Fierce Market Competition

Geely sees the acquisition as an opportunity to expand its business into high-end market of luxury vehicles through building up Volvo into a successful luxury brand. However, although the market position of Volvo is clear and both Geely and Volvo are full of confidence, the prospective seems very tough.

Firstly, long positioned in luxury vehicle market, Volvo has a share in Chinese luxury vehicle market, but compared to other big brands, it is too small and growing very slowly. In 2010, Audi sold 225,580 cars, enjoying an increasing rate of 43.5% comparing to last year; Bens reached sales of 147,670 cars and an amazing growth rate of 115%; the sales of BMW was 169,000 cars which increased by 87%. Volvo, however, only sold 31,000 and increased by 36.2%. These figures are not only inferior to the three competitors, but also disappointing to the target of Volvo, which is to reach 200,000 sedans sales in 2015 with an annual increasing rate of 50%. Besides the low growth rate which is far behind market average, Volvo is also the one with the largest discount rate of selling prices. Although Volvo is quite ambitious to challenge Bens and BMW which Volvo sees as competitors, the image building and brand value of Volvo in Chinese luxury vehicle market are far inferior to the competing brands.

Secondly, Volvo’s capacity is not large enough to support such an ambitious target of production. Currently, China market is only the fourth largest market of Volvo and the manufacturing has been outsourced. Volvo’s productivity is very limited in China. Although Geely has planned to set up a new plant for Volvo production, the project is still in process and what’s critical to the result is whether Volvo can turn profit into gain globally. However, in the US market, which is the biggest market of Volvo, its sales dropped by 12.2%. Without a matching productivity, Volvo can hardly compete with other brands in China.

Thirdly, other than productivity, product lines are another problem that hinders Volvo’s development. Volvo lacks a good variety of product lines especially some large size vehicles and SUV which is the most profitable market segment in China. What Geely expects from Volvo is making it a luxury brand and producing a new large limousine to compete with Mercedes-Bens and BMW. Geely want Volvo to have new sedans that can grab some market shares from BMW 7 Series and Mercedes-Benz S-Class, but building up such a product line as well as relating R&D center and production force is neither easy nor quick. The amount of investments, efforts and time put some uncertainty on the research and development of Volvo.

Not only Volvo is ambitious, other brands including Audi, Benz, and BMW all expect highly from China market. China has become the largest market for Mercedes-Benz S-Class and the German brands have tightly grasped the major market shares of luxury vehicles. The dominant trend has become more and more obvious. Not only Volvo, other luxury brands like Lexus and Cadillac are facing the danger of being marginalized as well.

Seeing all these problems and worries posted by Volvo’s competitiveness, productivity, and product development, investors definitely will hesitate when putting their money into Geely stock. After the boom on Geely stock price stimulated by the happy acquisition, as the existing or potential problems being unveiled one by one, the stock price just decreases as the market’s losing confidence in Geely stock value. Book yields tell too good a story

Information from financial reports of a company always affects the stock market greatly. Thanks to the acquisition, Geely’s annual report for year 2010 was so amazing with handsome revenue and profits and the scale of assets and equity was massively expanded, but some analysts explained what made the beautiful outlook was only gains on the book, but not real expected cash flow.

Since the acquirer was Zhejiang Geely Holdings Ltd, an unlisted company, not Geely Automobile which is the Hong Kong listed company, we cannot analyze the annual report ourselves. What we learned from the analysts was that after the acquisition, the net profit of Geely Holdings was 13.886 billion which was a 10 times increment from 1.252 billion of last year. According to Geely Holdings, this boom was due to large increase in revenue and profit, as well as other income from Volvo acquisition. The operating profit of Geely Holdings was only 1.887 billion, which means most of the net profit was contributed by other income rather than those from its main businesses in automobile. The other comprehensive income was 12.963 billion, of which 85% was from discounted purchase of Volvo Personvagnar AB and Volvo Cars North America LLC. The gain which was the difference of fair market value of the acquisition and the purchase price was all recorded in current period. It was apparent that the 11 billion gains from cheap acquisition were simply figures on the book which cannot be transferred into real cash flow that the financial market and investors really care about.

Therefore, when the annual report was released and the information was open to the market, the stock price of Geely dropped, because book yields cannot increase the value of a company. Geely’s gains cannot be turned into cash flows that really benefit the investors and, therefore, didn’t add to the company’s value.

Recommendations
The problem of product lines variety is a comprehensive result of many factors, including Volvo’s previous strategy, research and development capability, and manufacturing plants. Before the acquisition, Volvo never developed any large size limousine partially because Ford was avoiding the competition with Jaguar which was another subsidiary of Ford producing luxury cars. Now Geely has set up a very high and new strategy for Volvo, which is targeting at the high-end large size cars market. Geely has been focusing on lower to middle market since its foundation. It was the first attempt for both Volvo and Geely to challenge large size luxury automobile market. Therefore, the technology, facilities and human resources needed for the high-end product line are vital for the implementation of new strategy. In this regard, Geely had better leave it to Volvo to get all resources needed ready for large size limousine. Not only because Volvo knows more about luxury automobile market since its market position has always been high-end market, but also Volvo can stick to its style and keep the product lines consistent so that customers will accept the new Volvo product series better and more easily. On the other hand, funding the new product lines and building the manufacturing plants are within Geely’s responsibility. Geely needs to solve the problem of its debt so as to clean up the financing channel for Volvo. Volvo definitely needs to have its own manufacturing plants to ensure that the designs of new cars are perfectly carried out, which is a guarantee to the quality of luxury limousine.

Reference 1. 2011-2-15, “Li Shufu Get Rid of Ford Style: Centralizing of Power in Volvo China”, Daily Economic News, National business Daily, http://www.cnnsr.com.cn/jtym/cszx/20110215/2011021503020086126.shtml 2. 2011-7-11, “Geely Profit Increase by 10 Times, But Still Sick for Funds”, Quanjing Net, Sohu Stock, http://stock.sohu.com/20110711/n313027663.shtml 3. 4.

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[ 1 ]. 2011-2-15, “Li Shufu Get Rid of Ford Style”, National Business Daily
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[ 5 ]. 2011-7-11, “Geely Profit Increase by 10 Times”, Quanjing Net, Sohu Stock
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