HONG KONG (S&P Global Ratings) April 14, 2022--The latest wave of COVID-19 will take a heavier toll on China's auto industry during the second quarter. The resurgence is exacerbating the supply-chain problems that the sector has been experiencing since the pandemic started.

"Production suspension, component shortages, and disruption to logistics are weighing on the sales and margins of the auto companies we rate," said S&P Global Ratings credit analyst Claire Yuan. "But most of these issuers have sufficient financial headroom to overcome the difficulties."

The pandemic tightened its grip in April. As such, we expect production and new car sales (on a wholesale basis) for passenger vehicles will likely decline at a higher rate this month, before gradually recovering in May-June. This assumes restrictive measures will loosen. Wholesale levels for passenger vehicles have started to slow, dipping 1% year on year (YoY) because of outbreaks in different regions in March.

Places concurrently hit by the outbreak since March include Changchun and Shanghai, which accounted for about 12.6% of China's total light vehicle production in 2021, according to S&P Global Mobility. While producers in Changchun recently resumed production after close to one month's suspension, production of major automakers has halted in Shanghai since the end of last month.

Shanghai is not just a major car manufacturing hub for China, it's also home to many auto suppliers. These include Aptiv, one of the country's largest suppliers of wiring harnesses. And it's also home to Bosch, an important tier-one supplier for many carmakers. According to media, these two companies are operating their Shanghai plants at partial capacity with a reduced labor force. At the same time, an exit-entry permit is required for trucks to enter or leave Shanghai. This leads to component shortages and additional costs for original equipment manufacturers (OEMs) in adjacent provinces that are struggling to ship goods out of Shanghai.

OEMs and suppliers affected in this wave may be able to resume their production from the end of April, as the pandemic and related curbs gradually ease. Shanghai has slightly loosened its lockdown measures in recent days. The State Council and National Development and Reform Commission has also urged that logistics be restored in the country.

New energy vehicle (NEV) sales will also soften, after 114% growth in the first three months of the year. Tesla suspended production at its Shanghai factory from the end of March because of the lockdown and Nio halted production a few days ago due to a component shortage.

An outbreak in Ningde is an additional risk to the supply chain because the city is the headquarters of the world's largest NEV battery producer: Contemporary Amperex Technology Co. Ltd. (BBB+/Stable/--). The company is currently producing under closed-loop management, and the local government has issued exit-entry permits to the company to ensure smooth logistics. Any exacerbation of the pandemic locally would further hinder the already-tight supply of batteries.

Our base case assumes China's NEV sales will grow by 48% to 5 million units in 2022 and the NEV penetration rate can reach 20%. We think this is still achievable, with sales in the first three months reaching 25% of our full-year estimate and a penetration rate of 22% in March.

While supply-side issues could abate, auto demand may be a larger risk. Retail sales of passenger vehicles are likely to decline even more in April than the 11% YoY drop in March. The March slump is attributable to pandemic curbs, which reduced consumers' ability to visit dealership stores.

"The economic slowdown may dampen consumer sentiment for a prolonged period, further weakening auto sales," said Ms. Yuan. "Downside risk is increasingly weighing on our assumption of 1%-3% growth in China's light vehicle sales in 2022."

Performances of rated OEMs could continue to diverge over the rest of the year. They underperformed the wider industry in the year to date, either due to pandemic-induced suspensions or increasingly severe chip shortages.

China FAW Group Co. Ltd. (A/Stable/--) is one of the hardest-hit carmakers. In January, China FAW-Toyota suspended production for one to two weeks after a coronavirus outbreak in Tianjin. China FAW suspended five plants (around 30% of its total capacity) in Jilin about a month ago before resuming production on April 11, 2022. We expect the company to accelerate production to compensate for the volume loss during the suspensions, but the global chip shortage will still constrain production. We anticipate the company's EBITDA margin will dip to 8.5%-9.0% in 2022, from our estimate of 9.6%-9.8% for 2021. That said, the company has a sufficient rating buffer to navigate the industry volatilities.

While Beijing Automotive Group Co. Ltd.'s (BBB/Stable/--) operations are less affected by pandemic measures, the chip shortage has had a detrimental impact. However, in our view, the company has sufficient financial headroom after receiving Chinese renminbi (RMB) 20 billion in financial support from the Beijing municipal government last year.

Dongfeng Motor Group Co. Ltd. (A/Stable/--) fared relatively better, with sales growth of 4% in the first quarter. However, sales in March dropped by 19% YoY, likely because of a disrupted chip supply after an earthquake in Oita and Fukushima. Less-resilient chip supply and elevated costs could erode Dongfeng's financial buffer. By our estimate, EBITDA margin under proportionate consolidation at the company's parent, Dongfeng Motor Corp., could fall below 8% this year. Our base case assumes the margin will recover from 2023, with marginal improvement in chip supply and continued internal restructuring.

Geely Automobile Holdings Ltd.'s (BBB-/Stable/--) volumes declined 2% in the first quarter, while its March sales increased by 1% YoY. The coronavirus outbreak in Shanghai and Zhejiang could disrupt the company's production in April. Nevertheless, we expect the company's performance to be more resilient than peers', given higher flexibility in component procurement. Higher selling prices, an improved product mix, and cost-saving measures could temper the margin pressure from volume loss and supply-chain disruption. We also expect the debt-to-EBITDA ratio of its parent, Zhejiang Geely Holding Group Co. Ltd. (BBB-/Stable/--), should stay below 2x in 2022.