Are recent developments in US carmaking a sign of an industry in crisis, or is there a fundamental shift in manufacturing and how profits are measured?
In once-humming US car factories, there is an eerie stillness as production lines shut down and layoff slips are handed out. The so-called ‘rust belt’ is creeping westwards, the area once limited to decommissioned steel mills expanding to include defunct production facilities, the term taking on a larger, more ominous meaning in the 21st century global economy.
In distressed Detroit, carmakers jump from the frying pan to the fire – and back again – with monotonous repetition. Production and sales are down for the domestic Big Three, now renamed the Detroit Three. Manufacturers are having to rely on off-shore investments to prop up losses on home turf, while suppliers are squeezed to breaking point to lower costs. Skittish consumers watch oil prices rocket and house prices slump; and the economy has a full-blown case of influenza. “The United States may well become the new Mexico,” quips one official with a major consulting firm in Detroit, as jobs and production pour out of the slumping manufacturing region. Which leaves US auto workers with just one question: “How do you support the local market by buying domestic cars if you’re out of work?”
Downsizing in the land of big
The general malaise hanging over the US car industry is clearly demonstrated by recent sales figures. Declines in April were followed by similarly poor performances in May. Year-on-year, GM lost 12 per cent over the same period in 2007. Ford fared little better, with sales dropping 16 per cent, though sales of the Focus and Fusion were up 53 and 27 per cent respectively, signalling a clear shift by consumers to smaller cars. Sales for Toyota were down eight per cent, this despite increases in small car and hybrid sales, while Nissan reported a 4.4 per cent increase. While this is going on, modern plants and technical centres are springing up across China, India, Russia and Eastern Europe, assembly lines ramp up and workers find much more than a chicken in every pot.
Industry-pioneering suppliers are also struggling. Household names such as Delphi and Visteon, Plastech, Dana, ArvinMeritor, Siemens VDO and Federal-Mogul have either struggled with bankruptcy or are in budget doldrums. AlixPartners, a global consultation and restructuring firm estimates that nearly a third of the North American supply base is in deep financial distress – and is being consistently outperformed financially by its European and Asian counterparts.
“Together with the avalanche of supplier bankruptcies, 27 per cent of North American suppliers face fiscal danger (possible insolvency) within 24 months,” says John Hoffecker, Managing Director of AlixPartners, citing a 2007 OEM and supplier survey that the company compiled. Within just five years, North America, Europe and Japan will together make up only about 50 per cent of the global auto market, down from a commanding 75 per cent stake in the industry, according to the Alix report. The remainder will be shared between China, India, South America, Eastern Europe and other emerging, low-cost production regions.
The suppliers’ future is not bright
Steve Widdett, Executive Vice-President of Sales and Marketing for Hella USA notes that industry volume expectations have been steadily reducing as the year progresses. As a subsidiary of the German auto industry supplier, the company has witnessed companies slashing 2008 production targets. Already they are down from 15.1 million units in 2007 to 14.5 million in 2008, and there could still be further reductions. “This means that for most suppliers, even very conservative industry estimates built into last year’s forecast for this year are probably going to be underachieved. The whole economy is witnessing additional pressures through rising commodity prices, restricted credit, and this is impacting the housing market and is directly reflecting vehicle sales, particularly in the truck segment,” says Widdett.
“Our key customers in North America are all going through significant structural changes and we hope that we will see these benefits reflected in our combined businesses towards year-end and early 2009,” he tells AMS. Thirteen per cent of Hella’s North American business is with NAFTA (North American Free Trade Agreement) OEMS – a troubling signal, considering the market region’s meagre two per cent growth last year. That compares with Asia at six per cent, a year-on-year increase of 46.4 per cent. Dr Martin Fischer, President of Hella USA adds, “The focus on cost, and therefore price reduction, remains for all products, and is only accentuated in the kind of market conditions that we are now experiencing. We are continuing to work on cost-reduction activities for all our products, including value analysis and engineering, and we are reviewing our manufacturing footprint and purchasing efforts.”
Strikes cause a ripple effect The prolonged labour dispute at American Axle & Manufacturing Holdings is symptomatic of Detroit’s troubles. The mid-size parts supplier makes axles, driveshafts, stabiliser bars and other components, mainly for pick-ups and large SUVs. About 70 per cent of its business is with GM. At its height, the 10-week strike idled at least 34 factories in the US, Canada and Mexico.
The strike involved about 3,650 UAW associates at five facilities in Michigan and New York. Competitive wage concessions were at the heart of the acrimony between workers and management, with workers rejecting lower pay and buyout options.
Matt Simoncini, CFO and Senior Vice-President of Lear Corporation said in May that the AAM strike alone had cost the auto industry an estimated 90,000 units in lost production, based on the shutdowns. “The impact on Lear specific to [strike-related] plant shut downs was about 80,000 units, since not all the affected platforms were from Lear platforms,” says Simoncini. “Prior to the strike, through the first half of the quarter, we were actually running a little ahead of our production expectations. Now, if you look at it in terms of revenue, the costs-per-vehicle average for the units affected were in the US$1,100 range, since the majority of them were full-sized pick-ups.”
Strength in international operations
“We did benefit in the quarter with about US$25 million because of the timing of commercial settlements and legal resolutions. Seating benefited in a range of about US$20 (per unit), electrical was about US$5. But at the core, we had underlying strength in our operations. We’re seeing increased benefits from restructuring year-on-year, good strong performance in the operations and cost reductions, manufacturing efficiencies and strength in our international operations,”
Also, Lear was getting its own house in order after settling a protracted 2007 takeover attempt by investor Carl Icahn, valued at $5.3 billion. Lear took the decision to fight the buyout after its major shareholders opposed the takeover, part of which saw the supplier divest its auto interiors business to concentrate on seating and electronics. “Core products such as wiring, junction box, remote keyless entry, tyre pressure monitoring, seating and lighting are required in every vehicle, but the central issue today is cost,” says Mike Fawaz, Lear’s Vice-President of Central Engineering - Electronic Products. “These days, there are suppliers in various product groups that have the capability and quality, but the key is getting to the lowest price possible and meeting customer expectations.”
As a result, new product development is focused solely on core products that fit Lear’s growth strategy. According to Fawaz, common process, safety and environmental products are the best areas for innovation and sales growth. Lear Chairman and CEO Bob Rossiter says the company will expand its group electronics offerings during the next three to five years, with plans to make that unit as large as its seating division. The company has been restructuring its operations, moving business and production to lower-cost regions, particularly in Asia. Rossiter noted that offshore development is key to being competitive in the traditional markets and is needed to support Lear and its local markets.
The future’s not bright
Production forecasts are at their lowest level in 15 years, driven by consumers shifting to more fuel-efficient vehicles and rising energy, material and commodity costs, says Don Bernhardt, Lear’s Vice-President - Product Engineering for North America.
“Being committed to innovation, ebbs and flows in the economy of a particular region are not the driving factor for R&D. Yes, the economic climate is tough in North America, but Lear is a global company so when we develop products and state-of-the-art manufacturing techniques, we focus on the global market. “It also allows us to balance our engineering resources to take advantage of low-cost engineering worldwide. Our main locations for low-cost engineering, design and simulated validation reside in China, India, and the Philippines,” he adds.
Some companies that have struggled in the past have managed to turn the corner, again citing global profits as the reason. After surviving a Chapter 11 reorganisation lasting several years, Federal-Mogul posted record first quarter financial results with sales of US$1.86 billion, an eight per cent increase over the same period last year. Jose Maria Alapont, President and CEO, says the company was pleased with the strong quarter, a payoff from solid operating performance, and customer, regional and product diversification.
“More than 60 per cent of our revenue in the quarter was generated outside the United States. The improvements came as a result of our restructuring and cost-reduction efforts as outlined in our strategy for sustainable global profit growth,” he explains.
For Canadian parts giant Magna International, 2007 saw it become the largest automotive supplier in the North American region. Despite such highs company CEO Don Walker expects the supplier situation to worsen, because of market conditions and energy issues. “If you look at the economy, sinking volumes, the financial situation and banks, the pressures on the car companies, I think we’re going to see acceleration in the number of auto parts suppliers that will fail.”
Off-shore gains give GM a push
GM reported a loss of US$3.6 billion in North American automotive revenue in the first quarter of 2008, largely as a result of losses from Delphi bankruptcy proceedings and the sluggish US economy. Yet the carmaker’s European and Asian profits skyrocketed to US$75 million, up from US$4 million the previous year.
While the bottom line continues to tighten in Detroit, GM and other carmakers are continuing to align global resources, setting up manufacturing and engineering operations in ‘centres of expertise’ – meaning that specific regions assume responsibility for their particular areas of specialty. An example of this could see the US being assigned small car development, India the electronics and China the powertrain and engine production. Daniel Hancock, Vice-President of Engineering Operations for GM Powertrain says that the carmaker’s global strategy includes centralising core responsibility around each product architecture, while maintaining the flexibility to shift work to different locations to meet current business needs. “Globalisation allows commonisation, product design and engineering. It also provides economies of scale, through common manufacturing and shared learning.”
When the chips are down . . .
Even after reporting a 24 per cent decline in spring sales, Chrysler has plans to remain one of the Detroit Three. Production executives are confident about a turnaround, with some suggesting that claims of industry demise in Detroit are widely exaggerated. According to Frank Klegon, Executive Vice- President of Product Development: “This turbulence has caused some observers to wonder aloud about the future of the automotive industry. Chrysler’s privately-held status [following the purchase of 80% of Chrysler stock by Cerberus Capital last year] has infused the company with new direction.” Since the buyout in August 2007), the carmaker has approved nearly 500 product changes, with upgrades made to the Jeep Grand Cherokee, Dodge Charger and Challenger, and Dodge Ram.
Ford’s multi-million dollar face-lift
Despite suffering years of financial setbacks to its US operations, Ford has enjoyed a US$100 million lift, mainly as a result of its overseas business. CEO Alan Mulally said earlier this year that the company’s recovery plan was on track, forecasting North American profitability in 2009. All is not rosy with the blue oval however – buried in the good news was a little-disguised US$4 billion decline in North American revenue.
Further revisions have been made in production and profit forecasts, as Mulally, supported by a selection of Ford executives, announced that the company was only expected to ‘about break even’ next year, this before taxes and special items. The turnaround was, once again, stalled. “We are profitable and growing outside of North America, and our transformation plan is working,” said Mulally, disguising the bad news with a spoon of sugar. He quickly added that the entire industry is being hammered by “the accelerating shift in consumer demand away from large trucks and SUVs to smaller cars and crossovers.”
Shifting the profitability goalposts
“Unless there is a fairly rapid turnaround in US business conditions, which we are not anticipating, it now looks like it will take longer than expected to achieve our North American automotive profitability goal. Overall, we expect to be about break-even companywide in 2009 – with continued strong results in Europe and South America,” he is quoted as saying. Ford has cut 35 per cent of its North American workforce since 2005 to ease financial losses. The company said more cuts were expected in July.
US light vehicle sales dropped nine per cent to 4.82 million units in the first four months of 2008, led by an 18 per cent decrease in truck sales and a 26 per cent plunge in SUV sales. “As a result of high gas prices, compact car and hybrid market share are predicted to reach an all-time high this month,” says Jesse Toprak, analyst at industry-tracking firm edmunds.com. Even popular Asian and European brands that had been profitable are feeling the bite. Toyota posted a fifth straight month of falling US sales in April, compared with the same month in 2007, while companies such as BMW of North America and Mercedes-Benz USA are discovering that their American investments and resources are shrinking.
John Hoffecker, of AlixPartners says, “Some high-end European automakers selling products in the United States, including ones built here, are now absorbing up to a 40 per cent disadvantage compared with prices commanded for the same vehicles in Europe.”