Indonesia: Diversifying auto production

Indonesia’s automakers are investing heavily in increasing and diversifying production to keep pace with rising demand in what is now South-east Asia’s largest vehicle market.

Last year, Indonesia overtook Thailand to achieve the highest vehicle sales among ASEAN member states. More than 894,000 units were sold, according to Jongkie Sugiarto, the first deputy chairman of the Association of Indonesian Motor Vehicles Industry (Gaikindo). The medium-term outlook for the industry is excellent – sales are forecast to reach 1.2m units in 2016, according to IHS Automotive, an analysis and consulting company focusing on the sector.

There are several reasons for the bullishness expressed by many in the industry. Though Indonesia is the fourth-most-populous country in the world, vehicle ownership levels are currently low, at only 32 per 1000 people, compared to 123 in Thailand and 300 in Malaysia, according to HIS Automotive.

This gives a lot of scope for continued increases in sales, particularly given economic growth, which topped 6% in 2011 and looks set to do so again in 2012. Rising average income levels are creating a burgeoning middle class who aspire to car ownership, and increasingly are able to achieve it, while the development of the industrial and mining sectors is stimulating demand for commercial vehicles. Interest rates and inflation, currently historically low and stable, are further strengthening the environment.

It is no surprise, then, that carmakers are looking to increase their output in Indonesia, with incumbents and newcomers committing large sums to vehicle plants. The competitive advantages they can leverage include not just the large and growing domestic market, but relatively low labour and overhead costs, regulations favouring investors and local producers, and an expanding base of suppliers.

In September Japanese automaker Toyota, which with its affiliate Daihatsu has a market share of around 65%, announced it would be investing $143m to boost its manufacturing capacity in Indonesia by more than 60% to meet growing demand. The construction of a new plant at Karawang will raise the company’s output to 180,000 vehicles from the current level of 110,000, and is due to be completed by mid-2013.

According to Johny Darmawan, the vice president of Toyota Motor Manufacturing Indonesia (TMMI), the company’s local subsidiary, Toyota has been struggling to keep up with demand, despite substantial existing production capacity at its Karawang factory and production agreements with the Indonesian branch of Daihatsu.

Toyota is certainly not the only automaker looking to capitalise on the growth of the Indonesian market and the country’s competitive advantages as a manufacturing centre. In early January, Japanese rival Suzuki announced it would be investing $769.86m in capacity increases in Indonesia. Of this, some $513.42m will be allocated to build a new engine plant, tripling the firm’s production of engines in the country to 150,000 per year. The new factory, located east of Jakarta, should open in 2014.

The remaining $256.62m will be invested in existing car assembly lines to increase annual output capacity to 120,000 per year, from around 80,000 at present, with the view to raising production to 150,000 over the longer term if required. Though Japanese-owned firms dominate the Indonesian market, accounting for around 90% of vehicle sales, other international rivals are increasing their presence in the country, both in manufacturing and sales.

In August 2011, for example, US-based General Motors (GM), the world’s largest automotive firm, announced it would be investing $150m in reactivating its plant at Bekasi in West Java, which it had shut down in 2005. The factory is expected to be up and running again in 2013, with an initial annual output of up to 40,000 Chevrolet minivans. India’s Tata has also said that it is looking into establishing a factory in Indonesia, and Chinese outfit Zhejiang Geely has said that it will continue investing in the country.

BMW, meanwhile, announced last May that it is also set to double its production capacity by investing some Rp100bn ($11.15m), as well as increase the number of vehicle models it produces locally. In October 2011, the car manufacturer’s Gaya Motor plant, located north of Jakarta, began production of the X1 model, and the following month, work began on the 5 Series model. And Mercedes-Benz Indonesia recently announced it would roll out six new car models this year to keep up in the premium car segment.

One of the most important factors in the development of a country’s automotive industry is a strong supply chain. Vehicle makers like to locate factories near component suppliers where possible – which can be a chicken-and-egg issue for countries new to automotive production, as component makers also prefer to be close to their customers. Indonesia has reached the stage at which a positive multiplier seems to be developing, with a substantial base of local suppliers making the country an even more attractive place to manufacture, and thus complete-unit manufacturers are now expanding production, stimulating the further growth of the components industry.

This process should help the development of extra value in the Indonesian automotive industry, which has historically been slanted towards final assembly of units from components or kits imported from abroad, rather than a complete supply chain.

While the pace of vehicle sales growth is showing signs of slowing, this is to be expected as penetration increases and the market matures. The uncertain global economy and tighter regulation of vehicle loans means that growth may cool somewhat in 2012. But Indonesia remains a huge market with an excellent long-term sales outlook. Combined with the advantages of local production, Indonesia’s automotive sector is flourishing, and may be entering an exciting new era.