Growth & Opportunities Beyond the Auto Crisis
Just a year ago, the following headlines would have been appropriate for April Fool's Day: "Toyota CEO apologizes to Chinese consumers for quality auto recall", "GM and Chrysler file for bankruptcy", "Ford becomes #1 in U.S. market – tops GM and Toyota", "China is #1 in the world in light vehicle production and sales", "Chrysler to invest US$550 million in Mexico to assemble compact Fiat".
Along with the credit crisis, the global recession battered all consumer durable goods sectors, particularly the automotive markets. Some auto OEM's, such as GM and Chrysler, with their robust fat of legacy costs for employees' health and retirement benefits, simply collapsed under the unbearable load.
The global auto industry underwent a major restructuring. Among other major events, hundreds of suppliers went broke, OEM's reorganized and shook top management, the auto supply chain consolidated, governments intervened, production quality fell, and consumers simple stepped to the sidelines.
In this article, we will first review the present and future condition of the global auto industry, and in particular, the U.S. market. This will be followed by an analysis of Mexico's prospects for recovery and the conditions needed to improve its global and domestic competitive position.
THE BIG STAGE Exhibit #1
, sourced from J.D. Power and Associates, shows global light vehicle production by region for 2003-2009 and a forecast for 2010- 2014.
Notice in the graph that production peaked at 70 million units in 2007 and sharply declined by over 15% in 2009, mostly at the expense of North American and European production decreases. This brought the global auto industry to the production level it had back in 2003.
Conditions are less healthy today because there is a 20% larger current production capacity and a significant lower capacity utilization reading than in 2003, though.
According to J.D. Power, after regaining its previous top production point in 2011, the global auto industry is set to resume growth to reach 80 million units in 2014. This represents a 5-year growth of 35% from the low production point in 2009.
Over 50% of the contribution to growth for the period 2009-2013 will come from Asia. Together, North America and Europe will contribute about 27% of the growth during this time period, but only to regain their pre-recession production levels. This forecast estimates that Latin America and the rest of the world will support about a 20% share of the growth, as illustrated on the right hand side of the graph.
To further illustrate this point, look closely at Exhibit #2
, where a comparison of the top 15 country markets is made between years 2000 and 2013. In 2013, the top 15 light vehicle markets in the world are expected to reach 62 million units; this is an increase of over 40% from 2000 when sales reached 46 million units.
Notice for example, that the U.S., Japan, Germany, France and Canada hardly hold their turf, while China's market skyrockets 7-times fold. Brazil, India and Russia boast important growth, but Italy, Spain, Korea and Mexico have a moderate performance. Mexico goes from ranking #13 in the world in 2000 to position #15 in 2013.
With Asia continuing to be the dominant growth force in the global auto industry, expect a strong commitment in the form of capital investments from OEM's and suppliers to that region in the mid-term. But the industry cannot overlook as part of their cost savings strategies, to reinforce its presence in other emerging low-cost manufacturing countries such as Mexico, Brazil and Eastern Europe.
The global auto industry not only has to contend with the worst automotive crisis ever and its plans for recovery, growth and globalization. There are other factors that are having an important role in the future of the industry and its planning, such as: environmental requirements, fuel costs, development of non-fuel powered vehicles and even ultra low cost cars.
It is clear, though, that the global auto industry is in a recovery mood. As a result of generalized stimulus, financial and inflation woes have faded and global business confidence has been restored.
Aggressive incentives for auto consumers in many countries significantly helped their domestic markets and production. For example, China's reduction in sales tax for small cars and large incentives for rural minivan sales boosted the market by over 1.5 million units.
Notably, in Brazil, the prompt response of the government's Tax Exemption on Industrial Products policy helped keep the market growing from 2.4 million units in 2008 to over 2.8 million in 2009, keeping a high utilization rate of their production capacity.
Germany's scrapping incentive scheme worth about five billion Euros netted the domestic market over one million extra units sold in 2009. France, Italy, Hungary, U.K., India, Japan, Russia, Austria and many other countries had similar programs that helped their domestic markets and production during the auto crisis.
CLOSER TO HOME
The "Cash-for-Clunkers" stimulus program in the U.S. was considered a success; it helped the U.S. market absorb almost one million additional vehicles in 2009. But it had only marginal significance to the huge six million unit drop during 2007-2009.Exhibit #3
by IHS-Global Insight, a leading automotive consulting firm, tracks U.S. light vehicle sales since 1999 and forecasts an extended market recovery through 2015.
Notice in the graph that the bulk of the recovery in the U.S. market, from 10.5 million units in 2009, will develop over a three year period. According to this forecast, U.S. domestic sales will reach between 15 million and 16 million units by 2012.
The exhibit illustrates the relative meteoric gain of Japan's Big-3 manufacturers in the U.S. market share. In 12 years or so, they have gone from a 20% market share to almost 40% at the expense of the U.S. Big-3 OEM's, whose market share will likely drop from 64% in 1999 to 40% in 2010- 2011.
Quietly but surely, South Korean brands Hyundai and Kia currently account for almost 7.5% of the U.S. market share and are poised for higher gains. They will combine to possibly attain 10% of the market before 2015.
The U.S. market will be a complex mix. Amid sales incentives and very, very stiff competition, the recovery in the U.S. will be a struggle in 2010. A brighter picture is expected for 2011, though.
Mexico reached the coveted production benchmark of two million units both in 2007 and 2008, claiming the #10 position in the world among light vehicle producing countries.
Mexico's production has been increasingly dedicated to export markets, particularly the U.S. market. In recent history, Mexico has exported between 80% and 85% of its production. And over 90% of those exports were shipped to the U.S. market.
In a nutshell, Mexico's light vehicle production is heavily dependent on and focused on satisfying the U.S. market. About 75% of Mexico's total production goes to the U.S. every year.
Aside from Volkswagen, that ships about one half of its production to Europe, there is no other significant export market for Mexico's light vehicle production.
As evidenced in the drop of exports in 2009, this is a significant intrinsic risk of Mexico's auto industry during any U.S. economic downturn. This is, of course, the flip side of being an integral part of the U.S. auto industry value chain, within NAFTA. This is sort of a "preferred supplier" status.
But there is room for diversification, and efforts should be undertaken to open additional markets for Mexico's light vehicles in Central America, South America and even Asia and Europe. There are many models in the low price scale and some in the upper scale produced in Mexico that would perform well in niches of those markets.
This would increase production a bit and at the same time bite a few points away from the U.S. lion's share of Mexican production.
Billion Dollar Moves Exhibit #4
from HIS-Global Insight shows Mexico's light vehicle production since 2002, and provides a forecast through 2015. See how, according to this leading consulting firm's outlook, Mexico's production for exports will completely recover its previous highs as soon as 2011.
But more importantly, observe the significant two-year production leap from 2011 to 2013, boosting Mexican auto exports by almost 40%. This forecast is banking on the U.S. market recovery and on the additional production capacity that has been in the works in Mexico in the recent past and that will continue in the near future.
Indeed, projects by practically all OEM's in Mexico during 2008-2010 will be collectively adding about a one million unit production capacity. And, this is happening with very good timing, too.
This is the main story in Mexico's Auto Industry's road to recovery.
Volkswagen plans to begin assembling a new compact car at its Puebla plant, its only North American production facility, in the first semester of 2010 following a $1 billion investment.
On the heels of a Mexican Government corporate loan, Chrysler Group LLC recently announced a $550 million investment in Mexico to assemble 130,000 Fiat 500s in Toluca in 2011 for U.S. and Latin American markets.
Besides its new lean and labor intensive Aveo plant in San Luis Potosi, GM undertook significant remodeling and retooling projects for its plants in Silao, Ramos Arizpe and Toluca. GM clearly considers Mexico a critical resource for its recovery and future growth.
Ford is making waves in the marketplace with the upcoming Ford Fiesta, that is set to start production soon in Cuautitlan, and with the hybrid Ford Fusion assembled in Hermosillo. This is as a result of Ford's investment in excess of US$1 billion in these two plants on top of a large expansion at its Chihuahua engine plant.
Mexico's auto assembly landscape is shown in Exhibit#5
. There are a few reasons to believe that there will be more items filling up the picture in the mid-term. According to the Ministry of the Economy there are at least four Asian OEM's, including India's Tata Motors, interested in establishing new assembly facilities in Mexico to supply markets in North and South America.
The Supply Chain
Mexico's attractiveness for global auto OEM's goes beyond being a low-cost manufacturing platform and enjoying an ideal geographical location.
Mexico's automotive supply base has developed into mature clusters of auto parts manufacturing. This is providing OEM's with significant logistics and production advantages that were not as tangible just a few years ago.
The presence of the world's top auto Tier-1 and Tier-2 suppliers is noteworthy. Interestingly enough, auto suppliers based in Mexico are well diversified as far as their country of origin and product expertise are concerned, as shown in Exhibit #6
Mexico's auto supply base endured the recent tough times with resilience. In order to survive the auto crisis, the global auto parts industry experienced many bankruptcies, mergers, acquisitions, consolidations and other corporate restructuring strategies. All of this was reflected in Mexico, adding woes to an already unpredictable business environment.
But the prospects of grow of the world's auto industry in Mexico kept Mexican suppliers' operations a priority for most firms' global manufacturing footprint. Mexico experienced a much lower number of suppliers' plant closures than its country counterparts. The auto supply chain in Mexico continues to grow throughout the country as shown in Exhibit #7
click for zoom
The Achilles' Heel
On a not too dazzling aspect of Mexico's auto industry, please go back to Exhibit #4 and note in the graph that Mexican auto production for the domestic market remains quite subdued throughout the forecast period. Prior to 2009, domestic sales accounted for roughly 25% to 30% of Mexico's production. But IHS-Global predicts that in the next five years, production for domestic sales will remain fairly constant at about 300,000 units.
Bear in mind that Mexico's domestic sales are for the most part new car imports. For example, in 2009, Mexico's domestic sales reached about 750,000 units, of which, approximately 280,000 vehicles came from plants in Mexico, and 470,000 were imported.
Regardless of the source, Mexico's light vehicle domestic market is in trouble as Exhibit #8
puts on view. Notice the huge drop of almost 30% in 2009 from just the prior year. And according to HIS-Global Insight, the prospects for recovery are slow and long.
Mexico's light vehicle domestic market is a business text case of carelessness and neglect. There are no other words to describe how a country with a two million units annual sales potential reaches only 1.1 million units in sales during favorable economic times, and drops to a third of its potential when things become sour.
It is clear that the government's long-term lack of prudence in allowing a seemingly endless parade of used car imports, both legal and illegal, is at the root of the problem.
Mexico's auto industry is the most important engine in the country's economy, thus, it requires the most disciplined industrial and fiscal policy from the authority to control imports.
When the global auto crisis emerged, the policy makers did not take appropriate action to defend and support the domestic market from the economic woes, as other countries did.
There is still plenty of time and opportunity for the federal government to implement tax cutting incentives to boost the domestic market. Many in the industry wonder what they are waiting for.
If proper public actions are undertaken and the auto industry and financial sector support the efforts with aggressive sales conditions and credit, Mexico's auto domestic market would not be the Achilles' heel of the industry but one more of its solid foundations.