Ah, China, one of the major reasons for investor optimism in the cyclical automotive industry. Just as investors of major automakers such as General Motors (NYSE:GM) were hopeful that China would strap the global industry on its back and provide meaningful sales growth during the next decade, that optimistic view was flooded with doubt amid the country's recent economic slowdown.
Despite the slowdown, China has recently deployed a trick it had up its sleeve. Here's a look at how China's vehicle purchase tax cut could impact General Motors during the next 12 months.
What's the big deal?
The China State Council announced an auto stimulus package effective from Oct. 1, 2015, through 2016 year-end that will reduce the vehicle purchase tax to 5% from 10% on vehicles with a 1.6-liter engine or lower. To put that in context, that's a vehicle market that generates roughly 70% of China's passenger vehicle sales -- or about 19 million units. Barron's estimates the savings to be around $1,500 to the consumer, and this could significantly boost sales in China amid an economic slowdown, which has put pressure on vehicle sales.
According to GM, the automaker and its joint ventures have a total of four brands, 30 models, and 128 trim levels that will benefit from the incentive. In other words, roughly 80% of GM's passenger-vehicle and light-van sales in China have a 1.6-liter engine or lower. For comparison, Barron's estimates that acceptable vehicles account for roughly 71% of Ford's unit volume in China.
"Amid the challenging market environment, we have remained focused on providing great products designed for China to meet the needs of our customers," said GM Executive Vice President and GM China President Matt Tsien in a press release. Again, despite the slowdown, General Motors and its joint ventures sold a record 2,197,192 units at retail in China during the first eight months of 2015 -- a 2.3% gain from the same time period last year. Currently, it's unclear how much China's purchase-tax incentive will boost vehicle sales, but investors should remain optimistic it will have a fair amount of impact.
According to Credit Suisse analyst Dan Galves:
History would say this could be a meaningful stimulus: The impact on volume is difficult to gauge. In 2009/2010, a similar tax cut led to acceleration of volume growth to ~40% per year in 2009/2010, from 8% in 2008. Clearly we don't expect that type of acceleration (the market is much bigger now and the economic picture is very different), but there is precedent that a $1,500 price cut can meaningfully stimulate demand.
Ultimately, investors worried about China becoming less capable of growing automakers' top and bottom lines in the near term should be optimistic that the country is attempting to fend off economic and sales weakness. China's willingness to aid vehicle sales is increasingly relevant to General Motors investors, as Detroit's largest automaker is battling Volkswagen for the top foreign automaker by sales, and the country remains GM's largest market by unit sales.
Daniel Miller owns shares of, and The Motley Fool recommends, Ford and General Motors. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.