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Despite June Sales Surge, The Dreaded “W” Recession Looms

When Incentives Expire, Many Expect Sales To Dive In 2010.
But Scrapping Said To Create New Sales Among 2nd Hand Buyers.
Consensus Reckons Green Shoots Delayed Until 2011.

Don’t be fooled by the latest figures which show West Europe’s car sales rose four per cent in June. Far from heralding the green shoots of recovery, Citigroup Global Markets warns that the industry faces the dreaded “W” shaped recession.

In other words, things are going to get worse, again, before they get better.

Automotive forecaster J.D.Power agrees, saying that the spate of government scrapping incentives have improved current sales, but most are merely stealing from the future. Watch out when most of these incentives expire by the end of 2009.

“We view the post incentive environment as being likely to present a major challenge to the industry in 2010 as demand at the current level may prove almost impossible to sustain. The key market in this respect is Germany: it has undergone the most remarkable boom this year in response to incentives and if, as appears very likely indeed, the incentive scheme expires at the end of 2009 as planned, the negative impact will be large,” J.D.Power analyst Pete Kelly said.

In June, German sales rose 40.5 per cent, and for the year to date were up 26.1 per cent. Sales of four million are now expected in 2009, close to the record set in 1991 after German reunification.

Give back the gains
Kelly reckons that next year the industry might give back more than it gained in 2009, when European sales are expected to slip only 1.7 per cent to 13.33 million, after 2008’s huge, 8.4 per cent drop.

“A German market correction from this year’s near 4-million unit market to a projected post-incentive 2010 level in the 2.6-2.7 million unit range offers some context on the scale of the problem,” he said.

Kelly also said that if some countries renew scrapping schemes (and he doesn’t expect Germany to be one of these) sales may fall to the 12-12.5 million range in 2010. But if no schemes are renewed, sales could be one million lower than this, according to Kelly.

“W” Shaped Recovery
Citigroup’s John Lawson, in a report headlined “A “W”-Shaped Auto Recovery in Europe?” said things might not be quite as bad as this, but they will still be bad.

“While we think the overhang will be less severe, it is clear that German consumers for example are set to use up all their 2 million scrapping premium validations possibly within the next two months. The car market is therefore likely inflated considerably above underlying levels, though many German purchasers are new to the new car market, and they have six months to complete their order,” Lawson said.

Max Warburton, analyst with Bernstein Research, is a lone voice saying that scrapping incentives won’t necessarily take sales from 2010. The incentives have actually lured new buyers into the market.

“The principal view among investors is that European car sales are set to collapse in 2010. In fact, this view is now almost completely consensual – as the assumption is made that scrapping incentives are simply pulling forward, or “robbing” sales from 2010 and beyond. We believe that this conclusion is incorrect – many of the sales made this year are new and incremental, rather than pull forward,” Warburton said.

Clunker owners usually buy 2nd hand cars
“While scrapping incentives are temporary in effect, they are only available to consumers with 9-10 year old cars in most countries. Consumers with 9-10 year old cars do not buy new cars in normal years. They most often buy 5-6 year old cars. In our view, scrapping incentives have created a temporary new market, by bringing used-car buyers into the new car market,” he said.

“The payback in 2010 will be less than feared,” said Warburton.

But the consensus is for a horrible 2010.

“We anticipate significant disruption to European volume, price and mix as these schemes either expire, or their effects fade,” said Credit Suisse analysts Stuart Pearson and Arndt Ellinghorst in a report.

Equity raising
Balance sheets would need to be fixed by asset sales and equity raising. Peugeot, Renault and Fiat would need to raise between €1 billion and €3 billion each in equity, they said.

The PWC Automotive Institute said scrapping has had a big impact on mix, with C-segment sales accounting for 39 per cent of sales in 2009, up from 34 per cent in 2008.

“This marked shift, while keeping factories running, will do nothing to boost the profitability of the region’s automakers,” said PWC’s Calum Macrae.

Chiming in to the conventional wisdom’s echo, Renault-Nissan CEO Carlos Ghosn said 2010 will be as difficult as 2009, and although the U.S. would start to pick up in the first quarter of 2010, Europe won’t return to growth until the first quarter of 2011.

Deutsche Bank agrees.

“We expect a sharp recovery of the U.S. market during the next two years – plus 35 per cent for 2010-2011 – the European market should remain very challenging due to the negative payback from non-recurrent scrappage incentives,” said Deutsche Bank analyst Gaetan Toulemonde.

Neil Winton – July 15, 2009

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