The first half reporting season has now drawn to a close, allowing senior management at many suppliers to head for the beach to recharge batteries, ahead of high-profile representations at the 2003 IAA show in Frankfurt. Most appear to have left behind end-of-term reports that read something like ‘good progress in the circumstances, but could do better’. Colin Whitbread of SupplierBusiness.com reports.
In many ways, the first half of 2003 saw a continuation of trends that were established as 2002 progressed-weakish volumes, adverse (for European suppliers) currency movement against the Euro and tightening pricing. In the absence of significant top-line growth, this has thrown the spotlight onto earnings gains derived from recent cost-cutting measures and restructuring payback.
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Looking back a little, Europe’s key suppliers continued to advance in 2002, but found progress challenged by strong headwinds, slowing, and in some cases reversing, sales progress. Stripping out the impact of currency changes, consolidation adjustments and other factors, organic growth was particularly elusive in the face of continuing pricing pressures and limited advances in vehicle production. This was even the case for suppliers with technological leadership and strong growth niches. Many are eagerly eyeing new markets such as China, and are investing appropriately, but these markets have yet to prove significant growth drivers.
Table 1 summarises the sales progress at 18 key European suppliers in the 2001-02 period. Although there are some obvious exceptions, the majority clearly struggled to see significant growth and a handful moved sideways or fell back.
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Bosch can inevitably be used as an example. Its automotive sales of €23.3bn in 2002 dwarfed those of its nearest rivals but were stagnant when compared with 2002, despite its highly successful global position in a number of component and system areas. Although group sales increased 2.8%, an increase, which would have been around 6% without adverse currency influences, those of the Automotive Technology business sector moved ahead just 0.4%. Declining vehicle production in western Europe (-1.5%) and “massive pressure on prices” offset most of the benefits of impressive business gains in areas such as high-pressure diesel injection systems and ESPs. Bernd Bohr, Chairman, Business Sector Automotive Technology, recently noted at a press briefing that revenues rose 1.6% in the first four months of 2003, an increase that would have been 10% without currency effects. Recognising that global auto production is likely to stagnate through the rest of 2003, Bohr sees Bosch’s automotive revenues at €23.5bn by year end.
As always, some companies appeared to buck the overall, very slow growth trend, although in some cases the figures flatter to deceive. In Behr’s case, for example, group sales increased by around 25% to €2.8bn, but this was primarily the result of the initial consolidation (on a pro-rata by time basis) of the new Dayton Thermal Products plant in the US. Sales growth without the new plant would have been 6%.
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By GlobalDataSuppliers showing shrinking automotive sales included some big names-Michelin, SKF and Valeo. In Michelin’s case adverse currency effects took a significant toll and without them sales revenues would have risen 2.7%. This would have more accurately reflected a 2.9% increase in tire tonnage sold and further slight improvement in price/mix. Valeo’s negative growth in 2002 reflected the supplier’s strategy of rationalising its industrial cost, strengthening its competitive position and returning to a sounder financial position. The 4.2% decline in 2002 sales, to €9,803m was essentially due to business disposals (-2.4%), although currency variations also played a part (-1.4%). Excluding currency changes and changes in consolidation, Valeo’s sales remained almost stable, down just 0.4% from 2001.
The results scorecard for the first six months of 2003 shows many similarities in sales trends. Suppliers with particular sensitivity to the Euro/US Dollar rate have taken a major hit to their sales growth expressed in Euros in the first months of 2003. In four cases outlined below, this resulted in zero or negative revenue growth.
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Cost-cutting programmes proliferate
With pressures on revenue growth apparent in 2001 and increasing further through 2002 and 2003, many suppliers have initiated programmes that seek to bolster margins by intensifying the attack on cost structures. Although overall trends are difficult to quantify, it does appear that corporate restructuring efforts through 2001 and 2002 helped many major suppliers to maintain or improve earnings margins at levels which are at least on a par with those of North American peers. This continued through the first half of 2003. Results are inconsistently presented with only a minority defining specific automotive EBIT margins, but sufficient evidence exists to conclude that profitability has been maintained, even if at levels which are held to be insufficient when viewed against the increasing demands being placed on the supply base by OEM customers. This applies as much to major suppliers such as Bosch and ZF, that struggle to achieve satisfactory rewards from customers despite offering state-of-the-art technologies, as to smaller suppliers. Some examples indicate how earnings growth was achieved in 2002 despite an unhelpful sales environment.
The improvement in Valeo’s operating margin in 2002 (to 5% from 3.8% in 2001) was a clear reward for its recent restructuring efforts and was achieved in spite of revenue pressures resulting partly from static organic growth. Valeo’s “rationalization and redeployment” programme was initiated in 2001 and has helped lift gross margins from a low point of 15% in the first quarter of 2001 to 17.5%-18% in recent quarters. Valeo’s restructuring efforts continued in the first and second quarters of 2003 although the operating margin in the first half was 5.0%, 0.4 points above the same half in 2002 but well short of the 6% margin seen in the fourth quarter of 2002 (which is also the company’s ambition for 2003). Quarterly operating results can be volatile but higher margins in the remaining quarters of 2003 look fairly certain, if at lower levels than previously forecast. Valeo’s restructuring efforts of the last two years look increasingly vital if the company is to maintain or increase earnings in the face of challenging economic and market conditions.
Siemens VDO has also experienced a significant improvement in profitability in recent quarters, with a negative EBIT margin of 4.6% in the 2000/01 fiscal year being turned round to +0.8% in 2001/02 and 4.4% in the first half of 2002/03 (ending March 2003). The margin in the second quarter alone was 5% and the company is targeting a full-year return of 5-6%. The top+WIP programme has driven margin improvements. Top+ programmes are part of the Siemens group strategy for all its operational areas and focus on a number of activities, especially those directly related to productivity-manufacturing, quality, benchmarking, materials, S,G&A, portfolio structure, R&D and asset management. Siemens VDO has seen its challenges as a decline in the automotive market, price erosion, cost increases and one time costs for disinvestments. The successful enactment of the top+WIPprogramme at Siemens VDO has focused on: restructuring of the production network, portfolio optimisation and a number of other initiatives. According to the company, top+WIP cost reduction measures resulted in a cut of €700m in costs in 2001/02 (52% material) with a similar amount (46% material) targeted for 2002/03 and 2003/04.
Restructuring takes all forms across the industry
Suppliers have adopted numerous restructuring measures in order to maintain or improve profitability in the face of an unhelpful sales/pricing environment. In many cases these measures appear to have met with success. Most suppliers have focused on a small number of specific strategies based on their perceived specific needs. The spectrum of available measures includes product differentiation, strategic joint ventures, rationalisation of production networks including plant closures and new investment in low-cost locations, exit from non-core businesses, acquisitions etc. Few suppliers have stayed aloof from any of these measures, although some still appear to believe that leading edge technology, which can be translated into high margin contracts, is sufficient to maintain earnings. This appears a risky strategy, which few have been able to sustain. Unless a supplier has both leading technology and a very strong market niche that is capable of stout defence, margins will almost inevitably be eroded by competitive pressures. This swiftly exposes high cost levels and inefficient business practices.
Short-term prospects challenging
Prospects for the remainder of 2003 and into 2004 appear challenging. Pressures on capacity utilisation could intensify if the demand situation deteriorates further and this will hamper internal operating efficiency, in turn pressuring operating margins and cash flow generation. The recent strengthening of the Euro against a number of key currencies, in particular the US dollar, has also had a negative impact that could intensify. Suppliers that have ongoing restructuring programmes or have pursued such programmes recently should be better placed than those that continue to take a rosy view of organic growth prospects. Expectations of an easing in downward pressures on pricing from OEM customers would represent a fool’s paradise, even though demands from these customers are concurrently increasing. It may well be that the scale of restructuring seen across the European supplier base in the last two years proves insufficient and that more dramatic measures will be required going forward.
This article first appeared in the August issue of SupplierBusiness.com, a monthly research programme for executives in the automotive supplier industry. Full members of just-auto.com can download the first issue completely free of charge in the members’ club – please click here.
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