Johnson Controls is already a major integrator of vehicle interior systems, but CEO John Barth says carmakers still aren’t handing over enough responsibility.

Barth says the more work JCI takes over from OEMs, the more potential exists for lowering costs.

And Johnson Controls’ own suppliers may get a better deal if they are selected by JCI rather than dictated by the OEM customer.

“When you are a systems or interior supplier like us, the more we can do for the customer and the more we can add value, the more [cost] we can offset,” says Barth.

Conversely, the more the customer dictates to the supplier, in terms of product specifications and, choice of lower-tier suppliers, the fewer opportunities there are to engineer out costs and lower prices.

General Motors gave JCI a large amount of responsibility on the new Opel/Vauxhall Astra in Europe.

The Astra features JCI door panels, console, visor, acoustics package, instrument panel, seats, overhead parts and electronics. This may also have benefits for lower-tier suppliers.

Special treatment

JCI says it has been flexible recently with some key suppliers hard hit by steep raw material price increases.

Since March, it has paid more to some lower tier suppliers to ensure continued availability of parts. These costs are being absorbed, at least initially, by JCI.

Says Barth: “Some of the increases we have accepted are to support those key strategic suppliers that we have asked to grow with us and that are making investments.”

But lower tier suppliers to JCI that have been selected by OEM customers may get no such relief.

“We have some suppliers we are saying no to just because we have been asked to say no by our customers,” says Barth. “Many of our suppliers are directed suppliers by the OEMs. We just represent them [the OEMs]. We are the middle person. We just ask our customers what they would like to say to those directed suppliers.”

In short, some in JCI’s supply chain chosen by the Tier 1 get a better deal than those inserted into the chain by the OEMs.

Still on growth track

JCI’s second quarter financial numbers (from 1 January 1 to 31 March) reflected some adverse effects from higher steel and lead prices. But the supplier’s impressive earnings growth remains on track.

Johnson Controls is the largest North American supplier in terms of market capitalisation ($US10.7 billion) and third only to Denso and Bridgestone among the world’s quoted suppliers.

Second quarter automotive sales totalled $5.1 billion, up 23% compared to the same 2003 quarter. Currency changes contributed 15% of this growth.

Interiors business in Europe grew 36% (16% excluding currency gains) against a flat overall industry. New business on the Ford Focus/C-Max and Ka, Volvo SC90, BMW X3 and VW Golf helped.

Excluding one-off gains and restructuring costs of $69.1 million, mostly in Europe, JCI’s automotive group operating profit was $203.5 million, up 19% on 2003.

The overall margin slipped a little, from 4.15% in 2003 to 4% in 2004, even though the European interiors businesses returned to profitability after breaking even in 2003.

JCI predicts a European margin of over 3% in the second half of its fiscal year and is confident it can achieve a margin comparable with North American operations.

The margin in North America edged downwards in the second quarter, the result of lower margins on new business, especially with Ford and Nissan, and higher engineering and raw material costs. JCI does not disclose the exact margins for its regional business.

Restructuring in Europe – the costs for which were taken in the second quarter – will lift operational efficiency in 2004.

The loss-making door panel plant in Harnes, France, will close during the next 12 months.

Although JCI recently cut its 2004 total vehicle production forecast in North America – news that made the stock price wobble – the reduction appears insignificant against the company’s new business backlog for 2004 and 2005 – $1.9 billion in both years. The backlog is $5.1 billion to the end of 2006. This suggests broader long-term financial targets can also be met.

For the fiscal year that ends 30 September, JCI predicts group sales growth of 13-15% and double-digit increases in operating income end earnings per share.

Sales growth in the automotive business is forecast in the 13-18% range with the operating margin about even with fiscal 2003 or slightly below.

In the longer-term, JCI expects double-digit revenue growth, including organic growth, and strong cash flow and balance sheet positions.

Lower cost remains key priority

Swift and unexpected raw material cost hikes muddy the outlook, but Barth hints that suppliers like JCI, with good records of continuous cost improvements and higher productivity, may have some leverage with major customers.

Barth admits that JCI is “actively talking to customers” right now about recouping raw material price-related cost increases. Such negotiations will be delicate. The promise of greater cost savings through additional development and integration responsibilities could just help tip the balance.