Pwc Vietnam Auto

IndustriesAutomotive

Vietnam’s Automotive Component Industry:Ready to go global?*

*connectedthinking

PricewaterhouseCoopers LLP | �

Table of Contents

Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2

The Vietnamese Automotive Industry . . . . . . . . . . . . . . 3

Japanese Automakers: The driving force behind Vietnam’s automotive development . . . . . . . . . . . . . . . . . . . . . . . 8

Infrastructure

Transportation . . . . . . . . . . . . . . . . . . . . . . . ��

Power . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . �2

Telecommunications . . . . . . . . . . . . . . . . . . . �2

Labour Market . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . �2

The Investment Environment in Vietnam: A comparison with other emerging Asian countries . . . �4

ASEAN Free Trade Area and Common Effective Preferential Tariff Impact . . . . . . . . . . . . . . . . �6

Taxes . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . �8

Conclusion . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 20

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Introduction

Vietnam is the next investment destination for many: Does this hold true for the automotive and auto parts industry?

Increasing political and exchange-rate stability, along with promising gross domestic product growth have catapulted Vietnam to the top of many investors’ agendas .

On Jan . ��, 2007, Vietnam became the �50th member of the World Trade Organization, six years after China gained membership . Vietnam’s acceptance into the WTO validated its global economic viability and left many people asking, “Is Vietnam the next China?”

Vietnam’s recently transformed and relatively young stock markets currently offer some of the world’s highest returns, with the market index skyrocketing from just over 300 points in early 2006 to well beyond �,000 points by year’s end .

But what does rapid economic growth mean to the domestic automotive and auto parts industry? Will Vietnam replicate the success China enjoyed in the automotive industry after joining the WTO?

This study assesses the state of the Vietnamese automotive industry and identifies the main drivers and key factors to consider with regard to investing in Vietnam . For the intrepid, Vietnam does offer possible mediumFor the intrepid, Vietnam does offer possible medium to long-term opportunities . However, the Vietnamese automotive industry is still in an early developmental stage and significant challenges remain .

2 | PricewaterhouseCoopers LLP

PricewaterhouseCoopers LLP | 3

The Vietnamese Automotive Industry

The automotive industry in Vietnam is relatively young . Before �992, most vehicles were procured by the government and imported from the former USSR and other Eastern-bloc countries .

In �986, the Vietnamese government initiated a set of policy changes to stimulate and liberalize the economy, known as the Doimoi (or renovation) policy . While the Communist Party remained in control of the political system, the government incorporated elements of capitalism, granting auto assembly licenses to more than 30 regional assemblers . These included state-owned enterprises, local Vietnamese companies, joint ventures and foreign-owned original equipment manufacturers (OEMs) . Complete knock-down (known as CKD) assembly began in �995, with Mitsubishi, Toyota and Isuzu becoming some of the first global OEMs in Vietnam .

A decade later, Japanese auto assemblers have proved there is still a long way to go in order to achieve economies of scale in automobile production in Vietnam . The table below depicts 2006 actual production by Japanese auto assemblers .

Table1:2006autoproductioninVietnambyJapanesecompanies AUTOMOBILE PRODUCTION COMPANIES

Automaker Company Products Established ProductionCapital

InvestmentHeadquarter’s

StakeProduction Capacity (3)

1 Daihatsu Vietindo Daihatsu Automotive Corporation Hijet, Citivan, Terios 1995 483 units US $12.3 million 26% 1,800 units

2 Hino Hino Motors Vietnam, Ltd. medium and heavy-duty trucks and buses 1996 645 units US $8.1 million 51% 1,000 units

3 Honda Honda Vietnam Co., Ltd. (1) Civic 1996 1,651 units (2) US $62.9 million 42% 10,000 units

4 Isuzu Isuzu Vietnam Co., Ltd. F-series, N-series, Hi-Lander 1995 2,428 units US $15 million 35% 10,000 units

5 Mitsubishi Vina Star Motors Corporation (VSM)

Lancer, Pajero, Jolie, Grandis 1995

1,080 unitsUS $16 million

25%5,000 units

6 Mitsubishi Fuso Canter 1,389 units 0%

7 Suzuki Vietnam Suzuki Corporation Carry, Wagon R+, Vitara, APV 1995 1,296 units US $21.7 million 35% 10,000 units

8 Toyota Toyota Motor Vietnam Co., Ltd. Camry, Corolla, Hiace, Land Cruiser, Innova, Vios 1995 13,976 units US $49.14 million 70% 20,000 units

(1) Inclusive motorcycle business. (2) Started production in 2006. (3) Capacity figures from VAMA

Source: JAMA (Japan Automobile Manufacturers Association)

In recent years, new automobile sales in Vietnam have slowed . Among the factors affecting sales are:

Consumer preferences for motor bikes - automobiles are too expensive for many Vietnamese;

Better and more roads are needed;

Parking is scarce;

Tax policy

The table below shows the increase of special sales tax for passenger cars that has increased automobile prices .

Table2:SpecialSalesTax

Year 2003 2004 2005 2006

Special Sales Tax 5% 24% 40% 50%

•

•

•

•

In 2006, the government lifted a ban on pre-owned car imports, allowing pre-owned vehicles aged less than five years into the country . The auto market has also been held back by the state of Vietnamese infrastructure, particularly the lack of highways and parking facilities .

Recent economic growth has been strong . GDP rose 6 .8 percent from �997 to 2004, 8 percent in 2005 and 8 .� percent in 2006 . With this boom and stock market development, the local automotive industryboom and stock market development, the local automotive industry expects to reap significant benefits, but an overall strong economy has not yet translated into automotive success .

Will the new wave of cheap cars “hit the spot?”

The market for passenger vehicles is already overcrowded with participants, but this has not stemmed the steady flow of eager entrants . Many automotive companies, like Shanghai Automotive Industry Corp . (SAIC), expect Vietnam’s WTO membership to result in an economic upturn . SAIC has announced plans to establish a joint venture with an anticipated capital investment of $50 million .

Seven years ago, low-cost Chinese-made motorcycles took Vietnam by storm, taking substantial market share from the Japanese market leader . Whether a similar situation will emerge with low-cost Chinese cars is far from certain: quality perception is important to Vietnamese consumers and low-cost Chinese cars will likely have to prove their worth by standing the test of time .

Sluggish automobile sales growth in Vietnam does not come as a surprise when the following factors are considered:

Underdeveloped infrastructure

High taxes

Low per capita income

Removal of pre-owned car ban

One indication of whether an emerging economy has transformed itself from agriculture-based to manufacturing-based (or experienced export-led expansion), is the growth of automobile sales compared with the growth of motorcycle sales .

The ownership ratio of motorcycles to cars in Vietnam is one of the highest in the world and continues to rise . The number of motorcycles is expected to double within the next �5 years, according to Vietnam’s current motorcycle master plan demand forecast . By comparison, passenger car ownership levels in Vietnam are among the lowest in the Asia Pacific region, with � .5 units per �,000 people in 2004 . This is an indicator of tremendous untapped market potential .

Table3:MotorcyclesinVietnam

Year 2000 2005 20�0 20�5 2020

Population forecast (millions) 77 .6 83 .� 88 .7 94 .� 99 .4

Motorcycle demand forecast (millions) 6 .4 �5 .2 24 .2 28 .8 3� .8

Average persons per motorcycle �2 .2 5 .5 3 .7 3 .3 3 .� Source: Vietnam Development Forum

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•

•



Table4:Autosalesbyunitandmarketsharein2006and2005byVAMAmembers

Year 2006 Year 2005 ChangeBrand Unit % Unit % Unit %

Toyota �4,784 36% ��,8�3 30% 2,97� 25%

Truong Hai 5,354 �3% 4,325 ��% �,029 24%

Ford 3,6�0 9% 5,040 �3% (�,430) -28%

Isuzu 2,344 6% 2,�57 5% �87 9%

Vinaxuki 2,393 6% - 2,393

VinaStar (Mitsubishi) 3,398 8% 4,2�2 ��% (8�4) -�9%

Mercedes-Benz Vietnam �,202 3% �,683 4% (48�) -29%

Visuco (Suzuki) �,807 4% 3,365 8% (�,558) -46%

Vidamco (GM Daewoo) �,634 4% 4,�98 ��% (2,564) -6�%

VMC (BMW, Mazda, Kia) 659 2% �,042 3% (383) -37%

Mekong (Fiat, Ssangyong, PMC) 597 2% 509 �% 88 �7%

Hino 6�3 2% 54� �% 72 �3%

Vindaco (Daihatsu) 530 �% 453 �% 77 �7%

Vinacomin - Vinacoal 340 �% - 340

SAMCO 478 �% 538 �% (60) -��%

Honda �,��0 3% - �,��0

Total 40,853 �00% 39,876 �00% 977 2%

Source: Vietnam Automobile Manufacturers’ Association

Figure1:AutomobilesalesinVietnamin2000-2006

Source: Vietnam Automobile Manufacturers’ Association

Uncertainties about an increase in the special sales tax, the lifting of an import ban on second-hand cars, the elusive domestic market and consistent infrastructure issues have hindered any significant progress in the automotive and supporting industries .

-5,000

10,00015,00020,00025,00030,00035,00040,00045,00050,000

2000 2001 2002 2003 2004 2005 2006

Uni

t sal

es

-20%-10%

0%10%

20%30%

40%50%60%70%

% change

Unit sales % Change

The 2006 Vietnam Development Forum’s study on “Building Supporting Industries in Vietnam” found that progress in automotive localisation (currently only 5-�5% per unit assembled) is slow and far below the level of competitiveness required by Japanese companies, which have been most active in the Vietnamese automotive industry . Most significantly, the Forum reports that imported parts are still less costly than locally produced parts, mainly because of economies of scale, and quality .

In addition, localisation operations have concentrated on producing low-value parts, which reflect the low production volume of light vehicles (see Table 5) and the rather limited number of makes and models being built . Consequently, the only viable option for the infant Vietnamese automotive industry is to import CKD kits for assembly . As a result, Vietnam currently lacks the capital, experience and technology to manufacture advanced auto parts and components locally .

Table5:ASEANMemberLightVehicleCapacityandUtilizationForecast

2006 2007 2008 2009 20�0 20�� 20�2 20�3 20�4

IndonesiaCapacity 606,726 695,955 707,639 704,82� 795,7�8 820,384 823,688 823,694 823,690

Utilization 64 .60% 67 .20% 76 .60% 84 .70% 84 .30% 83 .60% 87 .70% 89 .30% 89 .70%

MalaysiaCapacity 767,000 9�6,033 �,025,355 �,030,045 �,030,055 �,029,934 �,030,045 �,030,05� �,030,048

Utilization 63 .50% 5� .50% 49 .00% 54 .�0% 53 .70% 54 .90% 54 .80% 54 .50% 55 .30%

Philippines

Capacity 268,075 266,977 238,076 238,078 238,076 238,078 238,080 237,�04 238,076

Utilization 36 .00% 39 .30% 5� .80% 55 .00% 57 .40% 59 .90% 6� .00% 6� .30% 6� .60%

ThailandCapacity �,426,373 �,596,248 �,7�2,833 �,838,825 �,838,827 �,838,825 �,83�,288 �,838,83� �,838,826

Utilization 86 .40% 84 .�0% 82 .70% 82 .20% 84 .00% 87 .20% 90 .40% 9� .30% 9� .20%

VietnamCapacity 87,938 94,529 94,9�6 94,532 99,55� 99,�37 99,546 99,547 99,542

Utilization 47 .70% 48 .30% 5� .40% 52 .40% 54 .�0% 60 .20% 63 .00% 62 .30% 62 .60%

Source: PwC Automotive Institute AUTOFACTS Global Automotive Outlook, 2007 Q2 Release. Copyright 2007. PricewaterhouseCoopers LLP. All rights reserved.



The lack of capital investment and requisite experience/technology to manufacture components considerably hamper Vietnam’s automotive industry . Coupled with stagnating automobile sales, Vietnam simply does not currently have the infrastructure necessary to support a modern automotive industry . The results are disadvantages in quality, cost and delivery . This prevents local Vietnamese suppliers from building financial resources and investing in capital improvement or management systems . Linking supply chain systems is only compounded by these challenges .

For local Vietnamese suppliers, quality and cost are the two key challenges impacting the lack of economies of scale and the country’s nascent automotive development . The primary operations being localized are welding, painting and attaching bulky items or low-value parts that are fit for local sourcing, such as tires, batteries and wire harnesses (see Wire Harness Case Study) . These challenges create problems for global OEMs and suppliers in Vietnam that want to locate and partner with acceptable local suppliers . Furthermore, the majority of acceptable local suppliers are usually wholly owned subsidiaries or joint ventures; most automotive parts companies that have ISO accreditation are also wholly owned foreign companies or joint ventures .

If auto parts are to be produced locally, solely to satisfy domestic demand, it is unlikely that cost objectives can be reached due to the lack of economies of scale . If sufficient economies of scale cannot be achieved, auto parts costs in Vietnam are likely to be higher than in other Association of Southeast Asian Nations (ASEAN) countries that produce the same models of cars . Additionally, the lack of raw materials, and the absence of a mold and die industry and/or modern machinery present key challenges in further developing the auto parts support industry in Vietnam .

STAGE ONESimple

manufacturingunder foreign

guidance

Vietnam

Agglomeration

STAGE TWOHave supporting

industries, but still under foreign

guidance

Thailand, Malaysia

Technicalabsorption

STAGE THREETechnology and

management mastered, can produce high-quality goods

South Korea, Taiwan

Creativity

STAGE FOURFull capability in innovation and

product design as global leader

Japan, US, EU

Figure2:Thestagesofautomotiveandautoparts industryinVietnam

Small market

High price

High parts cost

High taxes and tariffs

Low production efficiency

(1) Market size

Vicious Circle

(2) Tax factor

No economicsof scale

No growth of parts industries

Figure3:TwoCausesofHighPrices

0

50

100

150

200

Vietnam Malaysia Thailand Philippines

Domestic taxesTariffParts cost

Tax factor

Parts cost factor

Figure4:AutomobileCostComparisonin2004 ( Vietnam’s parts = �00 )

Source: Kenichi Ohno (VDF & GRIPS) 2004

Source: Kenichi Ohno Vietnam Development Forum

Source: VDF estimate for a typical Japanese car model.

Japanese Automakers: The driving force behind Vietnam’s automotive development

In Asia, the Japanese have a strong foothold in the automotive industry and are usually pioneers in establishing external bases for automotive and auto-supporting industries, especially in emerging countries . In the latest JETRO survey on Japanese companies’ international operations, released in March 2007, Japanese companies predicted that future sales and operating profits would primarily come from overseas operations, with Asia contributing the highest sales increase of 39 percent .

In terms of business expansion, production of mid- and low-end products is an area in which Japanese companies prefer to expand overseas at much greater levels than in Japan . This is also the case for the entire global automotive and auto parts industry .

Table6:Japanesecompanies’expansionplansbyindustry

No . of companies

Expand business overseas

Expand business in Japan

Allcompanies 729 65.4% 52.8%

Chemicals 46 87 .0% 58 .7%

Food and beverage 49 73 .5% 59 .2%

Car/car parts/other transportation machinery 56 7� .4% 46 .4%

Coal and petroleum/plastics/rubber products 30 70 .0% 53 .3%

General machinery 63 66 .7% 38 .�%

Textiles/clothing 24 66 .7% 50 .0%

Electric equipment 39 64 .�% 5� .3%

Medical products and cosmetics 27 63 .0% 55 .6%

Precision equipment 40 62 .5% 65 .0%

Source: JETRO FY2006 Survey of Japanese Firms’ International Operations, March 2007

In the 2006 JETRO survey, China was four times more likely than Vietnam to be a destination for the manufacturing of mid- to low-end products . However, Vietnam ranked higher than India, and Vietnam’s ranking in the 2006 survey eclipsed 2005 survey results .



Table7:Japanesecompanies’expansionplansbyoperations(multipleanswersperrespondent)

Sales operationsProduction

(mid to low-end products)Production

(high-end products)

Ranking country/region2006

survey%

changes country/region2006

survey%

changes country/region2006

survey%

changes

� China 56 .4% -� .8 China 33 .5% -3 .� China 20 .5% 5 .2

2 United States 27 .7% � .8 Thailand �� .5% -2 .7 Thailand 6 .5% -0 .4

3 Western Europe �9 .9% 2 .9 Vietnam 8 .4% 3 .2 United States 6 .3% � .5

4 Thailand �8 .0% 0 .6 United States 7 .8% 3 .2 Western Europe 5 .7% 2 .6

5 India �5 .5% 2 .3 India 5 .7% 3 .4 South Korea 2 .9% � .8% Source: JETRO FY2006 Survey of Japanese Firms’ International Operations, March 2007

While China’s survey score, with regard to production of mid- to low-end products, is diminishing, the shift is upward for higher-end products . Changes in China’s investment environment, such as rising labour costs and concerns about reduced refunds on the value-added tax for labour-intensive products, have influenced the shift . The Vietnamese mid-to-low-end manufacturing sector should benefit from these trends in China .

In addition to the strong recent economic performances of Vietnam and India, the “China plus one” strategy (investing in China and another country or region to reduce overdependence on China) seemed to account for greater interest in the two countries . However, there are critical differences between Vietnam and India in terms of the types of products Japanese companies produce . Japanese companies in the iron and steel/non-ferrous metal/metal products industries, as well as those in the foods and beverages industries, showed more interest in Vietnam, while those producing auto/auto parts, other transportation machinery demonstrated greater interest in India . How Vietnam’s automotive industry will reflect these results is yet to be seen .

Rising production and labour costs in Japan are catalysts behind the transfer of production bases for Japanese companies . In the past three years (and in the next three years), the production base transfer trend has been (and will be) from Japan to China, Japan to Thailand, and China to Vietnam .

Vietnam is an ideal place for skilled, labour-intensive manufacturing; labour costs are low and the quality of its workforce has been praised by many foreign investors . Because global Japanese auto parts companies exhibit systematic approaches to manufacturing, which includes built-in quality systems, Vietnam has increasingly become a popular destination for wire-harness assembly for Japanese firms .

Unfortunately, due to low production volumes, current auto part production costs in Vietnam remain too high and, thus, less competitive . As economies of scale cannot be achieved in low-volume manufacturing, auto parts exported from Vietnam to Japan are primarily labour-intensive parts . Furthermore, the localisation rate is low because most raw materials are imported . For Vietnam to become a more attractive parts-manufacturing destination for Japanese companies and other global entities, cost reductions and building upstream business is required .

Very few Western auto parts suppliers are currently doing business in Vietnam . US-based Johnson Controls recently set up a plant in Binh Duong with an investment of US $8 .0 million to supply automotive interiors for export markets in Japan and Malaysia, as well as to serve the domestic markets .

Case Study: Wire HarnessesAs most of the raw materials for wire harnesses are imported, the main value-

adding that occurs in Vietnam is labour . Sumitomo Electric Industrial Ltd ., Japan’s

largest supplier of wires, cables and optical fibers, is currently targeting Vietnam,

which is the largest automotive wire producer in Southeast Asia . Sumitomo

Electric’s first two wire harness operations in Vietnam, Sumi-Hanel Wiring Systems

and Sumidenso, have sales greater than US $�00 million . Sumitomo recently

established another company, the Sumiden Vietnam Automotive Wire Co . Ltd ., to

supply copper wire . Sumiden has investment capital of US $�00 million and will

employ 8,000 workers, with operations scheduled to begin in mid 2007 .

Wire harnesses are the leading automotive part exported from Vietnam . Global

Japanese wire harness companies like Yazaki, Furukawa and Sumitomo have

enjoyed growth and expanded their businesses to meet demand in Japan .

Furukawa, for example, has revised its investment promotion license more than �0

times since �997 and it has enjoyed eightfold export growth during that time, from

US $�2 .3 million a year to more than US $�00 million a year . Under a company

named CFT Vina Copper Ltd ., Furukawa established, operates a joint venture with

CADIVI (a leading cable manufacturer in Vietnam), and Tomen to manufacture

copper rods and drawn wire .

Yazaki has two wire harness plants, in Binh Duong and Hai Phong, and has

enjoyed rapid export driven growth .

Thus, wire harnesses are a likely auto part to be produced in Vietnam for some

time to come, especially because most of the raw material is imported and

its production does not require advanced machinery . Most machinery used in

Vietnam would be considered obsolete by modern standards, and is either a

remnant from former East European socialist countries or second-hand Chinese or

Taiwanese equipment . Because wire harness manufacturing is so labour-intensive,

it is expensive in Japan, where hourly wage rates are substantially higher . Wire

harnesses can also be standalone parts that do not need to be sequenced “just-in-

time” on the production line .

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Infrastructure

Vietnam’s infrastructure, despite improvements, is poor and presents considerable obstacles to automotive supply chain operations .

Transportation

Vietnam has no major expressways and only 26 percent of the national highways have two or more lanes . Only �0 percent of the capital city Hanoi is developed for roads, while in most global capitals, 25 to 30 percent is typically dedicated to vehicular traffic .

Other significant road infrastructure restrictions:

Vietnam’s road system consists of 2�0,447Km of roads, of which only 3,2��Km are urban roads;

Majority of roads are narrow and of low quality;

Parking is scarce in urban areas . Hanoi and Ho Chi Minh City have acute shortages of space .

Source: Vietnam Society of Automotive Engineers

Underdeveloped infrastructure has been cited as a leading constraint in Vietnam, and when compared with other industrial and economic factors, transportation ranked high in investor considerations .

Vietnam has eight major seaport complexes and the development of deep sea ports is currently underway . Though the level of ship traffic is lower than other countries in the region, significant growth is foreseeable and will help with Vietnam's international trade .

•

•

•

0

5

10

15

20

25

30

Malaysia India Thailand Indonesia Philippines Vietnam

%

Source: Investment climate surveys in Vietnam, 2005, World Bank

Figure6:Percentageofenterprisesthatconsiderthe transportationsystemaconstraintfortheir businessinsomeAsiancountries

Source: Investment climate survey (2005), World Bank, feedback from firms rating specific infrastructure sectors as either the first or second highest priority for infrastructure improvements.

Figure5:Businesses’problemswithInfrastructure

Power

As Vietnam’s consumer and industry economy grows, the demand for power between 2006-20�0 is projected to grow at �6% per year . Between 20��-20�5, power growth demand is forecasted to increase to ��% per year .

Telecommunications

Telephone density is approximately 42% and mobile telecommunications serves as the primary growth agent . As the use of mobile communication devices continues to increase rapidly, telephone density will grow and will remain one of the highest density figures in the world . While use of the Internet is low, every year, several million people in urban areas gain access and Internet Service Providers have ambitious expansion plans that, include broadband development .

Labour Market

Vietnam’s population was estimated at 83 .� million in July 2005, and it is expected to reach 90 million by 20�0, an annual growth rate of � .6 percent . More than 60 percent of the population is under 25 years of age and approximately �5 .5 percent is considered to be trained or skilled workers with elementary qualifications or higher .

Vietnamese employees work a maximum of 48-hours per week and have fewer holidays compared with China and other ASEAN countries . However, a number of businesses, including foreign direct investment companies, are being encouraged by the government to adopt a 40-hour week . In the long term, Vietnam may lose its cost advantage in terms of longer working hours .

Yet, labour costs are still relatively low compared with other countries in Asia, including China .

Vietnam has dual minimum wage policies: one for local Vietnamese enterprises and the other for foreign-investing enterprises . However, a single minimum wage policy is likely to be reached by 20�0 .

The monthly minimum wage for workers in foreign investing enterprises is as follows:

Approx . US $54 for unskilled workers in urban districts of Hanoi and Ho Chi Minh City

Approx . US $49 in rural districts of Hanoi and Ho Chi Minh City

Approx . US $44 for other provinces

There is no minimum salary for local Vietnames companies (“domestic private enterprises”) . The Ministry of Labour, War Invalid and Social Affairs (MoLISA) plans to set minimum wage levels for three regions:

Region1— Inner Hanoi and inner Ho Chi Minh City

Region2 — Suburbs of Hanoi and Ho Chi Minh City, inner Hai Phong, Ha Long (Quang Ninh Province), Bien Hoa (Dong Nai), Vung Tau (Ba Ria – Vung Tau), Thu Dau Mot town, Thuan An, Ben Cat, Tan Uyen (Binh Duong Province)

Region3 — All other localities

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•

•


PricewaterhouseCoopers LLP | �3

Rising labour costs have become a pressing issue in most emerging countries, with strong increases seen in China . Wages in other ASEAN countries show upward trends, but at less advanced rates than in China .

Apart from rising labour costs, a shortage of engineers is common in all emerging Asian countries . Vietnam is no exception . Thailand faces the most critical shortage, due to the rising trend of major automotive companies establishing R&D operations in the country .

101

121

6269

110

90

50

98

86

55

35

73

135

74

0

20

40

60

80

100

120

140

160

Thailand

Indonesia

PhilippinesVietnam

China (Guangzhou)

China (Dongguan)India

US

$ 20052006

Source: JETRO Comparative Survey of the Labour Environment in ASEAN, China, India, October 2006

Figure7:Changesinminimum,wages(MonthlyBasis)

Tota

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Valid

Incr

ease

of e

mpl

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Total966

100.0942

100.061565.3

12613.4

36739.0

36438.6

24826.3

29931.7

26227.8

17618.7

727.6

32734.7

677.1

373.9

242.5

ASEAN Subtotal897

100.0881

100.057164.8

12113.7

35139.8

34939.6

22625.7

28432.2

24227.5

15717.8

718.1

32036.3

657.4

364.1

161.8

Thailand201

100.0199

100.012361.8

4924.6

8643.2

10653.3

8241.2

5326.6

2613.1

2814.1

94.5

8643.2

31.5

21.0

21.0

Malaysia172

100.0169

100.085

50.330

17.861

36.164

37.956

33.147

27.852

30.89

5.332

18.945

26.6137.7

84.7

31.7

Singapore96

100.094

100.058

61.718

19.128

29.826

27.720

21.325

26.63

3.24

4.314

14.931

33.07

7.43

3.22

2.1

Indonesia158

100.0155

100.013385.8

63.9

5837.4

4327.7

106.5

6743.2

7246.5

4931.6

95.8

4931.6

2616.8

106.5

31.9

Philippines185

100.0181

100.010960.2

63.3

6938.1

6837.6

3318.2

5932.6

7440.9

6133.7

21.1

7943.6

105.5

95.0

42.2

Vietnam85

100.083

100.063

75.912

14.549

59.042

50.625

50.633

39.815

18.16

7.25

6.030

36.16

7.24

4.82

2.4

69100.0

61100.0

4472.1

58.5

1626.2

1524.6

2236.1

1524.6

2032.8

1931.1

11.6

711.5

23.3

11.6

811.6 India

Country/area

Source: JETRO report, “Actual Management Conditions of Japanese Manufacturing Industry in Asia,” released March 2006

Table8:ASEANLabourChallenges

Investment Environment in Vietnam: A comparison with other emerging Asian countries

Problems with the legal and tax systems and protection of intellectual property rights are perceived to be major business risks in China . In Vietnam, the major business risks include:

Underdeveloped infrastructure

Underdeveloped legal system and problems with legal procedures

Underdeveloped or no accumulation of related industries

Despite these risks, Vietnam is viewed favorably when compared with other Asian countries for the following reasons:

Political and social stability

Local currency

Slowly increasing labour costs

Table9:Japanesecompanies’rankingofinvestmentconcerns

Compared with China, Vietnam has a superior investment environment with respect to political and social stability, employee communication and lower foreign exchange risks . However, Vietnam has a less positive perception regarding local suppliers, infrastructure, and research and engineering skills .

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Source: 2006 JETRO white paper on international trade and foreign direct investmentSource: 2006 JETRO white paper on international trade and foreign direct investment

Ranking1 Philippines 52.5% Indonesia 23.5% India 57.2% China 59.9%2 Indonesia 50.4% China 20.5% Vietnam 47.9% India 35.3%3 China 41.3% Thailand 9.1% Philippines 32.2% Vietnam 32.2%4 Thailand 28.3% Vietnam 8.5% Indonesia 29.8% Indonesia 28.2%5 India 15.4% Philippines 7.9% China 21.6% Philippines 13.0%6 Vietnam 9.7% India 6.5% Malaysia 7.8% Malaysia 6.5%7 Malaysia 3.3% Malaysia 5.3% Thailand 7.4% Thailand 5.9%8 Singapore 0.8% Singapore 3.3% Singapore 0.0% Singapore 0.0%

Ranking1 Vietnam 31.4% China 59.2% Singapore 39.3% China 33.2%2 Philippines 20.9% India 13.9% China 28.4% India 17.9%3 India 18.4% Vietnam 11.9% Thailand 20.4% Indonesia 15.5%4 Indonesia 15.1% Indonesia 9.2% Malaysia 13.9% Vietnam 10.2%5 Malaysia 12.7% Philippines 9.0% Indonesia 5.5% Thailand 7.6%6 Thailand 6.2% Thailand 6.2% Vietnam 5.1% Philippines 7.3%7 China 4.7% Malaysia 4.1% Philippines 4.0% Malaysia 6.5%8 Singapore 3.7% Singapore 1.6% India 3.5% Singapore 2.0%

Underdeveloped or no accumulation of related

industriesProblems with protection of intellectual property rights High/increasing labor costs Risks/problems of taxation

Political/social instability Concerns over local currency Underdeveloped infrastructure

Underdeveloped legal system/problems with legal

procedures

Source: JETRO FY2006 Survey of Japanese Firms’ International Operations, March 2007



Table10:InvestmentinASEANcountriesandIndia,comparedwithChina

According to the World Bank and the International Finance Corporation’s annual Doing Business 2007 Report, out of �75 countries surveyed, Vietnam’s position in “ease of doing business” slipped six places from a ranking of 98 in 2005 to �04 in 2006 .

Vietnam’s fall in the survey is largely because of the complexity of starting a business in Vietnam . These challenges include:

The numerous procedures and time necessary to begin operations

The cost of minimum capital requirements

Registering property

Attaining credit

Cross border trading

Contract enforcement

Vietnam’s neighbors in the region fared better: Malaysia ranked 25th, and China and Russia ranked 93rd and 96th respectively . Nevertheless, Vietnam ranked higher than some other emerging economies, including Brazil (�2�st) and India (�34th) .

Foreign currency risks in Vietnam are considered much lower than in other countries in Asia, partly because the Vietnamese Dong has been stable over the past decade . It should be noted, however, that the Dong is not a freely-convertible currency, and the Vietnamese monetary system has restrictions in the foreign exchange system .

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ASEAN Thailand Malaysia Singapore Indonesia Philippines VietnamPolitical and social stability 0.48 0.91 0.85 0.96 -0.23 -0.17 0.74 0.50Communicativeness of employees 0.42 0.35 0.53 0.88 -0.07 0.63 0.20 0.72Investment law transparency 0.39 0.69 0.66 0.93 -0.17 0.10 0.07 0.23Tax system 0.32 0.50 0.62 0.97 -0.35 0.10 0.07 -0.13Infrastructure 0.07 0.65 0.67 0.96 -0.60 -0.65 -0.75 -0.78Ease of managing labor 0.34 0.52 0.21 0.85 -0.04 0.17 0.48 0.00Research and engineering skills -0.14 -0.07 -0.10 0.75 -0.66 -0.35 -0.21 0.33Local suppliers -0.31 0.28 -0.07 0.22 -0.71 -0.86 -0.85 -0.32Foreign exchange risks -0.03 0.13 0.30 0.52 -0.68 -0.46 0.28 -0.13Customs procedures 0.35 0.42 0.64 0.96 -0.14 0.23 -0.07 -0.41Intellectual property protection 0.23 0.34 0.39 0.94 -0.12 -0.02 -0.07 0.04

Average 0.19 0.43 0.43 0.81 -0.34 -0.12 -0.01 0.04

India

(China = 0; positive values = superior; negative values = inferior)

Source: 2006 JETRO Whitepaper on International Trade and Foreign Direct Investment

ASEAN Free Trade Area and Common Effective Preferential Tariff Impact

As a participant in the ASEAN Free Trade Area (AFTA) and Common Effective Preferential Tariff (CEPT) agreements, Vietnam could position itself as a hub for auto parts supply into ASEAN countries – if the country utilizes its competitive advantages . Vietnam joined ASEAN in �995 and has participated in AFTA since �996 . In �998, it became a member of Asia-Pacific Economic Cooperation and gained WTO membership in 2007 .

Table11:Intra-andextra-ASEANtradebycommoditygroup,2005(inUS$millions)

Within the ASEAN region, Thailand remains the leading exporter of auto parts to Japan, accounting for nearly half of all exports from ASEAN, followed by Indonesia and the Philippines, whose respective shares each account for almost a quarter of total exports . Vietnam currently provides 6 percent of the total auto parts exports from ASEAN to Japan . Most exported parts are produced by global Japanese parts suppliers that have established low-cost operations for the purpose of exporting back to Japan . Consequently, local Vietnamese suppliers or state-owned enterprises are not currently exporting auto parts to Japan .

Table12:Japan’simportfromandexporttoASEANandChinabycommodity,2005(inUS$millions)

2-digit HS code Description Exports Imports

Totaltrade Exports Imports

Totaltrade Exports Imports

Totaltrade

87

Vehicles,parts and

accessories 5,227 4,006 9,232 9,690 12,819 22,510 14,917 16,825 31,742Percentage 57% 43% 43% 57% 47% 53%

Commodity group Intra-ASEAN Extra-ASEAN Total ASEAN

Source: ASEAN Trade database

Type Category Brunei Cambodia Indonesia Laos Malaysia Myanmar Philippines Singapore Thailand Vietnam

Import

Road Motor Vehicles excl. Cycles 7,777.1 61.0 - - 1.5 - 0.8 - 0.5 0.7 57.4 0.1 10.6

Export

Road Motor Vehicles excl. Cycles 84,394.5 3,364.5 68.5 6.0 513.3 7.6 792.6 19.8 215.7 896.7 672.6 171.9 1,210.9

76,617.4 3,303.5 68.5 6.0 511.8 7.6 791.8 19.8 215.2 896.0 615.2 171.8 1,200.3

Import

Parts of Road Motor Vehicles excl. Cycles 3,573.3 584.3 - - 137.3 - 18.6 - 127.6 3.9 259.8 37.1 627.5

Export

Parts of Road Motor Vehicles excl. Cycles 23,804.9 3,042.0 0.7 0.9 611.8 0.2 589.4 1.1 276.9 98.6 1,412.6 49.7 2,423.5

20,231.5 2,457.7 0.7 0.9 474.5 0.2 570.8 1.1 149.4 94.8 1,152.8 12.5 1,795.9

China

Trade balance

Trade balance

Total ASEAN

Source: ASEAN Trade database



In 2006, auto parts exports from Vietnam to the United States totaled approximately US $24 million, accounting for a mere 0 .03 percent of all auto parts imported by the United States . Total ASEAN auto parts exports to the United States totaled US $2 .264 billion, accounting for 2 .4 percent of the total auto parts imported, while the Chinese Economic Area showed strong export growth with a market share of more than 9 percent and a total value of US $8 .85 billion .

ASEAN584.3

US$ Million48%

China627.5

US$ Million52%

Figure8:JapanautopartsimportfromASEANand Chinain2005

Figure9:JapanautopartsimportfromASEAN countriesin2005

Myanmar0%

Laos0%

Malaysia3%

Philippines22%

Singapore1%

Thailand45%

Vietnam6% Indonesia

23%

Taxes

Vietnam has high taxes on luxury goods, especially on automobiles, which make car prices in Vietnam higher than in many ASEAN and Asian countries . For most Vietnamese, cars are unaffordable, and, as stated previously, this has restricted the growth of a local automotive industry . At the same time, taxes applicable to the automotive and auto parts industry are designed to encourage exports and protect local production . This policy is supported by significant corporate tax incentives available to newly established companies, particularly to companies located in investment zones or operating in encouraged sectors . Automotive and auto parts are not included in the list of encouraged investment sectors, but investment projects in the automotive industry may be entitled to tax incentives based on other criteria .

Encouraged investment projects are also entitled to import duty exemptions with regard to the import of fixed assets .

Auto parts imported from ASEAN countries into Vietnam or exported from Vietnam to other ASEAN countries are subject to an import duty of up to 5 percent if they satisfy ASEAN content requirements . Import duty refunds are available for raw materials used for producing goods for export . An extension of import duty payment is also available to reduce working capital requirements . Beginning in 2007, import duties based on the CKD scheme have been completely removed . Import duties for disassembled parts will apply .

Within seven years of accession to the WTO, import duties applicable to completely built units (CBUs) and parts will be reduced . Import duties on CBUs could be reduced up to 50 percent . Import duty rates applicable to CBUs have been reduced to 80 percent in 2007, and a 5 percent sales price reduction is expected . The quota for second-hand CBU imports will also be gradually removed . WTO valuation principles are now implemented, instead of the arbitrary minimum dutiable price system . Imported and locally produced CBUs will be subject to the same special sales tax treatment from 2007 . Under the WTO, incentives based on export ratios may be removed . New incentives based on other criteria would apply .



The two main positive impacts of Vietnam’s WTO membership on foreign direct investment are:Dutyreductions – Import duties are considerably reduced for goods used as inputs for domestic production as well as private and government consumption . In many cases, import tariff rates on inputs for producing exports and other goods such as machinery and equipment have been significantly reduced during the WTO negotiation process . Moreover, exporters are refunded import duties on inputs used for producing exports .

Liberalizationoftheservicesmarket – Under WTO classification, provision of services will be divided into four modes:

Cross-border (e .g ., electronic money transfer services between countries)

Abroad consumption (e .g ., tourist services)

Commercial presence (e .g ., foreign direct investment in services in Vietnam)

Movement of natural person (e .g ., foreigners come and provide services in Vietnam)

Liberalization of the services sector, especially in modes � and 4, will affect investment flows to Vietnam . Initially, the services sub-sectors that were once closed or restricted from foreign investment (such as distribution, transport, telecommunication, finance, etc .), will be largely liberalized despite some limited conditions and a transitional period of three to five years .

Vietnam is actually engaged in a multitude of trade covenants . Vietnam is a member of AFTA, the ASEAN-China Free Trade Association, the ASEAN-Korea Free Trade Association and is in the process of negotiating free trade agreements with Japan, India, Australia and New Zealand .

Source: Vietnam: A Guide for Business and Investment, Ministry of Planning and Investment of

Vietnam, Foreign Investment Agency - FIA

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Conclusion

Opportunities for sourcing are available to global OEMs and suppliers in Vietnam, although it will require an investment of time and resources in order to identify and select the right partners and parts to be sourced . A thorough risk assessment will be needed in order to identify or develop Vietnamese suppliers that have the experience, quality, cost control and ability to integrate into complex global supply chains .

While this may sound difficult for the tepid, for the intrepid Vietnam clearly offers medium term opportunities . State-owned enterprise and privately owned automobile manufacturers that plan to establish auto parts operations are potential partners and Vietnam’s membership of the World Trade Organization and other free trade associations should help to create additional opportunities for auto parts sourcing .

Vietnam’s prospects of becoming a global destination for investment by the automotive industry will increase if several challenges facing the automotive industry can be addressed:

Introduction of tax and regulatory policies that encourage the rapid growth of a domestic market for passenger cars would help grow automotive manufacturing, as seen elsewhere, most notably in China .

Continued investment in vehicle infrastructure, specifically road and parking construction, will help create an economy and environment more conducive to vehicle ownership .

Ideally Vietnam will continue to prepare itself to become a high value added parts destination, as part of an integrated plan to align Government policies in support of the promotion of hi-tech industries and to position Vietnam as a clear investment alternative to China .

Human resources are crucial to the development of the automotive industry . Rising labour cost for unskilled labour and the shortage of skilled engineers are key challenges which need to be addressed .

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PricewaterhouseCoopers LLP | 2�

Contacts

Dinh Thi Quynh VanPartnerPricewaterhouseCoopers Vietnam Ltd .Tel: + 84 4 825 �2�5Email: dinh .quynh .van@vn .pwc .com

Oranuch TritrungtusanaMekong AutomotivePricewaterhouseCoopers ThailandTel: +66-2-344-�000Email: oranuch .tritrungtusana@th .pwc .com

Stephen D’ArcyGlobal Automotive LeaderTel: +� 3�3 394 6755Email: stephen .darcy@us .pwc .com

Wilson LiuAsia Automotive LeaderTel: +86 �0 6505 9738 Email: w .liu@cn .pwc .com

General Inquiries

Harry WisniewskiGlobal Automotive Knowledge ManagementTel: + � 3�3 394 6366Email: harry .j .wisniewski@us .pwc .com

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