Europe's top carmakers are struggling in China. Here's why.

By Louis Goss

Aston Martin is best known for making the iconic sports cars driven by James Bond, the fictional secret service agent who goes by the codename 007. The Gaydon, Warwickshire-headquartered company is known for its quintessentially British cars and as King Charles III's favorite supplier of automobiles.

Yet on Monday, the British car maker became the latest European auto manufacturer to warn that its profits will be hit this year by a slump in the Chinese market, which Europe's top car manufacturers now increasingly rely on.

In posting its profit warning, Aston Martin joined a raft of top companies including Volkswagen (XE:VOW), Mercedes-Benz (XE:MBG), and BMW (XE:BMW) in raising concerns about weak demand in the world's most valuable car market, China, where a major downturn in the country's property sector has led to a slowdown in consumer spending.

Europe's top car manufacturers have now become increasingly reliant on selling vehicles to China, as the country's burgeoning upper middle class has increasingly come to view luxury automobiles as status symbols in recent years. In the case of Mercedes-Benz, more than a third of the almost 2.5 million cars it sold in 2023 were sold inside the People's Republic of China.

But in 2021, new rules introduced by the Chinese government, aimed at reigning in the country's heavily indebted property developers, left huge companies including Country Garden and Evergrande unable to complete new homes they had already sold off-plan, in what sparked a spiraling downturn in China's property market.

The slump has subsequently worked to undermine confidence among Chinese consumers, in the country where over 70% of household wealth is tied up in property which had previously seen prices surge since the turn of the millennium. The slowdown has had a particularly sharp impact on luxury spending.

China's property crisis has been blamed for driving down Chinese demand for everything from luxury handbags to expensive cars.

New rules introduced by the Chinese Communist Party (CCP) aimed at cracking down on "wealth flaunting" behaviors on social media platforms like WeChat now threaten to worsen the issue in driving down Chinese demand for luxury goods even further.

The situation for European car makers has, meanwhile, been exacerbated by an increase in production by lower cost Chinese manufacturers including NIO (NIO), Geely (HK:175) and BYD (CN:002594), who now offer luxury electric vehicles that rival those made by their European counterparts, for prices significantly below those offered by the likes of Wolkswagen and BMW. Chinese consumers are now increasingly starting to favor these locally made cars.

"The Chinese consumer is becoming more patriotic," AlphaValue analyst Adrien Brasey told MarketWatch. He explained customers in China are now also becoming increasingly interested in the high-tech software and entertainment features offered by local manufacturers over the virtues of Volkswagen's German engineering.

KPMG analyst Javier Rodríguez González told MarketWatch the lack of new and innovative technology in European cars, compared to those made by Chinese companies, has driven "younger consumers" in particular towards a preference for Chinese cars.

A combination of factors including cheaper labor costs and government subsidies have, meanwhile, let China's homegrown car manufacturers sell their vehicles at significantly lower prices than their European rivals, who have instead pushed up their prices over the past five years.

Meanwhile, in seeking to pass on the costs of inflation to customers, Europe's top five car manufacturers - BMW, Mercedes, Stellantis, Renault and Volkswagen - increased their prices by 41% between 2019 and 2023, according to analysis from Nov. 2023 carried out by the European Federation for Transport and Environment.

"For a long time Chinese vehicles were seen as a cheap knock off but... the fact remains that they probably have around a 30% cost advantage on western constructors," Blasey said.

Widespread uptake of electric vehicles (EVs) in China has also hit Europe's car makers who have now lost their technical advantage over their Chinese counterparts. Heavy state-led investment in battery technology has seen China become a leader in battery powered electric vehicles, in a shift that has, in turn, opened up the market to the likes of phone maker Xioami.

European car makers including Volkswagen have lagged behind their Chinese rivals in making new electric vehicles, in what has seen them fall even further out of step with the Chinese market.

Blasey suggested Europe's top car makers have simply failed to keep up with structual changes in the Chinese market. "Even when the Chinese economy recovers, I don't expect those companies to return to the levels they saw before. I expect them to keep on losing market share," he said.

Now, China is even considering placing retaliatory tariffs on imported Western cars, in response to the huge tariffs placed on Chinese cars imported into the U.S., Canada, and European Union. If approved, the move threatens to heighten the price discrepancies even further.

For Europe's top car makers, the economic situation has also been made sharper by the continent's own economic problems, including the ongoing energy crisis that was sparked by the wider Western push to reduce Europe's reliance on Russian natural gas in response to the invasion of Ukraine in February 2022.

Natural gas prices on the Dutch Title Transfer Facility (TTF) virtual trading hub more than doubled following Russia's invasion of Ukraine and remain well above pre-COVID levels. In China, more than 60% of energy is derived from coal, which provides power at significantly cheaper prices than that available from gas-fired power plants in Europe.

Volkswagen's situation is now particularly precarious due to the fact its manufacturing operations are heavily centered in Germany, where energy prices have increased especially sharply in the wake of Russia's invasion of Ukraine, even compared to other countries in Europe. Germany stopped importing Russian pipeline gas in 2022 having previously relied on natural gas from Russia for 55% of its total consumption.

Germany's energy crisis is now pushing Volkswagen to the brink. In September, the Wolfsburg headquartered manufacturer even told workers it is considering closing some of its German factories for the first time in its 87-year history. Germany's heavily unionized workforce, however, means the car maker is likely to face significant trouble in restructuring its operations in the country

Volkswagen is, meanwhile, particularly exposed to the Chinese market compared to its rivals, with around 30% of its revenues coming from the country. This follows a major push on the part of the Wolfsburg company to gain a foothold in the Chinese market over the previous decade.

Stellantis (STLA) - which owns brands including Chrysler, Dodge, and Alpha Romeo - is, by contrast, much less reliant on China and instead generates around half of its revenue selling cars to the U.S. Yet even Stellantis on Monday said the slowdown in Chinese demand would hit its profits in 2024, in news that caused a 15% drop in its share price.

Volkswagen, Europe's largest car manufacturer, has at the same time had to double down on the Chinese market due to the heavy investments it has made in the country in seeking to capture market share. "They can't just get out, but it's going to keep on becoming a tougher market," Blasey said.

More broadly, European car makers, including Aston Martin, Porsche, and BMW, have also suffered from a multitude of supply chain issues that have led to ongoing delays - alongside issues with Chinese demand.

In the case of Aston Martin (UK:AML) in particular, the British manufacturer's operations have suffered as the result of a series of one-off events, including a major flood at one of its key aluminum suppliers in Switzerland and the financial problems at car seat manufacturer Recaro, which plunged the German company into bankruptcy in July.

In 2023, Aston Martin generated GBP1.63 billion in revenue by selling just 6,620 cars. Around one-fifth of those sales were made in the Asia-Pacific region, which is dominated by the Chinese market.

-Louis Goss

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10-01-24 0602ET

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