Within its borders, Brazil enjoys an abundance of natural resources. It has more arable land than any other country, and accounts for almost 14% of the world‟s total reserves of drinking water. This profusion of water also offers plentiful hydro-electric power. Proven oil and gas reserves are also growing. Brazil has been self-sufficient in oil since 2006, and new offshore discoveries hold out the prospect of substantial future exports.

Brazil also ranks No 5 in the world for size of population, with around 190 million citizens. This figure places it some way behind China and India but comfortably ahead of Russia, the fourth member of the BRIC grouping. Whilst there is still considerable poverty in Brazil, the 30 million people moving upwards into socio-economic classes A, B and C is a firm indicator of increasing wealth and spending power. Conveniently, from a business perspective, 75% of that purchasing power is concentrated in the south and south-eastern states.

Sadly, Brazilian bureaucracy can seem to match the country‟s natural features, in both size and diversity. This presents considerable challenges to business. One multi-national vehicle maker reported that they had a team of 33 staff employing on tax issues in Brazil, whilst in their European head office the same work was handled by just three people ! Overall, the tax burden in Brazil is reckoned to equate to 38% of GDP. International trade is also hampered by historically high import duties and slow customs clearance procedures. Brazil ranked a lowly 87th in a recent World Economic Forum listing of “countries most open for trade” and her share of world exports/imports lags behind that of other BRIC countries.

In the automotive sector, Brazil also offers scale and variety. Its vehicle parc is the tenth largest in the world, and contains a diverse range of vehicles of American, European and Japanese parentage, to which interesting local variants have been added. Currently, China and Brazil are the two brightest lights in the global auto industry.

Meanwhile, of course, Brazil is still the world‟s top coffee producer – over 40 million bags in 2008 !

THE IMPORTANCE OF BRAZIL’S AUTOMOTIVE SECTOR

Curiously, the automotive sector does not appear among the Brazilian government‟s six key industries, through which it is planned to drive exports and economic growth. Foreign ownership of the major manufacturers may be the reason why it is rated behind the aviation, meat, metal-working, mining, paper/pulp and petroleum industries in government priorities. Nevertheless, the sector accounts for almost one quarter of the country‟s manufacturing GDP, and is a substantial source of both foreign investment and local employment.

Internationally, Brazil already enjoys a prominent position in the global league tables. In 2008, total vehicle production reached 3.22 million, making Brazil the sixth largest producer in the world. It is by far the largest automaker in the Southern Hemisphere. Despite the general economic malaise, and a sharp downturn in vehicle sales in many international markets, Brazilian production fell by only 1% in 2009. This is a testament to the strength of the domestic market which grew by 11.4% to 3.14 million, enabling the local industry to weather a collapse in export sales. Overseas shipments, as reported for the first nine months of 2009, dropped by 43% percent, with the truck sector particularly badly effected.

The resilience of Brazil‟s domestic auto market has certainly attracted global attention, but it has also posed some new challenges. The local component sector seems to be struggling to match current levels of demand. In 2008, Brazil became a nett importer of automotive components for the first time in five years. Vehicle development programmes for the Brazilian market also face the conundrum of matching engineering solutions to local tastes and cost expectations.

6 ABOUT THIS REPORT

Recognising the fact that Brazil is currently one of the “bright spots” for the global motor industry and at the same time remains a country with limited business and cultural ties to the UK, SMMT has undertaken this study to offer UK-based companies a clearer view of the Brazilian automotive sector, the conditions under which it operates, the opportunities which it may offer, and the sources of help/information that may be available.

The report is based upon a series of interviews conducted in Brazil in late 2009, and supported by supplementary desk research. The figures quoted are accurate at that time. By its very nature, the report can present only general advice and information. However, during its compilation, SMMT developed contacts with a range of key players in Brazil, both inside and outside the automotive industry, who may be able to assist with specific questions and enquiries.

Whilst every care has been taken to ensure the accuracy of the report, SMMT cannot accept any responsibility or legal liability for the accuracy, completeness or value of the information that it contains.

Brazil’s automotive industry is heavily concentrated in the south and south-eastern states of Sao Paulo, Minas Gerais, Rio de Janeiro, Parana and Rio Grande do Sul

POLITICAL & ECONOMIC INDICATORS

THE POLITICAL BACKGROUND

The economic data for C21st Brazil is in stark contrast to the depressing figures posted for most of the preceding decades. This turnaround, instigated by the plano real fiscal reforms of President Cardoso, co-incides with – and is largely attributable to – a period of stable democratic government. It is a balance that most Brazilians are eager to maintain.

When Luiz Inacio Lula de Silva, founder of the left-wing Workers‟ Party, won the presidential election in 2002, many feared a return to political and economic instability. But today there is widespread agreement – even amongst automotive executives who personally remember him as the radical leader of the Metalworkers‟ Union – that “Lula” has steered a moderate course, largely adhering to the policies of his predecessor.

A new president will be elected in 2010. Whilst many Brazilians appear unenthusiastic about the potential candidates, there is a general expectation that whoever comes to power will continue with the economic strategy which has performed well for the past fifteen years.

GENERAL ECONOMIC INDICATORS

Brazil has successfully weathered the global financial crisis of 2008/9. A combination of a closely regulated banking sector (banks operating inside Brazil have long been required to lodge compulsory deposits with the central exchequer), a growing domestic economy, strong commodity prices and substantial currency reserves has proved sufficiently robust to sustain economic expansion. Official figures project a further 5% growth in 2010.

Inflation

In 2009, inflation ran at slightly below 5%, and is expected to fall further in 2010. In the last five years, the rate has remained consistently below 8% - a remarkable achievement for a country which

9 was recording 800% inflation as recently as 1994. Brazil out-performs the overall inflation rate for Latin America.

GDP

For the last five years Brazil has sustained a steady rate of GDP growth, ranging between 3.2% - 5.7%. In the first quarter of 2009, the rate briefly turned negative, but positive growth was restored by the end of the year, and current estimates for 2010 indicate an increase of 3.5% – 5%.

Brazil‟s national per capita GDP of $10,200 is still lower than several of her Latin American neighbours. However, the countrywide figure obscures the much greater wealth of the south and south eastern regions that account for 75% of overall spending power.

Share of GDP, by state

Sao Paulo Rio de Janeiro Minas Gerais Rio Grande do Sul Parana Bahia Santa Catarina Distrito Federal Other 19 States

Exchange rates

The Real, adopted as the official currency as recently as 1994, has attained a level of stability to which its seven C20th predecessors could never aspire. In recent years, the Real has appreciated steadily against the major international currencies. The movement against Sterling has been particularly sharp, with a 43% fluctuation over the last five years, whilst the US Dollar and the Euro have both lost around one third of their relative value.

10 The current exchange rate should make British exports to Brazil more competitive, although the situation is clouded by the Brazilian preference for prices in Dollars or Euros. Conversely, the local costs for UK companies operating in Brazil have increased sharply. From the perspective of Brazilian business, an exchange rate of 1 Real = $2.20 is regarded as desirable.

BRAZILIAN REAL : COMPARATIVE EXCHANGE RATES AGAINST MAJOR CURRENCIES

Sterling US Dollar Euro Jan 2005 5.02 2.69 3.52 Jan 2006 4.05 2.29 2.77 Jan 2007 4.20 2.13 2.76 Jan 2008 3.51 1.77 2.61 Jan 2009 3.45 2.34 3.11 Jan 2010 2.87 1.83 2.49

Foreign Trade

Brazil has maintained a positive trade balance since 2000, although the surplus for 2009 - $23 billion – was 50% down on the 2006 figure. Whilst this decline is indicative of the way that certain sectors (including automotive) have been adversely affected by the fall in global demand and a strong currency, the continuing overall surplus reflects the diversity of Brazil‟s exports and her overseas customers.

Brazil‟s share of world trade is comparatively modest, accounting for approximately 1% of total imports and 1.2% of total exports – barely one-eighth of China‟s contribution, but still the largest for a Southern Hemisphere country.

Debt Levels

Successive trade surpluses have enabled the Brazilian government to build up substantial foreign reserves – currently estimated at $238 billion. To date, they have not needed to use any of that fund to mitigate the effects of the global financial crisis.

International credit agencies have now elevated Brazil to investment grade status.

11 Consumer credit – which finances 60% of automotive sales in Brazil – is readily available.

AUTOMOTIVE INDUSTRY TRENDS

The automotive industry makes a major contribution to the Brazilian economy, contributing 23.5% of industrial GDP and providing employment for more than 1.5 million workers. Strong domestic demand has largely insulated the sector against the downturn in global markets. During 2009, light vehicle production dropped by only 1% to 2.9 million, sustained by a local market that grew by 11.4% to reach 3.14 million units. In contrast, export sales dropped by over 40%, causing Brazil‟s trade in automotive products to fall into the red.

To encourage local automotive demand, the government introduced, in late 2008, a reduction in Industrial Production tax (IPI), as part of its wider $77 billion economic stimulus package. Short term extensions to this concession have proved very effective in boosting the market throughout 2009, without causing any disruptive spikes in demand. It has now been announced that the scheme will continue until March 2010, but only for flex-fuel vehicles with engines below 1.2 litres.

Current predictions are that the Brazilian car market will continue to grow, by between 3% – 6%, during 2010. There is also expected to be a surge in the commercial vehicle sector to match the boom in new infrastructure projects.

There as also been a recent up-turn in automotive investments. VW have announced plans to spend $3.5 billion on up-grading their Brazilian plants and local product development capabilities by 2014, whilst Toyota have confirmed that they will build a second assembly plant at Sorocaba. Meanwhile, GM‟s $800 million “Project Viva” – financed from local profits and loans - foresees the local production of 9 new models by 2012. South Korean and Chinese VM‟s are also reportedly planning investments in new production facilities.

12 LOCAL BUSINESS SENTIMENT

Local business sentiment is largely positive. There is also pride in Brazil‟s new-found success and prosperity, which is seen as largely self-engendered. Brazilians wish to sustain this growth, and they are cautious about unreservedly and rapidly opening their economy to external forces.

Brazilian business recognises the need to acquire additional skills, and achieve a broader spread of internationally competitive capabilities. However, they wish to work with global partners on their own terms, and they expect companies seeking to enter the market to offer products and services tailored to Brazilian requirements, rather than presenting “global” solutions. It remains difficult to do business in Brazil without a strong local presence.

All the companies interviewed were satisfied with the availability and quality of local engineers. Some run internship schemes in partnership with leading universities, as a way to identify and recruit the best talent. Additionally, the large presence of global automakers in Brazil means that many Brazilian managers will, at some stage in their careers, work overseas. These returnees add further strength to the national pool of business skills.

LABOUR & THE UNIONS

Brazilian labour laws have not been substantially reformed for several decades. This inertia has underpinned two problems which government will eventually have to address if Brazil is going to develop to her full economic potential.

Firstly, the high level of additional taxes levied on salaried employees – approximately double the level in neighbouring Argentina – renders labour costs artificially high. Brazilian workers often expect a “13th month‟s” salary, and enjoy generous holiday allowances. Secondly, union power remains strong, particularly in the industrial heartland around Sao Paulo. Wages there are reportedly 50% higher than in Minas Gerais. Some automotive companies have placed their investments elsewhere to escape this power-base, but logistics and supplier-chain issues constrain the ability of others to move outside the area which still accounts for one third of Brazil‟s GDP.

13 At 95 million, Brazil‟s potential labour force is the sixth largest in the world. President Lula‟s generous welfare programme, which offers the poorest classes financial support in return for sending their children to school, provokes a mixed re-action. To some commentators, it is a means to raise educational standards, to other it encourages unemployment.

In the automotive sector, employment levels, which had risen steadily for the previous 18 months, fell back sharply in December 2008 and into the first quarter of 2009. However, the monthly figures are now increasing again, and several companies interviewed for this report stated that they were taking on new staff.

HOW DOES BRAZIL COMPARE ?

There are some interesting comparisons to be drawn between Brazil and Mexico – often regarded as “Latin” rivals – and also China, which is setting the benchmark for growth in the automotive sector.

Geographically, Brazil’s nearest competitor is Mexico. In both countries, the motor industry is built upon the presence of global vehicle manufacturers, and neither have a significant domestic automaker. But there the similarities end.

Brazilian production is principally targeted at supplying the domestic market. Good export sales are “the icing on the cake.” Mexico, meanwhile, exports over 75% of production, mostly to the neighbouring US market. Whilst Brazil has maintained high tariff barriers, Mexico has thoroughly embraced the free trade philosophy. With the current collapse of American sales, Brazil’s domestically- orientated approach appears the more successful. There are, however, some generic weaknesses further down the supply chain. Brazil has not attracted the same level of regular investment and knowledge transfer from the global tier 1’s, and as a result has a narrower supplier base than Mexico.

With its strong, well-protected domestic market, Brazil is perhaps more similar to China than its Latin rival. It also shares with China the problem that the local component manufacturing capability is struggling to keep pace with the growth in vehicle production. However, China dwarfs Brazil both in terms of output, and in the potential for further internal market growth. Domestic demand – expected to grow by a further 10% in 2010 – will keep China’s automotive sector busy. But, if Brazil is going to climb higher in the

14 international league table, she will need to find a way of integrating more effectively with the global auto market. That will almost certainly require a softening of the current reluctance to reduce trade and tariff barriers.

15 LIGHT VEHICLE MANUFACTURING IN BRAZIL

MARKET TRENDS AND CHARACTERISTICS

Background

Brazil‟s automotive history stretches back almost one hundred years. In the 1940‟s, „50‟s and „60‟s the industry went through period of expansion, as part of the general industrialisation of the country. Local component making and vehicle assembly was encouraged by high tariff barriers. However, volatile political and financial conditions deterred major investment, and business stagnated. Ford, General Motors and VW were the established players, with Fiat arriving in 1976. All started to develop local derivatives tailored to local market conditions.

The economic reforms and privatisation programmes of the 1990‟s encouraged a second wave of foreign investment, with Toyota, Honda, Renault and PSA all entering the local production scene. However, manufacturing investment was not matched by technology spending. During this period, many VM‟s were seeking to centralise their global vehicle development programmes, and the newcomers to Brazil largely targeted their efforts on building supply chains and developing local supplier capability

This trend has now mostly been reversed, with the general recognition that Brazil is large enough to warrant bespoke attention, and can, in some instances, be used as a development base for global products. The continuing strength of the Brazilian market – particularly set again the gloomy global picture – has stimulated a new wave of interest, and investment, from both existing players and potential new entrants.

Key Features of the Brazilian Market

From this fluctuating history, the Brazilian car market has evolved some distinctive local characteristics.

Firstly, it is still a market dominated by small “A” and “B” segment cars, which account for more than three-quarters of vehicle sales. These are typically European-style hatchbacks, powered by

16 small, economical engines. As recently as 2001, 71% of Brazil‟s cars were powered by a 1-litre, or smaller, engine. That proportion is now declining, as vehicle makers offer a wider range of 1.2- and 1.4-litre power units, but still accounts for more than 50% of the market.

The Chevrolet Celta and (below) VW Gol are two staple products of the Brazilian small car sector

The small car sector is cluttered and competitive, with most VM‟s offering a selection of differently equipped and priced models to cater for the widest range of customer requirements. Thus, General Motors has the Celta, Corsa and soon the Agile all present in the market ; and Renault offers different generations of the Clio.

There are differing opinions about the future direction of the market. Some commentators believe that Brazilian consumers will naturally move up to “C” segment cars. Others contend that Brazil will continue her love affair with small vehicle platforms, but that the equipment specification levels will rise sharply.

Secondly, there is a strong local tradition, and competition amongst the VM‟s, to develop local derivatives off economical vehicle platforms. These are often pick-up versions of small hatchbacks –

17 thus the Fiat 127 became the Strada, the VW Gol spawned the Saveiro and the Chevrolet Corsa and Ford Fiesta provided the Montana and Courier respectively. Another noticeable trend is the addition of “off- road lifestyle” features for vehicles which do not, in fact, have a 4x4 capability. Current examples include the Peugeot 207SW, Fiat Palio Weekend, and VW Crossfox.

Pick-ups based on small car platforms are a common local derivative

Thirdly, flex-fuel technology (see separate box) now has a stranglehold on the market. As a result, diesel-powered cars are absent from Brazil, and there is little immediate opportunity for new- energy vehicles.

Light Vehicle Costs & Taxes

Vehicle taxation levels are high in Brazil. Tax is calculated to add 28% to the cost of a basic vehicle purchase, rising to 36% for an engine capacity above 2 litres. Local “gossip” can stretch this figure to 49% ! However, throughout 2009, the government has successfully used a rolling programme of cuts in IPI (Excise Duty) to stimulate the market. This scheme is now scheduled finally to expire in March 2010.

Nevertheless, Brazilian cars are not cheap by global standards. In the showrooms of Rio de Janeiro, the venerable Fiat Mille (old-style European Uno) is priced at Reals 23,000, whilst a basic Chevrolet Celta costs around Reals 28,000. Further up the price pyramid, a Ford Focus (notch–back) will retail for Reals 38,000 and a Honda Civic for Reals 60,000.

TOP SELLERS IN 2009

Fiat 736,969 +12% VW 686,408 +17% GM 595,491 +8.5% Ford 304,007 +17%

Local Industry Representation

ANFAVEA – Associacao Nacional dos Fabricantes dé Veiculos Automotores – represents the Brazilian-based manufacturers of both cars and commercial vehicles, plus makers of agricultural machinery. However, they do not represent the bodybuilders who dominate the Brazilian coach and bus sectors. With one exception, the membership is composed of global rather than indigenous companies. Consequently, ANFAVEA‟s main activities revolve around the provision of market information and interacting with government on trade, technical and regulatory issues. In some instances – for example, closer trade ties between Brazil and the EU – the differing perspectives of their international members makes it difficult to achieve a united position.

MAJOR CAR MAKERS

Ford

Ford Motor Co traces its presence in Brazil back to 1922, although it was not until 1957 that operations moved from CKD assembly to full scale vehicle production. Between 1987 and 1994, they shared a brief joint venture operation with VW, of which the “Autolatina” model was the main product. Today, Ford Brazil is again a separate entity, with manufacturing plants located at their traditional base in Sao Bernardo do Campo and latterly – as a result of local investment incentives – at Camacari in Bahia State.

Despite that long history, Ford today is placed some distance behind the other three long-established automakers, accounting for around 10% of local production. However, in 2009, sales jumped by 17% to a total of 304,000 units. Local profitability is also good – Ford of Brazil has recorded an operating profit for six straight years.

The range of local models includes the Ka – a locally-developed variant on the old Fiesta platform, largely unrelated to the current European version – the Fiesta, and the Focus, which is assembled in Argentina with Brazilian engines. However, the local best seller, since 2003, has been the EcoSport, a compact SUV also built on the Fiesta platform. After various minor facelifts, an all-new version is promised for 2011.

The Brazilian version of the Ford Ka, very different from its European namesake

Ford is investing $2.2 billion in Brazil, including an expansion at Camacari, and an enlarged engine plant at Taubate, which will make both the Zetec and new aluminium Sigma power units. They are also refreshing their line-up with the latest model Fiesta, which also launches in the USA during 2010. Initially imported from Mexico (under the automotive free trade agreement) the new Fiesta will be produced at Camacari from 2011.

General Motors

GM also entered Brazil in the 1920‟s, and opened its first assembly plant in Sao Caetano, which still forms the hub of the company‟s Brazilian operations. It is the third largest light vehicle maker in Brazil (609,000 units in 2008), and also holds third spot in the sales league table (595,500 last year).

The current product range is heavily influenced by previous-generation Opel models – e.g. Corsa, Astra – but the Meriva is locally developed. Under “Project Viva”, GM will introduce nine new models to the Brazilian market by 2012. The first fruit of this programme is the new Agile, engineered entirely in Brazil – although actually built in

20 Argentina – which was launched in October 2009. Larger than GM‟s other small cars (Celta and Corsa), it offers a comparatively high level of equipment, including power steering, air-conditioning, central locking, on-board computer and even a cruise control.

GM‟s local engineering centre, which employs 2,000 staff and claims full vehicle development capability (including a local proving ground), are currently working on 16 projects, including two more economy cars. They are also integrated into global engineering programmes, and have contributed to work on the EV Volt.

Although funding for “Project Viva”, totalling $800 million has been confirmed, investment in new production facilities – particularly a new engine factory planned for Joinsville – is currently on hold.

Of the top four automakers in Brazil, GM recorded the lowest (8.5%) domestic sales growth in 2009. This is largely attributed to the parent company‟s global problems, rather than weakness in Brazil, where the Chevrolet brand has a strong reputation. In this context, Brazilians are watching closely the future of GM‟s Opel operations in Europe. If that business was to be sold, it would be both a threat – cutting GM Brazil off from the access to popular European platforms – and an opportunity for Brazil to play a more prominent role in GM‟s future small vehicle engineering programmes.

VW is the longest established European auto maker, having originally entered the Brazilian market in 1959. Their plants at Anchieta and Taubate have a production capacity of 3,000 units per day, and are supported by a separate engine factory at Sao Carlo. An extensive national dealer network offers more than 600 sales outlets.

From this formidable base, VW remains Brazil‟s largest light vehicle producer, topping 800,000 units in both 2008 and 2009. In market sales, they are second to Fiat, who has a much larger LCV offering, with 22% market share.

The Gol model – conceived and developed in Brazil, and now in its fifth generation - has been a market leader for 22 years. Even rival carmakers grudgingly acknowledge VW‟s achievement in continually re-engineering the car to meet evolving Brazilian tastes. Also produced locally are the Saveiro, Fox and Voyage, supplemented by European

21 imports of the larger Passat and Tiguan. The Polo and Caddy are made in Argentina, as will be the new Amarok pick-up, which was engineered in Brazil.

VW have previously used Brazilian engineering to support models for other markets. For example, the Fox – originally conceived as a Latin American product – has become the company‟s entry-level model in Europe. In the next five years VW will invest £3.5 billion in Brazil, of which 60% will be targeted for future product development.

Fiat

Fiat is regarded as one of the strongest players in the Brazilian market. In overall light vehicles sales, they are the market leader with a 24% share. Their huge Betim plant – deliberately located away from the automotive heartland of Sao Paulo - is running close to 100% capacity.

Following their original market entry in 1976, Fiat experimented with the concept of a single “world car”, the Palio, which could be built and sold in all developing markets. The project was largely unsuccessful, and Fiat‟s penetration of the Brazilian market has actually been based on the suitability of their small European cars for local requirements. The current product portfolio features a dozen small car variants, including the Mille (the old European Uno), Palio, Siena, Punto and Stilo models. They also produce the mid-sized Linea, the Strada pick- up and the Doblo and Ducato LCV‟s. The latest addition to the small car line-up will be the Fiat 500, which launches at the end of 2009, after adjustments for local climatic conditions.

For older, high volume models component localisation is close to 100%. For the more recent Punto and Siena, the current rate is still below 70%. A major future objective is to reduce their present seven separate vehicle platforms to a more manageable three.

Fiat‟s local engineering and styling centre employs 800 staff, and can handle all aspects of vehicle development except prototyping and safety testing. They reckon to complete a full vehicle development programme within a 20-month timeframe, and will have up to 150 projects running at any one time. The centre was responsible for re- engineering the Linea prior to its launch in India, and they are expecting to conduct further programmes for the Indian market.

22 Fiat is also considering local production of Chrysler Jeep models, to fill a current gap in their local product range. However, given the capacity constraints at Betim, this would almost certainly require investment in a new assembly plant.

Renault

Renault‟s plant at Sao Jose dos Pinhais has a 250,000 unit capacity, but, in 2008, turned out only 122,000 cars and LCV‟s. The introduction of some Nissan (q.v.) models will take up slack, but full utilisation is some way off. Because of exchange rates and lower labour costs, it is still more economic to assemble the small Clio and Kangoo at Renault‟s Santa Isabel plant over the border in Argentina – although all the powertrains are manufactured in Brazil.

Renault‟s top local model is the Sandero. Available in either standard hatchback form, or as the more sportily equipped Sandero Stepway, it outsells the Logan sedan, on whose platform it is built – a clear example of the greater appeal of a model that has been specifically adapted to Brazilian tastes. The Duster SUV – another Logan derivative – will appear in 2011. In contrast, sales of the Megane have disappointed, and future production may move to Argentina.

Renault report that they have been badly hit by the dramatic fall in vehicles sales in Mexico. They used to ship over 2,000 units per month from Brazil, but now only export a few hundred.

Concerns were also expressed over the price of local steel, and the dominant market position of Gerdau. The reluctance of key component suppliers to move from the greater Sao Paulo area also raises some logistical problems.

PSA

PSA‟s Latin American production is split roughly 50/50 between its Brazilian Porto Real base, near Rio de Janeiro, and its cross border plant close to Buenos Aires. However, whilst an output of 132,000 units makes it the No 1 vehicle maker in Argentina, with 22% of the market, the slightly lower Brazilian figure (122,000) is worth only 4% of that market.

23 PSA produces local versions of the 206, 207 and 307 models, plus the Partner/Berlingo van, and continues to juggle production between their two South American bases. 35% of the vehicles produced in Brazil, in 2009, were actually sold in Argentina. The company has recently reduced its dependence on European component imports by locally machining engine parts, and has announced an Euro 530 million investment plan over the next three years.

It is interesting to note that, in Latin America, the Citroen brand carries more prestige than the Peugeot name.

The Japanese Vehicle Manufacturers

Toyota and Honda both have local production plants, Nissan can now tap into spare capacity with Renault‟s Brazilian facilities, and Mitsubishi works with local partner Souza Ramos Group on small-scale local assembly. But, overall, the Japanese VM‟s account for only 7% of total car production in Brazil.

The local perception is that Japanese cars offer quality and status, but at a price. It is also felt that the Japanese have adopted an ultra- cautious approach to the market, and have been slow to localise design and engineering functions. Certainly, until now, they have been strangely reluctant – in a market dominated by small cars – to enter the “A” and “B” segments, perhaps from a fear that, in the past, the typically well-equipped Japanese mini-car would not be able to compete with low-cost models already in the market. This situation is changing. Local small car production is firmly in the future plans of Toyota and Honda, whilst their competitors are beginning to follow the Japanese lead and offer features such as air-conditioning as standard equipment.

Toyota opened their first overseas factory, in Brazil, more than 50 years ago, but it was only in the 1990‟s that they resumed local car production at Indaiatuba, near Sao Paulo. The staple model is the Corolla, with an up-dated version being introduced in 2008 to arrest declining sales. That year 67,000 units were produced, representing a 3% market share.

After some hesitation, it has recently been confirmed that a second 150,000 capacity plant will be built at neighbouring Sorocaba, which will make a small economy car. Meanwhile, imports of the hybrid Prius will start in 2010.

Honda originally entered the market as a motorcycle manufacturer, opening a plant in the Amazonian city of Manaus, the unlikely unofficial capital of the Brazilian two-wheeler industry. Car manufacturing commenced at Sumare SP in 1997, and today Honda is the largest Japanese automaker in Brazil, with a market share around 4.5%.

Honda‟s core model, to date, has been the Civic, but it is now intended to build the small City car in Brazil rather than at a new facility in Argentina, as was originally planned.

Nissan’s market share has hovered around 1%, sustained mostly by imports (e.g. the Tiida and Sentra from Mexico) and local production of the Frontier. Under a new plan to increase this to 5% by 2013, the Logan-derived Livina will be built locally, utilising spare capacity at Renault‟s plant. To address the need for a small model, a basic version of the Micra – as scheduled for production in India – is also likely to be introduced.

THE FLEX-FUEL PHENOMENON

The use of ethanol as an alternative to petroleum was originally introduced in the 1970’s and 1980’s as a fuel saving and economy measure. By 2003, this had fully evolved into the concept of flex-fuel vehicles – able to run on any combination of the two fuels, combined in one tank and one engine. This locally-developed technology has grown to dominate the Brazilian market over the last decade. Today, 88% of new vehicles sold in Brazil have flex-fuel systems fitted as standard. Those that do not are almost all imported.

The flex-fuel system enables the driver to refuel and run his car on virtually any combination of petrol and alcohol, from a single tank. This can make a visit to the garage an interesting mathematical exercise in calculating the most economical way to fill the tank. The local rule of thumb is that ethanol is an economic option when its price is 30% below the cost of petrol. There is considerable volatility in the price of ethanol, due to demand from other sectors, and also noticeable regional variations. Around Sao Paulo, it was priced at Real 1.60 per litre, whereas in the southern states the cost was Real 2.00 per litre, with the result that its usage was less widespread in that area.

25 There are other complications to the use of pure ethanol. Fuel economy falls by approximately 40% compared to petroleum, and there is increased corrosion of engine parts. Ethanol will not start a cold engine, and most flex-fuel vehicles are fitted with a small “reservoir” of petrol which is used for the initial engine start. There are a number of local research programmes under way to address these problems.

On the supply side, the production of ethanol from sugarcane is reckoned to become uneconomic when the cost of oil drops below $40 per barrel. With world prices well above this level, the commercial interest in ethanol production has risen sharply. Over 200 new projects were reported in Brazil during 2008, although less than half actually started. Coupled with the considerable scope that exists for extracting higher yields from existing acreage, it seems that the sector will require closer regulation if capacity is not to outstrip demand.

Biodiesel – derived primarily from soy - is another “green” energy source, which is receiving increasing attention in Brazil. Since 2006, the government has been promoting increased use through the Brazilian Biodiesel Production and Use Program (PNPB). The addition of 2% biodiesel to all automotive diesel fuel is now compulsory (saving an estimated 200 million gallons per annum), and the percentage will be increased to 5% from 2013.

Re-fuelling can be a complicated mathematical exercise in Brazil !

DESIGN ENGINEERING IN BRAZIL

26 The Brazilian market for vehicle design/development services has been extensively covered in another report – Design and Engineering Service Opportunities in Latin America – which SMMT commissioned in 2009. The key conclusions on the Brazilian market contained in that document were :

Most design engineering resources are concentrated within the VM‟s. Additionally, there is a local pool of independent engineering expertise, which the vehicle manufacturers turn to first when needing to supplement their own staff Engineering solutions must be closely matched to local cost expectations The most prolific opportunities lie in platform derivatives and facelifts. However, most of this work is carried out on compact vehicle platforms, and is, therefore, very price sensitive There are opportunities in powertrain development, particularly with the advent of EURO V, and in safety systems

The interviews conducted for this report largely substantiated those findings, and confirmed Brazilian confidence in their indigenous engineering expertise. It was also noted that Brazil is making an increasing contribution to the global engineering programmes of both American and European VM‟s. Ford, for example, regards its Brazilian facilities as one of three “world centres” for car development. It was here that they engineered the new Fiesta model that is built in Mexico and sold in the USA. GM‟s local engineering centre developed the Meriva, and is heavily engaged in work on the next generation of pick- ups to be built in Thailand. Brazil is also being used as a base for research into “green” plastics, made from plant fibres, and their possible use in interiors fittings and light-weight wheels.

NEW ENERGY VEHICLES IN BRAZIL

The Brazilian auto industry and its customers largely regard the local preference for flex-fuel vehicles (q.v.) as being their major contribution to new-energy transportation. Brazil‟s long distances are thought to be unsuitable for electrically powered vehicles with a limited range. At this time, there is little discernable enthusiasm amongst either automakers or consumers to pursue hybrid or pure electric technologies.

The international VM‟s are not inclined to challenge this sentiment, either by the early introduction of their flagship hybrid / electric

27 models, or by redirecting local engineering resources into new energy projects. Although an imported version of the Toyota Prius is expected to be available from 2010, GM has recently announced that they have “no plans” to bring the Chevrolet Volt to Brazil. Locally, Fiat has partnered with Itaipu Binacional (a major producer of hydro-electric power) to develop and demonstrate an electric version of the Palio, powered by a nickel-chloride “Zebra” battery pack. Under the Iveco brand, the same partners are working on a similar adaptation of the Daily LCV. But there are currently no plans to move either prototype to commercial production, and the only EV‟s now seen in Brazil are golf- buggy style vehicles.

One of the few electric vehicles spotted in Brazil

In the medium term, the commercial vehicle sector seems to offer the best openings for NEV‟s. In Sao Paulo – home to 30,000 buses – the new Municipal Committee of Climate Change has been established to promote work on new-energy and low carbon technologies. A local company – Eletra – is conducting operational trials of its serial hybrid electric drive system. The current SP Governor, Jose Serra, who is likely to be one of the leading presidential candidates in 2010, has also been keen to stress his green credentials. Additionally, the staging of the Olympic Games in 2016 (and, to a lesser degree, the football World Cup in 2014) will doubtless stimulate various green vehicle demonstrator projects. However, there are, as yet, no clear policies or incentives for the encouragement of NEV development, and there will need to be a substantial change in the current Brazilian mind-set for prototypes and concepts to progress to volume production.

LIGHT COMMERCIAL VEHICLES IN BRAZIL

LCV‟s currently account for only 17% of the total light vehicle market in Brazil. But it is a growing sector, with demand boosted by a buoyant small business sector and readily available credit. Recent restrictions on the operation of heavy-duty trucks within Sao Paulo city, and an increasing need for the rapid, localised movement of consumer goods, are other contributory factors.

VM‟s with existing local production capacity are ramping up their output – Renault aims to turn out 180 units per day under either the Renault Master or Nissan Frontier labels. Ford, however, is importing CBU Transits from Turkey. With import duty of 35%, the showroom price is around Reals 70,000.

29 COMMERCIAL VEHICLE MANUFACTURING IN BRAZIL

MARKET TRENDS AND CHARACTERISTICS

The requirements to transport large quantities of agricultural and mining products and to provide mobility for large urban populations underpin a strong demand for commercial vehicles in Brazil. In the past, durability and simplicity have been key requirements, but today more sophisticated customer demand and greater regulation are prompting the introduction of more modern products.

There will be a continuing demand, particularly in the central and northern regions of Brazil for heavy trucks (up to 57 tonnes) capable of operating on a 24-hour basis, whilst, in the industrialised south, the commercial vehicle fleet is becoming more diversified. In 2008, local producers turned out 167,000 heavy trucks and 44,000 bus chassis. After a downturn at the start of 2009, truck makers have recovered their confidence in continued internal growth ; an additional 2,300 staff were hired in the period July – October 2009. Some suggest that a 10% rise in sales is possible for 2010. Similarly, there is buoyant local demand for buses and coaches. However, for companies dependent on export orders, the situation is much gloomier, with orders down over 70%.

Local haulage companies typically operate fleets of between 50 to 500 trucks, so purchases can be quite fragmented. In the coach and bus sector, operators tend to have larger fleets and to place higher volume orders. There are no age restrictions on commercial vehicles in Brazil, and it is not uncommon for units to be used for 20 – 25 years. A 10- year old truck will probably resell for 60% of the price of a new vehicle.

The Brazilian heavy truck sector is – perhaps surprisingly – dominated by European manufacturers. VW, Mercedes Benz, Scania, Volvo and Iveco account for 80% of local production. Apart from Ford, Navistar- International is the only American maker to have a (minor) presence in the market. Mercedes Benz and VW also dominate the supply of bus chassis.

Local operating conditions and customer preferences dictate some engineering modifications – for example, a round rather than square

30 fuel tank to counteract fuel “slopping” on bad road services. Chassis and body components must be able to withstand heavy loading, long journey distances and difficult terrain.

In 2009, MAN took control of VW‟s commercial vehicle operations in Brazil. It is not yet clear what changes may follow from this re- alignment (VW is, of course, the largest shareholder in MAN), but meanwhile the Constellation heavy truck continues to be a market favourite. Less than four years after the start of production, the 50,000th unit rolled of the line at the Resende plant near Rio d Janeiro.

Diesel fuel quality in Brazil trails international standards. Sulphur content of 500 ppm is the norm in major cities, with limited availability of European-standard 50 ppm fuel reported in Rio de Janeiro, Sao Paulo and Curitiba. In more rural areas, 2,000 ppm is still commonly found. Brazil is currently operating to EURO III standards, but plans to bypass EURO IV completely, and move to EURO V by 2012. Preparations for this change will challenge the local engineering resources of the commercial vehicle makers.

MAJOR TRUCK MAKERS

Scania

Scania have been operating in Brazil since the 1950‟s, and some of their senior staff have been with the company long enough to remember President Lula leading a 1978 strike against the company ! The plant at Sao Bernardo do Campo is one of only two complete production facilities worldwide, producing an in-house supply of engines, transmissions and axles. No major systems are imported. Component suppliers must meet global standards, and preferably serve Scania in other markets.

Scania produces the P380, G420 and R500 series tractor units, plus 15-metre and “F-series” coach chassis. The “F-series” chassis, with a front mounted engine, is a product that Scania has developed and manufactured only in Brazil.

There has been a steady growth in production levels, reaching almost 17,000 trucks and 2,200 bus chassis in 2008. In that year, Brazil was a major export hub for Scania, and shipments destined for Latin America, Africa, Asia and even Russia accounted for over 50% of output. Latterly, overseas sales have been confined to South America

31 and Africa. At the same time, the domestic market has fallen by around 10%.

Future growth is expected in the transportation of agricultural and mining products, plus more containerised traffic moving to and from Brazilian ports.

Iveco

Iveco only returned to the Brazilian market in 2000. The modern plant is located at Sete Lagoas in Minas Gerais State, adjacent to their parent company Fiat‟s facility in Betim. In 2008, they produced 12,800 heavy trucks – an 8% market share - and 500+ bus chassis. The immediate target is to capture 15% of the local market.

They have a wide product range, including the Stralis and the Trakker tractor units, plus the lighter Tector, Cursor 4x2 and Eurocargo trucks. The Daily LCV is also offered in a number of configurations, utilising the current European model powertrain and exterior, but previous generation electronics.

Import content is still quite high, with cab bodies and plastics shipped from Europe in CKD form. Current sales volumes do not yet justify the localisation of these products. Powertrains are supplied by the neighbouring FPT plant. It was felt that, outside their own “family” of suppliers, there was not enough competition within the local component sector.

Approximately 18 months ago, a local product development centre was added to the Sete Lagoas complex. It now houses 220 engineering staff – mainly Brazilian supported by short-term European secondees. Current priority projects include preparations for the arrival of EURO V standards in 2012. Exploratory work is also being conducted on a “big” 8-litre ethanol engine and a prototype electric vehicle – the latter in partnership with the power generator Itaipu.

Agrale

Agrale is a rare example of a Brazilian-owned vehicle maker. Originally a tractor-maker founded in the 1960‟s, they now have a diverse product portfolio, encompassing agricultural vehicles, military jeeps, generating sets, simple motor cycles, and truck and bus chassis. They

32 have three plants in the Caxias do Sul region (plus a further facility in Argentina) currently employing around 1,200 staff, of whom less than 100 are development engineers.

Volumes are comparatively modest. In 2009, which is not seen as a good year, they expected to produce around 3,000 tractors, 600 commercial trucks (a 4-wheel 8,000 kg GWT cab and chassis, powered by a locally-sourced 4-litre diesel engine) and 7,000 assorted CV chassis. Their largest volume is the micro-bus chassis which are supplied to local partners Marcopolo and other coachbuilders.

Agrale admit that they are constrained by their small production levels, which make it difficult to source components at competitive prices. Although they would prefer not to import, they purchase tractor transmissions from a Czech supplier, and are conducting buying exercises in Turkey, India and China. They would welcome contact with more suppliers specialising in low volumes.

COACH AND BUS BODYBUILDERS

Domestic Brazilian companies have carved out a notable niche in the specialised field of building coach and bus bodies on to customer- supplied chassis. Originally, this business was founded on strong local demand, which still persists. There are 30,000 buses operating in the Sao Paulo area alone, split roughly equally between the municipal authorities and private operators. There is also a substantial market for long distance coaches, whose extensive network makes up for the deficiencies of the national rail service and offers an economical alternative to domestic flight schedules.

Brazil has strong local demand for both large and small coaches

From that base, the Brazilian bodybuilders have expanded to become global players, serving overseas markets both through exports and investment in local manufacturing plants. Export business was still growing strongly in 2008, up almost 15% on the previous year, but 2009 has been a more difficult year, with a substantial reduction in overseas orders.

Caio Induscar

Sao Paulo-based Caio Induscar is the largest player in the domestic bus and coach sector, taking a 40% market share. Most Caio vehicles are built on high-floor, front-engined chassis, and, throughout the product range, are characterised by robust and easy-to-maintain design. They incorporate the separate driver‟s cab, and the conductor‟s seat with turnstile, that are typical of bus fleets in Brazil‟s major cities.

Marcopolo

Internationally, Marcopolo is perhaps the best-known Brazilian coachbuilder, with over 200,000 units now running in more than 100 countries. For the domestic market, they produce a wide range of city buses under the Ciferal, Torino and Viale brands. But they also specialise in the production of luxury long-distance coaches, in which they claim 50% of the market. Plants in Caxias do Sul and Rio de Janeiro can produce 40 units per day, of which 30% are destined for export.

Marcopolo has growing global manufacturing footprint, with plants in Columbia, Mexico, Russia, Egypt (to serve the European market in

34 place of their now-defunct Portuguese facility), South Africa and India. The Indian operation is a joint venture with Tata, which will eventually be ramped up to make 70 units per day to replace Delhi‟s aged bus fleet. All prototype and development work takes place at their Caxias do Sul headquarters, where the R&D centre employs 300 engineers. Wherever possible, component supply is localised.

Busscar

Busscar, based in Joinville, has a similar product portfolio to Marcopolo. It has also set up overseas manufacturing facilities – in Mexico, Columbia and Cuba. The company has a reputation for innovation and was the first Brazilian producer of the double-decker tourist coach. It is reported to have suffered more than its local competitors from the down-turn in export orders.

Brazil‟s coachbuilders seem to favour the in-house production of components – especially metalwork, seats, instrument consoles and interior trims. They are consequently able to offer – they claim – a higher level of customisation, and lower costs. For more complex systems (e.g. air-conditioning), they will look for a joint venture arrangement, such as Marcopolo have with Webasto.

35 COMPONENT MANUFACTURING IN BRAZIL

MARKET TRENDS AND CHARACTERISTICS

The Brazilian automotive component sector has developed primarily to serve the needs of the local VM‟s – a heritage that has moulded its current structure, size and capabilities. It now faces the challenges of keeping pace with the expansion of the domestic vehicle market, and playing a more prominent role in global supply chains.

In the last decade, there have been some notable changes in the component industry. Although domestic ownership still accounts for 60% of the sector, the percentage of foreign-financed companies has risen by half. At the same time, whilst the majority of Brazilian component makers continue to be small and medium enterprises employing between 50 – 500 staff, the larger producers have significantly increased their market share. In 1997, companies with annual sales in excess of $150 million accounted for 43% of the market. Ten years later, that proportion had risen to 77%.

Component manufacturers by total sales - 1997

27%

43%

18%

12%

Sales up to $50 m Sales $50 m - $100 m Sales $100 -150 m Sales over $150 m

36 Component manufacturers by total sales - 2007

7% 8%

77%

Sales up to $50 million Sales $50 m - $100 m

Sales $100 m - $150 m Sales over $150 m

There are world-class manufacturing facilities in Brazil, but overall quality standards remain adequate, rather than outstanding. In 2008, around 350 Brazilian plants had achieved, or were working towards, TS16949 accreditation. This falls well behind Mexico‟s total of 950 accredited sites.

Several vehicle manufacturers expressed concerns about the security of their local supply chain. There is a perception that local component makers are struggling to meet demand – both in terms of the current volume of production (95% of capacity is reportedly being utilised) and in their ability to supply more sophisticated parts and systems. The VM‟s felt that they were over-dependent on single sources, and would welcome the local availability of alternative suppliers. However, they strongly prefer partners who are already working with them in other global markets.

To meet the demands of their VM customers, Brazilian suppliers have reversed the lay-offs implemented in the early part of 2009. Since, June, an estimated 8,300 additional workers have been recruited into the component sector. However, shortage of working capital has hindered the efforts of some parts makers to boost their production and technical capabilities. VW, which has plans for a $3 billion expansion programme and the introduction of 13 new models, has concluded a deal with the Bank of New York Mellon to provide short-

37 term finance to key suppliers – thus hoping to eliminate bottlenecks in the flow of components.

The value of Brazilian component exports has risen steadily since 2000, but so has the cost of her imports. From 2008, Brazil has recorded a trade deficit in automotive parts. During the last decade, there has been a significant shift in the destination of Brazilian exports, with shipments to North American declining from 44% of the total value to 26% in 2008. Cross-border movements to Argentina account for the bulk of export growth, although European customers also take a larger share of the pie. Germany, USA and Japan are the largest sources of component imports, although, here too, the North American contribution is in decline, and has been overtaken by the Asia-Pacific region. Europe continues to account for around 47% of total overseas purchases.

Sindipecas is the local trade association for the component sector. Both global and domestic manufacturers are well represented amongst its 500+ members, covering – it is claimed – 95% of local production. Although the organisation is keen to promote closer international ties and co-operation, it is also opposed to any rapid dismantling of Brazil‟s current tariff barriers.

CASE STUDY : THE GLOBAL MANUFACTURER MAGNETI MARELLI

With Fiat long established as one of the top light vehicle makers in Brazil, it is no surprise to find that their key system supplier, Magneti Marelli, enjoys a similarly entrenched position. In 2009, the company celebrated 30 years of manufacturing in Brazil.

What is more remarkable is the range of products made at their at their Hortolandia base, north of Sao Paulo. There Magneti Marelli manufacture their full range of parts and systems, including automotive lighting, electronics, powertrain, shock absorber, exhaust systems and mechanical controls. Brazil is the only one of the company‟s 46 global operations – outside Italy – that manufactures their full product range. Additionally, it is the location of their sole full- scale R&D centre outside Europe. In total, Latin America accounts for 13% of Magneti Marelli‟s worldwide business.

The manufacturing facilities are built and equipped to top international standards. A new fuel injector line was commissioned in early 2009,

38 with an annual capacity of 3 million units, suitable for use in either petrol or flex-fuel engines. Production is highly automated and staffing levels low. As a result, Magneti Marelli have chosen to remain within the greater Sao Paulo area, despite the higher local labour costs, rather than co-locating with their major OEM customer in Minas Gerais State.

Interestingly, they still import a number of sub-components – for example, the brass inserts for exhaust manifolds – from the same European 2nd and 3rd tier suppliers used by their parent company. This reflects both a lack of quality lower down the Brazilian supply chain and a preference for dealing with known global suppliers – market characteristics that were also identified by other interviewees.

The adjoining R&D facility is also well-resourced. A small, private testing track has been recently added. Magneti Marelli believe that there is plenty of scope for local research into technologies particularly suited to the Brazilian automotive market. One example is their development of a computer-aided manual transmission system. With a production cost of around $1,000, it offers an economical alternative to a fully automatic system, which would add $4,000 to the price of a vehicle. Work is also taking place on pre-heating the fuel line to eliminate the small gasoline reservoir necessary to cold-start an engine before ethanol fuel can take over.

CASE STUDY : THE DOMESTIC MANUFACTUER RANDON GROUP

Randon Group, an industrial conglomerate head-quartered in the southern state of Rio Grand do Sul, is not only one of Brazil‟s largest domestic component makers, but also a good example of the route taken by Brazilian companies to grow their business. Although now a listed corporation, the majority of shares, and key management positions, remain in the hands of the founding family.

Originally established in 1949, the company moved from general engineering into axle making and thence to the building of truck chassis and semi-trailers. It remains the largest Brazilian player in this sector, accounting for 36% of the local trailer market, and 78% of off- road trucks up to 35 tonnes. Alongside this core activity, it has pursued a course of strategic expansion into specialised commercial vehicle components by acquisition of, or partnering with, companies within its own supply chain. In all cases, its targets have been

39 established market leaders in their particular field, and, where a joint venture has been formed, Randon hold the majority stake.

Today, the following component makers are members of the Randon Group :

Master Sistemas Automotivos : a joint venture with Rockwell (latterly Arvin Meritor), formed in 1986, manufacturing air brakes for commercial vehicles Jost Brasil Sistemas Automotivos : a joint venture with Jost Werke of Germany, formed in 1995, specialising in king-pins and fifth wheels Fras-Le : a domestic supplier of CV brake pads, linings and clutch facings, acquired in 1996 Suspensys Sistemas Automotivas : another JV with Arvin Meritor making suspension systems, axles and brake drums Castertech : a recently opened in-house foundry making a range of metal components

Randon Group seeks first to build a dominant position in the Brazilian and other Latin American OE markets, before expanding into aftermarket and overseas sales. Outside Brazil, it has a trailer manufacturing base in Argentina (to accommodate the different vehicle specifications of that market) and some CKD assembly points in Africa. There are also international sales offices in the USA, Mexico, Germany, China and the Middle East. In 2008, the group had export sales of $287 million, against import purchases of $85 million.

Future expansion will place more emphasis on vehicle electronics systems, and international partners with the necessary expertise are already being sought. The group will also increase their in-house test and development capabilities. A new, purpose-build proving ground, with 18 separate tracks of different types and surfaces, will become fully operational in 2010.

A NOTE ON THE BRAZILIAN AFTERMARKET

Although an in-depth analysis of the Brazilian aftermarket is not within the scope of this report, it is appropriate briefly to highlight the size and diverse nature of this part of the national automotive industry.

Brazil‟s vehicle parc is estimated at almost 28 million – the 10th largest in the world. It is also characterised by a wide range of models, and a

40 high age profile. Challenging driving conditions and lack of paved roads place extra stress on suspension and braking systems. The Brazilian love of motorsport – an area where Britain is locally recognised as a world leader - and/or the desire to present a macho “off-road” image, supports a high degree of vehicle customisation. Additionally, the taxation system, under which the annual vehicle tax (IPVA) is calculated as a percentage of the original purchase price, encourages motorists to buy the base model and add the accessories themselves.

Conversely, there is little regulatory pressure for owners regularly to service and maintain their vehicles. Testing in Brazil is, at present, rudimentary. An annual inspection scheme introduced in Sao Paulo in 2008 will extend to all vehicles by 2011, but focuses primarily on engine emissions. A set of national regulations for safety testing has still not been issued.

Many domestic component suppliers are working at full capacity to meet the requirements of their OE customers, and have limited resources to service the local aftermarket. Figures from 2008 indicate that aftermarket sales accounted for only 13% of total Brazilian component production. This has presented some opportunity for new entrants to enter the market. But, with price sensitivity a key purchasing factor, this opening has been largely filled by products from China and other Asian sources.

ANDAP – Associacao Nacional dos Distribuidores de Autopecas – is the main aftermarket trade association, with around 60 manufacturing members, and a similar number of national and regional distributors.

41 BUSINESS OPPORTUNITIES IN THE COMPONENT SECTOR

Brazil has a mature component manufacturing industry, which is currently struggling to meet the demands of the successful local automakers. There are, therefore, opportunities within the sector ; but the VM‟s would prefer to see the gaps filled by companies who have the resources to invest in local manufacturing and who are – preferably – already established partners in other markets. It is also a requirement that products and technologies must be specifically shaped to the local conditions and cost demands of the local market.

For companies able to meet those criteria, there are particular openings in :

the provision of safety and security systems. Brazilian vehicles are facing an increased portfolio of safety-related legislation. For example, parliament is currently considering a proposal to make front-seat air-bags compulsory (currently they are fitted to only 25% of vehicles). If implemented, they would become standard on all vehicles made in Brazil within three years. Systems producers Takata, Autoliv and, latterly, TRW are already present in Brazil, but have to import a large percentage of their components and sub-assemblies. AMT transmission systems, which can reduce the strain of congested city driving whilst being much cheaper than a full automatic satellite navigation and tracking systems, which have proved surprisingly popular not only as a theft deterrent for private cars, but also as a business tool for Brazil‟s long-distance haulage operators emissions and vehicle testing apparatus, to equip the network of testing stations and workshops which will be needed for the implementation of compulsory vehicle tests from 2010 engine production is currently a bottleneck for VM‟s in Brazil. Several are expanding their local manufacturing and machining capacity, and there opportunities for suppliers of appropriate factory equipment

42 INTERNATIONAL RELATIONS & INVESTMENT IN BRAZIL

There is a remarkable divergence in the foreign trade policies of Brazil and Mexico, the two major auto producers of Latin America. In contrast to Mexico, which has vigorously built up a network of free trade agreements with 44 countries, including the international giants of the USA, Japan and the European Union, Brazil continues to take an independent stance, protecting its local industry with significant tariff and administrative barriers. Apart from its membership of Mercosur (q.v.) and a partial deal with Mexico (which does include the automotive sector) Brazil has made few substantive moves towards tariff-free trading, and there is a strong sentiment amongst indigenous companies that barriers must be maintained, and even increased, to preserve their market position.

Mercosur

Brazil was one of the founding members of Mercosur in 1991, along with Argentina, Uruguay and Paraguay. Venezuela became the fifth full member in 2006, and Chile, Bolivia, Peru, Ecuador and Columbia now hold associate status. Whilst the membership has expanded, the original concept of moving from a common external tariff to a free trade area and ultimately to a common market on the model of the European Union has remained largely unfulfilled. The implementation of full internal free trade has been delayed five times, with the latest start date deferred until 2013.

Two key structural problems have hindered the development of Mercosur. The first is the vast imbalance in the size of the respective partners ; Brazil accounts for 71% of the total population. Secondly, throughout its existence, the individual member states have remained focused on the competitive development of their own economies, rather than building a regional business strategy. This has led to the ad-hoc imposition of quotas and duties to counter short-term trading imbalances.

The Brazilian view of their largest trade deal is stark. “Mercosur does not work” is a view frequently expressed by Brazilian businessmen. They are also quick to point out that the “flexible compensatory mechanisms” under which large volumes of automotive products move duty-free between Brazil and Argentina are a separate bilateral

43 agreement, which can be subject to change at short notice. Currently, these “mechanisms” allow Brazil to export duty-free to Argentina $195-worth of automotive products for each $100 of Argentinean sales to Brazil. In the reverse direction, for each $100 of Brazilian sales, Argentina can ship $250-worth of goods duty-free into Brazil.

Mercosur has also failed to promote the harmonisation of regulations and technical standards. For example, Brazil will move to Euro V emission levels in 2012, at the same time as Argentina achieves Euro IV. Meanwhile, Venezuela continues to operate at Euro II/III.

MERCOSUR : UNEQUAL PARTNERS

Member State Population (millions)

Brazil 186.5 Argentina 38.7 Venezuela 26.7 Paraguay 6.2 Uruguay 3.5

USA

The sometimes uneasy relationship between Brazil and the USA is characterised by the visa requirements that each state continues to impose on the other‟s citizens.

US companies were heavily involved in the initial industrialisation of Brazil during the early decades of the C20th, but accumulated some unfortunate “baggage” during the subsequent period of political and economic uncertainty. This has led to some local scepticism about the value of American investment.

A long-running trade dispute over cotton products is due to come to a head in 2010, with Brazil having been given WTO authorisation to impose retaliatory duties on a range of US goods, including automotive products, if the original complaint is not settled.

European Union

The European Union comfortably out-ranks the USA in trade with Brazil. EU members accounted for 23.5% of total Brazilian exports in

44 2008, and 21% of imports. In the automotive sector, Europe accounts for a remarkable 46% of the $12.6 billion of automotive components imported into Brazil each year. This reflects not only the market leadership of Fiat and VW, but also the dominant market position of smaller cars. Brazil has also tended to align local technical regulations with European, rather than American, standards.

Component imports, by origin

27% Europe North America 46% South America

Asia

Other

11%

15%

Component exports, by destination

5% 5% 23% Europe

North America

South America

Asia

41% Other 26%

Recent exchange rate fluctuations have significantly increased the competitiveness of UK products against imports originating from Euro- zone countries.

There is continuing speculation about a free-trade deal between the EU and Brazil, but this frankly seems unlikely. European reluctance to open its agricultural sector to global competition and Brazilian determination to protect local industry are major impediments. It should also be recognised that American and Japanese multi-nationals operating in Brazil are less than enthusiastic about a deal that would favour their European competitors.

Asia

Brazil‟s trading relations within Asia are not well developed. In 2008, only 5% of auto component exports were destined for Asia-Pacific customers, although the import percentage (27%) was much higher – the majority destined for the aftermarket.

Sao Paulo is home to the largest Japanese immigrant community in the world, and the major Japanese VM‟s – Toyota, Honda and Nissan – all have local manufacturing facilities. But it is a low-key presence, and accounts less than 10% of the total market.

An increasing interest in India is now apparent in the Brazilian auto industry. There is a perception that these two BRIC countries have similar characteristics – e.g. a strong leaning to small, economical cars, a need for heavy commercial vehicles to serve their agricultural sectors and urban bus fleets to transport their urban populations. Several companies are beginning to research the opportunities to share products and technologies across the two markets.

BRAZIL & ARGENTINA : DISTANT NEIGHBOURS ?

Brazil and Argentina were originally born out of the rival imperial ambitions of Portugal and Spain. From that heritage, they have acquired different languages and culture, and a rather ambivalent attitude to one another. Whilst there is no overt hostility, there is competition for local “bragging rights.” Today, as Argentina struggles with high levels of debt and a weak economy, Brazilians believe that they have decisively overtaken a neighbour who has, in the past,

46 tended to look down on them. It is noticeable that, whereas Argentine spokesmen are quick to stress the business advantages to be derived from their proximity to Brazil, Brazilian counterparts rarely make the reciprocal argument.

However, the automotive industry successfully exploits the commercial opportunities afforded by the divergence in the economic paths of Brazil and Argentina. In particular, GM, Fiat, and Renault have all transferred the assembly of lower-price models to Argentine plants, to take advantage of lower labour costs and spare capacity. Many of the engines and other key components for those vehicles still originate in Brazil.

In 2008, whole vehicle exports from Brazil to Argentina reached 376,000, representing 51% of total overseas sales. Reduced sales in other global markets will have increased this percentage during 2009. Meanwhile, approximately 40% of Brazil’s component exports are destined for her southern neighbour.

Foreign Investment in Brazil

Brazil‟s industrialisation in the 1940‟s was largely driven by foreign capital. But, in the succeeding decades, the volatility of the Brazilian economic caused serious fluctuations in the flow of FDI. The deregulation process, commenced in the 1990‟s, and increasing economic stability today have produced a more regular pattern of foreign investment. But Brazilians are still conscious of the fickle nature of some previous investors, and are keen to avoid a repetition of old mistakes. They also do not wish to cede control of their extensive natural resources to offshore interests.

The EU is currently the largest investor in Brazil. In fact, figures from 2007 show that European investments in Brazil exceeded those in China by a factor of 3:1. In the automotive sector, approximately 45% of foreign capital investment comes from Europe. There is now a growing pattern of Asian investment in Brazil, with Chinese and Korean newcomers joining established, but cautious, Japanese companies in seeking a share of the growing market. For strategic national purposes, the Chinese government has invested considerable sums in accessing some of Brazil‟s rich harvest of natural resources.

The automotive sector ranks well behind the oil, gas and mining sectors in terms of FDI committed during the period 2008 – 2011. But

47 it is still expected to attract around $ 40 billion, with a particular emphasis on new engine and platform development. Recent investment announcements by established players include :

Toyota to commission a second assembly plant at Sorocaba, Sao Paulo VW to spend $3.5 billion over five years in developing new products for the market and up-grading existing facilities GM to invest $800 million in the introduction of nine new models by 2012. However, the projected new engine plant at Joinville is now in doubt PSA to commence local machining and production of previously imported engine parts Arvin Meritor are devoting $10 million to building up their commercial vehicle business at both OE and aftermarket levels

Fresh sources of investment are also emerging, particularly from the Asia Pacific region. South Korea‟s Hyundai has been flirting with plans for a local assembly plant for some time, although their situation is complicated by on-going disputes over a previous failed investment by Kia dating back to 1998. There are also rumours – not wholly welcomed within the local industry – of Chinese automotive investment. Chery, which already has a small “screw-driver” assembly operation in neighbouring Uruguay is reportedly looking for a site in Brazil.

48 LOGISTICS, CUSTOMS REGULATIONS & INFRASTRUCTURE

INFRASTRUCTURE

Infrastructure remains Brazil‟s “Achilles heel”. The rail network totals around 30,000 km – inadequate for a country the size of Europe - and is further fragmented by the existence of three different track gauges. The large distances involved make road transport costly and time- consuming. Sao Paulo, the main commercial hub, lacks both an adequate subway system and an effective ring road.

Currently public expenditure on the transport infrastructure accounts for less than 0.1% of GDP – a lamentable level of investment that leaves Brazil lagging severely behind its BRIC rivals. Only 12% of Brazilian roads are paved, compared to 82% in China, 81% in Russia and 47% in India. Private funding is also scarce. When tenders were invited for the new Vehicle Export Terminal (VTE) at the port of Santos, only two companies entered bids.

In January 2007, the government launched the Growth Acceleration programme (PAC – Progerama de Acceleracao do Crescimoento), under which an investment of $60 billion will be made in transport infrastructure. There is, however, local scepticism about the progress of this scheme, and a general resignation to lengthy delays in the implementation of any major projects.

Local infrastructure inadequacies limit the location options for companies wishing to establish a manufacturing base in Brazil, and explain why industry remains mostly confined to the south and south- eastern states. In 1998, four-fifths of component makers were based in the Greater Sao Paulo area, and, although that figures had fallen to 71% ten years later, the vehicle manufacturers still prefer their suppliers to be close at hand. Fiat, based at Betin in Minas Gerais state, estimate that 80% of their supply chain is located within 150 km of their plant.

It is calculated that internal transportation costs in Brazil account for 13% of GDP – better than China‟s equivalent figure of 18%, but well below the international benchmarks of USA (8%) and the EU (7%).

49 Forthcoming international events like the football World Cup and the Olympic Games can be expected to promote a surge in infrastructure projects, but it is questionable how widely the benefits will extend. There is considerable scepticism amongst Brazilian businesses about the ability of both central and regional government to translate ambitious schemes into real projects that are properly funded and completed on time.

INTERNATIONAL TRANSPORTATION

If internal transportation in Brazil is difficult, import and export movements can be even more challenging. Brazilian ports have a reputation for delays, bureaucracy and high costs. Failure to follow procedures precisely can be expensive, since storage fees, and some customs penalties, are calculated as a percentage of the value of the shipment. The requirement for original documents to be signed in blue ink is just one example of the pervading level of bureaucracy.

Companies wishing to import goods into Brazil must be in possession of a RADAR – an official government authorisation to act. Those who appoint a customs broker to handle the formalities must also lodge an appropriate power of attorney. Customs clearance is effected through the Siscomex computerised system, which calculates the duties and taxes payable, and – using a red, yellow, green “traffic light” system – determines whether the shipment will be released without further formality or whether the accompanying documents and/or the goods themselves are required for further inspection. In most other countries, that employ similar systems, a “green light” usually secures release of the cargo within 1 – 2 hours. In Brazil, it will normally be 1 – 2 days before such consignments are available for collection. If the goods are selected for physical examination, the delay could stretch to a week.

Goods imported into Brazil are liable to a range of duties and taxes. These include :

- Import Duty, calculated at the appropriate rate for that commodity - Excise Tax (IPI) - State Sales Tax (ICMS). This varies from state to state, but 18% is the most common rate

These taxes are calculated cumulatively on top of one another.

50 Additionally, import shipments are liable for :

- Maritime Transportation Fee (AFRMM), usually at 25% (seafreight only, airfreight is exempt) - Port and dock charges, which vary between 3% - 12% of the shipment value - An extra Adicional de Tarifas Porturaias (ATP) on top of the dock dues

As a result of all these additional levies, the final landed cost (and, therefore, the cost to the Brazilian customer) may be more than 50% higher than the price of the goods when they were dispatched from the country of origin.

CUSTOMS DUTIES

Brazil has a historical reputation for high import duties. Since the 1990‟s there has actually been a progressive reduction in tariffs, from an average of over 40% to the current figure of around 12%. However, this remains some way about the rates imposed on industrial goods by most other trading nations.

In the automotive sector, import duty rates for components typically range from 14% (for unfinished parts) to 18% (for complete systems). Components destined for OE assembly may be granted a 40% reduction on the full tariff rate, although there are fears within the industry that this concession may be withdrawn at short notice. For complete vehicles, the tariff remains at 35%.

Some duty reduction schemes are available. Duty drawback can be claimed on goods imported for further processing and subsequent re- export. This system is utilised by Brazil‟s strong coach-building sector. If it can be shown that a product fulfils a key industrial purpose, but is not available within Brazil, it is, apparently, possible to apply for duty exemption. However, the rules are unclear and the process labyrinthine, taking a minimum of 3 – 4 months.

51 APPENDIX I

DOING BUSINESS IN BRAZIL

It would be presumptuous to offer detailed advice on conducting business in Brazil from the experience of a single visit. However, the programme of in-market interviews, which form the basis for this report, revealed a number of local commercial characteristics, which should be appreciated by the business visitor.

Brazil is not a cheap country for the business traveller.

Internal travel in Brazil is surprisingly expensive for businessmen who may need to visit several industrial centres. Despite the presence of a number of “budget” domestic airlines – e.g. Azul, Gol, Oceanair - the fares on offer are well above the rates of similar operators in Europe. Most carriers favour a “hub-and-spoke” flight network, based on Sao Paulo and Rio de Janeiro, and it is advisable to plan itineraries carefully to avoid shuttling through these centres unnecessarily.

Similarly, car / driver hire rates are, at least, on a par with European costs, and an English-speaking driver will cost considerably more. The Brazilian rail system is not well developed. For those willing to travel overnight, the extensive long-distance coach network offers an economical alternative that is much more comfortable and safe than its local reputation suggests.

The only cheap transport option the author found in Brazil The “Priest’s Lift” in Salvador

52 Room prices at the major business hotels are well up the international scale, and dining out – whilst usually substantial and satisfying – is rarely cheap.

Even for local residents, Sao Paulo is a costly location. A survey conducted in 2008 found that Brazil‟s business capital was consistently more expensive than New York across a wide range of consumer products and services.

The strong appreciation of the Real against the major international currencies is an additional factor in making Brazil an expensive place to do business.

Changing money can be a challenge.

Although Brazilian cities are well served by bank branches and ATM‟s, many outlets do not recognise credit and debit cards issued in Europe. Similarly, not all hotels will exchange travellers‟ cheques, and, where they are accepted, exchange rates can be poor.

For the business traveller with a busy schedule, it is, therefore, advisable to have a cash “float” readily available to minimise lengthy trips to a major bank.

English is not the No 1 business language.

Only 8% of Brazilian business executives claim to speak English fluently, and only 24% believe that they could communicate “with some difficulty”. Although these percentages are likely to be higher in multi-national companies, it is unwise to assume that you will be able to conduct business efficiently without an interpreter.

To ensure that your skills are properly understood, it is advisable to have technical papers and presentations translated. Similarly, operating instructions and product specifications should be available in Portuguese.

A working knowledge of Spanish – with which many Brazilians have some familiarity – is useful in everyday situations, but does not offer a suitable alternative medium for serious discussions.

53 Brazilian companies have an independent – even isolationist – streak.

Brazilians are proud of their current commercial prosperity and strong economy. They feel that this has been largely achieved by their own efforts, without much intervention, or prior interest, from the wider world. Now that their economic success is attracting more global attention, they are in no hurry to dismantle their established trade barriers and business structures to accommodate overseas interests.

Brazilians want goods and services that match their local conditions and needs. They expect potential suppliers to have a clear understanding of their requirements, and not to preach “global” solutions to them. Partners are encouraged to establish a local presence in Brazil.

Brazilians like to be helpful.

They also like to understand details and to ask questions. Business visitors should make sure that they are well prepared, and – whenever possible – able to offer practical demonstrations. They should also be ready for meetings to last longer than expected, and allow more time in their daily schedules. In Brazil, speed does not equate to good service.

Brazilians are proud of their networking skills.

It is much easier to obtain a first appointment in Brazil if you can gain an introduction from a known intermediary. In instances where you have no suitable “go-between”, it is certainly worth mentioning your problem to other Brazilians. If they have a suitable contact, they will be delighted to help you to make the connection.

Brazilians also value, and attend, exhibitions and conferences as opportunities for face-to-face contact. A list of the key local automotive events appears in Appendix IV.

54 Tailor cost structures to local tastes.

Brazilians are used to seeing goods displayed in shops and advertisements with a base price plus taxes and add-ons. Similarly, in business, they prefer to deal with a “cost plus” pricing structure, rather than an all-inclusive figure. Taxes such as ICMS (the equivalent of VAT) vary from state to state.

It is, therefore, advisable to formulate prices on that basis, and to be ready to explain in some detail the build-up to the final total.

Remember to smile – it‟s a national habit !

55 APPENDIX II

ACKNOWLEDGEMENTS

We gratefully acknowledge the assistance of the following companies and organisations, whose co-operation contributed to the compilation of this report :

AEA – Associacao Brasileira de Engenharia Automotiva

ANFAVEA – Associacao Nacional dos Fabricantes de Veiculos Automotores

Carcon Automotive

CDI – Creation Design de Ideias e Pesquisas

Centro Universitario da FEI

Fiat Automoveis S.A.

Ford Motor Company Brasil Ltda

Fras-Le S.A.

Frost & Sullivan

General Motors do Brasil Ltda

Iveco Latin America S.A.

JAS do Brasil

JOST Brasil Sistemas Automotivos Ltda

Kinetic Cibed (Brazil)

Magneti Marelli Sistemas Automotivos

Marcopolo S.A.

Ministerio do Desenvolvimento Industria e Comercio Exterior

56 Prefeitura da Cidade de Sao Paulo

Randon Group

Renault do Brasil S.A.

Scania Latin America Ltda

SINDIPECAS – Brazilian Association of Automotive Component Manufacturers

SINFAVEA – Sindicato Nacional da Industria de Tratores, Caminhoes, Automoveis e Veiculos Similares

UK Trade & Investment

57 APPENDIX III

USEFUL CONTACTS

AEA – Associacao Brasileira de Engenharia Automotiva Rua Salvador Correia 80 – Aclimacao CEP 04109-070 Sao Paulo SP www.aea.org.br Tel +55 11 5575 9043 Email [email protected] Contact : Jose Edison Parro

ANDAP – Brazilian Association of Autoparts Distributors Avenida Paulista 1009 – Bela Vista 01311-919 Sao Paulo SP www.andap.org.br Tel +55 11 3266 7700

ANFAVEA – Associacao Nacional dos Fabricantes de Veiculos Automotores Avenida Indianápolis 496 04062-900 Sao Paulo SP www.anfavea.com.br Tel +55 11 2193 7800 Email [email protected]

Ministerio do Desenvolvimento Industria e Comercio Exterior Explanada dos Ministerios Bloco J, 6 Andar – Sala 600 CEP 70.053-900 Brasilia DF Tel +55 61 3425 7001 Email [email protected]

58 SINDIPECAS – Sindicato Nacional da Industria de Componentes para Vehículos Automotores Avenida santo Amaro 1386 04506-001 Sao Paulo SP www.sindipecas.org.br Tel +55 113848 4834 Email [email protected] Contact : Marcio Faveri

Society of Motor Manufacturers & Traders Ltd Forbes House Halkin Street London SW1X 7DS www.smmt.co.uk Tel 020 7235 7000 Email [email protected] Contact : Pat Shaw

UK Trade & Investment British Consulate General Rua Ferreira de Araujo 741 – Pinheiros 05428-002 Sao Paulo SP Tel +55 11 3094 2700 Email [email protected] Contact : Erika Azevedo

59 APPENDIX IV

SELECTED AUTOMOTIVE EXHIBITIONS AND EVENTS IN BRAZIL

AUTOMEC A biennial show, held in odd-numbered years, covering automotive components, maintenance equipment and associated services www.automecfeira.com.br

AUTOPAR A biennial show, held in even-numbered years, covering spare parts and accessories www.feiraautopar.com.br

FENATRAN A biennial show, held in odd-numbered years, focusing on trucks, commercial vehicles and their components www.fentran.com.br

SALAO INTERNACIONAL DO AUTOMOVEL Brazil‟s premier light vehicle show, held in even-numbered years www.salaodoautomovel.com.br

SAE BRASIL Annual technology exhibition and conference www.saebrasil.org.br