German Automakers Lose Ground in China: Falling Behind on Technology, Software Glitches and a Bleak Future

German Automakers Lose Ground in China: Falling Behind on Technology, Software Glitches and a Bleak FutureAfter dominating the Chinese car market for decades, Volkswagen, BMW, and Mercedes-Benz are facing a precarious future in China as they fall behind Chinese electric vehicle (EV) manufacturers on technological innovation.Ms

German Automakers Lose Ground in China: Falling Behind on Technology, Software Glitches and a Bleak Future

After dominating the Chinese car market for decades, Volkswagen, BMW, and Mercedes-Benz are facing a precarious future in China as they fall behind Chinese electric vehicle (EV) manufacturers on technological innovation.

Ms. Xu, an entrepreneur from Guangdong, used to be the dream customer of German automakers. She and her husband owned a Porsche 911 and a Mercedes-Benz G-Class SUV, and she was one of the first owners of the Taycan, Porsche's first all-electric sports car. However, as Chinese consumers prioritize technological features in cars, leaving behind traditional selling points like power and handling, Ms. Xu's view of German cars has changed. The 36-year-old mother said that although the Taycan costs over $100,000, its software system is "horrible" and it's "just an electric Porsche, nothing more."

Ms. Xu's opinion is not an isolated case. As China gradually phases out gasoline cars, Volkswagen, Mercedes-Benz, and BMW have found it more difficult to attract Chinese consumers after launching electric models. They have invested 350 billion (about $38 billion) in the market but face a bleak future.

Data from last week showed that all three German automakers saw sales decline in China during the third quarter. BMW sales fell 30%, the biggest drop in over four years. Mercedes-Benz sales dropped 13%, with demand particularly weak for its high-end models like the S-Class sedan and Maybach. Porsches China sales also tumbled 19% in the third quarter, its worst performance in the market in a decade, as global demand for the Taycan halved. Volkswagen, the parent company of Porsche and Audi, saw its sales drop 15%.

"The competition in China is particularly fierce," said Marco Schubert, Volkswagen's sales director. German automakers, which had a dominant position during the peak of the gasoline car era, have become complacent, underestimating the challenge posed by emerging rivals and unwilling to abandon the high profits of large-displacement cars. This has provided an opportunity for Tesla and Chinese domestic carmakers like BYD to capture market share, as they can quickly launch technologically advanced and more competitively priced plug-in electric vehicles.

"The tide has turned for these carmakers," said Stephen Dale, Managing Director of consulting firm AlixPartners in Shanghai. "They need to fundamentally change their market strategies."

This challenge was further highlighted at the Paris Motor Show this week. Chinese carmakers are aggressively pursuing market share in Europe, with companies like BYD and Xpeng showcasing their latest technology at Europe's largest car show.

For German carmakers, at least one response didn't go as planned. During Volkswagen's presentation about its future electric vehicles, microphones and slides suddenly went down for several minutes, leaving Martin Sander, director of sales and marketing, visibly frustrated.

This disappointment has been felt by Chinese car owners as well. After dealing with braking issues and other quality problems with her Porsche Taycan, Ms. Xu decided to sell it and bought a NIO ET5. The car is a third cheaper than the Mercedes-Benz EQE she originally considered, has a more luxurious interior, a smoother voice control system, and can even recognize her children's names. "German cars can't reach this level of technology," she stated, adding that today's Mercedes-Benz, BMW, and Audi "can't be called luxury cars anymore."

While German automakers still control nearly 15% of the Chinese market, this is a significant drop from the 25% they held before the pandemic. Even more concerning, they have less than a 10% market share in China's EV market. Failure to quickly reverse this decline could turn into a larger-scale defeat, threatening the survival of the German auto giants. In fact, Volkswagen, Mercedes-Benz, and BMW currently have a market capitalization that's less than half of BYD's.

German automakers have invested more heavily in the Chinese market than other international carmakers. While some competitors have chosen to withdraw or scale back their operations in China, German automakers have doubled down, trying to regain market share.

However, this fight is not easy. Volkswagen says it will continue to focus on its long-term strategy, with a spokesperson stating that despite fierce price competition in the Chinese market, Volkswagen will not sacrifice profitability for market share. The company will continue to implement its "In China, for China" strategy to ensure long-term growth. BMW and Mercedes-Benz also plan to stick to their localization strategy, attracting more Chinese consumers.

The reasons for these companies' deep commitment to the Chinese market are clear. The European market may have reached saturation, and the US market has limited growth potential. For German automakers, there is no other market that can offer the same sales and profits as China.

This is why German automakers have invested so heavily in China, with over 40 factories in the country, exceeding the number of factories they have in Germany. This massive investment makes it difficult for them to abandon this market easily, which is one reason why they oppose hefty EU tariffs on low-priced Chinese electric vehicles.

Exiting the Chinese market, as General Motors, Suzuki, and Mitsubishi did, is almost unthinkable for German automakers. Any kind of restructuring would be extremely complex, making German automakers even more focused on developing features that meet the needs of Chinese consumers.

The sense of crisis gradually intensified starting in late 2022. After reporting to the company's supervisory board that Chinese car manufacturers were far ahead, Ralf Brandsttter, CEO of Volkswagen China, decided to charter a plane to transport hundreds of employees to the Shanghai Auto Show in April 2023, allowing them to witness firsthand the state of the Chinese market.

The harsh reality is that Chinese carmakers are rapidly introducing technologically advanced and affordable models, reshaping consumer expectations about cars, with various seemingly fancy features like in-car karaoke becoming important factors in Chinese consumers' car buying decisions.

Since then, German carmakers have swiftly taken action. A few weeks later, Volkswagen CEO Oliver Blume replaced the head of the company's software division, Cariad, to accelerate technological improvements. Volkswagen also intensified cooperation with Chinese companies in areas such as autonomous driving, infotainment, and user experience, even investing in Xpeng to leverage their expertise in electric vehicles to develop new models.

In September, after Mercedes-Benz issued a profit warning, CEO Ola Kllenius immediately flew to China to check the progress of the company's efforts to adjust its business, including collaborating with CATL on battery production and partnering with Tencent on digital services. Meanwhile, BMW has partnered with Great Wall Motors to develop electric vehicles for the Mini brand.

However, these measures have led to a gradual loss of "Germanness" in the car products of German automakers in the Chinese market. Gregor Sebastian, an analyst at Rhodium Group, a market research firm, pointed out that this strategy is a departure from the traditional German carmaker development path. Sebastian said that sticking to the Chinese market is "a huge gamble." He added that if this strategy fails, Germany may need to bail out these companies, "They hope they're big enough not to fall."

Chinese consumers have long been enthusiastic about buying German cars, but that's changed. Winning back those younger, tech-savvy customers is a huge challenge for German automakers. With the rapid adoption of electric vehicles, Chinese domestic brands have proven they can not only match German automakers in quality but also surpass them in price and technology.

This shift can be felt at Mercedes-Benz's Sindelfingen factory near Stuttgart, where the S-Class sedan, once a favorite among China's nouveau riche, is produced. But now, demand has dropped significantly, and production at the factory has been reduced to a single shift for the first time.

Cost-cutting measures have started to hit the German auto industry, most notably with Volkswagen announcing the closure of a German plant, but their operations in China remain untouched. This indicates that executives still have hope for the future of the Chinese market, but they have no choice.

Scaling back operations in the Chinese market is not easy. Large-scale layoffs require negotiation with local partners and must be approved, while closing factories is even more challenging. This situation forces German automakers to revive their sales performance, but the scales of the market have already tilted towards domestic Chinese carmakers.

Today, major Chinese carmakers like FAW Group are more focused on technology and market share than profitability, a strategy that German automakers find difficult to accept.

Despite these structural obstacles, there is still a chance for German automakers to avoid a large-scale decline if they can make more forward-looking investments in China. However, for decades, they have been at the top of the global auto industry and have never truly taken Chinese competitors seriously. Many decisions were made by company boards thousands of kilometers away, ignoring the realities of the Chinese market.

Moreover, German automakers underestimated the complexity of the transition from gasoline cars to electric vehicles, believing it was simply a matter of swapping out the powertrain. The early software issues, however, have damaged brand image.

For example, Volkswagen launched its first electric car in China as early as 2020 but didn't start offering remote software updates until a few years later. This meant owners had to take their vehicles back to dealerships for offline upgrades, sometimes taking days. To mitigate negative customer