Geely Should Abandon Daimler. Here's a Better Idea

(Bloomberg Gadfly) -- What's eating Geely Automobile Holdings Ltd.?

With its shares cresting at around two-and-a-half times the level at which they started the year and a new premium brand set to take China's domestic market by storm, 2017's best-performing automotive stock appears gripped with worry.

Last month Geely approached Daimler AG, seeking to take a 5 percent stake via a share placement, Reuters reported at the time, without saying where it got the information. Daimler haughtily demurred, but suggested buying on the open market, according to the report. That market purchase appears now to be going ahead, Hong Kong's Standard newspaper quoted China Central Television as reporting Thursday.

All of this smacks a little of desperation. Investors rate Geely well above Daimler, with a forward price-earnings ratio of 15.3 that's almost double the German company's 7.8. What's so special about the Mercedes-Benz maker that's worth Geely's boss Li Shufu spending $4.5 billion or so on its stock?

One possibility is technology. A key reason investors appear to love Geely is its remarkable ability to develop attractive new models without spending any money.

Geely has the third-largest share of battery-electric cars in its sales mix among domestic peers and is aiming to electrify 90 percent of its range by 2020, well ahead of competitors. Its Lynk & Co. upmarket SUV brand, built on a platform shared with Geely's sister company Volvo Car AB, appears to be a hit. About 20,000 orders were placed for the model on its first day last month, Toliver Ma, an analyst at Guotai Junan Securities Co., wrote in a Dec. 11 note to clients.

All that has been achieved with R&D and capital expenditure budgets that are among the smallest of any major global automaker. If Geely has an industry-beating return on invested capital, it's probably because not much capital is being invested, and R&D is barely cutting into returns.

The race to stay in front without spending any money is certain to get harder in the years to come. As Gadfly argued last month, the 100 billion yuan ($15 billion) fund being set up for the lumbering state giant Chongqing Changan Automobile Co. will constitute a formidable advantage in its ambitions to go all-electric by 2025. State-owned BAIC Motor Corp. can expect similar backing in its plans to hit the same target.

One way of cutting that Gordian knot of staying in front without paying to do so is to borrow another company's expertise. Daimler, with the second-biggest R&D spend in the automotive industry, could in theory play the same role alongside Geely that Toyota Motor Corp. is playing with Mazda Motor Corp. and Suzuki Motor Corp., trading a slice of its spending heft in return for the more entrepreneurial talent and market access of a smaller player.

The problem for Geely is that Daimler's dance card is already marked. BYD Co., China's leading electric-vehicle developer, has a venture with the German company, and BAIC is its state-owned partner. Unless it can break apart that menage a trois, the billions spent on Daimler stock could be wasted.

Here's a better option. Hyundai Motor Co. is having to ramp up electric-vehicle spending to maintain its position in both India -- where it's the second-largest marque -- and China, where anti-Korean protests this year pushed it out of the top 10, after being number two as recently as 2015. Combined with Kia Motors Corp., Hyundai's R&D budget is also one of the largest in the industry.

Daimler Chief Executive Officer Dieter Zetsche has turned a cold eye on Li Shufu's advances, but his Korean counterpart Chung Mong-koo badly needs a friend in China right now. Should Geely take a chance on Hyundai in its moment of weakness, it may find its affections amply returned.

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

David Fickling is a Bloomberg Gadfly columnist covering commodities, as well as industrial and consumer companies. He has been a reporter for Bloomberg News, Dow Jones, the Wall Street Journal, the Financial Times and the Guardian.

©2017 Bloomberg L.P.

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