China may have found a way to tackle glut in car market

China has long called for consolidation to rein in production overcapacity in the world's biggest auto market, only for those efforts to fizzle. But a deal involving two state-owned companies is a sign that it may finally have found a way of tackling the problem of making too many cars.

Guangzhou Automobile Group announced plans to buy a stake from FAW Group in an unspecified car-manufacturing venture by issuing GAC shares to FAW in return. Since both companies make Toyota models in China, analysts said the move likely indicates the two government-owned firms are planning to combine those operations.

Rather than trying to force a shotgun marriage between competing carmakers backed by rival local governments-a strategy that's failed before-China appears to be targeting foreign-brand joint ventures for consolidation, which makes any production cuts more palatable to domestic stakeholders. This way, both enterprises remain independent while trimming capacity.


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"This transaction is a precedent for SOE integration in China's auto sector and could be a critical test case for deeper SOE integration," Claire Yuan, a Hong Kong-based credit analyst at S&P Global Ratings, said in a research note published on Tuesday. "The FAW-GAC transaction shows cross-region SOE integration is feasible." Merging state-owned enterprises has historically been difficult because of issues including employment concerns and regional protectionism, the credit rating company said. Closely held FAW, which is based in the northeastern Chinese city of Changchun, would become the second-largest shareholder of GAC, which is based in southern China's Guangdong province, according to a securities filing on the Hong Kong Exchange. GAC, FAW and Toyota Motor Corp. either declined to comment beyond the statement or didn't respond to queries. Despite the lack of details, investors cheered the move and sent shares of GAC up 16% in Hong Kong trading the day after the announcement, with the stock ending 2.6% higher on Tuesday.

China's auto industry has been ripe for consolidation for years as dozens of new entrants sought to capitalise on the nation's push to transition to electric cars by building factories. China now has enough production capacity to manufacture more than 55 million vehicles a year, according to the latest data compiled by Shanghai-based Gasgoo Automotive Research Institute.

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But domestic sales were fewer than half that amount last year, according to the China Passenger Car Association, resulting in too many cars chasing too few buyers. Some of that excess is finding its way into overseas markets, with the China Association of Automobile Manufacturers data showing exports jumped 21% to more than 7 million cars. That's exacerbating trade tensions.

The surplus production of cars is also taking a toll on industry profitability at home, as Chinese carmakers seek to undercut one another by slashing prices.