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Wednesday, February 25, 2009

Article: Hard lessons prepare Proton for downturn

23 Feb 2009: SOURCE:

Corporate: Hard lessons prepare Proton for downturn
by Siow Chen Ming

As car sales declined towards the end of last year, Proton Holdings Bhd's results for the last quarter of 2008 (3QFY2009 ending March 31) are likely to look bad when they are released at the end of this month.

Still, it would be wrong to predict that the national carmaker would end up in the same dire state as the big Japanese or US car manufacturers, which have reported heavy losses and are downsizing their operations globally.

The situation is not as bad for Proton, sources close to the company say.
"Proton was in a much worse situation a few years ago. At the time, its models were obsolete and could barely sell, and the company had barely enough cash to develop new models," says a source.

Now, despite the poor external environment, Proton is deemed to be on a stronger footing as a car company, having bitten the bullet and spent the necessary capital expenditure (capex) on important projects over the last few years.

For instance, the national carmaker has invested in two core models — the Saga and the Persona. These models were launched over the last two years and have been selling well. The company has also wrapped up the development of its MPV, another mass-market model to be launched in April. The MPV cost Proton slightly over RM450 million in terms of R&D and tooling.

Learning some hard lessons from those years, Proton has streamlined its operations and supply chain and become more focused on its strategy, which is geared towards smart partnerships rather than going it alone.

With these smart partnerships, the capex requirement for the company is expected to be less demanding and more flexible, depending on the economic situation and the affordability of its models.

For instance, although the national carmaker allocates about RM500 million a year to product development and R&D, the spending could be managed more flexibly, depending on the company's cash flow position and the needs or priorities at the time concerned, a source says. Proton had about RM1.2 billion net cash as at Sept 30, 2008.

The most important thing is that management has become more practical. Rather than developing the Waja replacement model from scratch, Proton signed up with Mitsubishi Motors Corp of Japan to "rebadge" the Mitsubishi Lancer as Waja, which will be launched next year.

"Instead of spending RM500 million on R&D alone, Proton is expected to spend only about RM300 million, including re-engineering the Lancer and investing in the production line," says a source.

He adds that Proton is looking to price the 1.8-litre Waja-Lancer from less than RM75,000 to RM80,000. This will throw a strong challenge to the likes of Toyota Vios or Honda City, which are selling for more than RM75,000 despite their smaller engine capacity of 1.5 litres.

"At that kind of pricing, the Waja-Lancer will be a hit, as people know that it is based on the coveted Lancer," says the source.

Whether or not the car market gets worse next year, the Waja-Lancer will be an important product for Proton in 2010. Since it is a rebadged model, the development cost is low and the margin better. Furthermore, demand in the medium-high sedan segment is relatively stable.

With the Waja-Lancer, the new MPV and the existing Saga and Persona, Proton will have four strong models — with most of the investment cost already accounted for (except for the Waja-Lancer) — with which to sail through the current difficult period.

Proton aims to produce 3,500 to 4,000 MPVs a month. As it is the group's first MPV, management expects it to generate more sales for the group by taking market share from its competitors rather than cannibalising the sales of existing Proton models.
The Malaysian car market is expected to fall about 20% this year, according to Synovate Motoresearch, but observers believe the impact could be less on Proton as buyers may choose to down-trade or seek better value in their purchases.

But even if sales do go down, says a source, Proton has no plans to downsize its operations or lay off any of its 10,730 employees, barring ongoing cost-cutting measures.

"The production staff are now working on a single shift. Should orders for the MPV spike, like they did for the Saga last year, Proton could double the shift on the MPV production line. If sales are slow, the company will resort to cutting production by, say, one day every two weeks and so on," says an official.

Going by its arrangement for the Waja-Lancer, the difference between being a national carmaker and a car assembler might blur for Proton in the near future.
Says an observer, "If you understand the Perodua business model, then you can see Proton becoming a little bit like Perodua. Although Perodua is called the second national car project, it is essentially rebadging or re-engineering Daihatsu or Toyota models."

Although Proton's management may prefer not to call the Waja replacement a rebadging of the Lancer, the fact is that the national carmaker is going into the "car assembly" business in a big way, through a collaboration with Mitsubishi.

The deal is not much different from those of other local automotive assemblers and franchise holders, such as UMW Holdings Bhd (for Toyota models) and Tan Chong Motor Holdings Bhd (Nissan).

The only difference is that Proton will try to add more value to a rebadged model by modifying the body panel design and tuning the suspension and driving dynamics of the car using its Lotus expertise.

Rather than developing the entire vehicle in-house, the assembly or rebadging of certain medium-high segment models for the home market — where the margin is better — will free up resources for Proton to focus on developing models for its core medium and lower segments.

At the end of the day, whether Proton can survive as a standalone car manufacturer becomes an irrelevant question. If it can still develop new models with a budget of about RM500 million, recover the investment, generate cash flow and, at the same time, make a profit from rebadging or assembling vehicles, then its business should be viable. To thrive would be the more difficult part.

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