“difficult to envisage any capacity actions in the current environment”
The European Auto Industry’s perennial and chronic over-capacity crisis means it is being kept bloated, unprofitable and afloat because whenever a financial crisis requires resolute action, craven governments step in with taxpayers money for a bailout. It’s like the bank of Mom and Dad writ large, coming to the rescue.
One day of course the industry, which employs some 12.9 million people – or 5.3% of the European Union employed population – will be forced to face reality, and either slim down or face extinction. But don’t expect that to happen any time soon. And the Germans have to be excluded from this painful indictment because companies like Volkswagen took harsh and painful restructuring measures in the first decade of 2000.
The good news for Americans is Ford and General Motors’ European subsidiaries, serial value destroyers for years, have been leading the production cuts to finally produce a realistic amount of cars to stop massive losses.
Alan Mulally, Ford CEO until July 1 and perhaps a bit demob happy, warned recently that other European manufacturers must do more to slash excess capacity and bring production down to a sustainable level. Mulally was probably confident that Ford Europe was beyond criticism having shuttered 27.2 per cent of its capacity. GM Europe has eliminated about 28.7 per cent.
But the loss of more than three million car sales a year in Western Europe since the financial crisis started has led to many mass car makers stumbling into billion dollar losses. Mulally didn’t name any companies, but this of course excludes Volkswagen with a harsh restructuring under its belt. Highly profitable and premium sector dominators like BMW, Mercedes, and VW’s Porsche and Audi are unaffected by the malaise. That leaves the finger of suspicion pointing at Fiat of Italy, and French companies Renault, and Peugeot Citroen.
This is the familiar scenario facing some mass market European manufacturers.
In the good times, factories churned out the maximum amount of cars to reap big profits, but were inevitably slow to cut back when demand dipped. Prices were cut to make sure the production lines kept moving, economies of scale were maintained and some profit made or losses kept to a minimum. In a normal business, if the downturn deepens, factories have to shut or companies go bankrupt. But Europeans have a nice, if counterproductive, trick up their sleeves. Instead of having to face the reality of the bottom line and the need for a drastic shakeout, European manufacturers turn to their governments, pointing out the possible job losses, and how if tax payer money isn’t stumped up for a bailout, there will a big group of permanently antagonistic voters.
This cowardly short-termism guarantees that when markets rally a bit, the surviving stragglers make it impossible for the healthy companies to make decent profits because too many cars and SUVs on the market mean price cuts and discounts never really go away. And because price levels are kept artificially high because the least efficient are hanging on, this means increasing vulnerability to smart operators like Hyundai and Kia of Korea, which have marched into Europe and captured a lucrative amount of market share.
Don’t expect action
International Strategy & Investment (ISI) agrees with Mulally’s assessment, but doesn’t expect much action any time soon.
“As European sales continue to recover and with Fiat now supported by Chrysler, and French government ownership at both Peugeot-Citroen and Renault, it is difficult to envisage any capacity actions in the current environment,” ISI analyst Arndt Ellinghorst said.
France and Dongfeng Motor of China recently acquired 14 per cent stakes in Peugeot-Citroen. France has a long-standing similar stake in Renault.
ISI pointed out that after the government bailout of GM and Chrysler in the U.S. and plant closures, factory capacity use rose to 91 per cent there today from 75.8 per cent in 2011. In Europe, capacity use is expected to remain at an unhealthy 70 per cent, perhaps rising to 72 per cent in 2016. ISI said the plant closures by Ford and GM in Europe accounted for 63 per cent of all restructuring in the region.
David Bailey, Professor of Industrial Strategy at Aston Business School in Britain’s Midlands, agrees the spotlight is focusing on Fiat, Peugeot-Citroen and Renault.
“In a rational world, something should be done about overcapacity, but this industry isn’t rational. It’s a perennial problem facing the industry but they know they don’t have to grasp the nettle. They (the non-Germans) can’t make decent profits under these circumstances and they’ve been talking about a grand restructuring for 20 years. They muddle along, make a bit in the good years then seek government bailouts when it goes wrong,” Bailey said.
Bang heads together
Bailey said he’d like to see some centrally-directed action led by the E.U. to rationalize the European industry, which would “bang heads together”, and raise money from governments to compensate victims of plant closures. The E.U funded a similar reorganization in the 1980s to shake-up the steel industry. But Bailey has little hope for action like this, so successful in the U.S., because European budgets are stretched.
The Germans are also unlikely to want to fund a plan to make their competitors more efficient.
Professor Stefan Bratzel of the Center of Automotive Management in Bergisch Gladbach, Germany agrees that in a perfect world, more cuts would be inevitable, but also doesn’t see action soon. The worst offenders are Fiat, Renault and Peugeot-Citroen.
“It would be better if some manufacturers left the market, but that isn’t going to happen, I think. Fiat has very high over-capacity of more than 50 per cent, and Renault and Peugeot have around 30 per cent,” Bratzel said.
He agrees with Mulally that Ford has moved in the right direction; GM too. Peugeot-Citroen has started.
“Peugeot-Citroen has stabilized a bit, but it’s not yet over the mountain. The first few steps have been taken, but it will a need a few more in the next two years. Renault needs work too, but at the moment it’s being helped by Dacia.”
Dacia is Renault’s cut-price subsidiary aimed at supplying emerging markets with cheap and cheerful cars, mostly obsolete Renaults. But West European buyers have cottoned on to the value of these cars, and in the first four months of 2014, Dacia sales have jumped 38.1 per cent to 77,400, according to Automotive Industry Data. Some observers reckon these sales have been at the expense of Renault itself.
One tactic that is increasingly being employed by struggling automakers is a risible plan to try and grab higher profit margins by “moving upmarket“, as though all you have to do is say the words. Peugeot, recently revealing its latest recovery plan, reckons it can put “DS” badges and a bit of bling on its bread and butter Citroens and make money. Fiat is trying this too, at least with a bit more chance of success from its storied Alfa Romeo subsidiary. Last year at the Frankfurt Car Show, Ford unveiled its Vignale upmarket version of the Mondeo (Ford Fusion). Renault pushed its new Initiale Paris brand.
Aston’s Bailey isn’t impressed.
“They are genuinely living in cloud cuckoo land if they think this will work. It would take a 20 to 30 year commitment to break in (to the BMW, Mercedes, Audi, Porsche markets). No one has got the big pockets needed to do this. They haven’t got the resources or the capacity to pull that off,” Bailey said.
The Center of Automotive Management’s Bratzel doesn’t expect much rationalization soon but he does predict what he calls “slow and silent consolidation” in the long term, as vulnerable, smaller Asian companies like Mazda, Honda, Mitsubishi and Suzuki perhaps seek European collaborators.
“I suspect that in the next five years there will be only slow change, but after that, say 10 years, there will be further consolidation of the industry as players make further alliances. They will need to raise lots of money for the technological transformation of the industry. Most of the growth in the next 10 years will be in Asia and the Americas – not in Europe – and that will lead to further but slow and silent consolidation,” Bratzel said.
“Some smaller players will need partners to operate on a global scale; among them Japanese like Mazda, Honda, Mitsubishi and Suzuki,” Bratzel said.