What difference will tariffs make?

I had some time off last week in order to complete various bits of work around our house.  I won't bore you here with all the challenges faced but I was reminded of discussion I had many years ago with Sir John Egan, the former Chief Executive of Jaguar Cars, who then went on to the same position at the British Airports Authority.  As the owner at the time of all the major UK airports, one of their major activities was managing construction projects and Sir John found plenty of opportunities to transfer best practise from automotive to construction.  I can't pretend to have achieved the same but I certainly see the gaps iterms of poor planning, process and management.

Whilst I was off, the confirmation came from the European Commission that the tariffs previously announced as provisional were confirmed, so that – depending on brand – imports of Chinese made BEVs will be subject to an additional tariff off between 17% and 38%.  This is in addition to the standard 10% tariff and is applied to the landed price of the vehicle.  Various reports have ignored the standard tariff and/or assumed the tariff applied to the list price of the vehicle, both of which are incorrect.  However, the end result is that Chinese produced BEVs in the lower-mid segment off the market will carry an additional tariff of around €4000 based on our understanding of a typical value chain.  That is well within the gross margin the Chinese brands are operating within Europe, but would still add up to €80 million cost for a brand that achieved 20,000 BEV sales across the EU, a volume that is less than the ambition that many have publicly stated, but substantially more than almost all the brands achieved last year.

There have been some announcements of new manufacturing plants from the Chinese brands in the last few weeks, most recently from BYD announcing that they will build an assembly plant in Turkey, which sits within the EU customs union.  This is not however a reaction to the tariffs but an inevitable stage in the evolution of the brands’ growth in European markets.  Even with local assembly plants, they will still face the same challenge as all the other manufacturers of sourcing sufficient content of the battery locally to meet the Rules of Origin requirements (though these have still not been finalised).  As we still struggle to produce battery cells reliably in Europe, a significant part of the content by value of all BEVs will still be Chinese or Korean.

There will also ironically be the opportunity for some offset driven by a different set of regulations that encouraged the industry towards electrification.  In the EU there are new CO2 targets taking effect next year which will apply to the average performance across a manufacturer’s sales, but with the opportunity to pool those results with other unrelated brands that are in a better position.  This creates a potential income for those brands whose sales mix is more favourable in terms of CO2 performance through selling credits to brands who would otherwise be fined for noncompliance.  The position in the UK is more extreme because the ZEV Mandate sets targets for the percentage of sales that are zero emissions from 2024, ramping up each year thereafter, and with no opportunity to pool results with unrelated manufacturers.  There is however a trading system which allows an under-performing brand to buy credits from a brand that exceeds their ZEV mix target.  A Chinese brand which is focused on BEVs or has a high BEV mix could therefore be paying additional tariffs on the one hand, but generating an income by selling credits from those cars to other established manufacturers.  It's impossible at this stage to predict how this crazy money-go-round will work but it is likely that the headline impact will be much lower than a narrow focus on tariffs would suggest.

You also need to consider the strategic background to the arrival of the Chinese brands, and indeed the sourcing of BEV product by established brands in China.  The whole reason for the Chinese industry to be subsidised in the first place was to support a leapfrog strategy that enabled the Chinese car industry to be leaders rather than followers.  That was a long-term strategy launched over a decade ago, and where the payback was also seen to be over decades, not years.  Some additional cost burden that dents European profits, but does not wipe them out, is not going to deter the continued push by the Chinese brands to build a strong presence in the European market.  For those who have the option, we may see more focus on ICE and PHEV models, but that is a trend that was already established before the tariffs and is a response to the lack of retail demand for BEVs faced by the entire industry.  The Chinese will continue to grow their networks as Europe remains a relatively more attractive market in terms of profitability than China and more politically open than the US.  Some of the added costs may be passed on to consumers but I suspect that this will be barely noticeable.  We will probably see some brands disappear, but again this will be a reflection of a fundamentally weak core business or flawed market entry strategy, rather than the consequence of tariffs.

All in all, I do not therefore anticipate that tariffs on Chinese built BEVs will have any significant impact in European markets beyond some recalculations of the business plans for the manufacturers affected, not all of whom are Chinese.  The bigger impact – as the German industry has warned – is more likely to be any retaliatory action by China on European brands in their market.  That could do more to weaken some of the European brands in terms of lost profits from the Chinese market than they would ever have faced from continued Chinese imports into Europe with the standard tariff regime.