Automobiles Industry

Major Industry Trends

The past year has not been a good one for many automobile manufacturers, and 2009 is shaping up to be even worse, with new car sales depressed around the world. However, an authoritative report from the accountants, PricewaterhouseCoopers (PwC), titled “Global automotive perspectives 2008,” notes that there is now a real dichotomy in this sector between car manufacturers in emerging markets and those in mature markets.

Mature markets have been characterized by stagnant or falling sales, extremely low profit margins per vehicle on many models, and a desperate search for cost-cutting measures by manufacturers. This was brought into sharp focus by the three leading US motor manufacturers—Ford, General Motors, and Chrysler—which, in October 2008, had to ask for US$25 billion in government aid to help them re-equip, to meet new “fuel-efficient” standards, set by the US at 35 miles per gallon (mpg), or 6.7 liters per 100 kilometers.

This “bailout” of the big three has dominated the headlines, but few mainstream car manufacturers in the West are doing much better, and many have stopped production in key factories while they wait for demand to improve, and new car inventories to reduce.

In emerging markets, by contrast, sales prior to the global slowdown were skyrocketing, and profits per vehicle were three to five times higher than those being achieved by auto manufacturers in mature markets.

Mature-market manufacturers have had to rethink their approach to compete for market share in emerging markets, while emerging-market players, which do not have the same cost-heavy, unionized structures as, say, the big three US manufacturers, have done much better selling into mature markets. One of the major strategies of mature-market car manufacturers has been to move manufacturing and assembly to lower-cost locations. In the Americas, this has meant moving manufacturing from Detroit to Mexico. In Europe, it has meant moving from established markets to factories in the new accession countries in Central and Eastern Europe.

Asian manufacturers, such as the South Korean companies Hyundai and Kia, have been able to grow sales, not just in Asia but in mature markets as well.

PwC notes that manufacturers from both emerging and developed markets face longer-term strategic challenges on two fronts: from legislative changes, as governments seek to reduce the impact of road traffic on global warming, and from competitive innovation. Both sources of pressure on the sector add costs at a time when profits in developed markets are under tremendous pressure.

Evidence of how tough things have become for mature-market manufacturers abounds. In December, Toyota, the world’s largest car maker, announced its first operating loss for 70 years, sending shock waves throughout the auto industry. Toyota was one of the pioneers of lean manufacturing techniques, and is regarded as a benchmark for efficiency in manufacturing processes. Toyota forecast an operating loss of ¥150 billion (US$1.6 billion) for the year to March 2009, completely wiping out a previous forecast of a ¥600 billion profit. In 2007, the company made a record profit of ¥2.27 trillion.

Commenting on the loss, Toyota’s president, Katsuaki Watanabe, was quoted in the press as saying: “It’s a kind of emergency that we’ve never experienced before. The environment surrounding us is extremely harsh . . . The change in the world economy is of a magnitude that comes once every hundred years . . . The tough times are hitting us far faster, wider, and deeper than expected.” As a result, Toyota cut production at 16 of its 75 global assembly lines to one shift per day, and postponed completion of its eighth North American plant. Toyota had been aiming to become the world’s first motor manufacturer to top the 10 million cars per year production mark. It now expects to produce just 7.5 million cars in 2009, and that might be overoptimistic if the crisis continues to deepen.

Emerging markets have not been immune to the effects of the global slowdown. For example, the Indian car manufacturer, Tata Motors, announced in February 2009 that, due to a severe contraction in the Indian automotive sector, for which the squeeze on consumer credit was partially responsible, the company’s net revenues fell by 34.4% in the third quarter of 2008, in comparison with the same quarter in 2007.

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Market Analysis

Legislation-driven challenges for the global auto sector revolve around two needs: to maximize fuel efficiencies in engine and bodywork design, and to lower CO₂ emissions.

The sector has also had to take account of shifts in consumer preferences towards smaller, more fuel-efficient, “greener” vehicles, in response to growing concern about global warming. To protect their reputations and to be seen as good corporate citizens, manufacturers have also had to respond by “greening” their supply chains, at the same time as they move to achieve efficiencies by making greater use of outsourcing of components and assemblies.

PwC forecasts that, from now until 2015, emerging markets will enjoy some 18 times the growth in light-vehicle assembly that will be achieved in mature markets. On these figures, around 95% of light-vehicle growth will originate from emerging markets, with the BRIC countries (Brazil, Russia, India, and China) growing fastest, and accounting for some 58% of anticipated growth. PwC expects China and India to lead this growth in light-vehicle output, boosted by domestic markets that account for some 2 billion people.

During 2008, governments in emerging economies such as China, India, and South Korea took action to mitigate the effects of the credit crunch by making it easier for consumers to purchase new cars. One of the dilemmas facing the sector is how to move “gracefully” towards a future that is not based on oil. Moves to expand the use of biofuels have been blamed for diverting land away from food crops, and for the destruction of forests. This challenge remains to be solved.

Two exciting new directions for the auto sector are moves to build ever-cheaper and more-affordable small cars (to bring car purchases within the reach of greater numbers of emerging-market consumers), and a determined focus in some markets, such as the EU, on achieving more and more miles per gallon. In India, the country’s leading automaker, Tata Motors, announced its “People’s Car” in January 2008, with a target price of just 100,000 rupees, or US$2,500. The design makes extensive use of plastics and adhesives, instead of welding, to cut costs, and it has been produced at a price point that mature-market auto manufacturers would find impossible.

US auto manufacturers have, in the eyes of many analysts, not been helped by the very modest targets for fuel consumption set by US legislation. The US government bailout will help US auto manufacturers to produce new “fuel-efficient” engines capable of doing 35 mpg, instead of the present requirement of 25 mpg. The European Union already has legislation in place demanding that EU auto manufacturers achieve 52 mpg for new cars by 2012.

The independent research company, Plunkett Research, argues that the most important trend in developed markets over the midterm will be the rapid growth in demand for hybrid vehicles, such as Toyota’s Prius or Honda’s Civic. Almost 120,000 Prius hybrids were sold in the US market in the first eight months of 2008, while Honda sold 25,577 Civic hybrids. Plug-in hybrids will become much more popular. With this technology, a petrol-driven engine is supported by battery power, or the vehicle’s batteries are recharged by a petrol-fueled generator to get drivers through areas that are still without a convenient electric plug-in capability. Plunkett Research argues that consumer demand will drive tremendous improvements in battery technology, which, in turn, will lower costs, and stimulate demand in a virtuous feedback cycle.

Environmental awareness on the part of both consumers and regulators is also driving manufacturers to make further advances in diesel engine technology. Plunkett cites strong demand for clean diesel engines, such as those in new models from Volkswagen and Mercedes-Benz.

According to Plunkett Research estimates, in 2007 there were approximately 806 million cars and light trucks on the road. By 2020, the firm says, that number is expected to reach 1 billion. PwC cites International Monetary Fund estimates of close to 3 billion cars by 2050. At today’s consumption rates, motorists burn some 260 billion gallons of fuel each year. PwC notes that cars emitted approximately 2.6 billion metric tons of carbon dioxide in 2000, or about 6.1% of overall global emissions. This figure could reach 6.8 billion tones or 8.1% of total emissions by 2050.

Both Plunkett Research’s analysis and the PwC report point to the fact that public sensitivity to rising fuel costs around the world is already depressing sales of “gas-guzzling” sports utility vehicles (SUVs). This is particularly bad news for mature-market auto manufacturers, which have looked to this category of vehicle to sustain profitability for the past two to three years. Plunkett points out that, during the first eight months of 2008, US sales of pickup trucks, minivans, and SUVs slumped by 19.3%. Manufacturers’ profit margins on SUVs can range from 15% to 20%, while profit margins on standard saloon cars struggle to reach 3%.

PwC argues, however, that environmental considerations should not be seen by auto manufacturers as just constraints on design, but rather as opening “the door to broader horizons.” Opportunities for new profit sources and competitive advantages are available if the industry moves in the direction of safer, more comfortable, and simpler vehicles. Innovations such as that of Tata with the Nano (People’s Car) are already dramatically altering the competitive climate, PwC argues.

Automakers’ environmental initiatives are sure to win investor attention, creating both opportunities and threats for manufacturers. The EU’s requirement for added use of particulate filters on diesel engines for all new cars sold in the EU from September 2009 is one obvious example of the way in which the regulatory environment is setting constraints on the industry. Emerging-market companies will not escape this trend. China, for example, aims to implement similar standards to Europe through a set of environmental and regulatory standards called the China IV Standards, which came into force in 2008.

Then there is the impact on the auto industry of environmental and waste regulatory regimes elsewhere in the economy. One example is Europe’s REACH standard (Registration, Evaluation, and Authorization of Chemicals), which has an impact on the auto industry. REACH mandates transparency by suppliers and substance importers, and contributes to the “greening” of the supply chain mentioned earlier in this article.

According to the International Organization of Motor Vehicle Manufacturers (OICA, www.oica.net), just over 53 million cars were produced worldwide in 2007. (2008 statistics are not yet available). Japan was far and away the leader in terms of car

production, manufacturing 9.944 million cars in 2007, but China was in second place, with 6.381 million. Germany was in third place, with 5.709 million. The US held fourth position, manufacturing 3.924 million cars in 2007, and South Korea was in fifth place, with 3.723 million. The Indian car industry is expanding rapidly; by the end of 2007, it had moved ahead of countries such as Canada and the UK, with 1.707 million cars produced during the year.

The OICA’s league table of leading motor manufacturers gives the following top 10 positions. The vehicle production figures include cars, light commercial vehicles (LCVs), and heavy commercial vehicles (HCVs), and refer to the manufacturers’ global production. They do not correspond to “home-country” production figures.

Table 1. OICA Top 10 Auto Manufacturers. (Source: OICA. Full list online at www.oica.net)

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