Industries Automotive

Vietnam’s Automotive Component Industry: Ready to go global?*

*connectedthinking

Table of Contents Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2 The Vietnamese Automotive Industry . . . . . . . . . . . . . . 3 Japanese Automakers: The driving force behind Vietnam’s automotive development . . . . . . . . . . . . . . . . . . . . . . . . 8 Infrastructure – Transportation . . . . . . . . . . . . . . . . . . . . . . . 11 – Power . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 12 – Telecommunications . . . . . . . . . . . . . . . . . . 12 Labour Market . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 12 The Investment Environment in Vietnam: A comparison with other emerging Asian countries . . 14 ASEAN Free Trade Area and Common Effective Preferential Tariff Impact . . . . . . . . . . . . . . . . 16 Taxes . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 18 Conclusion . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 20

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Introduction Vietnam is the next investment destination for many: Does this hold true for the automotive and auto parts industry? Increasing political and exchange-rate stability, along with promising gross domestic product growth have catapulted Vietnam to the top of many investors’ agendas. On Jan. 11, 2007, Vietnam became the 150th member of the World Trade Organization, six years after China gained membership. Vietnam’s acceptance into the WTO validated its global economic viability and left many people asking, “Is Vietnam the next China?” Vietnam’s recently transformed and relatively young stock markets currently offer some of the world’s highest returns, with the market index skyrocketing from just over 300 points in early 2006 to well beyond 1,000 points by year’s end. But what does rapid economic growth mean to the domestic automotive and auto parts industry? Will Vietnam replicate the success China enjoyed in the automotive industry after joining the WTO? This study assesses the state of the Vietnamese automotive industry and identifies the main drivers and key factors to consider with regard to investing in Vietnam. For ����������������������������������������������������� the intrepid, Vietnam does offer possible medium to long-term opportunities. However, the Vietnamese automotive industry is still in an early developmental stage and significant challenges remain.



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The Vietnamese Automotive Industry The automotive industry in Vietnam is relatively young. Before 1992, most vehicles were procured by the government and imported from the former USSR and other Eastern-bloc countries. In 1986, the Vietnamese government initiated a set of policy changes to stimulate and liberalize the economy, known as the Doimoi (or renovation) policy. While the Communist Party remained in control of the political system, the government incorporated elements of capitalism, granting auto assembly licenses to more than 30 regional assemblers. These included state-owned enterprises, local Vietnamese companies, joint ventures and foreign-owned original equipment manufacturers (OEMs). Complete knockdown (known as CKD) assembly began in 1995, with Mitsubishi, Toyota and Isuzu becoming some of the first global OEMs in Vietnam. A decade later, Japanese auto assemblers have proved there is still a long way to go in order to achieve economies of scale in automobile production in Vietnam. The table below depicts 2006 actual production by Japanese auto assemblers.

Table 1: 2006 auto production in Vietnam by Japanese companies AUTOMOBILE PRODUCTION COMPANIES

Automaker 1

Daihatsu

Company Vietindo Daihatsu Automotive Corporation

Products

Established

Production

Hijet, Citivan, Terios

1995

483 units

1996

645 units

2

Hino

Hino Motors Vietnam, Ltd.

medium and heavy-duty trucks and buses

3

Honda

Honda Vietnam Co., Ltd. (1)

Civic

1996

Isuzu Vietnam Co., Ltd.

F-series, N-series, Hi-Lander Lancer, Pajero, Jolie, Grandis

1995

4

Isuzu

5

Mitsubishi

6

Mitsubishi Fuso

7

Suzuki

8

Toyota

Vina Star Motors Corporation (VSM)

Canter

Carry, Wagon R+, Vitara, APV Corolla, Hiace, Toyota Motor Vietnam Co., Ltd. Camry, Land Cruiser, Innova, Vios Vietnam Suzuki Corporation

1995

Capital Investment

Headquarter’s Stake

Production Capacity (3)

US $12.3 million

26%

1,800 units

US $8.1 million

51%

1,000 units

42%

10,000 units

35%

10,000 units

1,651 units (2) US $62.9 million 2,428 units 1,080 units 1,389 units

US $15 million US $16 million

1995

1,296 units

US $21.7 million

1995

13,976 units US $49.14 million

25% 0%

5,000 units

35%

10,000 units

70%

20,000 units

(1) Inclusive motorcycle business. (2) Started production in 2006. (3) Capacity figures from VAMA

Source: JAMA (Japan Automobile Manufacturers Association)

In recent years, new automobile sales in Vietnam have slowed. Among the factors affecting sales are: •

Consumer preferences for motor bikes - automobiles are too expensive for many Vietnamese;

•

Better and more roads are needed;

•

Parking is scarce;

•

Tax policy

The table below shows the increase of special sales tax for passenger cars that has increased automobile prices.

Table 2: Special Sales Tax Year

2003

2004

2005

2006

Special Sales Tax

5%

24%

40%

50%

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In 2006, the government lifted a ban on pre-owned car imports, allowing pre-owned vehicles aged less than five years into the country. The auto market has also been held back by the state of Vietnamese infrastructure, particularly the lack of highways and parking facilities. Recent economic growth has been strong. GDP rose 6.8 percent from 1997 to 2004, 8 percent in 2005 and 8.1 percent in 2006. With this boom ����������������������������������������������������������������� and stock market development, the local automotive industry expects to reap significant benefits, but an overall strong economy has not yet translated into automotive success.

Will the new wave of cheap cars “hit the spot?” The market for passenger vehicles is already overcrowded with participants, but this has not stemmed the steady flow of eager entrants. Many automotive companies, like Shanghai Automotive Industry Corp. (SAIC), expect Vietnam’s WTO membership to result in an economic upturn. SAIC has announced plans to establish a joint venture with an anticipated capital investment of $50 million. Seven years ago, low-cost Chinese-made motorcycles took Vietnam by storm, taking substantial market share from the Japanese market leader. Whether a similar situation will emerge with low-cost Chinese cars is far from certain: quality perception is important to Vietnamese consumers and low-cost Chinese cars will likely have to prove their worth by standing the test of time. Sluggish automobile sales growth in Vietnam does not come as a surprise when the following factors are considered: •

Underdeveloped infrastructure

•

High taxes

•

Low per capita income

•

Removal of pre-owned car ban

One indication of whether an emerging economy has transformed itself from agriculture-based to manufacturing-based (or experienced export-led expansion), is the growth of automobile sales compared with the growth of motorcycle sales. The ownership ratio of motorcycles to cars in Vietnam is one of the highest in the world and continues to rise. The number of motorcycles is expected to double within the next 15 years, according to Vietnam’s current motorcycle master plan demand forecast. By comparison, passenger car ownership levels in Vietnam are among the lowest in the Asia Pacific region, with 1.5 units per 1,000 people in 2004. This is an indicator of tremendous untapped market potential.

Table 3: Motorcycles in Vietnam Year

2000 77.6

2005 83.1

2010 88.7

2015 94.1

2020 99.4

Motorcycle demand forecast (millions)

6.4

15.2

24.2

28.8

31.8

Average persons per motorcycle

12.2

5.5

3.7

3.3

3.1

Population forecast (millions)

Source: Vietnam Development Forum



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Table 4: Auto sales by unit and market share in 2006 and 2005 by VAMA members   Brand Toyota Truong Hai Ford Isuzu Vinaxuki VinaStar (Mitsubishi) Mercedes-Benz Vietnam Visuco (Suzuki) Vidamco (GM Daewoo) VMC (BMW, Mazda, Kia) Mekong (Fiat, Ssangyong, PMC) Hino Vindaco (Daihatsu) Vinacomin - Vinacoal SAMCO Honda Total

Year 2006 Unit % 14,784 36% 5,354 13% 3,610 9% 2,344 6% 2,393 6% 3,398 8% 1,202 3% 1,807 4% 1,634 4% 659 2% 597 2% 613 2% 530 1% 340 1% 478 1% 1,110 3% 40,853 100%

Year 2005 Unit % 11,813 30% 4,325 11% 5,040 13% 2,157 5% 4,212 11% 1,683 4% 3,365 8% 4,198 11% 1,042 3% 509 1% 541 1% 453 1% 538 1% 39,876 100%

Change Unit % 2,971 25% 1,029 24% (1,430) -28% 187 9% 2,393 (814) -19% (481) -29% (1,558) -46% (2,564) -61% (383) -37% 88 17% 72 13% 77 17% 340 (60) -11% 1,110 977 2%

Source: Vietnam Automobile Manufacturers’ Association



Figure 1: Automobile sales in Vietnam in 2000-2006

50,000 45,000

70%

40,000 35,000

50%

60% 40%

30,000 25,000 20,000

30% 20%

15,000 10,000

10%

5,000 -

-10%

0% -20% 2000



% Change

% change

Unit sales

Unit sales

2001

2002

2003

2004

2005

2006

Source: Vietnam Automobile Manufacturers’ Association

Uncertainties about an increase in the special sales tax, the lifting of an import ban on second-hand cars, the elusive domestic market and consistent infrastructure issues have hindered any significant progress in the automotive and supporting industries.

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The 2006 Vietnam Development Forum’s study on “Building Supporting Industries in Vietnam” found that progress in automotive localisation (currently only 5-15% per unit assembled) is slow and far below the level of competitiveness required by Japanese companies, which have been most active in the Vietnamese automotive industry. Most significantly, the Forum reports that imported parts are still less costly than locally produced parts, mainly because of economies of scale, and quality. In addition, localisation operations have concentrated on producing low-value parts, which reflect the low production volume of light vehicles (see Table 5) and the rather limited number of makes and models being built. Consequently, the only viable option for the infant Vietnamese automotive industry is to import CKD kits for assembly. As a result, Vietnam currently lacks the capital, experience and technology to manufacture advanced auto parts and components locally.

Table 5: ASEAN Member Light Vehicle Capacity and Utilization Forecast

Indonesia

Malaysia

Philippines

Thailand

Vietnam

2006

2007

2008

2009

2010

2011

2012

2013

2014

606,726

695,955

707,639

704,821

795,718

820,384

823,688

823,694

823,690

Utilization 64.60%

67.20%

76.60%

84.70%

84.30%

83.60%

87.70%

89.30%

89.70%

Capacity

916,033 1,025,355 1,030,045 1,030,055 1,029,934 1,030,045 1,030,051 1,030,048

Capacity

767,000

Utilization 63.50%

51.50%

49.00%

54.10%

53.70%

54.90%

54.80%

54.50%

55.30%

Capacity

268,075

266,977

238,076

238,078

238,076

238,078

238,080

237,104

238,076

Utilization 36.00%

39.30%

51.80%

55.00%

57.40%

59.90%

61.00%

61.30%

61.60%

Capacity 1,426,373 1,596,248 1,712,833 1,838,825 1,838,827 1,838,825 1,831,288 1,838,831 1,838,826 Utilization 86.40%

84.10%

82.70%

82.20%

84.00%

87.20%

90.40%

91.30%

91.20%

Capacity

87,938

94,529

94,916

94,532

99,551

99,137

99,546

99,547

99,542

Utilization 47.70%

48.30%

51.40%

52.40%

54.10%

60.20%

63.00%

62.30%

62.60%

Source: PwC Automotive Institute AUTOFACTS Global Automotive Outlook, 2007 Q2 Release. Copyright 2007. PricewaterhouseCoopers LLP. All rights reserved.



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The lack of capital investment and requisite experience/technology to manufacture components considerably hamper Vietnam’s automotive industry. Coupled with stagnating automobile sales, Vietnam simply does not currently have the infrastructure necessary to support a modern automotive industry. The results are disadvantages in quality, cost and delivery. This prevents local Vietnamese suppliers from building financial resources and investing in capital improvement or management systems. Linking supply chain systems is only compounded by these challenges.

Figure 2: The stages of automotive and auto parts industry in Vietnam

For local Vietnamese suppliers, quality and cost are the two key challenges impacting the lack of economies of scale and the country’s nascent automotive development. The primary operations being localized are welding, painting and attaching bulky items or low-value parts that are fit for local sourcing, such as tires, batteries and wire harnesses (see Wire Harness Case Study). These challenges create problems for global OEMs and suppliers in Vietnam that want to locate and partner with acceptable local suppliers. Furthermore, the majority of acceptable local suppliers are usually wholly owned subsidiaries or joint ventures; most automotive parts companies that have ISO accreditation are also wholly owned foreign companies or joint ventures.

Figure 3: Two Causes of High Prices

If auto parts are to be produced locally, solely to satisfy domestic demand, it is unlikely that cost objectives can be reached due to the lack of economies of scale. If sufficient economies of scale cannot be achieved, auto parts costs in Vietnam are likely to be higher than in other Association of Southeast Asian Nations (ASEAN) countries that produce the same models of cars. Additionally, the lack of raw materials, and the absence of a mold and die industry and/or modern machinery present key challenges in further developing the auto parts support industry in Vietnam.

Figure 4: Automobile Cost Comparison in 2004 ( Vietnam’s parts = 100 )

Creativity Technical absorption Agglomeration STAGE TWO Have supporting industries, but still under foreign guidance

STAGE ONE Simple manufacturing under foreign guidance

STAGE FOUR Full capability in innovation and product design as global leader

STAGE THREE Technology and management mastered, can produce highquality goods

Japan, US, EU

South Korea, Taiwan

Thailand, Malaysia

Vietnam

Source: Kenichi Ohno (VDF & GRIPS) 2004

(1) Market size Small market

Vicious Circle

High price

High taxes and tariffs

High parts cost

No economics of scale

Low production efficiency

No growth of parts industries

(2) Tax factor

Source: Kenichi Ohno Vietnam Development Forum

Tax factor

200

Domestic taxes Tariff

150

Parts cost

100 50 0 Vietnam

Malaysia

Thailand

Philippines

Parts cost factor

Source: VDF estimate for a typical Japanese car model.

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Japanese Automakers: The driving force behind Vietnam’s automotive development In Asia, the Japanese have a strong foothold in the automotive industry and are usually pioneers in establishing external bases for automotive and auto-supporting industries, especially in emerging countries. In the latest JETRO survey on Japanese companies’ international operations, released in March 2007, Japanese companies predicted that future sales and operating profits would primarily come from overseas operations, with Asia contributing the highest sales increase of 39 percent. In terms of business expansion, production of mid- and low-end products is an area in which Japanese companies prefer to expand overseas at much greater levels than in Japan. This is also the case for the entire global automotive and auto parts industry.

Table 6: Japanese companies’ expansion plans by industry

All companies Chemicals

No. of companies 729

Expand business Expand business overseas in Japan 65.4% 52.8%

46

87.0%

58.7%

Food and beverage

49

73.5%

59.2%

Car/car parts/other transportation machinery

56

71.4%

46.4%

Coal and petroleum/plastics/rubber products

30

70.0%

53.3%

General machinery

63

66.7%

38.1%

Textiles/clothing

24

66.7%

50.0%

Electric equipment

39

64.1%

51.3%

Medical products and cosmetics

27

63.0%

55.6%

Precision equipment

40

62.5%

65.0%

Source: JETRO FY2006 Survey of Japanese Firms’ International Operations, March 2007

In the 2006 JETRO survey, China was four times more likely than Vietnam to be a destination for the manufacturing of mid- to low-end products. However, Vietnam ranked higher than India, and Vietnam’s ranking in the 2006 survey eclipsed 2005 survey results.



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Table 7: Japanese companies’ expansion plans by operations (multiple answers per respondent) Production Production Sales operations (mid to low-end products) (high-end products) 2006 % 2006 % 2006 % Ranking country/region survey changes country/region survey changes country/region survey changes 1 China 56.4% -1.8 China 33.5% -3.1 China 20.5% 5.2 2

United States

27.7%

1.8 Thailand

11.5%

6.5%

-0.4

3

Western Europe 19.9%

2.9 Vietnam

8.4%

-2.7 Thailand 3.2 United States

6.3%

1.5

4

Thailand

18.0%

0.6 United States

7.8%

3.2 Western Europe

5.7%

2.6

5

India

15.5%

2.3 India

5.7%

3.4 South Korea

2.9%

1.8%

Source: JETRO FY2006 Survey of Japanese Firms’ International Operations, March 2007

While China’s survey score, with regard to production of mid- to low-end products, is diminishing, the shift is upward for higher-end products. Changes in China’s investment environment, such as rising labour costs and concerns about reduced refunds on the value-added tax for labour-intensive products, have influenced the shift. The Vietnamese mid-to-low-end manufacturing sector should benefit from these trends in China. In addition to the strong recent economic performances of Vietnam and India, the “China plus one” strategy (investing in China and another country or region to reduce overdependence on China) seemed to account for greater interest in the two countries. However, there are critical differences between Vietnam and India in terms of the types of products Japanese companies produce. Japanese companies in the iron and steel/non-ferrous metal/metal products industries, as well as those in the foods and beverages industries, showed more interest in Vietnam, while those producing auto/auto parts, other transportation machinery demonstrated greater interest in India. How Vietnam’s automotive industry will reflect these results is yet to be seen. Rising production and labour costs in Japan are catalysts behind the transfer of production bases for Japanese companies. In the past three years (and in the next three years), the production base transfer trend has been (and will be) from Japan to China, Japan to Thailand, and China to Vietnam. Vietnam is an ideal place for skilled, labour-intensive manufacturing; labour costs are low and the quality of its workforce has been praised by many foreign investors. Because global Japanese auto parts companies exhibit systematic approaches to manufacturing, which includes built-in quality systems, Vietnam has increasingly become a popular destination for wire-harness assembly for Japanese firms. Unfortunately, due to low production volumes, current auto part production costs in Vietnam remain too high and, thus, less competitive. As economies of scale cannot be achieved in low-volume manufacturing, auto parts exported from Vietnam to Japan are primarily labour-intensive parts. Furthermore, the localisation rate is low because most raw materials are imported. For Vietnam to become a more attractive parts-manufacturing destination for Japanese companies and other global entities, cost reductions and building upstream business is required. Very few Western auto parts suppliers are currently doing business in Vietnam. US-based Johnson Controls recently set up a plant in Binh Duong with an investment of US $8.0 million to supply automotive interiors for export markets in Japan and Malaysia, as well as to serve the domestic markets.

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Case Study: Wire Harnesses As most of the raw materials for wire harnesses are imported, the main valueadding that occurs in Vietnam is labour. Sumitomo Electric Industrial Ltd., Japan’s largest supplier of wires, cables and optical fibers, is currently targeting Vietnam, which is the largest automotive wire producer in Southeast Asia. Sumitomo Electric’s first two wire harness operations in Vietnam, Sumi-Hanel Wiring Systems and Sumidenso, have sales greater than US $100 million. Sumitomo recently established another company, the Sumiden Vietnam Automotive Wire Co. Ltd., to supply copper wire. Sumiden has investment capital of US $100 million and will employ 8,000 workers, with operations scheduled to begin in mid 2007. Wire harnesses are the leading automotive part exported from Vietnam. Global Japanese wire harness companies like Yazaki, Furukawa and Sumitomo have enjoyed growth and expanded their businesses to meet demand in Japan. Furukawa, for example, has revised its investment promotion license more than 10 times since 1997 and it has enjoyed eightfold export growth during that time, from US $12.3 million a year to more than US $100 million a year. Under a company named CFT Vina Copper Ltd., Furukawa established, operates a joint venture with CADIVI (a leading cable manufacturer in Vietnam), and Tomen to manufacture copper rods and drawn wire. Yazaki has two wire harness plants, in Binh Duong and Hai Phong, and has enjoyed rapid export driven growth. Thus, wire harnesses are a likely auto part to be produced in Vietnam for some time to come, especially because most of the raw material is imported and its production does not require advanced machinery. Most machinery used in Vietnam would be considered obsolete by modern standards, and is either a remnant from former East European socialist countries or second-hand Chinese or Taiwanese equipment. Because wire harness manufacturing is so labour-intensive, it is expensive in Japan, where hourly wage rates are substantially higher. Wire harnesses can also be standalone parts that do not need to be sequenced “just-intime” on the production line.

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Infrastructure Figure 5: Businesses’ problems with Infrastructure Vietnam’s infrastructure, despite improvements, is poor and presents considerable obstacles to automotive supply chain operations.

Transportation Vietnam has no major expressways and only 26 percent of the national highways have two or more lanes. Only 10 percent of the capital city Hanoi is developed for roads, while in most global capitals, 25 to 30 percent is typically dedicated to vehicular traffic. Other significant road infrastructure restrictions: •

Vietnam’s road system consists of 210,447Km of roads, of which only 3,211Km are urban roads;

•

Majority of roads are narrow and of low quality; Parking is scarce in urban areas. Hanoi and Ho Chi Minh City have acute shortages of space.

•

Source: Investment climate survey (2005), World Bank, feedback from firms rating specific infrastructure sectors as either the first or second highest priority for infrastructure improvements.

Figure 6: Percentage of enterprises that consider the transportation system a constraint for their business in some Asian countries

Source: Vietnam Society of Automotive Engineers

Underdeveloped infrastructure has been cited as a leading constraint in Vietnam, and when compared with other industrial and economic factors, transportation ranked high in investor considerations.

% 30 25 20 15 10

Vietnam has eight major seaport complexes and the development of deep sea ports is currently underway. Though the level of ship traffic is lower than other countries in the region, significant growth is foreseeable and will help with Vietnam's international trade.

5 0 Malaysia

India

Thailand

Indonesia

Philippines

Vietnam

Source: Investment climate surveys in Vietnam, 2005, World Bank

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Power As Vietnam’s consumer and industry economy grows, the demand for power between 2006-2010 is projected to grow at 16% per year. Between 2011-2015, power growth demand is forecasted to increase to 11% per year.

Telecommunications Telephone density is approximately 42% and mobile telecommunications serves as the primary growth agent. As the use of mobile communication devices continues to increase rapidly, telephone density will grow and will remain one of the highest density figures in the world. While use of the Internet is low, every year, several million people in urban areas gain access and Internet Service Providers have ambitious expansion plans that, include broadband development.

Labour Market Vietnam’s population was estimated at 83.1 million in July 2005, and it is expected to reach 90 million by 2010, an annual growth rate of 1.6 percent. More than 60 percent of the population is under 25 years of age and approximately 15.5 percent is considered to be trained or skilled workers with elementary qualifications or higher. Vietnamese employees work a maximum of 48-hours per week and have fewer holidays compared with China and other ASEAN countries. However, a number of businesses, including foreign direct investment companies, are being encouraged by the government to adopt a 40-hour week. In the long term, Vietnam may lose its cost advantage in terms of longer working hours. Yet, labour costs are still relatively low compared with other countries in Asia, including China. Vietnam has dual minimum wage policies: one for local Vietnamese enterprises and the other for foreign-investing enterprises. However, a single minimum wage policy is likely to be reached by 2010. The monthly minimum wage for workers in foreign investing enterprises is as follows: •

Approx. US $54 for unskilled workers in urban districts of Hanoi and Ho Chi Minh City

•

Approx. US $49 in rural districts of Hanoi and Ho Chi Minh City

•

Approx. US $44 for other provinces

There is no minimum salary for local Vietnames companies (“domestic private enterprises”). The Ministry of Labour, War Invalid and Social Affairs (MoLISA) plans to set minimum wage levels for three regions: Region 1 — Inner Hanoi and inner Ho Chi Minh City Region 2 — Suburbs of Hanoi and Ho Chi Minh City, inner Hai Phong, Ha Long (Quang Ninh Province), Bien Hoa (Dong Nai), Vung Tau (Ba Ria – Vung Tau), Thu Dau Mot town, Thuan An, Ben Cat, Tan Uyen (Binh Duong Province) Region 3 — All other localities

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Figure 7: Changes in minimum, wages (Monthly Basis) 160

121

120

110 101

100 US $

Rising labour costs have become a pressing issue in most emerging countries, with strong increases seen in China. Wages in other ASEAN countries show upward trends, but at less advanced rates than in China.

135

140

98 90

86

2005 2006

74

80

73

69 62

60

55

50 35

40 20 0 d an ail Th

es on Ind

) n) ou ua zh gg ng on ua D ( G ( ina ina Ch Ch

es pin ilip Ph

ia

ia Ind

m tna Vie

Source: JETRO Comparative Survey of the Labour Environment in ASEAN, China, India, October 2006

C o u n t r y / a r e a

Unknown

Other problems

Heavy employer burden for pension, social insurance, etc.

Localization of management level employees and site chiefs

Restrictions on employment of foreign workers

Labor issues (strikes, labor unions, etc.)

Restrictions on staff dismissal and reduction

Personal costs of Japanese (expatriate) officers and staffs

Low rate of worker retention

Difficulty in recruitment of local staffs (engineers)

Difficulty in recruitment of local staffs (middle management)

Difficulty in recruitment of local staffs (general workers)

Increase of employee wages

Valid

Total

Table 8: ASEAN Labour Challenges

Total

966 942 100.0 100.0

615 65.3

126 13.4

367 39.0

364 38.6

248 26.3

299 31.7

262 27.8

176 18.7

72 7.6

327 34.7

67 7.1

37 3.9

24 2.5

ASEAN Subtotal

897 881 100.0 100.0

571 64.8

121 13.7

351 39.8

349 39.6

226 25.7

284 32.2

242 27.5

157 17.8

71 8.1

320 36.3

65 7.4

36 4.1

16 1.8

Thailand

201 199 100.0 100.0

123 61.8

49 24.6

86 43.2

106 53.3

82 41.2

53 26.6

26 13.1

28 14.1

9 4.5

86 43.2

3 1.5

2 1.0

2 1.0

Malaysia

172 169 100.0 100.0

85 50.3

30 17.8

61 36.1

64 37.9

56 33.1

47 27.8

52 30.8

9 5.3

32 18.9

45 26.6

13 7.7

8 4.7

3 1.7

Singapore

96 94 100.0 100.0

58 61.7

18 19.1

28 29.8

26 27.7

20 21.3

25 26.6

3 3.2

4 4.3

14 14.9

31 33.0

7 7.4

3 3.2

2 2.1

Indonesia

158 155 100.0 100.0

133 85.8

6 3.9

58 37.4

43 27.7

10 6.5

67 43.2

72 46.5

49 31.6

9 5.8

49 31.6

26 16.8

10 6.5

3 1.9

Philippines

185 181 100.0 100.0

109 60.2

6 3.3

69 38.1

68 37.6

33 18.2

59 32.6

74 40.9

61 33.7

2 1.1

79 43.6

10 5.5

9 5.0

4 2.2

Vietnam

85 83 100.0 100.0

63 75.9

12 14.5

49 59.0

42 50.6

25 50.6

33 39.8

15 18.1

6 7.2

5 6.0

30 36.1

6 7.2

4 4.8

2 2.4

India

69 61 100.0 100.0

44 72.1

5 8.5

16 26.2

15 24.6

22 36.1

15 24.6

20 32.8

19 31.1

1 1.6

7 11.5

2 3.3

1 1.6

8 11.6

Apart from rising labour costs, a shortage of engineers is common in all emerging Asian countries. Vietnam is no exception. Thailand faces the most critical shortage, due to the rising trend of major automotive companies establishing R&D operations in the country.

Source: JETRO report, “Actual Management Conditions of Japanese Manufacturing Industry in Asia,” released March 2006

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Investment Environment in Vietnam: A comparison with other emerging Asian countries Problems with the legal and tax systems and protection of intellectual property rights are perceived to be major business risks in China. In Vietnam, the major business risks include: •

Underdeveloped infrastructure

•

Underdeveloped legal system and problems with legal procedures

•

Underdeveloped or no accumulation of related industries

Despite these risks, Vietnam is viewed favorably when compared with other Asian countries for the following reasons: •

Political and social stability

•

Local currency

•

Slowly increasing labour costs

Table 9: Japanese companies’ ranking of investment concerns

Political/social instability Philippines 52.5% Indonesia 50.4% China 41.3% Thailand 28.3% India 15.4% Vietnam 9.7% Malaysia 3.3% Singapore 0.8%

Concerns over local currency Indonesia 23.5% China 20.5% Thailand 9.1% Vietnam 8.5% Philippines 7.9% India 6.5% Malaysia 5.3% Singapore 3.3%

Underdeveloped infrastructure India 57.2% Vietnam 47.9% Philippines 32.2% Indonesia 29.8% China 21.6% Malaysia 7.8% Thailand 7.4% Singapore 0.0%

Underdeveloped legal system/problems with legal procedures China 59.9% India 35.3% Vietnam 32.2% Indonesia 28.2% Philippines 13.0% Malaysia 6.5% Thailand 5.9% Singapore 0.0%

Underdeveloped or no accumulation of related industries Ranking 1 Vietnam 31.4% 2 Philippines 20.9% 3 India 18.4% 4 Indonesia 15.1% 5 Malaysia 12.7% 6 Thailand 6.2% 7 China 4.7% 8 Singapore 3.7%

Problems with protection of intellectual property rights China 59.2% India 13.9% Vietnam 11.9% Indonesia 9.2% Philippines 9.0% Thailand 6.2% Malaysia 4.1% Singapore 1.6%

High/increasing labor costs Singapore 39.3% China 28.4% Thailand 20.4% Malaysia 13.9% Indonesia 5.5% Vietnam 5.1% Philippines 4.0% India 3.5%

Risks/problems of taxation China 33.2% India 17.9% Indonesia 15.5% Vietnam 10.2% Thailand 7.6% Philippines 7.3% Malaysia 6.5% Singapore 2.0%

Ranking 1 2 3 4 5 6 7 8

Source: JETRO FY2006 Survey of Japanese Firms’ International Operations, March 2007

Compared with China, Vietnam has a superior investment environment with respect to political and social stability, employee communication and lower foreign exchange risks. However, Vietnam has a less positive perception regarding local suppliers, infrastructure, and research and engineering skills.

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Table 10: Investment in ASEAN countries and India, compared with China (China = 0; positive values = superior; negative values = inferior) ASEAN Political and social stability Communicativeness of employees Investment law transparency Tax system Infrastructure Ease of managing labor Research and engineering skills Local suppliers Foreign exchange risks Customs procedures Intellectual property protection Average

Thailand

Malaysia

Singapore Indonesia Philippines

Vietnam

0.48 0.42 0.39 0.32 0.07 0.34 -0.14 -0.31 -0.03 0.35 0.23

0.91 0.35 0.69 0.50 0.65 0.52 -0.07 0.28 0.13 0.42 0.34

0.85 0.53 0.66 0.62 0.67 0.21 -0.10 -0.07 0.30 0.64 0.39

0.96 0.88 0.93 0.97 0.96 0.85 0.75 0.22 0.52 0.96 0.94

-0.23 -0.07 -0.17 -0.35 -0.60 -0.04 -0.66 -0.71 -0.68 -0.14 -0.12

-0.17 0.63 0.10 0.10 -0.65 0.17 -0.35 -0.86 -0.46 0.23 -0.02

0.74 0.20 0.07 0.07 -0.75 0.48 -0.21 -0.85 0.28 -0.07 -0.07

India 0.50 0.72 0.23 -0.13 -0.78 0.00 0.33 -0.32 -0.13 -0.41 0.04

0.19

0.43

0.43

0.81

-0.34

-0.12

-0.01

0.04

Source: 2006 JETRO Whitepaper on International Trade and Foreign Direct Investment

According to the World Bank and the International Finance Corporation’s annual Doing Business 2007 Report, out of 175 countries surveyed, Vietnam’s position in “ease of doing business” slipped six places from a ranking of 98 in 2005 to 104 in 2006. Vietnam’s fall in the survey is largely because of the complexity of starting a business in Vietnam. These challenges include: •

The numerous procedures and time necessary to begin operations

•

The cost of minimum capital requirements

•

Registering property

•

Attaining credit

•

Cross border trading

•

Contract enforcement

Vietnam’s neighbors in the region fared better: Malaysia ranked 25th, and China and Russia ranked 93rd and 96th respectively. Nevertheless, Vietnam ranked higher than some other emerging economies, including Brazil (121st) and India (134th). Foreign currency risks in Vietnam are considered much lower than in other countries in Asia, partly because the Vietnamese Dong has been stable over the past decade. It should be noted, however, that the Dong is not a freely-convertible currency, and the Vietnamese monetary system has restrictions in the foreign exchange system.

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ASEAN Free Trade Area and Common Effective Preferential Tariff Impact As a participant in the ASEAN Free Trade Area (AFTA) and Common Effective Preferential Tariff (CEPT) agreements, Vietnam could position itself as a hub for auto parts supply into ASEAN countries – if the country utilizes its competitive advantages. Vietnam joined ASEAN in 1995 and has participated in AFTA since 1996. In 1998, it became a member of Asia-Pacific Economic Cooperation and gained WTO membership in 2007. Table 11: Intra- and extra-ASEAN trade by commodity group, 2005 (in US $ millions) Commodity group Intra-ASEAN 2-digit HS Total code Description Exports Imports trade Vehicles, parts and accessories

87 Percentage

5,227 57%

4,006 43%

9,232

Extra-ASEAN Total Exports Imports trade

9,690 43%

12,819 57%

22,510

Total ASEAN Exports Imports

14,917 47%

16,825 53%

Total trade

31,742

Source: ASEAN Trade database

Within the ASEAN region, Thailand remains the leading exporter of auto parts to Japan, accounting for nearly half of all exports from ASEAN, followed by Indonesia and the Philippines, whose respective shares each account for almost a quarter of total exports. Vietnam currently provides 6 percent of the total auto parts exports from ASEAN to Japan. Most exported parts are produced by global Japanese parts suppliers that have established low-cost operations for the purpose of exporting back to Japan. Consequently, local Vietnamese suppliers or state-owned enterprises are not currently exporting auto parts to Japan. Table 12: Japan’s import from and export to ASEAN and China by commodity, 2005 (in US $ millions)

Type Import Export

Category Road Motor Vehicles excl. Cycles Road Motor Vehicles excl. Cycles

Trade balance Parts of Road Motor Vehicles Import excl. Cycles Parts of Road Motor Vehicles Export excl. Cycles Trade balance

Total

ASEAN

Brunei

Cambodia

Indonesia

Laos

Malaysia

Myanmar

Philippines

Singapore

Thailand

Vietnam

China

7,777.1

61.0

-

-

1.5

-

0.8

-

0.5

0.7

57.4

0.1

10.6

84,394.5

3,364.5

68.5

6.0

513.3

7.6

792.6

19.8

215.7

896.7

672.6

171.9

1,210.9

76,617.4

3,303.5

68.5

6.0

511.8

7.6

791.8

19.8

215.2

896.0

615.2

171.8

1,200.3

3,573.3

584.3

-

-

137.3

-

18.6

-

127.6

3.9

259.8

37.1

627.5

23,804.9 20,231.5

3,042.0 2,457.7

0.7 0.7

0.9 0.9

611.8 474.5

0.2 0.2

589.4 570.8

1.1 1.1

276.9 149.4

98.6 94.8

1,412.6 1,152.8

49.7 12.5

2,423.5 1,795.9

Source: ASEAN Trade database

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Figure 8: Japan auto parts import from ASEAN and China in 2005

ASEAN 584.3 US$ Million 48%

China 627.5 US$ Million 52%

Figure 9: Japan auto parts import from ASEAN countries in 2005 Vietnam 6%

Indonesia 23%

Laos 0% Malaysia 3% Myanmar 0%

Thailand 45%

Singapore 1%

Philippines 22%

In 2006, auto parts exports from Vietnam to the United States totaled approximately US $24 million, accounting for a mere 0.03 percent of all auto parts imported by the United States. Total ASEAN auto parts exports to the United States totaled US $2.264 billion, accounting for 2.4 percent of the total auto parts imported, while the Chinese Economic Area showed strong export growth with a market share of more than 9 percent and a total value of US $8.85 billion.

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Taxes Vietnam has high taxes on luxury goods, especially on automobiles, which make car prices in Vietnam higher than in many ASEAN and Asian countries. For most Vietnamese, cars are unaffordable, and, as stated previously, this has restricted the growth of a local automotive industry. At the same time, taxes applicable to the automotive and auto parts industry are designed to encourage exports and protect local production. This policy is supported by significant corporate tax incentives available to newly established companies, particularly to companies located in investment zones or operating in encouraged sectors. Automotive and auto parts are not included in the list of encouraged investment sectors, but investment projects in the automotive industry may be entitled to tax incentives based on other criteria. Encouraged investment projects are also entitled to import duty exemptions with regard to the import of fixed assets. Auto parts imported from ASEAN countries into Vietnam or exported from Vietnam to other ASEAN countries are subject to an import duty of up to 5 percent if they satisfy ASEAN content requirements. Import duty refunds are available for raw materials used for producing goods for export. An extension of import duty payment is also available to reduce working capital requirements. Beginning in 2007, import duties based on the CKD scheme have been completely removed. Import duties for disassembled parts will apply. Within seven years of accession to the WTO, import duties applicable to completely built units (CBUs) and parts will be reduced. Import duties on CBUs could be reduced up to 50 percent. Import duty rates applicable to CBUs have been reduced to 80 percent in 2007, and a 5 percent sales price reduction is expected. The quota for second-hand CBU imports will also be gradually removed. WTO valuation principles are now implemented, instead of the arbitrary minimum dutiable price system. Imported and locally produced CBUs will be subject to the same special sales tax treatment from 2007. Under the WTO, incentives based on export ratios may be removed. New incentives based on other criteria would apply.

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The two main positive impacts of Vietnam’s WTO membership on foreign direct investment are: • Duty reductions – Import duties are considerably reduced for goods used as inputs for domestic production as well as private and government consumption. In many cases, import tariff rates on inputs for producing exports and other goods such as machinery and equipment have been significantly reduced during the WTO negotiation process. Moreover, exporters are refunded import duties on inputs used for producing exports. •

Liberalization of the services market – Under WTO classification, provision of services will be divided into four modes:  . Cross-border (e.g., electronic money transfer services between countries) 2 . Abroad consumption (e.g., tourist services) 3 . Commercial presence (e.g., foreign direct investment in services in Vietnam) 4 . Movement of natural person (e.g., foreigners come and provide services in Vietnam)

Liberalization of the services sector, especially in modes 1 and 4, will affect investment flows to Vietnam. Initially, the services sub-sectors that were once closed or restricted from foreign investment (such as distribution, transport, telecommunication, finance, etc.), will be largely liberalized despite some limited conditions and a transitional period of three to five years. Vietnam is actually engaged in a multitude of trade covenants. Vietnam is a member of AFTA, the ASEAN-China Free Trade Association, the ASEAN-Korea Free Trade Association and is in the process of negotiating free trade agreements with Japan, India, Australia and New Zealand. Source: Vietnam: A Guide for Business and Investment, Ministry of Planning and Investment of Vietnam, Foreign Investment Agency - FIA

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Conclusion Opportunities for sourcing are available to global OEMs and suppliers in Vietnam, although it will require an investment of time and resources in order to identify and select the right partners and parts to be sourced. A thorough risk assessment will be needed in order to identify or develop Vietnamese suppliers that have the experience, quality, cost control and ability to integrate into complex global supply chains. While this may sound difficult for the tepid, for the intrepid Vietnam clearly offers medium term opportunities. State-owned enterprise and privately owned automobile manufacturers that plan to establish auto parts operations are potential partners and Vietnam’s membership of the World Trade Organization and other free trade associations should help to create additional opportunities for auto parts sourcing. Vietnam’s prospects of becoming a global destination for investment by the automotive industry will increase if several challenges facing the automotive industry can be addressed:

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•

Introduction of tax and regulatory policies that encourage the rapid growth of a domestic market for passenger cars would help grow automotive manufacturing, as seen elsewhere, most notably in China.

•

Continued investment in vehicle infrastructure, specifically road and parking construction, will help create an economy and environment more conducive to vehicle ownership.

•

Ideally Vietnam will continue to prepare itself to become a high value added parts destination, as part of an integrated plan to align Government policies in support of the promotion of hi-tech industries and to position Vietnam as a clear investment alternative to China.

•

Human resources are crucial to the development of the automotive industry. Rising labour cost for unskilled labour and the shortage of skilled engineers are key challenges which need to be addressed.

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Contacts

General Inquiries

Dinh Thi Quynh Van Partner

Harry Wisniewski Global Automotive Knowledge Management

PricewaterhouseCoopers Vietnam Ltd. Tel: + 84 4 825 1215 Email: [email protected]

Tel: + 1 313 394 6366 Email: [email protected]

Oranuch Tritrungtusana Mekong Automotive

PricewaterhouseCoopers Thailand Tel: +66-2-344-1000 Email: [email protected]

Stephen D’Arcy Global Automotive Leader Tel: +1 313 394 6755 Email: [email protected]

Wilson Liu Asia Automotive Leader Tel: +86 10 6505 9738 Email: [email protected]

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