German profits to peak in China, as demand extends to small luxury cars

China has been like a license to print profits for the German luxury car manufacturers, but 2013 looks likely to be the peak year for this easy money, according to a report from investment bank Morgan Stanley.

Before you get out the sympathy cards, China will still provide more than a third of global profits for Audi, BMW and Mercedes by 2015, rather than the current average of just over 40 per cent.

The market is changing too. Where new Chinese millionaires were eager to buy top-of-the-range Audi A8s, BMW 7 series and Mercedes S class limousines, imported from Germany and with fat profit margins, the next generation of middle-class buyers will want smaller cars. Many of these will be made in China, and expect the little Audi A3, BMW 1 series and Mercedes A and B class cars to lead the way.

“Profit contribution (to BMW, Audi and Mercedes) from China will peak in 2013. We think strong volume growth of between 15 and 20 per cent per year will not be enough to keep China profits growing,” Morgan Stanley said.

The report said most of the volume growth will come from smaller cars with much lower profit margins, with a 10 per cent annual decline in average profit per vehicle.

“We also believe that profit contribution to the respective (German) auto divisions will peak in 2013 at 40 to 43 per cent, declining towards around 35 per cent by 2015,” the report said.

“An increasing share of local production means more profits will have to be shared with the Chinese joint venture partners,” it said.

China became the world’s biggest car market in 2009, when sales reached 13.6 million, according to Chinese data, taking over from the U.S.

According to Morgan Stanley, as China’s economy develops and average incomes rise, so will demand for luxurious, German small cars.

“Growth in average income should bring more drivers into the entry-premium segment. We believe a large number of young professionals exist, having the income but perhaps not the cash to buy German premium brands. As penetration of auto loans increases, we think so will sales of entry-premium cars,” the report said.