Sunday, 23 September 2012

Industry Churn: Clout and Overcapacity

New turmoil dominates today's [July's?] news. First, there is the not-quite-yet announced linkup between PSA and GM. Fiat-Chrysler claims to be looking for an alliance partner. So we are seeing a resurrection of the idea that a modern auto manufacturer needs a bigger scale than these already large firms have—call it the mantra of "clout."
A second piece of news is that Subaru (Fuji Heavy Industries) is withdrawing from the "kei" (minicar) segment in Japan, leaving three players, Suzuki, Daihatsu and the faltering Mitsubishi. Meanwhile, there are rumors of plant closings in the EU. This represents another long-standing industry mantra, "overcapacity."
In Japan, the 30-odd manufacturers present in the 1950s shrank to 11 by 1966, with new entry Honda offset by the acquisition of Prince by Nissan. Now in Japan little changed until the 1990s, but since then Toyota took over Hino, Isuzu, Daihatsu and now has exerted control though not full ownership over Subaru (Fuji Heavy). Renault took over Nissan, Volvo took over Nissan Diesel, and Mercedes took over Fuso, the truck portion of Mitsubishi. Honda remains fiercely independent, while Mazda and Mitsubishi failed to turn themselves around in alliances with Ford and Chrysler/Daimler, respectively. Suzuki is presently unwinding an abortive alliance with Volkswagen.
Confusing? Yes! And it's not just Japan. In Europe brands such as Simca disappeared in the 1970s, along with the remnants of other firms; a few have mutated, with Mini shifting to BMW, Land Rover and Jaguar to the Indian firm Tata, and Rover to a Chinese firm. VW has gobbled up a range of makers, from SEAT and Skoda to Audi and Porsche. Of course the US has seen all sorts of drama, too.
But that hasn't necessarily meant fewer players, at the national level. To give one example, Toyota, Honda and Nissan all have plants in the UK, and the number of models expanded. While many words have been spilled on overcapacity at the pan-European level, there's a puzzling disconnect: aren't there also therefore too many brands and models in the market? "Lean" manufacturing and common platforms, and now manufacturing design standards [off the top of my head I'm not sure there's standard jargon] allow firms to make multiple (and sometimes quite different) models in the same plant. There is still however an association between plants and models, or at least size-based market segments.
This is from an old draft that somehow remained "unpublished". For the moment I will leave it merely as an observation that these multiple levels of analysis haven't been integrated, and that the received wisdom is almost surely comprised of mutually inconsistent elements. I've still got some slogging and blogging to go on these topics...
Mike Smitka

Auto Bailout Redux: Warren Buffett was Bush who bailed out GM -- Obama forced it into bankruptcy...
Steve Rattner's blog points out a February 27th CNBS interview with Warren Buffet that affirms what David Ruggles and I have argued from the start on our Autos and Economics blog, and reiterated here: that the alternative to the government provision of DIP financing for an orderly Chapter 11 restructuring of GM and Chrysler (as though bankruptcy is a bailout!) was a catastrophic dissolution via Chapter 7 ("close your doors forever" bankruptcy). As Buffett notes, capital markets weren't functioning, and there were no sources of working capital for firms seeking Chapter 11. Indeed, he himself told one of those firms "no" -- and unlike banks, he was not constrained by liquidity concerns and depleted capital. Rather, everyone was hunkered down, and clearly uninterested in what a priori was a very risky venture.
Now it's not as though the reorganization was perfect; lots of dealers had their franchises yanked, which neither lowered operating costs at GM nor improved their sales. That seems to have resulted from the input of a consultant who had worked for NADA (the National Auto Dealers Association). Of course every dealer wishes for one less competitor, but that's a tension with every franchise system: what's good for the franchisor is not always good for the franchisee. With hindsight there might have been wiggle room on other terms and conditions. But it's hard to fault what was done from a real-time perspective. Indeed, the speed with which the Chapter 11 restructuring was consummated should give creditors in other bankruptcies, who often shell out staggering legal fees for years on end, food for thought. And speed was critical to the revival of GM and Chrysler, and for keeping suppliers and the rest of the domestic auto industry afloat.
Let me close with a personal reflection. We will continue to quibble over the appropriate role of government in our society. We will always find fault, too, because by and large government is engaged in providing services that can't be quantified or for which market prices aren't available -- economists and environmental scientists can construct models to delimit how much less pollution is worth, but that's a far cry from trying to figure out how much a gallon of milk is worth.
Overall, however, I've always been impressed with the service orientation of those in the public sector, from local school teachers (the biggest component of Leviathan, and certainly not in it for the money!) to individuals such as Mr. Rattner (who incurred a pile of legal bills for the privilege of serving). Kudos! -- our society would be poorer without them
Mike Smitka
An essentially identical post is at the US and Economics blog.
My apologies if this shows up at an odd time; I may have forgotten to hit "publish" after writing it, or else went back to edit it without realizing I had to re-publish it.

Europe's Troubles: BMW postscript quick analysis suggests no European OEM will weather the coming storm without taking on a fearful amount of water...
According to an August 16th Bloomberg post on BMW, discounting is rampant in the German market, while sales are not responding. (According to a friend who has worked in Europe, this phenomenon of phantom sales goes back decades, rediscovered in each recession given that the careers of analysts and reporters of the industry seldom span multiple downturns.) Now I visited BMW's plant in Spartanburg, South Carolina in January 2012; it was running flat out and adding capacity, because the models produced there are global hits, with the majority of output exported. My back-of-the-envelope calculations suggest that plant is about 1/5th of BMW's global output, given capacity additions in China.
Of course a big slice of those exports go to Europe, which is in recession; overall the region accounts for 30% of BMW's sales. The elimination of the "block exemption" in late 2003 removed restrictions that limited the ability of dealerships to sell cross-border; German stores now compete with those in Italy. As long as the euro lasts, troubles in one large market now spill over to the rest of Europe. [And if the euro doesn't last ... but that's my premise.] Meanwhile growth has slowed in the BRICs, which account for 25% of sales.
So while the European near-luxury makers are more diversified than Peugeot, Renault or Fiat, they too remain vulnerable.
And then there's the massive VW empire, 10 brands including a full range of trucks, and a solid sales base in most markets except the US and Japan -- and it is now targeting the US aggressively. However, with a market share of just over 4%, its footprint simply isn't large enough to generate sufficient profits to offset weaknesses elsewhere (and with a new plant, depreciation looms large, good for cashflow but not the bottom line). To analyze how the firm will weather the looming European meltdown would require piecing together these operations. Analysis is further hampered by the lack of geographic data in the stock analyst reports I've scanned. They may be the best immunized -- but I can't make a case one way or the other.
...Mike Smitka...
Addendum: Pending blog post I spent over an hour discussing the European industry with a retired senior Detroit 3 executive whose career included multiple postings to Europe. He helped point out variations across firms and markets, a level of detail beyond my experience or ability to quickly [this is a blog!] research. More once I hit a comfortable rhythm with my teaching overload this fall, and add nuance to my analysis of Europe.

Saturday, 8 September 2012

GM and the Upcoming Presidential Election

Ruggles – September 2012
Amid the political turmoil of election season the rescue of the domestic auto industry by the George W. Bush administration and the Obama Administration is certainly a political football. The President and the Democrats have to defend the fact that the “rescue” wasn’t done perfectly, although a debate rages over exactly what those imperfections might be and who is responsible for them. Many Republicans are sticking to their position that the domestic auto industry should have been allowed to liquidate and eventually reform, although that logic doesn’t play well in the key “swing states” Ohio and Michigan. Governor Romney was adamantly against the “bailout” saying “Let Detroit go Bankrupt” and declaring that “a bail out would insure their failure.” Of course, this is all confused by Romney’s attempt in the Republican debates to actually take credit for the rescue saying, “They took my advice.” (His campaign has repeatedly declined comment when asked to clarify their candidate’s position on the issue.)
It also seems to ignore the fact that in the case of liquidation, there would have obviously been a huge cost dropped on the various states for unemployment compensation, a ripple impact through the banking system, chaos in the supplier base, and a disruption of military procurement. The ultimate result could have been a true Depression. Most pragmatic politicians wouldn’t have taken the risk, despite rhetoric to the contrary.
Some of the criticism leveled at supporters of the auto manufacturer rescue is based on the fact that if GM stock were liquidated today, based on its current value which is down a third since its’ IPO date, the taxpayers would sustain a loss in the tens of billions of dollars, which is entirely true. Of course, no one has calculated the cost of NOT doing the rescue, a calculation which would have to be based on speculation and would be subject to considerable argument.
Another issue rarely heard has to do with the billions of dollars of pension liabilities that would have been dropped on the Pension Benefit Guarantee Corporation. While a close estimate of that financial burden is not available, a comparison is. When United Airlines dropped their pension liabilities on the PBGC about 8 years ago as a part of their Chapter 11 bankruptcy, the amount was $6.6 billion. While this is technically an insurance fund, the obligation for pension obligations abrogated by liquidating OEMs and suppliers in the case of an auto industry liquidation would have easily run into the tens of billions of dollars, rendering the fund insolvent. This would have either landed on the back of taxpayers or pension checks would have ceased for many retired Americans. The impact on the psyche of the country and on consumption in the economy can only be imagined.
In the meantime, President Obama and Governor Romney and their political parties have both been banned from GM properties until after the election. There will be no political grandstanding on bailed out automaker facilities! Imagine banning the person who represents one of your largest stockholders, without whom you would not exist.
The two automakers have also refused to furnish vehicles for the national political conventions. It’s a smart move for GM and Chrysler to stay away from politics when possible. After all, they want to sell vehicles to both Republicans and Democrats.
While things are somewhat different for Chrysler now that FIAT has bought out the Federal Government’s stake, are GM executives hedging their bets in case President Obama loses in November? While it hasn’t been talked about a lot, it has occurred to more than a few GM stockholders (myself included) what would happen if Romney is elected and immediately dumps all of the government’s stock in General Motors. This would certainly be devastating for the stock price, but what does Romney have to lose? He could claim to have relieved of GM of its Government Motors moniker, while hurting millions of private stockholders. He could blame the losses on the previous administration, and move on. If reelected, it is a given that President Obama would hold on to the GM stock, selling small amounts at a time to maintain the stock price, while hoping the improving economy would further bolster the value of the taxpayer’s stock.
It is also a given that President Obama’s role in the restructuring in the domestic auto industry gives him a serious advantage in the November election. It is hard to imagine Ohio and Michigan going Republican. And without those two states, the road to the White House becomes a near impossible journey. And if GM shareholders across the country get wind of Romney’s intent to dump the taxpayer’s GM stock at once, it could impact the way people vote in other closely contested states.