Why the Dongfeng-FAW Merger Is Likely to Fail

Rumors are buzzing around China’s auto industry regarding a proposed merger of FAW Group Corp. and Dongfeng Motor Corp., two of the country’s top state-owned automakers.

The speculations are further strengthened with the central government's recent efforts to consolidate state-owned companies. In December, CSR Corp. and China CNR, China's largest train manufacturers, agreed to a $26-billion merger in a bid to compete more effectively with their foreign rivals.

Recent management shuffling at FAW and Dongfeng have also fanned the flames. Former FAW president Zhu Yanfeng is now chairman of Dongfeng, while Dongfeng's old chief, Xu Ping, is set to take the chairmanship at FAW.

Currently, there is no solid evidence suggesting a merger to happen anytime soon. But even if such a deal happens, its effect on China's passenger vehicle market would be minimal.

While Dongfeng and FAW are undoubtedly leading producers of commercial trucks in China, they are not as dominant in the country's passenger vehicle sector.

And while it is true that Dongfeng and FAW are ranked as the country's second and third largest domestic automakers by the China Association of Automobile Manufacturers, such standings do not consider the fact that their vehicle sales are inflated by their joint ventures with foreign companies.

In the past year alone, Dongfeng's ventures with Nissan, PSA Peugeot Citroen, Kia and Honda led to sales of around 2.6 million vehicles. In comparison, sales from Dongfeng's own brands barely reached 440,000.

Likewise, FAW's partnerships with Mazda, Toyota and Volkswagen recorded sales of 2.5 million vehicles. Yet FAW's own lineup generated sales of only 288,000, according to LMC Automotive.

"FAW and Dongfeng are experienced truck makers, but they are young and inexperienced players in the car market," said Yang Jian of Auto News China. "Their passenger vehicles are built on old platforms derived from their foreign joint venture partners."

"Lacking the ability to improve their technology, neither FAW nor Dongfeng generates any profits from passenger vehicles," he added. "Will a merger help them improve those operations? Not likely."

Previous tie-ups between state-owned automakers have also been less than successful. In 2002, FAW acquired small car manufacturer Tianjin Xiali Automobile Co., but instead of reviving the Xiali brand, the acquisition led to losses of up to 1.7 billion.

More recently, Changan Automobile Group acquired Hafei Automotive Industry Group Co., which makes small cars and microvans, in 2010. The deal fell apart, leading to chronic losses for Hafei and the company's eventual shutdown of production in 2014.

So what are the prospects for China's state-owned car manufacturers? Basically, every global brand has set up shop in China, and they are all scrambling to corner the world's biggest auto market. And to compete in such a highly competitive environment, efficiency is the key.

But state-owned Chinese automakers remain inefficient because they listen more to the government and not what the average Chinese consumer wants. In most cases, a merger between two state-owned automakers will only make them bulkier.

So far, none of the mergers between state-owned car companies have become successful. And it's hard to believe that a merger between FAW and Dongfeng will do any better.