Thursday, September 27, 2007

Business and Industry Intelligence: Auto and Truck Manufacturing

Overview

While the GM/UAW negotiations are very much on everyone's minds at this moment, let's step back and look at the big automotive manufacturing picture.

The US new car market had a value of $219 billion in 2005, an increase of 3.2% on 2006, while the trucks market was worth $280 billion, little changed from 2005. Both markets had seen declines in revenue in 2003. Market volumes in this year were 7.8 million cars and 9.3 million trucks.

2006 saw SUVs, hitherto a major segment of the market, waning in popularity with US customers. These vehicles offer significantly lower miles per gallon than more traditional passenger cars, which historically high gasoline prices translate into high running costs. Hybrids, which promise greater fuel efficiency through the combination of internal combustion engine and electric motor, form a small but growing market segment.

The industry continues to face high raw material prices. Global demand for steel and resins (plastics) has been rising, driving up prices for these inputs to automotive manufacturing. Hedging is often difficult for these commodities. Major US players also report that the costs imposed by healthcare and retirement benefits for their employees are significant burdens, which soaring health insurance premiums will do nothing to alleviate. Intense price competition restricts their ability to pass these costs on to customers. However, the development of export growth markets such as China promises revenue boosts going forward.

GM, Ford, DaimlerChrysler, and Toyota are the leading players. The domestic industry is suffering from overcapacity, to which manufacturers are responding with the closure of factories in order to decrease costs. They are also negotiating with labor organizations to scale back spending on employee benefits. In a concentrated market, US manufacturers are seeking to differentiate their products through investment in both innovation and branding, in order to grow market share.

Key Issues

Employee Benefit Costs - US auto manufacturers bear significant costs of healthcare insurance and pensions for their current and retired employees. As insurance premiums rise, these costs will also tend to increase.

Excess Capacity - In 2005, the North American industry was estimated to have excess capacity of 17%, higher than in Europe. Although demand is rising, price competition in the US market remains intense, and the costs associated with this spare capacity are placing unsustainable pressure on margins.

An End to Unlimited Cheap Fuel? - Gasoline prices in the US have been rising for several years, and there is growing awareness among both consumers and manufacturers that oil is a finite resource. In response, US consumers are switching their allegiance from SUVs to smaller, more fuel-efficient vehicles, and the change has been more rapid than some manufacturers predicted. Hybrids, which are potentially more fuel-efficient, remain a niche, with a 1-2% share of the US passenger car market volume, but hybrid sales are also increasing.

Commodity Prices - Car manufacturers are particularly dependent on steel and resin (plastics), and the prices of these commodities have been increasing in recent years, as global demand rises. Even where prices stabilized in 2006, they were often at historically high levels. Moreover, it is difficult to formulate hedging strategies for these inputs. The result is strong pressure on margins, particularly as car manufacturers compete intensely on price, and so have limited scope for passing on the cost increases to end-users.

Globalization - Domestic manufacturers are facing intense competition from foreign players, especially on price. At the same time, US companies can exploit growth markets such as China.

Significant Trends

Cost Reduction - Both GM and Ford began decrease domestic manufacturing capacity in 2006. By 2008, these companies between them will have closed 26 North American facilities, with the loss of 60,000 jobs. Negotiation with the car workers' union has allowed these market leaders to restrain their healthcare expenditure going forward. To decrease material costs, some players are entering into longer-term relationships with a smaller number of suppliers.

Branding and Marketing - Manufacturers are focusing their different brands on different consumer segments, in order to differentiate their products in a crowded marketplace. As well as competing on price, players are simplifying their price structures.

Innovation - Industry players are investing in R&D, both to offer incremental improvements to their vehicles (such as hybrid-powered SUVs), and also to investigate more radical ideas, such as hydrogen fuel cells. As well as differentiating products, these investments should protect companies' long-term revenues in the face of volatile fuel prices and environmental legislation.

The car and truck market consists of total spending in the US on new cars, and new light, medium, and heavy trucks (including coaches), at manufacturers' selling price.

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