China Review The Market for Modern Diesels

1
China Review The Market for Modern Diesels

• International Truck and Engine Corporation
• Power Systems Research Conference
• October 11, 2002

2
Agenda

• International Company Profile
• Diesel Engine Market Review
• China Market Outlook
• Assessment

3
INTERNATIONAL corporate profile
Organization Three Business Units
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International

• How We Began
• 1831 - Cyrus Hall McCormick invents the
  mechanical reaper
• 1902 Creation of International Harvester
  (August is centenary)
• Five companies merged
• Financed by J.P. Morgan
• One of the first multinationals France, England,
  Russia, Germany, South America, Australia .

5
International .

• How We Began
• 1907 - Introduces countrys first
  gasoline-powered truck, Auto Buggy
• 1917 Produced our first factory-made school bus

6
International .

• 1920s - 1930s
• 1933 - Our first diesel engine
• 1934 - Our first cab-over-engine truck
• 1935 - K line truck - later the first Chinese
  Jie Feng truck

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International .

• 1940s - 1980s
• The new International W series, from the 1940s,
  included the first truck designed from the
  ground up for diesel engines
• 1974 - S line tricks introduced - best selling
  model in our history
• 1983 - first truck maker to offer ONLY diesel
  engines

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International .

• 1980s
• 1985 - Refocused, reorganized and changed from
  International Harvester to become Navistar
  International Transportation Corp.
• Manufacturing
• Medium and heavy duty trucks and buses
• Mid-range diesel engines
• Retail and wholesale financing

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International .

• 1990s, 2000s Beyond
• Refocused the International brand and became
  International Truck and Engine Corporation
• A worldwide leader in production of mid-range
  diesel engines
• A leader in U.S. and Canada in combined sales of
  medium/heavy trucks and buses
• North Americas largest, most comprehensive
  customer driven package of support services
• Worldwide expansion
• Brazil - Maxion Motores
• Mexico
• China

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International .

• Where we are
• Headquartered near Chicago, Illinois
• Nearly 1,000 dealer locations across North
  America
• Sales in more than 70 countries

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International

• A Leading Supplier of Mid-range Diesel Engines
• Plants
• Melrose Park, Illinois
• Indianapolis, Indiana
• Huntsville, Alabama
• Porto Alegre, Brazil
• Cordoba, Argentina
• Fiscal 2001 shipped a record 420,000 engines
• Principal customers
• Ford Motor Company
• International Trucks
• Export markets

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International Engine Group - Organization
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INTERNATIONAL ENGINES

• Business units Product line-up
• V-6 and V-8
• 4.5 l and 6.0 l high speed engines (500,000
  capacity)
• North American market (Ford)
• SUVs, full size pick-ups
• Limited use in medium duty truck
• In-line I-6
• 7.6 l and 9.3 l low/medium speed engines (80,000
  capacity)
• Medium truck (US Class 7)
• Heavy truck (vocational / sever service)
• OEM sales (gen sets, agricultural, industrial)
• South America - IESA
• High speed 3.0 I-4 (50,000 units capacity)
• Medium speed I-4/I-6 (Perkins 1000 series
  license)

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Principal customers North America - Navistar
Truck Businesses - Major automotive
OEMPrincipal customers South America -
Ford (2.8 liter) - GMC - Massey Ferguson
(Perkins license)Distribution partnerships -
Perkins and Detroit Diesel (since 1990) - F.G.
Wilson gen sets - Gomselmash (Belarus) Minsk
Tractor Works - Terex, Claas, Agco, transit
bus, fire trucks, ground supportBusiness
Development activities - China (light and
medium truck and bus) - Eastern Europe and
former Soviet Union - India (future)
Products and Customers
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Approved Product Line Up 2004 - 2007
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World Engine Review

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World Engine Demand

• 125 million units
• 22 million diesels
• 103 million gasoline
• Focus on diesels
• Huge demand in China, India
• W. Europe pass cars
• N. America minor player
• Growth opportunities
• China, India
• North America (light trucks and pass cars)
• Russia and E. Europe
• High tech markets
• No growth in heavy CVs
• Opportunity for LCV and SUV

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Product Driver EPA and EURO Emissions
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Product line-up Technology

• US EPA and EURO emissions
• Develop best feasible engine out emissions
• Electronic controls and optimized combustion
• Exhaust gas re-circulation / Alternative NOX
  reduction scheme
• Fuel and air management
• (Future) Optimized air-fuel management
• Achieves Euro III / EPA 2000 without after
  treatment
• Add-on after treatment when needed (EPA 2007,
  EURO IV)
• Europe probable use of selective catalytic
  reduction
• North America NOX adsorption is prime path
• Engine OEMs will have to adapt to very different
  technical regimes
• Rest of world will gradually adopt Euro
  emissions standards
• Western technology will be at a premium in
  developing markets
• MUST be cost effective and sensitive to regional
  realities
• Unregulated markets are disappearing - old 3rd
  world model is obsolete
• Likely model for next several years Euro II
  emissions mechanical engine systems tolerance
  of fuel quality variability

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World Diesel Demand - Forecast
FORECAST
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World Diesels by Application
Huge number of small diesels - agricultural
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Diesels Trucks Only
2001 Truck Diesels - by Region Source PSR
2500
Highly regulated
Less Regulated
Possibilities
Non-regulated
2000
Growth Opportunities
Possible growth with SUV and CV
1500
1.0 million growing to 2 million, with Euro
emissions and local manufacturing
Units (000)
1000
500
0
E. Europe
Far East
Japan
L. America
N. America
Other
W. Europe
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China Market Review Key Points

• Internationals situation
• LOTS of unknowns with China Management issues
• Market information and competitive situation
• Local and national politics. Investment climate,a
  etc.
• Deep suspicions regarding partners, intellectual
  property
• Does not fit North American business model
• Desired situation for China program
• No commercial risk partner assumes financial
  burden
• Very limited capital investment
• Trade technology for partner capital
• Partner is technologically advanced and needs
  little training
• This situation does not exist.
• Strategy
• Continuous management communication
• Exploit data sources (PSR in particular) for
  market analysis
• Updates on commercial situation and competitive
  developments

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China Market Key Points

• Technical and financial environment
• Demand for higher-tech engines
• EURO II (minimum) by 2004/2005
• Higher standards for Beijing, Shanghai, Canton,
  other cities
• National priority to improve automotive industry
  technology
• Joint ventures encouraged premium on new
  technology
• Major infrastructure investments road
  transportation, logistics
• Financial conditions are favorable
• WTO aids in normalizing finance, insurance,
  business stability
• available for environmental investments in
  equipment
• available for selected investments (e.g.
  Western Region)
• Intellectual property protections are improving
• Central Government situation is improving
  recognition that IP concerns are a barrier to
  direct foreign investment

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China Market Diesel Trucks and Buses
Market Summary all engines

Units
Note Includes Gasoline
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China Market Key Points

• WTO accession Central event
• Serious effort to comply 124 separate
  commitments made
• Compare to other WTO countries higher level of
  commitment
• When successful, China will be in top tier of
  trading nations
• Key areas eliminate import licenses harmonize
  tariffs
• Banking and insurance systems forced to modernize
• Decreasing influence of regional fiefdoms
• Environmental regulations
• Government is fully aware that clean air and
  water are essential to growth
• Huge investments required to correct current
  situation but starting
• Modern technology is essential no future for
  discarded Western technology
• We expect Euro II emissions (2004/2005) and
  very gradual adoption of higher standards as
  infrastructure develops

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China Diesel Engines for Trucks

• Product characteristics meet middle of the
  market
• Power 130 240 HP
• Size I-4 / I-6 1.0 liter/cylinder
• Emissions EURO II with evolution to EURO III
• Manufacturing MUST be easily localized
• Supply base China allies of Western partners
• (e.g. Garrett, Eaton, Bosch, )
• Technology Current not leading edge
• Durability /Reliability As good as Western
  imports
• Electronics Not required
• Driveline match-up Consistent with local sources
• Cost Can be higher than local product but
  must offer advantage

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Market Entry Alternatives Considered

• From simplest and least cost to most complex
• Distribution model wholly owned
• Distribution model joint venture partner
• Manufacturing joint venture
• Do it yourself market entry
• Manufacturing joint venture is principal
  structure
• Local partner expertise in the market
• Fewer on-ground resource requirements
• Favored by Government entities

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Market Entry Assessment

• All major car and truck OEMs have a China
  strategy
• Very different risk profiles
• VW Very aggressive capital investments
• International low cost, wait and see
• Many Tier 1 suppliers are in China or plan to
  follow customers as business develops
• Cummins most advanced and localized
• Garrett, Eaton, Dana, Bosch etc. all have
  manufacturing
• Promises so far have not been fulfilled
• Cautious investments
• Slow payback unexpected risks
• Market may finally be ready for Western firms
  but