Why Volkswagen is losing foot in China (Part 2/3)

Volkswagen suffers from an over-reliance on its sedan lineup.

See also:

Why Volkswagen is losing foot in China (Part 1/3)

Why Volkswagen is losing foot in China (Part 3/3)

In July the Volkswagen brand dropped 31% year-on-year in China to 152,300 sales (imports excluded). In Part 1 of this Strategy series we studied the first reason behind this fall from grace: the absence in Volkswagen’s lineup of any affordable SUV, a situation that is likely to last until 2018. In Part 2 we look at the second main explanation for this precarious situation.

2. Sedans under attack

In China, the sedan segment describes all passenger cars that are not SUVs or MPVs and therefore also includes hatchbacks, although these are a lot rarer than sedans – three-box-cars – as perceived in Europe. Volkswagen has always excelled in the sedan area. Unfortunately for the German manufacturer, sedans are currently under attack in China and are solely responsible for the unusual market decline this market is experiencing, at -19% year-on-year in July. But if we remove sedans, the Chinese overall sales would be up 19% year-on-year instead of down (see below).

The imploding of the sedan market is literally unheard of in China, a market that has regularly gained ground year after year for the best part of the past three decades. Right now, an affordable SUV offering is becoming vital for a brand’s sales performance in the #1 market in the world, which is uncharted territory. But as we detailed in Part 1 of this Strategy series, Volkswagen has missed the SUV boat and put all its eggs in the sedan basket with 87% of its sales still happening in the latter segment. If Volkswagen-branded locally assembled cars are down 31% in July, Volkswagen sedans are down an even more depressing 33% year-on-year, going from 197.332 units in July 2014 to just 133.176 last month.

Chinese VW Jetta sales are down 43% year-on-year in July.

This is still by far the highest volume for any brand in China in the sedan segment – and overall, but the freefall is real and affects all of Volkswagen’s stars: the Golf (-11%), Lavida (-16%), Sagitar (-36%), Bora (-40%), Santana (-42% despite the arrival of the Gran Santana hatch), Jetta (-43%), Magotan (-44%), Passat, CC (-49%) and Polo (-50%) are all plunging a lot faster than the market. Toyota, Chevrolet and BMW also rely too much on their sedan lineup with up to 85% of their sales still happening in that segment, yet they are not suffering as much as Volkswagen is at the moment. Why are Volkswagen sedans particularly hard-pressed?

Domestic brands are back

Volkswagen has no offering contained below the symbolic 100.000 yuan price point (US$15.600), when Chevrolet does: the Sail, priced from 59.900 to 73.900 (see above). On the contrary, it is rare to find a Chinese model priced above that same 100.000 yuan barrier. If up until 2014, the price advantage of Chinese manufacturers was justified by poorer quality, reliability and performances, this is becoming less and less true. Sedans are where domestic manufacturers have been lagging behind in recent years, but they are catching up on lost time, and fast.

Vastly improved: the US$ 8.250 Geely Vision.

The most striking example is Geely. As I detailed in my coverage of the 2015 Shanghai Auto Show, Geely models have improved so drastically over the past 12 months than they put Volkswagen fares to shame in some quality aspects. All the while when costing significantly less: the interior quality of the newly revamped Geely Vision (starting price US$ 8.250) has nothing to be ashamed of vs. the much dearer VW Santana (starting price US$13.200)… My words were: “the slow and soft opening of the Geely Vision glovebox is lightyears ahead of a VW Santana glovebox that crashes onto your knee with a flat, hollow and very cheap “clang!”.

At the same time, even though all Volkswagen models described in this study are manufactured locally and thus benefit from much lower labour costs as well as the recent devaluation of the Chinese currency, the cars that are also on sale in the U.S. are frankly over-priced in China (see above). In short, Volkswagen has some margin to move down in China when pricing is concerned. In the face of increased competition, miking the Chinese cow will become harder and harder for the German carmaker.

No foreign competition: the Geely Panda starts at US$ 5.900.

Reliability issues

Has Volkswagen been resting on its laurels in China? Even its low-end Jetta and Santana are priced significantly higher than equivalent Chinese fares, and it looks like they are already truly scraping the bottom of the barrel as far as German quality is concerned. Volkswagen is still the most popular brand for Chinese consumers, one proof being the long queue for VW leaflets at the latest Shanghai Auto Show. But whereas the German brand has sold more than double any other brand each month of the past 30 years it has been present in China, it is not obliterating competition when looking at JD Power Chinese satisfaction surveys (see examples below).

Both Volkswagen joint-ventures are well below the leaders (#8 and #12) in China’s Sales Satisfaction. Source: J.D. Power Asia Pacific.

Volkswagen also lags behind (#19) in Customer Service Satisfaction… Source: J.D. Power Asia Pacific.

…but still tops Initial Quality scores (Note: this is not consumer perception). Source: J.D. Power Asia Pacific.

Another element that may have negatively impacted the Chinese customer’s reliability perception of the Volkswagen brand is its recent local recalls. Faced with VW’s reluctance to admit its fault, the Chinese government had to interve – no less. In March 2013, VW recalled over 380.000 vehicles in China, but not after the state television featured complaints about vibrations, loss of power and sudden acceleration in models including the Golf, some of it linked to dual-clutch gearbox flaws. The situation was so serious that it warranted a public apology by the head of VW China Jochem Heizmann at the 2013 Shanghai Auto Show.

In November 2013, 640.000 VW Group vehicles were recalled in China due to issues related to the lubricant replacement in seven-speed dual-clutch gearboxes. In August 2014, China’s General Administration of Quality Supervision, Inspection and Quarantine had to step in and contacted Volkswagen to deal with complaints of broken rear shafts from Sagitar owners, after the German carmaker claimed the problems were isolated incidents and vowed to sue anyone spreading “untrue” information about their products, according to U.S. website The Truth About Cars. In April 2015, Volkswagen announced the creation of a “Special Channels” program to “further enhance customer care and ensure customer satisfaction”, recognising the negative reliability perception it is now facing.

VW Santana in Urumqi, Western China.

Volkswagen: the default foreign choice

One of the first foreign carmakers to manufacture locally along with Citroen, Volkswagen has long been synonymous with the status that is associated with car ownership in China. It is still to this day an extremely aspirational brand, that has managed to remain relatively affordable for the well-off urbanites from the East Coast, as I described in my April 2013 article China: How local brands may finally find their mojo at home. Volkswagen has catered for and evolved with Chinese car buyers needs for the past three decades. This status as the “default brand” in China has enabled the continuation of its sales dominance, but it also means Volkswagen has become the one brand that Chinese buyers put in the balance when hesitating with a Chinese marque.

In a sense, Volkswagen is the safety valve of foreign manufacturers in China: when consumers mull a return to their much-improved domestic carmakers, Volkswagen sales are the first to suffer as a result. The more significant the shift towards domestic carmakers, the more fragile VW sales. A few years ago when domestic carmakers were at their lowest, Chinese consumers would rather pay almost double for the assured reliability and status of a Volkswagen Jetta or Santana. After a couple of years of much-advertised reliability trouble (see above) and constant progress from domestic carmakers, this same choice between Volkswagen and local fares is starting to weigh in favour of brands such as ChangAn and Geely. In short, Volkswagen is taking the brunt of the reconciliation of Chinese buyers with their domestic brands.

Volkswagen may be losing replacement sales to more luxurious brands such as BMW.

Is the market moving away from the Volkswagen brand?

Apart from its vulnerability to local brands, Volkswagen’s woes in China may also have to do with timing. Four full years after the government put in place licence plate limitations to curb congestion and pollution in Shanghai and Beijing, a dozen cities have since been added to the list. As a result, the East Coast market is slowly but surely moving towards saturation. Increased wealth in these regions enable consumer tastes to move up the luxury scale and further away from bargain basement options. When faced with the prospect of replacing their 2009 Lavida, well-to-do Beijing car buyers may opt for a BMW 3 Series L or Mercedes GLA instead, as Volkswagen may not offer anymore the status recognition they once enjoyed.

Volkswagen may be losing consumer upwards, but they are getting less consumers in at the bottom of the price range. Thanks to aggressive marketing efforts and dense dealer networks, first time buyers in less developed areas of the country nowadays tend to prefer a cheap domestic SUV such as the JAC Refine S3 to a low-end Volkswagen sedan such as the VW Jetta. Seeing the Chinese market as silo’ed segments is an error that Volkswagen has made in the past: the domestic SUV buyers of today are the foreign sedan buyers of yesterday.

The series continues here: Why Volkswagen is losing foot in China (Part 3/3)