolution, and particularly of the FDI in the automobile industry, was presented. In the second section, the discussion intended to give an overview of the recent FDI evolution in Brazil and China, aiming at, in the Brazilian case, the realization of a tentative forecast for the short and medium-term investment trends. The paper ends with the concluding remarks.

2. Recent Evolution of Investments and FDI

2.1. Some aspects of investments in the automotive industry

Regarding the investments intensity, it is worth noting that the auto industry has been more capital intensive than the total of manufacturing industry in the USA, Germany, Japan and the UK - countries with a large automotive industry (Vickery, 1996). "Compared with other manufacturing sectors, its capital intensity (investment per worker) is second only to mining, petroleum refining, chemical, paper and basic metals [sectors]" (European Competitiveness Report, 2004: 157).

On average, a final assembly plant of light vehicles has production capacity of 400 thousand units per year and typically requires investments of about US$ 2.5 billion (Nutek, 2007). However, according to O’Brien and Karmokolias’s estimates (1994), the optimal scales of assembly of light vehicles would range between 100 and 200 thousand units per year, depending on the model.

Furthermore, according to Moavenzadeh (NAS, 2006: 69), "a program to develop a new vehicle costs, typically, between US$ 500 million and US$ 1.0 billion, and it takes two to three years from the conception to the customer. A program to develop a new engine costs approximately US$ 100 million to US$ 500 million, and a program for a new transmission costs about US$ 50 million to US$ 250 million". 4 See Analyst Note (Autofacts) of 8/2008 and 1/2010; and Autofacts Global Outlook, 4th quarter of 2009. Also see CSM Global Production Summary, 3rd quarter of 2008; CSM Update, de 10/2008; and CSM Global Light Vehicle Production Summary, updated in 1/2010. It can be also observed that the sources in the forecasts of the BCG report, mentioned above, differ from the former ones – IHS Global Insight (11/2009) and EIU (11/2009).

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However, it must be noted that most of the investments made by automakers concerns the development of new models and modernization of existing ones. Our working hypothesis - validated in more than one interview - is that, under normal conditions, the distribution of the total investment is 30% for expansion of capacity and 70% for modernization and development of models5.

2.2. The centrality of FDI in the international automotive industry 2.2.1. International perspective

As mentioned by several analysts (Vickery, 1996; Sturgeon and Florida, 2000; European Competitiveness Report, 2004; Dicken, 2007) - and by one of the authors of this paper (Carvalho, 2003 and 2005), FDIs have played a central role in the globalization of the auto industry, both within countries and in enterprises. This important role of FDI - which occurs not only in the automotive sector (OECD, 2002; Hatzichronoglou, 2008; UNCTAD, 2007) - may be even more central in this case, since the industry was characterized by both a low productive concentration6 and a relatively low exports/sales ratio. In addition, its exports of final goods also exhibit a predominantly regional nature (European Competitiveness Report 2004, Carvalho and Pinho, 2009)7. In fact, 64% of automotive products exports were intra-regional in 2007 (CCFA, 2008).

Consequently, foreign direct investments (FDI) -and this could not be underestimated- have played a central role in the automotive industry (Vickery, 1996; Sturgeon and Florida, 1999; Chapman, 2005 and 2008, Nutek, 2007), given the relative concentration of international oligopoly of the light and heavy vehicles assemblers segment8 and their importance as vectors of processes of globalization in the auto industry (European Competitiveness Report, 2004; Carvalho, 2005; Nutek, 2007).

In fact, FDI from the Japanese, North American, European and, more recently, Korean assemblers have been fundamental to the dynamics and expansion of the automotive sector in both mature markets and emerging countries - including BRICs9. Until the early 2000s, the evolution of international investments in the segment of international automobile manufacturers could be characterized as follows: "In the last two decades, Japanese automakers have, for example, entered in U.S., Europe and Asia10 markets through new international investments, while U.S. and Europeans manufacturers have, in turn, sought to strengthen their positions already conquered in

5 As an example, but in this case, that is, a non typical situation, given the high level of capacity utilization of the assemblers segment in Brazil (at least 90%) before the crisis erupted, in 2008 - the estimates of BNDES’ Sector Report (2008) can be cited. This report evaluates that about 60% of the planned investment by the assembler segment of Brazilian automotive industry would be aimed at developing new products, and that approximately 40% would be applied in productive capacity expansion (BNDES, 2008). 6 For a discussion of the evolution of concentration in assemblers segment of international automotive industry, see Carvalho e Pinho, (2009) and Carvalho (2003). 7 Markedly different situation, since it concerns auto parts (Carvalho e Pinho, 2009). 8 With 16 companies dominating 98% of world production in the first part, and a similar situation in case of heavy commercial vehicles segment (CCFA, 2008). 9 Although in some of these countries local automakers also have played an important role, either through joint ventures or through their own capital (Nutek, 2007). This last observation is even more pertinent in the case of heavy commercial vehicles segment (Carvalho and Melo, 2006; Carvalho and Pinho, 2009.) 10 Just recently the volume of investments made by Japanese automakers in emerging markets exceeded the amount of investments to developed countries (Carvalho, 2005).

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Europe and Latin America, and tried to selectively enter in the markets in Eastern [and Central] Europe and Asia"(Carvalho, 2005: 291).

It should be emphasized, as a new fact in this process, and with relevant consequences, the growing importance of the BRICs, especially the ones from China, Brazil and India, as a destination for FDI (OICA, 2006; EIU, 2009; PWC, 2010; BCG, 2010).

Tables 1 and 2 below seek to provide a more updated framework of the comparative evolution of FDI in selected sectors - automotive, electrical and electronic equipment, chemical, metal and metal products, machinery and equipment (the biggest beneficiaries) and manufacturing in general - both in terms of the number of new projects (for the first two cases) and of cash flows for all selected cases.

Table 1 - Number of FDI Projects (Green-Field), by sector (2002-2006)

Sector / Industry 2002 2003 2004 2005 2006 Manufacture 3319 5682 6121 6011 6369 Electrical and Electronic Equipment 571 998 1107 1194 1160 Electronic Components 136 229 273 307 313 Telecommunications Equipment 121 173 184 292 282 Motor vehicles and other trans. equip. 661 942 970 905 955 Automobiles 254 377 354 328 331 Auto parts and components 283 425 446 404 406 Total 5703 9443 10145 10442 11813

Source: Adapted by the authors from UNCTAD-WIR (2007).

It is worth observing, in the case of the amount of new projects (Table 1), the second overall position in the industry of motor vehicles and other transportation equipment - with 955 events in 2006 –, outmatched only by the electrical and electronic equipment sector (with 1.160 projects)11. Perhaps even more surprising was the first general position of the auto parts and components segment (406 projects), leader in terms of sub-sectors throughout the period considered (2002-2006).

11 This summary table shows the two sectors in which the highest number of new FDI projects in the period were accomplished (UNCTAD-WIR, 2007).

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Table 2 - Foreign Direct Investment (FDI) Estimated by Sector (US$ million)

Sector / Industry Developed Countries

Developing Countries

World Developed Countries

Developing Countries

South-Eastern Europe and CIS

World

Manufacture 47.289 16.346 63.634 83.743 82.116 7.982 173.841

Chemicals and chemical products 10.145 2.198 12.343 17.308 4.473 359 22.140

Metal and metal products 3.934 1.257 5.192 14.488 1.279 844 16.611

Machinery and equipment 4.804 2.911 7.715 4.633 5.825 626 11.084

Electrical and electric equipment 3.496 954 4.450 5.482 4.143 77 9.702

Motor vehicles and other trans. equip. 3.537 307 3.844 6.938 1.937 262 9.137

Manufacture 79.760 3.478 83.238 156.435 11.201 268 167.903

Chemicals and chemical products 13.029 1.131 14.161 46.378 292 92 46.763

Metal and metal products 6.407 243 6.650 17.836 122 86 18.044

Machinery and equipment 7.410 25 7.435 12.154 88 3 12.246

Electrical and electric equipment 10.567 865 11.432 8.025 1.512 2 9.539

Motor vehicles and other trans. equip. 4.047 - 4.047 7.735 157 1 7.893

1989 – 1991 2003 – 2005

Inward

Outward

Source: Adapted by the authors from UNCTAD-WIR (2007).

Table 2 compares the inward and outward flows of FDI in the trienniums 2003-05 and 1989-91 of the most important manufacturing sectors. It also reveals a significant growth and leading position of the automotive sector and other transportation equipment as destination for FDIs, also disaggregating, in this case, the values for developed and developing countries. In terms of monetary flows, the automotive sector, on a global scale, was the fifth largest destination of FDI (inward) in the triennium 2003-05 (US$ 9.1 billion), after the chemical (US$ 22.1 billion), metal and metal products (US$ 16.6 billion), machinery and equipment (US$ 11.1 billion) and electrical and electronic equipment (US$ 9.7 billion).

The relative position of the automotive sector, however, improved a little - 4th place with US$ 1.9 billion in the triennium 2003-05 - in the case of developing countries. Within developed countries, the relative position of the auto industry as a destination for FDI (inward) was even more prominent - 3rd place with US$ 6.9 billion - surpassing the electrical industry and electronic equipment (Table 2).

The general conclusion is that FDI has been growing in importance, in absolute and relative terms, for the international automotive industry, for the markets of both developed and emerging countries - in this case, particularly highlighting the BRICs (see forward). In fact, between the triennium 1989-1991 and the triennium 2003-2005, the relative weight of foreign direct investment (inward) made in developing countries jumped from 8.6% to 27.9%, from the total FDI realized in the sector of motor vehicle and other transportation equipment12.

12 Although it is not available, in the case of monetary statistics of FDI flows, disaggregated information for the automotive sector (see Table 2) or for its segments, as it is in the case of information of the numbers of projects (see Table 1). It is possible, however, to make a reasonable estimate of the monetary values involved, using as proxy the number of projects themselves.

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2.2.2. Prospects

The framework of the production pattern of light vehicles in the medium term that will be outlined hereafter is based on surveys conducted by two consulting firms: PriceWaterhouseCoopers (PwC) and BCG. By its breadth, both geographically and in business environment, PwC surveys are the best among those publicly available. The PwC's data actually refer to the projections of both the productive capacity - in the case of total value – and the level of the total output and for each producing region, as well as for the top 20 producing countries and the 13 largest groups of manufacturers, covering the period 2009-2014. Insofar as there is a more direct relationship between investment and production capacity than with the production itself, that information would be most suitable for our purposes if it were available in a more disaggregated form- as in the past - and not only for global values.

Additionally, we use data from BCG showing projections of market growth for the BRICs (aggregately and disaggregately), for the world total and for the rest of the world. Because of its smaller scope and the fact that it does not present a complete series of the period (2007-2014), the information of BCG will be used only as a useful counterpoint.

The PwC data project an expansion of 15.0 million units in worldwide production capacity for light vehicles between 2009 and 2014, which would reach, at the end of the period, a capacity slightly above the level of 100 million units per year (Table 3 below). Whereas the production capacity in 2009 was estimated in 86.5 million units, the projection embeds an average annual variation rate of 3.48% (or 17.4% accumulated).

The regions that would show growth forecast above average would be, by order, Eastern Europe (including countries which already belong to the European Union, but not limited to them), North America, Africa and the Middle East, Asia-Pacific and South America. Among the countries with significant production, the fastest growth would be recorded in Russia, Thailand, India, USA, Mexico, China and Turkey (Table 3).

As the automotive industries of these countries have, currently, very different sizes, the analysis of the contribution to the growth in the period 2009-2014 is more significant to the understanding of the prospects of the industry global evolution than a simple comparison of growth rates. Indeed, nearly 64% of the expansion in production of vehicles is expected to occur in developing countries13. More than that, about 56% of this expansion in production would occur in two regions (Graph 1): Asia-Pacific (46%) and Eastern Europe (8.8%)14. South America would contribute with 6.4% of the forecast expansion of production - with Brazil accounting for 4.5% and being in 7th place in the ranking of countries that contribute to the estimated growth of total production of light vehicles (see Table 3 below).

13 In this group, the newly industrializing Asian countries, like South Korea and Taiwan, and the transition economies of Eastern Europe were included. 14 If we include among the countries of Eastern Europe those which are already part of the EU, this proportion increases even more.

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Graph 1 - Regional distribution of the estimated increase in production of light vehicles in the period 2009-2014.

Source: Prepared by the authors from PwC Analyst Note data (Autofacts, 2010, Q1).

Table 3 - Forecast of light vehicle production by region and major countries (in thousands of units)

Growth Analytics (2009-2014)

Rank* Region 2009 2014 Relative

Participation (%) Growth rate (%)

Contribution to Total Global Growth (%) 2009 2014

1 Asia-Pacific 26,580,357 39,345,248 46.7 46.8 8.2 46.8 2 North America 8,533,970 14,768,617 15.0 17.6 11.6 22.9 3 European Union 14,803,662 18,136,236 26.0 21.6 4.1 12.2 4 East Europe 1,751,581 4,150,475 3.1 4.9 18.8 8.8 5 South America 3,608,704 5,355,711 6.3 6.4 8.2 6.4 6 Middle East & Africa 1,595,297 2,372,883 2.8 2.8 8.3 2.9 Global Total Assembly 56,873,571 84,129,170 100 100 8.1 100 Global Capacity 86,462,711 101,473,322

Global Excess Capacity 29,589,140 17,344,152

Global Utilisation 65.8% 82.9%

Rank* Country (Top 20) 2009 2014 Relative

Participation (%) Growth rate (%)

Contribution to Total Global Growth (%) 2009 2014

1 China 10,793,541 16,797,975 19.0 20.0 9.2 22.0 2 USA 5,612,532 10,296,891 9.9 12.2 12.9 17.2 3 India 2,351,229 4,931,114 4.1 5.9 16.0 9.5 4 Thailand 908,222 2,551,267 1.6 3.0 22.9 6.0 5 Russia 661,739 2,256,165 1.2 2.7 27.8 5.8 6 Japan 7,577,149 8,894,144 13.3 10.6 3.3 4.8 7 Brazil 2,888,162 4,116,622 5.1 4.9 7.3 4.5 8 Mexico 1,454,493 2,458,386 2.6 2.9 11.1 3.7 9 France 2,033,968 2,729,322 3.6 3.2 6.1 2.6

10 Germany 4,858,772 5,461,657 8.5 6.5 2.4 2.2

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11 Canada 1,466,945 2,013,340 2.6 2.4 6.5 2.0 12 United Kingdom 1,085,482 1,558,932 1.9 1.9 7.5 1.7 13 Turkey 804,113 1,175,944 1.4 1.4 7.9 1.4 14 South Korea 3,273,117 3,605,004 5.8 4.3 2.0 1.2 15 Spain 2,145,175 2,446,646 3.8 2.9 2.7 1.1 16 Iran 1,143,763 1,445,162 2.0 1.7 4.8 1.1 17 Italy 831,150 1,090,953 1.5 1.3 5.6 1.0 18 Indonesia 530,546 743,619 0.9 0.9 7.0 0.8 19 Czech Republic 932,038 1,055,231 1.6 1.3 2.5 0.5 20 Poland 877,993 998,485 1.5 1.2 2.6 0.4 Top 20 Total Assembly 52,230,129 76,626,859 91.8 91.1 8.0 89.5

Source: Prepared by the authors from PwC Analyst Note data (Autofacts, 2010, Q1). Notes: * Rankings based on contribution to total global growth (from highest to lowest).

Among developing countries, major growth is forecast, in descending order, for China, India, Thailand, Russia, Brazil, Mexico and Turkey. On the other hand, among the developed countries there would be growth just in the U.S., Japan, France and Germany (see Graph 2).

Graph 2 - Forecast of the contribution to the growth of world production of light vehicles (%) of the 20 largest producing countries (2009-2014).

Source: Prepared by the authors from data from PwC Analyst Note (Autofacts) 2010 Q1.

From the standpoint of this paper, we highlight that the latest foresight of PwC (Autofacts) are relatively less optimistic about the contribution to the growth of global production forecast for Brazil. In fact, for the latest estimation available (Autofacts, 2010, 1st quarter), the expected contribution for the period 2009-2014 is 4.5%. In the previous forecasts for 2008 (Autofacts, 4th quarter) and 2009 (Autofacts, 4th quarter), the estimates of Brazilian contributions were 6.5 and 5.8% respectively.

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Concerning the production of light vehicles in the country, it would increase by 1.2 million units between 2009 and 2014 – according to the latest preview available (Autofacts, 2010.1 quarter), being equivalent to an annual growth of 7.3%. However, this growth is below the world production average (8.1%) and also below the average provided for the 20 largest producing countries (8.0%)15.

The forecasts published by PwC also discriminate, as already noted, the assemblers production development (Table 4, below). According to this source – that, given the unpredictability of mergings and acquisitions (M&A), considers only the organic growth and merging of companies and / or partnerships already announced - the ranking of the industry would suffer gradual, but important changes in the period 2009-2014. The two U.S. automakers would be slightly loosers (Chrysler does not appear separately in the latest forecast from the 13 largest automakers). Altogether, its global market share would fall from 21.5% to 20.8%. Among the winners, the most prominent is Renault-Nissan group, which would increase from fifth to third place, tied with VW - disregarding, in this case, the effect of their partial alliance, recently announced, with Suzuki. Moreover, the major Chinese automakers - Chang 'na, Chery, and probably the Geely (see Note 19 below) - and Indian Tata also gain space together16.

Table 4 - Projection of production growth for the 13 largest light vehicles assemblers

Growth Analytics (2009-2014)

Rank* Assembler 2009 2014 Relative

Participation (%) Growth Rate (%)

Contribution to Total Global Growth (%) 2009 2014

1 Renault-Nissan 5,535,899 8,954,808 9.7 10.6 10.1 12.5 2 GM Group 6,533,777 9,507,578 11.5 11.3 7.8 10.9 3 Toyota Group 7,627,771 10,521,394 13.4 12.5 6.6 10.6 4 VW Group 6,251,756 8,922,293 11.0 10.6 7.4 9.8 5 Ford Group 5,719,238 7,938,371 10.1 9.4 6.8 8.1 6 Honda Group 3,065,596 4,939,409 5.4 5.9 10.0 6.9 7 Fiat Group 3,387,400 5,240,830 6.0 6.2 9.1 6.8 8 Hyundai Group 4,614,278 6,421,841 8.1 7.6 6.8 6.6 9 PSA Group 3,088,126 3,965,685 5.4 4.7 5.1 3.2 10 Suzuki Group 2,190,711 2,925,051 3.9 3.5 6.0 2.7 11 BMW Group 1,225,217 1,905,082 2.2 2.3 9.2 2.5 12 Daimler Group 1,245,124 1,783,296 2.2 2.1 7.4 2.0 13 Chang'na Group 1,051,107 1,347,960 1.8 1.6 5.1 1.1

Top 13 Total Assembly 51,536,000 74,373,598 90.6 88.4 7.6 83.8 Source: Prepared by the authors from PwC Analyst Note data (Autofacts, 2010, Q1). Notes: * Rankings based on contribution to total global growth (from highest to lowest). 15 In the forecast of the 4th quarter of 2009, PwC pointed out the expected growth of Brazilian production, for the period 2008-2013, 1.0% higher than the advancement of total production, and 1.2% above the growth estimated for the 20 largest manufacturing countries (Autofacts, 2009, 4th quarter). In the 4th quarter of 2008, the differences in rates of growth forecast for Brazil (5.6%), for the total global (3.5%) and for all the 20 major producing nations (of 3.0%) were even greater. 16 In the specific case of Chinese assembler Chang'na - the one that appears among the 13 largest automakers - the forecast is, however, a small decrease in its relative share from 1.8% to 1.6%, respectively (Autofacts, 2010, 1st quarter).

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Anyway, although the growth rate of the new Asian producers (Chinese and Indians) is much higher, its impacts on the structure (concentration) of the automotive market worldwide would be modest until 2014. In fact, if we consider the joint participation of the 13 largest automakers/groups, the forecast is the occurrence of a relative reduction of about 2% (from 90.6% to 88.4%, respectively) between 2009 and 2014.

On the other hand, it should be noted that the degree of concentration is quite sensitive to M&A among the largest companies. A confirmation of the progress of Fiat's participation in Chrysler and some other current speculations on new associations would be enough for the concentration to rise again17 - instead of the reduction of the effect of the growing participation of the new Asian manufacturers.

Generally, more marked changes are not so common in a relatively short period. Nevertheless, it must be admitted that the current situation of the automobile industry - especially in the U.S. - is atypical and, therefore, more subject to changes. At any rate, almost all companies tend to expand more strongly its production in regions where economic growth is expected to be more accelerated, particularly in China, in other BRICs, in some countries in Asia (especially Thailand) and also in Mexico (Table 3 above).

However, some important differences in the strategies of automakers can be inferred from such projections. Chrysler, Fiat and Daimler are three manufacturers which plan to recover some time wasted in China, where they currently have tiny volumes of production. Renault-Nissan will place more emphasis on regions of Africa, Middle East and Asia (especially India), without neglecting, in the case of Nissan (although having suffered losses in the past), a position of relative prominence in the Chinese market. Those are also, clearly, one of the prime targets of Hyundai, mainly along with North America and China. In a more general evaluation we can infer that the smaller automakers- when compared to the large ones- will probably remain more concentrated in their home markets.

3. Brazil’s and China’s Automotive Industry Outlook

3.1 Investments in Brazil: Recent developments

According to Anfavea’s data, from 1997 to 2007 the total amount of investments in the Brazilian automobile industry would have been of US$ 28.5 billion (Anfavea, 2008) - considering the cumulative US$ 16.5 billion spent by automakers and US$ 12 billion invested by the manufacturers of auto parts. 2008 reports inform that the

17 The confirmation of the sale of Volvo Cars from Ford for the Chinese company Geely is a new bid in this complicated chess of M&A and their possible impacts on the structure of the automotive sector.

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investments were US$ 2.9 billion for the assembler segment18, and US$ 1.6 billion for the auto parts segment (Anfavea, 2009)19.

Most recent evaluation for 2009 indicates that, despite the impact of the crisis, the inversions of automakers segment would have been between US$ 2.2 and US$ 2.3 billion, constituting a drop of about 24% over the previous year. In the case of the auto parts segment, the most current estimates for last year show investments of about US$ 900 million. Taking into account, on the other hand, that estimates for investments in 2010 are about US$ 3.0 billion for the assembler segment and US$ 1 billion for the subsector of auto parts, the continuity of the recent cycle of investments seems to be preserved (see below) despite the expected relative reduction observed in 2009 (FSP, 12/21/2009 and 03/23/2010; Valor, 04/13/2010).

Similarly, the most recent mapping of new investments made by BNDES for the 2010-2013 quadrennium also points to the continued expansion of investment of both automakers (US$ 23 billion accumulated) and manufacturers of auto parts (US$ 9 billion accumulated) relatively to the previous quadrennium of reference, 2005-2008 (BNDES, 2010)20 (see Table 5 below).

The above values, the resumption of domestic demand since 2003 and the investments of automakers and auto parts, especially from 200521, have led to the finding that the automobile industry is going through a new investment cycle - in spite the pullback of those expenditures in 2009 (BNDES, 2008a and 2006b; Carvalho and Pinho, 2009; BNDES, 2010). (See Figure 3 below, for the investment data of vehicles segment and Graph 4 for the corresponding data of auto parts segment).

Graph 3 – Brazil: Investment, Production and Productive Capacity* of Light Vehicles (1990-2008)

18 Besides this value be the largest ever made by the segment, it would surpass the previous largest mark (US$ 2.36 billion, in 1996), at US$ 554 million. 19 In the case of the auto parts segment, the value invested in 2008 (US$ 1.6 billion) would only be less than the amount of US$ 1.79 billion invested in 1997, during the triennium (1996-1998) of the peak of the previous cycle. 20 Probably because of its atypical features, the year of 2009 was left out of the comparisons made by BNDES (2010). 21 In fact, the resumption of investments began in 2004 - but from very low numbers. Nevertheless, just in 2005 the two segments exceeded the level of US$ 1 billion again (Anfavea, 2008).

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Source: Prepared by the authors from Global Automotive Outlook (2008) and Anfavea (2009) data. Notes: *Data available from 1995 and relative only to light vehicles (cars and light commercial). Graph 4 – Brazil: Revenues and Investments of Auto Parts Segment (1990-2008)

Source: Prepared by the authors from Anfavea (2009) data.

3.2 Investments in Brazil: prospects for short and medium term

The forecasts for the growth of Brazilian production of light vehicles (cars and light commercial) prepared by specialized consultants varied significantly even before the event of the global economic crisis. In fact, the latest forecast released by PwC for the six-year period 2009-2014 shows an average annual growth of 7.3% for Brazilian automotive industry (Autofacts, 1st quarter, 2010). On the other hand, the latest detailed forecasts available at CSM Worldwide (on a five-year period 2007-2011) estimated an annual average expansion of 8.1% (CSM Worldwide, 3rd quarter 2008)22.

Differences also remain when calculating Brazil's contribution for the world production growth. For example, in an exercise based on the latest available information from CSM, we estimate that Brazil would account for 7.3% of the global expansion of light vehicles between 2007 and 2011 and would be surpassed only by China (36.8%), India (14.7%) and Russia (7.7%) (Carvalho e Pinho, 2009). In an updated exercise - for the period 2009-2014 and based on updated projections of PwC - Brazil would be ranked seventh, contributing to a growth of 4.5%, also surpassed by Thailand (6.0%) apart from China (22.0%), USA (17.2%), India (9.5%), Russia (5.8%) and Japan (4.8%). (See, again, Table 3) (Autofacts, 1st quarter 2010)23.

22 The predictions of the BCG (Boston Consulting Group) for the evolution of Brazilian (domestic) sales for the most recent period (2009-2014) are of only 3% at year (BCG, 2010). 23 This latter estimate is not equivalent to the previous one, made by us (Carvalho and Pinho, 2009), because this concerns the six years 2009-2014, while the previous, based on data from the CSM, was based on the five years 2007-2011 - the last of that consulting group with the necessary information available. The presentation of the previous estimate has only an illustrative character (see Carvalho and Pinho, 2009).

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Although there is a substantial discrepancy regarding estimates of future developments of the Brazilian production of light vehicles, there is a reasonable consensus that the BRICs, and also Brazil, will be among the major markets that will probably lead the growth of the global auto industry, as already noted earlier (Autofacts, 1st quarter 2010; BCG, 2010: EIU, 11/16/2009, FT, 01/20/2010).

Notwithstanding the changed circumstances resulting from the effects of the crisis, the assumption we adopted in this paper - based on information available (including those obtained through interviews) - is that the previous scenario would tend to be adapted by introducing the effects of postponement of some projects and, therefore, some lags, in relation to earlier forecasts. (See Carvalho e Pinho, 2009).

Concerning what seems to be a strong indication that the investment cycle of the auto industry is not interrupted, despite the reduction of these expenditures observed in 2009, Table 5 shows the most recent mapping of the planned investments by automotive sector - auto parts and vehicles assemblers - for the 2010-2013 quadrennium. The results of this survey, made by Banco Nacional de Desenvolvimento Economico e Social (BNDES), have been confirmed by information disseminated by specialist press and also by automotive business associations - like Anfavea and Sindipeças. (Sub-item 3.1 above).

Table 5 - Growth of mapped investment in the auto industry 2010-2013

Sector Values (US$ billions) Growth 2005-2008 2010-2013 (%) (% a.a.)

Vehicle 23 32 40.8 7.1 Automakers 15 23 51.7 8.7 Auto parts 7 9 18.3 3.4 Source: BNDES, n. 79, 2010.

3.3. The recent behavior of innovation in Brazilian automotive industry

It should be observed, in the first place, that, differently from both current and desirable situation, for example in relation to investments, Brazilian statistics do not offer disaggregated annual information concerning sectorial expenditure with R&D. Such data is available only for the years 2000, 2003 and 2005.

Table 6 presents the R&D data from the Brazilian automotive sector for 2005 – the last year to offer official statistical information. It must also be highlighted that the automotive sector, with an expenditure of US$ 782 million24, was responsible for 24.4% of the total investments on R&D, made respectively by the Brazilian industry in 2005. In 2000 and 2003 the expenses of the automotive sector in R&D were US$305 and US$481 million, respectively.25

24 US$ 535 million corresponding to the car segment, US$ 129 million to the trucks and buses, and US$ 106 million to the auto parts (current dollars). 25 With the assembler segment responsible for US$ 258 million (2000) and US$ 428 million (2003) respectively.

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On the other hand, in 2005 the automotive sector invested US$ 2.3 billion in innovation26 (De Negri et al., 2008). The local automotive industry employed then 4,700 people with higher degree education, out of which 4,200 were engineers, for R&D activities (De Negri et al., 2008). The numbers for 2000 and 2003 were the following: 3,721 (total people involved in R&D, out of which 2,013 with higher degree education) and 4,729 (total people involved in R&D, out of which 3,042 with higher degree education) (Quintão, 2008).

Table 6 - Brazil1: Rate of Innovation and Innovative Efforts2 in Brazilian Automotive Sector Industry

Total Automotive Industry

Automobiles Trucks and Buses

Cabs, Truck Bodies and Trailers

Autoparts Reconditioning

Number of Enterprises 31.171 940 20 17 139 667 97

Innovative Firms 13.446 511 16 12 61 396 25

(42%) (54%) (84%) (75%) (44%) (59%) (25%) Product Innovative Firms

7.788 293 15 11 54 202 11

(25%) (31%) (76%) (68%) (39%) (30%) (12%) Innovative Firms (new product for the market)

1.565 98 14 4 29 44 7

(5%) (10%) (69%) (27%) (21%) (7%) (7%) R&D Expenditures (US$ million)

3.219 779 532 129 12 106 0,41

R&D/Revenues (%) 0,66 1,45 2,17 1,78 0,52 0,54 0,24

Source: De Negri, 2008.

Notes: 1 PINTEC/IBGE data relative to 2005.

2 Percentage of net sales in firms with more than 30 persons employed.

26 The expenses in innovation – as conceived by Oslo’s Manual, which is the foundation for PINTEC from IBGE –, “include all expenses related to those scientific, technological, commercial, financial and organizational steps that lead to the implementation of technologically new or improved products or processes. Thus, the investments in innovative activities include since the research itself until the investments in machines and equipment for the innovation, training, industrial projects and expenditures used for the launching of the product in the market.” Whereas the expenditure in R&D “comprehend the creative work, done in systematic bases and designated to broaden the knowledge supply and its use in new applications, according to the definition of the Oslo and Frascati’s manual. In this sense, the R&D activities have a much more restrict sense than the innovative activities in general” (De Negri et al. (2008: 49).

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As it can be seen, the Brazilian automotive industry was presenting increasing numbers both in total expenses and in number of people involved in R&D activities –including engineers and/or people with a higher degree qualification. In addition, there is strong evidence that this tendency has maintained. On the one hand, this was a result of the investments retaking in the local automotive industry, especially from 2005, as shown above.

On the other hand, it has been divulged by the specialized press that the Brazilian automotive engineering activity has been growing among the assemblers, and that the recent estimates in that direction, especially in the case of the two North American assemblers, would be quite promising27. “Half of the nearly one thousand engineers that GM has in Brazil today will work in projects for the headquarters, in the United States, in 2007. Concerned about the local market stagnation and the U.S.A. crisis, GM and Ford decided to shrink the engineering areas in their headquarters, moving the work to lower cost regions”28.

Ford reorganization in 2007 included the support of Brazilian engineering. According to the president of Ford in South America, part of the recently announced investment of R$ 2.2 billion in Brazil will be used in this area. The North American assembler would employ one thousand engineers in Brazilian plants in 2007, and there was, then, the prospect of increasing the team by 15% or 20% (Valor, 10/01/2007)

Conversely, the comparatively strong capacity of the automotive engineering of Brazilian branch of Fiat -and, in a lesser extent, of VW- is well known. The latter has been recuperating the reinforcement of the engineering local capacity, which had, in the past, enjoyed higher dimension and relative space within the corporation (BNDES, 2008b; De Negri et al., 2008; Carvalho, 2005).

It is also worth noting that the assemblers that entered in Brazil after the 1990s still present quite dependent and very shy local structure of product development. Consequently, their local R&D activities are still much reduced (De Negri ET al. 2008; Dias e Salerno, 2009).

3.4. The recent behavior of investment and innovation in the Chinese Automotive Industry

The exceptional growth of the Chinese economy, which generated a great demand for automobiles (Liu and Zhao, 2006), its access to the WTO in 2001, and the rise of some domestic automakers have contributed to a substantial increase in investment of the automotive sector in the recent period (2001-2010). These increased investment was made to follow the growing demand and growing income of the Chinese population, but also to increase the quality, safety and energy efficiency of Chinese cars.

27 Equally, this information is consistent with the most recent statistics of the behavior in R&D investments (outward) of the North American sector of Transportation Equipment (NSF, 2010), which concentrate strongly in the automotive industry, in the Brazilian case (Moris, 2005). 28 “The investment in the Brazilian engineering and design areas is not something new in GM, but has gained higher dimension with the recent decision of the company of transferring to the Brazilian branch the services exclusively designated to the development of products for the USA” (Valor, 10/01/2007).

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Unlike Japan or South Korea, the development of the automotive industry in China has followed the pattern adopted by the other BRICs, extensively using foreign direct investment (inward) (Tang, 2009). However, the Chinese government imposes rules that counterpoint the Chinese market and the other BRIC markets, such as the fact that the foreign automakers can only produce in China through joint ventures with usually state-owned local partners, and their participation cannot exceed 50% of total capital. The goal of the Chinese government is to maintain a "swap market for technology" (Long, 2005): in exchange for acting in the vast Chinese automotive market, foreign automakers have to share its advanced technology with their domestic partners.

Although some foreign players have been present in the Chinese automotive market for over 25 years29, it was only after entering the WTO, in 2001, that FDI flows increased substantially, attracting the attention of many foreign automakers and contributing to the advance in productive capacity industry.

Looking at the recent trajectory of investment (See Table 6), one can infer that the period 2001-2002 had a significant impact in the Chinese automotive industry: FDI (inward) almost doubled from US$ 872 million to US$ 1.6 billion, and the number of foreign investment projects approved increased from 294 to 537. As a consequence of these investments, the Added Production Capacity jumped from 393 thousand to over 1 million units in 2002-2003. In addition, the Project Investments and expenditures on R&D also showed substantial increases. The total production more than doubled, jumping from 2 million units in 2000 to over 5 million in 2004 (See Table 6).

We can also observe, in Table 6, that Chinese investments continued to expand rapidly until the end of 2005, when they began to demonstrate signs of overcapacity in the sector (the ideal is that, given the conditions of growth of Chinese economy, excess capacity is of at least 30%), with many companies investing large sums simultaneously. At this time, foreign companies have reduced their investments and turned their strategy to adjust production and business integration, while the government sought to accelerate cooperation between domestic and foreign firms and strengthen the Chinese economy (Invest in China, 2004).

Table 6 – Investment, Productive Capacity, Total Production and R&D Expenditures in Chinese Automotive Industry

2000 2001 2002 2003 2004 2005 2006 2007 2008 Foreign Direct Investment* - 872 1.639 2.003 3.200** 3.407 2.141 1.801 2.667

Number of Foreign Invesment Projects - 294 537 865 1.150** 1.015 964 842 521 Total Investment* - - 5.500** 6.700** 10.500** 12.400 7.100** 6.000** 8.900** Total Productive Capacity 2.923.353 3.304.473 3.697.569 4.708.687 5.787.664 6.869.620 8.420.216 9.616.766 11.713.575 Productive Capacity Added - 381.120 393.096 1.011.118 1.078.977 1.081.956 1.550.596 1.196.550 2.096.809 Total Production 2.069.069 2.334.440 3.286.804 4.443.686 5.234.496 5.708.421 7.188.708 8.882.456 9.345.101

29 Formally, FDI is present since 1983 with the establishment of Beijing Jeep Automobile Co. Ltd., followed by Volkswagen in 1985. (Invest in China, 2002; Roland Berger, 2009).

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Productive Capacity Utilization 47,30% 50,50% 62,80% 72,30% 64,30% 64,10% 68,00% 72,50% 72,30% Project Investment* 224 651 784 1.165 1.321 2.454 4.161 3.175 1.335 R&D Expenditures* - 708 1.041 1.296 1.562 - - - -

Sources: Prepared by the authors from data of OICA; Auto Facts, 2008; Investment Report of China Auto & Auto Parts Industry, 2000-2008 (Research in China); National Bureau of Statistics of China; Survey of Foreign Investment in China's Automobile Industry (Invest in China); China Automobile Industry Yearbook (2005). Notes: *In US$ million; **Our estimates, assuming that, after 2001, FDI has remained a stable proportion of 30% of total investment (Invest in China, 2004, 2005), as it was observed in 2005. *** Estimates (Invest in China, 2006).

In the triennium 2005-2007, the overcapacity and adjustment processes on automotive companies reversed the trend of increasing investment by reducing substantially the amount of FDI invested (-31.79% from 2005 to 2006 and -16.03% from 2006 to 2007; See Table 6). Interestingly, despite this reduction in FDI and total investment in the 2005-2007 period, the production capacity added continued rising, and the FDI and the total investments resumed growth, again, in 2008. Furthermore, there are indications that investments in R&D also increased30. One possible explanation for this phenomenon is the strengthening of some domestic firms after the boom of the Chinese automotive industry (2001-2004 period), such as Chang'an, Geely, Chery and, more recently, BYD31, which has the investments in R&D as one of their strategies to increase global competitiveness, given the international standards of safety and emission of pollutants (Roland Berger, 2009). Unlike the foreign joint-ventures, whose greatest innovations come from established centers in other countries, these domestic firms seek to establish their research centers in China, what could partially explain the (presumable) growth of expenditure on R&D.

Despite the reduction in FDI due to the difficulty of foreign firms and the intensification of overcapacity in the industry after the 2008 crisis (Roland Berger, 2009), the period of 2009 and early 2010 was favorable for the investment of Chinese domestic automakers by the expansion of their worldwide participation, drawing the fall in production and investment of major global automakers (Tang, 2009). Motor vehicle production in China in 2008 - over 9 million units - led it to become the second largest producer, only following Japan.

Furthermore, the Chinese government launched, in 2009, a package called Automotive Readjustment and Revitalization Plan ( in which it stands out), in addition to the incentive to mitigate the effects of the crisis on the domestic market, namely government incentives for domestic firms to invest in the development of hybrid and electric vehicles, as BYD does: this automaker develops advanced projects of hybrid and electric vehicles, using the experience of its conglomerate – BYD is a subsidiary of

30 The National Bureau of Statistics of China presents some aggregate data (for transportation equipments manufacturing sector) which shows a significant trend of increasing expenditures on R&D (approximately US$ 2.8 billion in 2006 to approximately US$ 3.9 billion in 2007). It seems reasonable to assume that much of this increase could be attributed to automotive industry and, therefore, we can suppose that expenses on R&D for automotive industry have also risen in the period. 31 The great bulk of investments in R&D recently made BYD to became one of 10 domestic enterprises with the largest number of patent applications in China in 2007 and 2008 (China Science and Technology Statistics).

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one of the largest battery manufacturers in the world - and the high Chinese market-share on worldwide market for lithium-ion batteries (Tang, 2009; Roland Berger, 2009).

The aforementioned set of domestic demand stimuli, promoted by the Chinese government in 2009, resulted in a astounding sales growth of 48%, leading China to the condition (albeit provisional) of the world's largest producer of cars, having produced 10.8 million units in 2009, according to information from Autofacts (2010).

4. Final considerations

As we tried to demonstrate in this paper, there are reasonable grounds to conjecture that the investments resumption in the Brazilian automotive industry, as of 2005, is still ongoing – notwithstanding the shortage in 2009. The international crisis, in September 2008, brought up (and still does) some questions on the probable retaking of this investment cycle.

Equally we tried to present that there is, on the other hand, apparently solid reasons to believe in a relative normalization of the internal economical dynamism, in general, and of the internal automotive market, in particular. The reestablishment of the internal conditions this year reinforces the expectation of the resumption of the investments intensification process in Brazilian automotive industry, which began in 2005. (See Table 5 above)

From the present standpoint, the intensity of the process retaking (or when it will be consolidated) is not clear yet, as well as its possible length. However, there is a certain consensus – expressed, for example, in forecasts by several consultancies, by the specialized press and by several analysts – that the forecast for medium and long terms for Brazilian automotive industry is very favorable. Thus, the estimates are that it will play a relatively relevant role – along with the other BRICs – among the leaders of the international growth in the automotive sector in the next years (See Table 3). It is unquestionable, however, that the central role of the process will be played by the Chinese automotive industry – due to its current dimension and strength, to the emergence of local assemblers, and to the great dynamism of its internal market, foreseen for the next years.

Finally, considering another potential deployment of the crisis in the investment strategies for the assemblers in Brazil and China, it can not be neglected that pressures and demands of the countries of the headquarters should appear as a counterpart to the support (and incentive) programs to their automotive companies and national markets. Therefore, it will not be surprising if there is a more complex (and more political) dispute for the internal distribution of the assemblers’ new investments, especially concerning R&D expenditures.

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