PROTON - A fork in the road

Nov 30th 2006 | HONG KONG
From The Economist print edition

Malaysia's crisis-ridden national carmaker faces a stark choice

APHanging by a thread

WHAT will become of Proton, Malaysia's struggling carmaker? A political project set up in the 1980s, it never picked up speed, has been overtaken by foreign competitors and has become embroiled in a struggle over its future direction. With its cash reserves running low, it is now in danger of breaking down altogether. The government, which hopes to place the company with a “strategic partner” by next February, simply wants to extricate itself from the mess with the minimum of humiliation. Which route it will take is the subject of feverish speculation.

Proton was set up by the government in 1983 and started building cars two years later in association with Mitsubishi of Japan. It was a central part of the strategy laid out by Mahathir Mohamad, the prime minister at the time, to transform Malaysia into an industrialised nation by 2020. The idea was that a big carmaker would create jobs, provide access to technologies, bring in export earnings and spawn a host of supporting industries. But Proton never got big. Although it once had 65% of the local market, output never rose above 227,000 cars a year and exports never exceeded 20,000 units annually. In an industry dominated by a handful of global giants, each producing 3m-6m cars a year, Proton remains a minnow.

Yet it has refused to scale down its ambitions. Proton has built factories capable of churning out 1m cars a year and has launched a range of models. But quality is poor and low volumes mean it is not able to compete on cost. Even local consumers have become fed up with Proton's cars, with their sharply declining second-hand values. They have switched loyalties to what was once the second national carmaker, Perodua, which is now controlled and very competently run by Japan's Daihatsu, part of Toyota. Proton's market share in Malaysia has fallen steadily in the past few years and is now just 31%.

The crisis has intensified in recent weeks because Proton's cash is running out. In 2003 it had 3.8 billion ringgit ($1.1 billion) in the bank, but today it has only 500m ringgit, half what it had in March. Hence the government's recent announcement that it was in new talks with two big European car groups, Volkswagen and PSA Peugeot Citroën, with a view to selling part or all of its stake to one of them or forming some kind of strategic alliance.

The trouble is that Proton is not just an ailing carmaker. It is also a political hot potato, since it is caught up in the feud between Dr Mahathir and Abdullah Badawi, who succeeded him as prime minister in 2003. Mr Badawi sees the firm as a liability, but to Dr Mahathir any sale would be tantamount to dismantling his legacy. Khazanah, the national investment authority and Proton's main shareholder, is also reluctant to sell because of the write-down it would take. To complicate matters further Proton's management, in an effort to assert control, has signed vague letters of intent with carmakers including Peugeot and China's Chery. And three local car importers, DRB-Hicom, Naza Group and Mofaz, separately offered to buy Proton in order to keep it in Malaysian hands.

But even if a buyer can be found, a sale would cause other problems. Foreign buyers would be interested mainly in access to the market, not in Proton's factories, models or headstrong managers, who insist that a little more investment is all that is needed to turn the firm around. And although another carmaker could use Proton's manufacturing plants, it would make little financial sense, since most parts would have to be imported. Foreign component-makers, put off by Malaysia's rules that give advantages to ethnic Malays, have set up shop in Thailand instead.

Malaysia's government, the prime minister and his meddling predecessor do not have long to decide which way to turn. Should Proton give up and become a tiny part of a global carmaker, or should it struggle on in the hope that things will somehow improve? Selling out to a foreign firm would be humiliating. But Proton's struggles are already a national embarrassment as it is.