To celebrate its 100th birthday, the
automotive industry is presented with a Chinese menu of opportunities/risks – except that
vehicle manufacturers are supposed to order everything:
Expand into new markets. Rationalize
production. Build where you sell. Reduce platforms. Build vehicles for new segments. Get
bigger. Become more “nimble.”
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Top of the mind, however, is always the
bottom line: increase shareholder value – especially in North America, where
information.com has taken equity prices to the stratosphere, leaving behind heavier
industries. In its attempt to generate better returns, the industry has embraced three
economies of scale strategies:
I. Globalization: Where?
Everywhere. When? Now.
Vehicle manufacturers – and their suppliers – need fresh new markets to
spread greater volume over their investment base, and they need presence both in mature
and emerging markets. Mature markets, where economies of scale are more readily available,
offer short term cost/profit improvements – or would, if competition didn’t narrow
margins. The developing world, with higher volume growth potential, offers greater
long-term returns – against a background rich in potential economic and political
instability.
Accommodating both types of markets means
differentiating general product styles. The emerging markets require basic transportation;
mature markets demand vehicles offering new technology and added creature comforts.
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By GlobalDataThe result is a complex recipe for vehicle
manufacturers in the configuration of products, services and production capabilities for
global markets. Globally, small-size vehicles – primarily passenger cars -provide
two-thirds of anticipated light vehicle market growth: A & B class cars account for
nearly 30%, with C & C/D cars and small-size trucks each contributing 18%. But the
huge North American market is an anomaly. With its emphasis on passenger use trucks and
larger vehicles, it is the only region in the world where trucks contribute more to growth
than cars. Globally, mid-size utilities provide 18% of growth, with another 8% coming from
mid-size pickups and vans; in North America, mid-size utilities represent over 62% of
growth, with another 36% coming from full-size pickups and utilities.
To make planning even more complex, the
traditional segments, reflecting inter- and intra-regional market fragmentation, are
breaking down into niche sub-segments, like the Sub-B class cars, the C-segment minivans
and utilitarian passenger vans. This new market dissonance makes innovation even more
important, so that the rate of increase in competition is outpacing even the rate of
change.
GROWTH SPURT. Absent a major cyclical downturn in the
global market, automotive production will grow even faster, increasing 20% between 1998
and 2006, versus a 13% increase between 1990 and 1998. Annual global output will grow from
52 million units in 1998 to top 60 million by 2004 and 62 million by 2006. The growth will
vary from region to region, from a low of 5-10% for mature markets, characterized by
replacement demand, to 30-60% in emerging markets, with plenty of new demand.
Asia-Pacific: By 2002, the Asian market
will have recovered from its extended auto recession and reach pre-crisis production and
demand levels. Asia-Pacific is large, yet since most of it (excluding Japan &
Australia) remains an emerging market, it will provide the bulk (30%) of the world’s
growth. By 2006, it will be the dominant automotive market.
North America & West Europe: large and
mature, they will still contribute a large share of growth, but achieve low annualized
growth rates – about 1%.
East Europe: represents 16% of global
growth versus 7% of global volume, contributing more than either North America or West
Europe.
South America: represents 9% of global
growth 1998-2006 versus less than 5% of global volume
MORE MEANS LESS.
Globalization, consolidation and de-proliferation are strategies that mix risk and
opportunity. Excess capacity is simply a threat – short and long term. Excess capacity
destabilizes markets; it leads to incentivization and protectionism, which leads to
tighter margins and depressed returns, which lead in turn to increased competitive
intensity at all levels and a chronic need for new markets, which of course lead to more
excess capacity.
Capacity investment soared during the 1990’s, expanding 30% between
1990 and 1998 and adding 17 million new units – the equivalent of adding a new North
America. Capacity growth will slow, from the 90’s average annual rate of 3.4% to an annual
rate of 1.4% between 1998 and 2006. But that will still add 8.7 million new units, or the
equivalent of two South Americas.
Excess capacity is a structural problem of
long standing, the consequence of build-where-you-sell policies (designed to defuse trade
friction and gain market access) and unrealistic conquest and export targets. As a result,
the addition of new capacity without removing the old means that in the year 2000, global
excess capacity, and all the excess overhead costs that it implies, will be twice the 1990
level. While annual output grows from 52 million units in 1998 to 62 million by 2006,
manufacturing capacity surpasses 80 million units by 2000 and over 83 million by 2006.
Therefore, global excess capacity will remain above 20 million through 2005 – equivalent
to 100 assembly plants – even if no global cyclical downturn is factored in.
It is important to remember that excess
capacity affects not only VMs. VM globalization strategies are forcing parallel supplier
investments, so problems cascade through the supply chain, with negative impact on
shareholder value across the entire industry.
WHERE IS TOO MUCH?. Of all
the global markets, the Asia-Pacific region is the most over-capacitized, now accounting
for over 40% of the world’s total excess. In this region, only Japan will operate at
better than 66% of available capacity through 2006, because the region as a whole is
recession-torn and over-invested. This region will show improvement, however, as
overcapacity falls from 46% of the total to 36% in 2006.
South America is expected to move in the
opposite direction; despite a 45% growth in output to almost 3 million units, the region’s
share of global excess capacity will climb from 5% now to almost 9% in 2006. As a result,
the South American industry’s utilization rate will remain below 60% through the forecast
period. Brisk market growth will improve East Europe’s utilization rate, despite barriers
preventing economies of scale and the elimination of unprofitable plants.
The best utilization performance will come
from North America, thanks to its large, open, and relatively stable market as well as its
massive industry restructuring in 1980s and 1990s. But its high utilization rates are
coming at a steep price. In North America, incentivization of the marketplace is
undermining brand-strengthening strategies, not to mention shareholder returns and, since
cost reduction becomes paramount, supplier relationships. Despite their relatively high
capacity utilization rates, the two large, mature markets will see their share of excess
capacity expand, North America’s to over 21%, West Europe’s to over 22% in 2006.
II. Consolidation: The Global
Six And Counting
Continuing a post war trend, the global auto industry has become
concentrated into fewer and larger manufacturers. Six automakers have now achieved
critical mass, separating them from the second tierof 14 other automakers but they
vary widely in both market presence and platform availability. For instance,
DaimlerChrysler lacks small car competencies and is absent from most emerging markets;
Renault-Nissan, the “marriage of reluctance”, has not achieved a dominant
position in any region. They also differ in their capacity utilization. (See first graph)
As a group, the Global Six perform better in capacity utilization than smaller VMs, and
therefore enjoy several advantages higher potential return on investment, more
freedom/options to rationalize unnecessary capacity, and some insulation against cyclical
markets.
But their performance varies with their
market strategy and their regional market. Toyota’s mid-level placement across markets
displays the importance of building the right product in the right plant at the right
time. Ford’s emphasis on light trucks (and light truck profits) is the reason it is more
efficient with truck than with car capacity. Renault-Nissan, combining the weakness of
both companies, trails the other five major VMs in capacity utilization.
Utilization rates of the next six largest
VMs should increase in the long-term outlook. With the expected global recovery, formerly
weaker emerging market-dependent VMs such as Fiat, Mitsubishi, Hyundai are expected to
bolster long-term capacity utilization, improving their margins and ROI. The effect on
their future as corporate entities is uncertain, since improved profitability could make
them stronger as stand-alone entities or make these smaller companies more
attractive targets for takeover.
In any case, the Global Six, led by Toyota,
GM and Ford, account for 42% of global production growth through 2006. (The 12 largest VMs
represent a full 70% of growth.) The second-tier automakers even those with high growth
will not achieve the volume to move into the top group. Sheer size
well-leveraged offers the automaker tremendous advantages global
balance, to counter cyclicality; global reach, to provide growth opportunities; and an
efficient, rationalized supply network. But size in itself is not an advantage.
Renault-Nissan is fourth globally in terms of size, but the combined enterprise has
several problems to solve: cultural barriers, heavy debt, excess capacity (although it is
being aggressively attacked), and the lack of a dominant position in any market.
With product innovation and proliferation required to service different
regional markets increasingly fragmented into niche sub-segments, nimbleness and agility
are critical requirements, which means that further industry consolidation at both VM and
supplier levels is inevitable. While the resilience of West European and North American
markets may postpone it, second tier automakers must eventually face “merge or be
merged” decision. Fiat and PSA, the only genuinely “European” mainstream
manufacturers, both lack global reach, and so would suffer from a downturn in Europe.
Fiat’s small-car orientation limits profitability per unit, and its heavy dependency on
the South American market leaves it vulnerable to economic problems there. At PSA,
profitability is improving as it aggressively moves to consolidate platforms. But PSA is
over-exposed in its domestic market, and has a critical need for brand differentiation to
prevent cannibalization between PSA marques.
Of the 14 VMs in the second tier, BMW
remains the most attractive acquisition or merger candidate. With solid profitability and
strong brand equity, its only weakness is its acquisition of the much weaker Rover Group.
Honda is also an attractive merger/acquisition candidate, but has a strong desire to
remain independent. Both companies are profitable and growing fast. A combination of Honda
and BMW, in fact, would contribute over 10% of total industry growth, making it the
largest single contributor.
III. De-proliferation: The
Disappearing Platforms
In some ways, the most important economy of
scale strategy is “platform rationalization” – an attempt to spread development
and other fixed costs across high-volume production. It is especially effective with
low-margin, ultra-price-sensitive small cars designed to help the manufacturer push into
small markets. The difficulty is conforming to various regional tastes inside a common
vehicle architecture, which explains why North American VMs applied it to light trucks
first, while non-North Americans applied it first to passenger cars.
Currently only four of the Global Six have
one million-unit+ platforms, with VW and its three platforms – A4, A03 and B5 – the clear
leader and Renault-Nissan and DaimlerChrysler still trying to develop their first. With
the exception of Ford and GM full-size trucks, all are passenger cars – most C-class or
below. Two of the second tier VMs – Honda and Suzuki – will have million-unit platforms.
The six million+ unit platforms in 1999 already represent nearly one-sixth of the
world’s production. Despite a proliferation of VMs and platforms in the world market,
the sixteen platforms that top one million units by 2005 will comprise nearly one-third of
total world production.
VIRTUAL KEIRETSUS? For
suppliers, the development of million-unit platforms represents the major
opportunity/risk. If the supplier doesn’t get a contract for the mega-platform it may be
locked out of high-volume potential for a long time; if it wins the contract, and the
program is delayed/cancelled (e.g., GM Delta), the win becomes an enormous loss, absorbing
the huge costs of global sourcing. Also, a million-unit platform contract provides the VM
tremendous leverage in price negotiations and technology concessions. Exclusivity can
easily become a major issue: will suppliers organize around VMs? Could this lead to
“virtual keiretsus”?
With suppliers subject to VM-driven
globalization and increased competitive intensity, continuing cost/productivity pressures,
“modularization” and increased design responsibility, suppliers will need size
to counter VM dominance, or even to survive. Best estimates have the number of Tier 1
suppliers worldwide dropping to 25 from 600 over the forecast period, and Tier 2s falling
from 10,000 to 600. This may happen even faster in Europe, where economic integration is
expected to accelerate the pace of change. Outsourcing of design, sub-assembly and even
some final assembly responsibilities will become the responsibility of suppliers, who will
in a few year provide from 50% to 80% of value-added, as VMs continue de-emphasizing
manufacturing for marketing. Therefore, suppliers are rapidly becoming systems
integrators, assemblers, consumer researchers and even brand strategists.
