Automotive Sector: China's Electric Ambitions 1

Briefing note November 2011

Automotive Sector: China's Electric Ambitions A summary of key policies, insights, challenges and opportunities regarding China's burgeoning and intent to successfully introduce electric vehicles into the world's largest consumer market and beyond.

Overview 2001 – 2010: A Decade of China's home-grown car Rapid Automotive Key issues manufacturers are racing to be Industry Expansion among the first to bring all-electric „ Overview China's annual automobile production cars to market. Most major Chinese „ 2001 – 2010: A Decade of capacity first exceeded one million car manufacturers are in various Rapid Automotive Industry vehicle units in 1992. By 2000, China stages of researching and launching Expansion was producing more than two million hybrid, plug-in hybrid and fully electric „ China's Inherent Automotive vehicles, including , Warren gasoline-powered vehicles per year. After China's entry into the World Sector Advantages and Buffet-backed BYD, Beijing Cultural Factors Automotive Group Co., Ltd (BAIC), Trade Organization (WTO) in 2001, „ The Policy Aspects: Electric Brilliance Auto, Shanghai Automotive the development of the domestic Vehicles and the Chinese Industry Corporation (SAIC) and gas-powered automobile market Automotive Industry Plan . Mainland car manufacturers further accelerated. Between 2002 are developing their 'green' product and 2007, China's national „ The Legal Aspects: The pipelines in order to capitalise on automobile market grew by an Current Climate for Foreign generous government purchase average 21 percent, or one million Investment in China's EV subsidies and get ahead of the vehicles, year-on-year. Industry demand curve in what most analysts In 2009, approximately 13.7 million „ Challenges to China's electric expect will be one of the world's motor vehicles were manufactured in ambitions remain largest markets for alternative-energy China, ensuring that China surpassed „ Foreign Investors' Actions So cars. It is expected that China’s Japan as the largest automobile Far annual production of manufacturer in the world. Over 10 alternative-energy automobiles, million of the vehicles produced in including electric vehicles, hybrid China were passenger cars (sedans, energy vehicles, hydrogen fuel cell sport utility vehicles), multi-purpose If you would like to know more about the vehicles and solar vehicles, will vehicles and crossovers, and 3.4 subjects covered in this publication or increase to 15 million units by 2020. million were commercial vehicles our services, please contact: Despite shared challenges, (buses, trucks, and tractors). Kelly Gregory +86 21 2320 7234 opportunities for foreign direct Gasoline consumption by motor To email one of the above, please use investment in China's automotive vehicle accounts for about one-third [email protected] sector are still substantial and of China’s total oil demand. compelling. Clifford Chance, 40th Floor, Bund Since September 2011, China has Centre, 222 Yan An East Road, been the largest automotive market in Shanghai 200002, China the world. Chinese car manufacturers www.cliffordchance.com and brands such as BYD (Build Your

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Dreams), Chery, Geely, , Consumer car buyers in China are financial subsidies and offering Jianghuai (JAC), Chang'an, Great less accustomed to a tradition of other favourable policies such as Wall, and currently produce individual car ownership, consumer government procurement, the approximately 44% of the vehicles in protection and the power of promotion of pilot projects and the China market. The remaining 56% gasoline-fuelled cars. Most the development of a are produced and branded via joint commutes in China's cities are slow 'rapid-charge' infrastructure. The venture (JV) arrangements with because of consistent traffic Plan sets a goal to have an foreign car manufacturers such as congestion and a backlog of annual production capacity of , General Motors, infrastructure projects. Long distance 500,000 hybrid or wholly EVs, Hyundai, , and . personal travel is comparatively rare which would be 5% of the total and most people use their cars to sales volume of passenger cars, In an effort to raise the international make short city trips - vehicles with a by 2011. competitiveness of the Chinese 100- or 200-kilometre driving range automobile industry, the Chinese „ Subsidies in Public Service would not be viewed as limiting. government has encouraged Sector - In January 2009, as part domestic car companies to For these reasons, many consider of the Plan then to be rolled out, consolidate, combining the 14 largest China to be in the pole position for the Chinese Ministry of Finance, car manufacturers into 10 and advancing and incorporating together with the Ministry of weaning them off their dependence alternative fuel and power Science and Technology, on government subsidies and JVs technologies for mass market, announced a pilot programme to with foreign companies and brands. consumer car application. promote alternative energy Chinese car manufacturers have vehicles (including hybrids, responded with gusto by pursuing full, The Policy Aspects: wholly and fuel high-profile acquisitions of several Electric Vehicles and the cells) to be used in the public service areas (such as those foreign automotive brands and Chinese Automotive divisions. For example, in March used in public transportation, 2010, a consortium led by Geely Industry Plan postal services, the taxi industry, public affairs and environmental acquired Sweden’s Volvo from Ford Chinese automotive industry leaders hygiene) in 13 major cities: Motor Company. and Chinese policy makers have Beijing, Shanghai, Chongqing, recognised the opportunity and are Changchun, Dalian, Hangzhou, China's Inherent actively pursuing a vision of China's Jinan, Wuhan, Shenzhen, Hefei, Automotive Sector success within the Electric Vehicle Changsha, Kunming and (EV) category amid growing Advantages and Cultural Nanchang, and this has been consumer income and demand, and further expanded in 2010 to Factors concerns about environmental impact include Tianjin, Haikou, Many analysts attribute the rapid rise and climate change, low cost labour Zhengzhou, Xiamen, Suzhou, of China's automotive industry to the sustainability and dependence on Tangshan and Guangzhou. country's abundant low-cost foreign oil imports. Under this programme, the manufacturing and labour resources, „ Target Production Capacity - In central government would consistent governmental incentives March 2009, the State Council, provide one-time subsidies of up (e.g. subsidies) and favourable China’s cabinet, released the to US$9,000/RMB60,000 to domestic business investment Automotive Readjustment and public service sector purchasers policies, and not least, its strategic Revitalization Plan (the Plan) to of wholly EVs and other and commercial emphasis on actively promote the alternative energy vehicle types. engagement and assimilation of development of the Chinese The amount of the subsidy would imported automotive technologies via automotive industry in general, be based on a vehicle's foreign direct investment. inclusive of hybrid, alternative fuel-saving capabilities. Several social factors are also fuel and wholly electric vehicle contributing to China's position. technologies, by providing

Automotive Sector: China's Electric Ambitions 3

„ Subsidies to Private Buyers – end of 2015, China would exception to the 50% foreign In May 2010, taking the subsidy become a leading power in the shareholding restriction and may programme one step further, the energy saving and new energy be a signal that the Chinese Ministry of Finance, the Ministry vehicle industry, with its market regulator might ease the foreign of Science and Technology, the size being one of the largest in shareholding restriction, in Ministry of Industry and the world. particular, for investments in Information Technology (MIIT) The Legal Aspects: The privately-owned car and the National Development manufacturers in China. and Reform Commission (NDRC) Current Climate for „ Restriction on Number of JVs: announced a pilot programme to Foreign Investment in In China, one foreign investor provide subsidies to private China's EV Industry may only establish two JVs that customers/consumers in five engage in manufacturing the cities (including Shanghai, Foreign investors and multi-national same vehicle type (e.g., Changchun, Shenzhen, businesses with global interests and passenger cars, commercial Hangzhou and Hefei) of plug-in active involvement or operations in vehicles or motorcycles). It is hybrid and wholly EVs from 2010 China's automotive sector share worth noting that this 'two JVs' to 2012. The subsidies provided similar challenges and concerns. The restriction does not apply to for a plug-in hybrid are up to role that foreign technologies and acquisitions carried out by a US$7,500/RMB50,000 and the partnerships play in China has foreign investor together with its subsidies provided to wholly EVs changed as policies have shifted to Chinese partner. Taking are up to US$9,000/RMB60,000. encourage domestic Chinese car advantage of such an exception, Some local governments have manufacturers, and manage General Motors (GM) has also issued or indicated that they competitive foreign partners and invested in several JVs together have issued local subsidy investors carefully while maintaining with its Chinese partner programmes for private access to new foreign technologies. Shanghai Automotive Industry customers/consumers. „ Foreign Shareholding Corp (SAIC). They include a JV Manufacturers typically pass on Restriction: The shareholding of in Shanghai (SGM) where GM these subsidies to consumers. a foreign investor in a company holds 49% and SAIC holds 51%; „ Further Development Plan, Yet engaged in car manufacturing a JV in Guangxi where GM holds to Come - As recently disclosed business in China is still 34%, SAIC holds 50.1% and a by the China Association of restricted to no more than 50%, third shareholder Wuling holds Automobile Manufacturers although there has been debate 15.9%; a JV in Yantai where GM (CAAM), the draft of the on the lifting of such restrictions. holds 25%, SAIC holds 50% and Development Plan for At the moment, the 50% rule may SGM holds 25%; and a JV in Energy-Saving and New Energy be exempted with special Shenyang which has the same Vehicles (2011-2020) (the approval from the relevant shareholding structure as the Development Plan) has been authorities on a case-by-case Yantai JV. completed and submitted to the basis. For instance, it is reported „ Central Approval Required: State Council for examination that ZAP (a 15-year-old The establishment of a car and approval. The Development California-based EV company) manufacturing JV is subject to Plan is expected to be announced in January 2011 that verification by the NDRC at the promulgated and implemented it has completed the acquisition central level. Compared with the soon. It is reported that under of 51% of Zhejiang Jonway local level approval process, the Development Plan, the Automobile Co. Ltd. (a verification by central NDRC is developing goal for the period of 20-year-old Chinese vehicle generally more complicated, 2011 to 2015 will focus on manufacturer) as part of a time-consuming, imposes stricter developing the energy-saving strategy to capitalize on the requirements regarding and new energy vehicle industry growing automotive and EV application documents and in China. The aim is that by the market in China. It is an involves more uncertainty.

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„ Anti-Trust: China's new antitrust value of the technology are hybrid passenger cars, lead-acid and competition regime has conducted by asset evaluation battery-powered wholly electric imposed stringent compliance institutions which are usually passenger cars and wholly requirements on foreign car specialised in the evaluation of electric commercial vehicles. manufacturers who seek to grow tangible assets (rather than Other types of new energy in China via traditional M&A intangible assets and technology), vehicles (such as lithium-ion procedures. A foreign investor in the absence of generally power battery, zinc-air battery, and its Chinese partner of a agreed or stipulated super capacitor, proposed Chinese car methodologies or criteria for hydraulic/pneumatic energy manufacturing JV project may evaluating technology, and storage based hybrids or wholly satisfy the turnover thresholds valuation of technology is EVs, fuel cell-based vehicles, that trigger a merger control therefore usually subject to the hydrogen engine cars and DME notification to the Ministry of personal judgment of the vehicles) are classified in the Commerce (MOFCOM). The appraiser. Licences and Initial Stage or Development merger control process increases transfers of technology may be Stage. Vehicles categorized in time, transaction costs and subject to the PRC Technology the Initial Stage and uncertainties of an M&A Import and Export Regulations Development Stage are subject transaction. MOFCOM must (Regulations) which require such to more stringent restrictions in approve the M&A transaction licences and transfers to be terms of market entry approvals, before it can be completed, which registered or approved. Further, sales areas, sales conditions and it can do subject to conditions. In any agreement relating to after-sale supervision September 2009, for example, improvements and modifications requirements. As of October MOFCOM imposed a number of to the technology licensed may 2011, no revisions have been conditions on General Motors in be subject to the technology made to such stage classification connection with its acquisition of export requirements. Care and therefore such stage parts of Delphi Corp. The should be taken that these classification still applies. obligations related to the supply Regulations are complied with to „ Qualifications for Government of products to domestic car ensure the enforceability of the Subsidies: EVs which qualify for manufacturers under reasonable, agreements. Brand, intellectual China's generous government non-discriminatory terms, property and technology subsidies include those models including on a timely basis and protections are weakly enforced and brands that have been for a price and quality consistent in China and are a common awarded production licences with market practice, as well as source of costly, lengthy disputes from the government and are certain non-disclosure obligations. which can make capital assembled in China, irrespective „ Intellectual Property: Foreign contributions of technology of whether they are investors may make capital challenging for foreign investors. manufactured by a domestic contributions to JVs in the form of „ Stage Classification: China has player or a JV. However, a licence to use or an assignment classified the development of imported EVs are not included in of technology, subject to the new energy vehicles into three the subsidy program to date, practice of the relevant approval stages: Initial Stage, which gives an advantage to the authorities. In reality, the Development Stage and Mature 'home-grown' EVs. In addition to approval authorities have the Stage, mainly based on the type the other criteria, only vehicles discretion to examine and of energy storage devices. Until specified in the Catalogue of determine the type of technology 31 December 2010, the Recommended Vehicle Types of capital contributions and it is technologies which are classified Energy Saving and New Energy possible that the practice may in the Mature Stage only include Vehicle Demonstration and vary in different regions and nickel-metal hydride Development Application levels of the government. In battery-based hybrid passenger Projects (the Catalogue) are most cases, appraisals on the cars, lead-acid battery-powered eligible to enjoy the subsidies in

Automotive Sector: China's Electric Ambitions 5

the public service sector and issues. A rash of exploding manufacturers, battery makers subsidies to private customers as counterfeit LI batteries in mobile and manufacturers of recharging discussed above. The Catalogue phones sold in China have points, as well as a US$15 billion appears as a section in the garnered top headlines in the investment plan involving energy Announcement of Car past. saving powertrain components Manufacturers and Products „ Lack of electric infrastructure and and recharging infrastructure. currently published and availability is also an issue. More There are doubts, however, as to maintained by MIIT. Only those Chinese citizens live in whether the alliance will be used vehicles in the Announcement of apartments than in private homes, to give less innovative Car Manufacturers and Products making it very difficult to set up state-owned car manufacturers may be manufactured and sold in vehicle recharging stations or an unfair advantage over the China as well as registered by facilities. It has been reported more innovative, mainly customers. The certification of a that the China Southern Power privately-owned car vehicle to be listed in the Grid Corporation is accelerating manufacturers. Announcement of Car plans to build EV charging Foreign Investors' Actions Manufacturers and Products stations, and that it will cooperate normally takes more than three with other Chinese energy So Far months. industry players to create a broad Car manufacturers have shown Challenges to China's network of EV recharging enthusiasm for developing new stations and carry out large-scale energy vehicles. At the 2010 Beijing electric ambitions remain research on power grid control Motor Show, more than 20 EVs were While government priorities and technologies. on display, most of which came from cultural factors have set the stage for „ Size-to-size gasoline-powered domestic Chinese car manufacturers. China's EV revolution, significant cars provide greater distance At least 10 all-electric models have challenges remain as China pursues range, higher top speeds and been reported to be on track for leadership in the EV category and better reliability records than EVs. volume-production. increasingly independent As China's cities grow and the Despite shared challenges, development of a mature domestic government continues to opportunities for foreign direct automotive sector in line with global prioritize westward expansion investment and growth in China's standards. and investment, the pressure for automotive sector are still substantial „ The purchase price of EVs is still better EV performance and and compelling: comparatively high globally and technical sophistication may „ In 2008, prominent investor, also in China because of the high increase rapidly. Warren Buffet's US investment research and development costs „ There have been a significant firm Berkshire Hathaway, bought involved in their production. As number of notable automotive a 10% stake in Chinese car China seeks to develop models industry trade disputes between manufacturer BYD. and markets independently of China and other nations ranging foreign car manufacturers, its from the implementation of „ In April 2009, SAIC announced domestic producers will have to obligations that were made when that it would produce gas-engine assume a large R&D burden that China joined the WTO, China’s hybrid cars using battery has historically been avoided via exchange rate policy, trade law technology and parts from two formal partnerships and enforcement (e.g. Chinese tyre US-based manufacturers, A123 technology transfers from foreign industry, automotive parts), and Systems and Delphi. players. possibly unfair subsidies to „ In April 2009, Nissan „ Lithium-ion (LI) batteries, which Chinese industrial manufacturers. announced a partnership with are a core component of most EV „ The Chinese central government China's MIIT to promote EVs and designs to date, also bring a has announced in summer 2010 to create a battery-charging hefty price tag, as well as the formation of a 16-strong network. safety/quality and counterfeiting alliance among state-owned car

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„ In September 2009, Goldman growing automotive and EV Daimler New Technology Co. Sachs entered into a subscription market in China. In January Ltd.', a 50:50 research and agreement with Geely, pursuant 2011, this acquisition was technology centre to develop EVs to which it would invest completed. in China. approximately US$330 million in „ In November 2010, Siemens „ In April 2011, JAC Motors convertible bonds and warrants announced that it is close to announced that it will enter into a in Geely. In this way, Geely also signing a contract to supply a strategic cooperation with effectively gained a level of Chinese city with electric vehicle Foxconn to develop new energy global industry credibility through charging infrastructure, and has vehicles and R&D on automotive association with one of Wall been talking with Chinese utility electronic systems from April Street’s most successful companies and cities including 2011 to April 2013. investment firms. Shanghai, Guangzhou and Foreign investors' battle in the world's „ In July 2010, ZAP signed Chongqing about providing largest consumer market has already definitive agreements to acquire charging infrastructure. begun. 51% of Zhejiang Jonway „ In March 2011, BYD and Daimler Automobile Co. Ltd. as part of a AG established 'Shenzhen BYD strategy to capitalize on the

For additional insight on the legal climate for foreign direct investment into the automotive sector in China, please contact Kelly Gregory, Corporate Partner at Clifford Chance LLP Shanghai, at [email protected] or dial +86 21 2320 7234.

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