Brazil's Import Tax Rise to Hit Sales in 2012—Forecast

The Brazilian government's recent measure to raise the industrial production tax (IPI) on imports and vehicles built from imported parts is expected to have a negative impact on overall sales both this year and next, according to IHS Automotive‘s latest forecast (see Brazil: 20 September, 2011: Brazil Announces New Measures to Protect Local Industry and Combat Currency Appreciation). The move sees the so-called industrial products tax on automakers rise by 30% for all vehicles, both imported and made in Brazil, with exceptions only for those who source 65% of their parts locally or from the Mercosur trade bloc or Mexico. The measure will raise the cost of imported cars by as much as 28%. The aim of the tax is to force foreign automakers to build or source key components in Brazil, according to Brazil’s finance minister Guido Mantega. In addition, companies will have to source 6 out of 11 component criteria to avoid the tax. As with other proposals included in the new industrial policy, increasing the costs of imported goods will not necessarily help Brazil's manufacturing sector to become more efficient. Indeed, the Brazilian auto association has warned that the local content rules could increase the price of cars made in Brazil.

To be exempt, OEMs must present a plan to the government within the next two months demonstrating that their vehicles have 65% regional or domestic content to qualify. The government is also asking that that 6 of the 11 requirements below be met:

• Assembly
• Stamping
• Welding
• Corrosion treatment and paint
• Plastic injection
• Engine production
• Transmission production
• Drivetrain/steering assembly
• Chassis assembly
• Final assembly of cabins and accessorising
• Chassis production with regional parts

In addition to the tax rise, the government published a decree extending the 1% financial transaction tax IOF to transactions that decrease long-dollar positions in the futures market—a move also aimed at combating the appreciation of the real.

Outlook and Implications

The IPI tax changes will remain in place through to December 2012 and were among tax changes for the automotive sector anticipated in a new industrial policy known as Bigger Brazil. The government hopes that the new local content rules will help to stimulate increased production and encourage more foreign companies to set up plants in Brazil. According to the Brazilian automakers' association Anfavea’s data, sales of cars made in Brazil have risen by just 2.2% since the start of the year, compared to a 34.7% increase in foreign cars. The temporary tax measure does nothing to address the fundamental structural issues facing the sector and could add to inflation woes as foreign imported cars rise in cost.

Indeed, while Brazil has been enjoying a car-making boom of late, with many OEMs investing huge sums in new or extended manufacturing plants in Brazil in the last few years, the amount of investment from key suppliers has not grown in relation to this expansion (see figure 1). The disconnect in this relationship stems from the fact that the local supplier park suffers from many of the overall industrial inefficiencies, inflexibility, high cost, and poor quality that blight the Brazilian auto sector as a whole. OEMs have opted to import key components, instead of finding local sources. As is often the case, this temporary punitive taxation system has unforeseen and negative impacts, and it is not addressing the core issues of the overall inflexibility of the heavily unionised industrial auto sector. Brazil remains one of the most expensive places in the world to buy a car and the quality of locally made models is not up to the standard of other international operations.

USD Million

Fig 1

In light of this, IHS Automotive expects that the measures will negatively affect imported vehicles significantly across the board while they remain in place. Currently we estimate that imported volumes that fail to meet the government's new criteria are around the 300,000 level, or 10% of the market. Brands like Hyundai, Kia, Chery, JAC, BMW, and Mercedes-Benz are at risk. These brands have been gaining market share over the last couple of years, but either entirely or mostly from imports. This gain in market share has taken a toll on local OEMs as imported models now take up nearly more than 22% of overall sales, according to Anfavea data. The situation has left local operations having to idle shifts through the end of the year (GM, VW, Fiat, and Ford) as inventories build up (see Brazil: 7 August, 2011: Automakers in Brazil to Trim Production). Even though a number of the aforementioned carmakers have plans in progress to establish manufacturing plants, Hyundai and the Chinese in particular (see Brazil: 21 July 2011: Chery Begins Construction of USD400-Mil. Car Plant in Brazil), few will have factored in the additional burden of trying to establish a suitable supplier park at the same time (see Brazil: 20 September 2011: Brazil's New Import Restrictions Force Chinese Automakers to Build Locally).

The government’s intervention is due to the fact that the automotive sector is a critical element of Brazil's GDP, ranging between 6% and 8% over the past five years. This would not have an impact on Argentine- or Mexico-sourced vehicles. The Brazilian government will use the value of imported parts outside of Mercosur and divide by total revenues (invoiced) of the company to ensure that the regional content is not inferior to 65% to ensure qualification. For example, if an OEM imports BRL1 billion and they invoice BRL10 billion, their regional content would be 90%.

We believe that the government measure would kill one-third to one-half of the 300,000 vehicles at risk (approximately 100,000-150,000). Therefore, IHS Automotive has adjusted its light-vehicle market outlook for 2012 to the lower figure of 3.515 million, as opposed to the 3.55-3.6 million units we had envisioned prior to the measure. There would be no impact on this year as our forecast remains conservative given sales through to August. We anticipate that consumers will wait for the "finer tasting wine (imports)" unless the government measure is extended, in which case they will move back to domestic vehicles. Alternatively, if the real continues its appreciation it could be possible that the measure will have a smaller impact (but the macro forecast calls for no further appreciation).