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Despite Green Shoots Claim, Europe Recovery Long Way Off

German Scrap Plan Brings Forward Sales.
European Sales Still Not At The Bottom.
Europe’s Manufacturers Will Emerge Stronger; But When.

Investment bank Goldman Sachs raised a few eyebrows in Europe earlier this week talking about the green shoots of recovery in the automotive business, when just about everyone else is still wondering whether the recession will turn into a depression.

Admittedly, Goldman Sachs analyst Stefan Burgstaller was seeking to pinpoint stocks to buy, but he does predict that the worst is over for sales.

“We now see light at the end of the tunnel – we believe European car sales declines troughed in February. Historically, such troughs have marked highly attractive entry points (for buyers of shares),” Burgstaller said.

That might well be true for potential stock market investors. But don’t hold your breath if you are in the business and waiting for an automotive upturn. In fact, “hang on for dear life” might be the appropriate cliché.

Research institute Global Insight, in a report for the European Car Manufacturers Association (know by its acronym in French, ACEA) said sales began crashing in the summer of 2008 and by January 2009 were running 3.5 million vehicles lower than the established annual trend rate in the European Union of 16.7 to 17.7 million. Virtually all car manufacturers will experience significant cash burn, which it estimates will reach between €18 billion and €30 billion in 2009. That’s $24 billion to $40 billion.

“Forecasts for the industry predict a 20 per cent slump in vehicle production in the E.U. between the start of 2008 and the end of 2009. This adds up to a loss of over €60 billion ($81 billion) to industry revenue. Capacity utilisation rates have already fall to 65 per cent in what is a high fixed cost industry,” the report said.

Trillion
Even in a world where trillion is suddenly in every day usage, that’s a lot of money.

“The collapse in volume feeds equally down the supply chain and also to dealerships and a host of manufacturers. These will run into many hundreds if not thousands of enterprises which have similar shore-up needs but without the profile, visibility and logistical administration to get similar aid (a reference to E.U. efforts to provide emergency finance for big auto companies). With unit vehicle assembly volumes falling by a quarter to a third, a wave of bankruptcies is predicted across the supply chain during 2009. Vehicle manufacturers use up to 800 suppliers,” according to the report.

That doesn’t sound much like the green shoots of recovery. It seems more akin to the hoary old twist to the saying that the light at end of the tunnel is in fact the front of the speeding locomotive about to wipe you out.

True, there has been some surprising good news about sales.

In February, car sales in Germany, Europe’s biggest market, jumped 21.5 per cent. But this was down to the introduction of scrapping incentives, under which the government gives up to €2,500 ($3,400) to buyers handing over cars older than 9 years to the crusher. France, Italy and Spain have introduced similar, short-term schemes. Britain’s government has been dithering over something similar since November.

Pull forward sales
This might not be all good news, according to the Financial Times of London’s Lex column.

“These incentives can do what chucking money at manufacturers cannot: persuade consumers to buy. They claim environmental benefits, too, since consumers generally buy small, lower-emission cars. But they are double edged. Incentives pull forward demand creating a nasty fall-off when incentives end. And eco benefits must be weighed against the impact of building new cars while crushing still-viable old vehicles,” says Lex.

Sales generated by scrapping incentives will be welcomed by the industry, but won’t have much serious, long term impact.

J.D.Power Automotive Forecasting joined Goldman Sachs this week in raising its forecast for Western Europe’s car sales in 2009 to 11.52 million, up from the 11.33 million it forecast in February. Goldman Sachs said sales in the region will hit 11.6 million in 2009 – 900,000 more than it originally forecast. (Western European sales were 14.8 million in 2007, and fell to 13.6 million in 2008, according to Citigroup Global Markets). Fiat, currently negotiating to take a 35 per cent stake in Chrysler, said it was feeling more optimistic about the future, but CEO Sergio Marchionne said no evidence of recovery in Europe will be seen until the end of the year.

GDP forecasts slashed
Underlying economic conditions point to more negatives.

Citigroup, in a recent report, said there was a much larger contraction in economic activity around the end of the year in Europe than expected, and it accordingly slashed its GDP forecast for 2009 to minus 2.7 per cent from minus 1.4 per cent.

Paris-based Fitch Ratings shares the view that far from the imminence of sunlit uplands, the near-term holds some fearsome hurdles.

Fitch cut the ratings for Peugeot-Citroen and Renault of France, and Italy’s Fiat to junk, and changed its outlook for Germany’s Mercedes Benz manufacturer Daimler to negative from stable. VW of Germany, Europe’s biggest vehicle maker, is on review for a downgrade too.

Fitch analyst Emmanuel Bulle expects car sales in Europe to slide more than 15 per cent in 2009 and continue to fall in 2010, although to a lesser extent. Bulle views scrapping incentives as a palliative which won’t boost demand long-term, merely bring it forward.

“Fitch is increasingly concerned about the extent of manufacturers’ falling profitability and the potential for accelerated cash consumption in the next two years, and the consequent potential for heightened volatility in financial metrics,” Bulle said.

Structurally weaker
It will take a long time to return to financial health.

“Fitch is concerned that financial profiles for some companies will be structurally weaker at the end of a long period of recession, with recovery to prior levels of financial strength potentially a medium or longer term prospect,” Bulle said.

There was some good news. No major company will die.

“Fitch has not identified a particular near-term risk of default for any of the European original equipment manufacturers,” he said.

Professor Ferdinand Dudenhoeffer of the Center for Automotive Research at the University of Duisberg-Essen in Germany is also firmly in the pessimist’s camp.

“I believe European sales will continue to suffer for the rest of 2009. I think in the second half, we have to assume sales in Europe will further decrease – we are not at the bottom. Now the recession is just getting started, it’s getting worse and worse. Export industries are suffering, employment rates going down. We hear news each day and the forecasts of GDP will decrease week by week, there is no indication we have found the bottom,” Dudenhoeffer said.

“All economists think the situation will get worse until we have a clear cut end to the crisis in the banking sector,” he said.

Return of the glory days
You have to extend the range of your radar to pick up more long-term signals to find any positive feedback.

Eric Wallbank, U.K. automotive sector leader for Ernst & Young, believes Europe’s car manufacturers will eventually pull themselves out of the mire, but a return to recent glory days might take some time.

“We still don’t know the shape of the downturn, how steep and how bad it will be. But the signs are that Europe will emerge quite strong from the downturn, at least it went into it with most manufacturers profitable – not like the big three in North America. Europe has a number of strong premium brands well established globally. Western Europe will be a major manufacturer and innovator, but it will be a bumpy ride for the next 18 months,” Wallbank said.

As for the recent sales peaks, they might never return.

“It will take several years to recover to that; maybe never,” he said.


Neil Winton – March 31, 2009

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