Many auto makers and suppliers are failing to realize the cost-savings bonanza and tremendous growth they initially envisioned in establishing operations in China and India, a new report from The Boston Consulting Group concludes.
“Despite the fact they have been there large and long, a lot of them face some serious difficulties along the value chain,” says Nikolaus Lang, a partner at Boston Consulting and lead author of “Winning the Localization Game.”
Based on in-depth interviews with more than 40 European, Japanese and North American automotive companies, the study highlights a host of challenges – from small research-and-development bases and limited sourcing volumes to a lack of locally adapted production sites – that have prevented manufacturers from taking full advantage of potential cost savings and resources offered by China and India.
These challenges, in turn, have constrained their efforts to become more competitive globally. The report’s findings underscore the long road Western and Japanese OEMs and suppliers must travel before establishing truly localized operations in the countries.
For example, the industry was right to assume it could take advantage of the growing talent pool in both countries by establishing local research and development centers, Lang says.
Last year, China graduated 1.8 million trained engineers and India conferred another 450,000. Boston Consulting expects those numbers to increase at compound annual rates in the double digits.
“We’re talking about a substantial amount of graduates,” Lang says, noting that an overwhelming number of those students focused on electronics and mechanical engineering.
But many still require training, and the industry has tried to answer that dilemma. Toyota Motor Corp., for instance, established its Center of Industrial Development and Environmental Governance with Tsinghua University in 2005 and planned to invest $5.3 million there over three years. Its goal is advanced education and on-the-job training.
In India, General Motors Corp. continued to build its R&D strength in Bangalore last year by establishing a joint venture with the Indian Institute of Technology Kharagpur to carry out joint research in the areas of electronics, controls and software, as well as create a new educational curriculum leading to a post-graduate degree in those fields.
Other auto makers have launched similar efforts in the two countries.
But without identifying companies, Lang says manufacturers are failing to realize the full potential of their R&D centers because operations remain relatively small, command little autonomy and work on few global projects.
The Boston Consulting study found 55% of local R&D centers exercise low autonomy and are granted only low levels of global project responsibility. The firm considers only 10% of R&D operations “centers of competence,” where autonomy is high and project responsibility is worldwide.
“To be successful (manufacturers) need to give a certain level of autonomy to their R&D centers in China and India and they need to give them global projects – not only the adaptation of a window lifter to local needs,” he tells Ward’s.
The consultant also estimates that in most cases less than 3% of a company’s total R&D staff is active in China and India.
Nonetheless, Boston Consulting believes the number of centers of competence will increase as foreign companies strengthen their local R&D capabilities. It points to one U.S. electronics supplier that develops and manufactures most of its cables and connectors for local and global use in China. The local team retains responsibility for the global product and acts relatively autonomously, working with its parent through global councils, Lang says.
In terms of low-cost sourcing from China and India, Lang claims much of the hype has been overblown.
He says exports from the countries have witnessed meteoric growth, pointing to Chinese auto suppliers Zhejiang Wanfeng Auto Wheel, Shandong Linglong Rubber and South China Tire & Rubber, each boosting exports between 70% and 110% in 2006. But most multinational auto makers and suppliers still source less than 5% of their global bills of materials from either country, Lang says.
“The big figures for China and India are still very small if you put that in comparison to the overall sourcing volume,” Lang says.
Surprisingly, the auto maker sourcing the greatest volume of parts from China is one of Detroit’s Big Three, Boston Consulting analysts say. “And it’s not General Motors,” says Xavier Mosquet, the firm’s Detroit-based senior partner.
One Japanese OEM has enjoyed great success in sourcing from a local supplier, the report says, by closely monitoring the supplier’s performance and placing full responsibility for quality and performance with the supplier’s senior managers. The auto maker also executes quality audits every six months, deploys proprietary processes to solve problems quickly and makes available a robust knowledge-sharing network.
“There will be further increases (in sourcing),” Lang adds, “but increases can only be achieved if you spend substantial time in supplier development and if you overcome internal resistance.”
In fact, Lang says, the biggest problem is not finding local suppliers or developing them. “It’s convincing internal quality management that a piston produced in Brazil or a loudspeaker produced in China is as good as if it were produced in France, Germany or the U.S.”
Mosquet suggests setting ambitious but extremely specific targets.
“There are a number of situations where there is absolutely no value in pushing ambitious goals,” he says. “If you have to go to China because your costs are too high, but the China sourcing is more expensive than a Western competitor, you’re not solving the problem. You’re losing less, but you’re not more competitive – and that’s a slow death in the end.”
On the manufacturing side, a large number of established multinational OEMs and suppliers have launched operations in China or India by building or expanding more than 150 factories in the two countries since the mid-1990s, Boston Consulting says in the report. But nearly two-thirds of the companies interviewed manufacture at similar or even higher unit costs than in their home countries.
Lang blames that on the diseconomies of scale, non-localized production processes and the relatively high cost of local quality control.
For instance, German OEMs experience higher unit-production costs in China and India than other North American or French auto makers, because of what they choose to produce locally, Lang says.
A large number of German auto makers manufacture precision mechanical parts, which does not align best with skill sets in the countries, while North American and French auto makers leverage local strength in electronics and entertainment systems.
Mechanical systems also require more sophisticated tooling, which German auto makers bring to the countries rather than leveraging a local source. More quality checks also must be performed, and scrappage is higher.
“You cannot take advantage of low-cost labor in China if you replace it with a robot,” Lang says, adding one German supplier goes so far as to fly personnel to its local operation to service tooling more than 10 times a year. “That’s two business-class tickets each time – Frankfurt to Shanghai.”
The report also addresses selling in China and India, where competition from domestic players is intensifying and the stakes are high. By 2015, China is expected to represent 17% of the global car market, up from 12% in 2007. India will account for 5%, up from 2.5%.
But so far domestic auto makers have done a better job of meeting local buyers’ needs.
“Considerable increases in vehicle sales in India and China are a strategic necessity for the Western automotive manufacturers,” said Bernd Loeser, a principal in the Boston Consulting’s Zurich office and a study coauthor.
“But foreign companies need to do a better job of understanding the requirements of local consumers and customize their products accordingly, instead of trying to sell only slightly modified Western products.”
– with Alan Harman