Revving up: Bringing the automotive value chain home

Of all the industries currently being prioritised by the Saudi government, perhaps the most eye-catching is automotive manufacturing. Over the next couple of decades, the government is looking to create – almost from scratch – an industry that encompasses cars, trucks and buses. By as early as 2025, the hope is that 600,000 fully assembled vehicles will be produced every year in the Kingdom. Although still incredible to some, the idea has started to produce concrete results. In the eastern city of Dammam, Japan’s Isuzu Motors has since 2011 been developing a facility which came on-line at the end of 2012. It is to assemble a modest 600 midsize trucks for the domestic market in the first fiscal year, but from 2013 the plan is to increase output to 1500, start producing heavier trucks and also begin exporting to other Gulf nations. Eventually, the firm hopes to reach an annual production rate of 25,000.

The Isuzu venture is actually not the first truck-assembly operation in Saudi Arabia: there are three truck assembly plants operating in Jeddah currently, one of which is a joint venture with Volvo Trucks that has been in operation for more than 30 years. As original equipment manufacturers (OEMs) watch the Isuzu venture, India’s Tata Motors revealed in September 2012 that construction of the world’s largest aluminium-processing complex in Saudi Arabia could make the Kingdom a competitive place for producing the Tata-owned Jaguar Land Rover, which relies heavily on aluminium. However, a decision was yet to be made at press time.

Materials

Aluminium is in fact one of several cheap and locally available raw materials with which the government hopes to woo automotive manufacturers. As part of an integrated aluminium complex under development by Ma’aden and Alcoa, a new smelter is to begin producing automotive-grade sheets by the end of 2014, creating new opportunities in automotive casting and stamping. The country is already home to the Gulf’s largest steel and petrochemicals industries, both of which are undergoing massive expansions in capacity and variety of output. Undoubtedly there is still a long way to go. “It is true that many of the inputs used in this industry are not yet locally available, but several very promising new projects are starting to change this,” Didier J Vigouroux, vice-president of automotive for the Industrial Clusters Programme (IC), told OBG. The IC aims to diversify the industrial sector by retaining a greater portion of the value chains of various industries in the country. For example, a joint venture of the Saudi Arabian Basic Industries Corporation (SABIC) and ExxonMobil will build a synthetic rubber plant by 2015, allowing for local tyre production.

A string of further facilities is likely to emerge in the next few years which could strengthen the base on which an automotive sector could grow. A SABIC-Mitsubishi facility is due to begin producing the durable polymer known as polymethylmethacrylate in 2013, the same year in which a new facility at Ras Al Khair is to start making automotive-grade aluminium sheets. And the following year, Petrokemya’s acrylonitrile butadiene styrene (ABS) plant should come on-line.

Components

The government is not only interested in getting large OEMs to set up shop in the country. As part of the IC, the nascent automotive cluster is working to promote all links in the automotive supply chain. As things stand, many of the components required in the industry are not yet locally manufactured.

“As the volume of locally made cars continues to increase, eventually it will become attractive for smaller Saudi Arabian companies to begin manufacturing tier-two and tier-three goods, such as subsystems, components and standard parts,” said Vigouroux.

However, getting these downstream manufacturing operations up and running could be challenging. OEM’s face a number of challenges when establishing operations in a new market and it is often essential for an existing components industry to be in place already. Likewise, components manufacturers are often reluctant to take the plunge in a new market which has limited demand from OEMs. The top-down or the bottom-up approaches will not work by themselves in Saudi Arabia, analysts said. Some industrialists remain doubtful about the potential for a competitive components-manufacturing industry in the Kingdom, pointing out that the market is not large enough to warrant the local supply of more sophisticated subsystems, such as air conditioning units. “We are not necessarily going to be able to cover everything, but I do not think that complete coverage will be necessary to get international OEMs into the country,” Vigouroux told OBG.

Research & Development

One of the automotive cluster’s more ambitious goals is to promote the development of an automotive research and development (R&D) industry. Beyond engineering support for local production, true R&D is a much more sophisticated and typically takes longer to emerge. However, in this regard Saudi Arabia is making some interesting forays. At King Saud University in Riyadh, a sport-utility vehicle called the Ghazal, which has been described as a potential competitor to Toyota’s Highlander, has attracted interest from Saudi investors, as well as South Korea’s Digm Automotive Technology.

Launched at the end of 2011, this $500m project could produce a locally designed car which the university estimates would cost between SR35,000 ($9340) and SR45,000 ($12,000). The Ghazal is in fact not the first such project: in late 2010, a saloon car designed in association with the King Abdulaziz City for Science and Technology was put on display at the Riyadh Motor Show. Many believe, however, that while this sort of project is a useful exercise for the Saudi students who could become leaders in a potential domestic automotive industry, the typical Saudi consumer is unlikely to relinquish renowned international brands for a homegrown novelty. “It is feasible, but it is a bit ambitious,” one automotive analyst told Bloomberg.

Market Incentives

The current bullishness of car dealers in Saudi Arabia and throughout the Gulf could help swing an OEM in favour of setting up shop locally. A report released in June 2012 by the National Commercial Bank estimated that vehicle sales are likely to increase from 688,000 in 2011 – or 606,000, according to the estimate of the industrial consultant, IHS Automotive – to 884,000 by 2015. “The economics of the car industry dictate that any country selling over 100,000 units per year can justify having domestic vehicle assembly plants,” Fayyaz Sarwar Mirza, COO of auto retailer Yousuf M. A. Naghi & Sons Group, told OBG.

A manufacturer based in Saudi Arabia could export to the entire Gulf region – a market that currently imports 1.2m cars every year. Other high-growth markets, such as India, could also be reached, while air transport may allow higher-value car parts to be shipped to a potential market of 2bn customers worldwide. With well-established retail markets in Europe flagging – car sales dropped to a 22-year low in the first eight months of 2012 – along with a shift of high sales volumes to the world’s developing countries, international OEMs will think carefully about their options in the emerging regions. The potential for an untapped Saudi Arabian market for car buyers – women – is also attractive. There is little indication that the government is about to change the law forbidding women from driving, but many believe this will happen sooner or later.

“It is not as simple as saying that women drivers would double up car numbers, as many women today rely on chauffeured cars. Still, a legal change would significantly boost car sales,” said Vigouroux, adding that after such a decision, he expects women to be granted licences in groups, not all at once.

Market Challenges

In spite of all these factors, some think that the Saudi and Gulf markets may not be big enough. While the Kingdom is expected to sell more than 800,000 vehicles in 2015, sales do not approach those of leading global markets. Even after excluding heavier vehicles, Scotiabank estimates that for the year 2012 almost 11m cars will be sold in China and more than 2m in India.

There are other challenges besides. The likes of Turkey and Egypt already have well-established OEM sectors, with which Saudi exporters would be in direct competition. Indeed, Saudi manufacturers looking to sell even in the local market may have difficulty due to the liberal tariff policy that allows foreign-made cars to be imported with ease. Additionally, international obligations could create further obstacles. Often, in emerging OEM sectors in the developing world, the country is able to promote the nascent industry by means of protectionist tariffs. Saudi Arabia, as a member of the World Trade Organisation, does not have this option.

For all the difficulties, recent plans and expressions of interest from international OEMs suggest that an automotive industry could take off. The government’s considerable financial resources, coupled with the industry expertise of those supporting the development of an automotive cluster, is significant. “We are working on the possibility of creating a dedicated automotive zone, which would involve the sharing of upstream processes, non-core services and costs between major OEMs, thereby lightening their capital expenditure,” Vigouroux told OBG. These kinds of incentives could well persuade other players to enter the market.