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BMW's Driving Into a Brave New World

Anjani Trivedi
A man takes a picture of a BMW "THE 7" during the first public opening day at the Beijing auto show in Beijing on April 27, 2018. (Photo by - / AFP) / China OUT (Photo credit should read -/AFP/Getty Images)

The escalating trade war is forcing automakers to rethink how they do business. BMW AG has just put its chips on the table in China.

The German company could become the first foreign carmaker to own a majority stake in a Chinese joint venture as it mulls a new ownership structure for its arrangement with Brilliance China Automotive Holdings Ltd., people familiar with the matter told Bloomberg News Thursday. BMW’s interest may rise to as much as 75 percent, Germany’s Manager Magazin reported.

BMW earlier this week sealed a separate venture to produce electric vehicles and other cars with partner Great Wall Motor Co. On Monday, it agreed with Brilliance to lift output in the nation to more than 500,000 cars.

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China has worked well for BMW so far. It’s got more than 700 outlets for its own brand and the Mini marque, and revenue from the country now accounts for almost 20 percent of BMW’s total.

It’s been lucrative, too. Investment income from China in the first quarter rose 33 percent to 223 million euros ($261 million). (BMW accounts for its Brilliance stake as an investment under equity-accounting rules whereas other firms usually report straight equity income. If BMW followed suit, that number could be even higher.)

And demand in the world's largest car market remains squarely concentrated in BMW's target segment: premium. During the first three months of 2018, sales of BMW’s cars through its Brilliance joint venture accounted for 70 percent of the total, up from 63 percent in the same period last year.

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Only a fraction of BMW’s total sales in China come from imported vehicles, so why not just make them all there? Automakers face a 40 percent levy on U.S.-made vehicles imposed by China in retaliation for the Trump administration's tariffs. BMW makes vehicles and parts in the U.S. for export.

Bernstein Research estimates that if all tariff consequences were to be borne by carmakers, BMW would take a 3.5-billion-euro hit to 2019 Ebit, the worst of any European manufacturer. The firm’s free cash flow yield would slide to 0.9 percent from 7.5 percent, versus only a 3 to 4 percentage point impact at Volkswagen AG.

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That explains the China hedge.

BMW has already made headway in that regard, leveraging China’s fuel-economy and green-cars push. Its plan to make fully electric Mini cars there with Great Wall is another step in this direction. BMW also already has a battery supplier in Contemporary Amperex Technology Co., or CATL, China’s largest producer, and is adding a local model, a new, domestically produced X3.

But it will take money for BMW’s China offensive to work. How it plans to sink all this cash into the nation remains to be seen. Investors are concerned it might strip away earnings – the Hong Kong-traded stock of Brilliance plunged as much as 20 percent on the news. (BMW’s stock was up 0.6 percent in early trade in Europe.)

Still, BMW is at least getting first-mover advantage. Other foreign carmakers might want to watch and learn.

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