Automakers are slowing down. One of the most powerful industrial sectors is moving into low gear. General Motors, the largest auto company in the world, has stalled. Ford is awash in red ink, and Delphi, the world’s largest maker of auto components, has stopped paying its bills. Europe, too, is unable to avoid a sudden stop. The main brands of the Volkswagen group, including VW, Audi, Skoda and Seat, are losing their power. Renault is losing market share. BMW is not winning over customers.
Seat provides the most extreme example of the difficult situation in the European market. This subsidiary of the Volkswagen group suffered pre-tax, accumulated losses amounting to 145 million euros between January and September of 2005. To emerge from this financial hole, Seat, like that of its U.S. competitors, will cut some 1,446 jobs, a little more than 10% of the total work force of the VW group. Seat justifies this “labor force adjustment plan” by citing the current level of demand for cars. According to the company, the Martorell factory in Barcelona (Spain) has 25% excess capacity. Production there has been cut by 24% since 2000 when the firm achieved a record manufacturing output of 516,146 vehicles. The forecast for this year is that production won’t go higher than 390,000 units. “Job cuts were the only option left for the company after the labor unions rejected its proposal to reduce working hours and salaries for the entire staff,” notes Ramón Paredes, Seat’s vice-president of human resources.
Potholes along the Road
“One of the main reasons why Spain’s auto industry is in critical condition is the incorporation of new countries from Eastern Europe into the E.U.,” says María Ángeles Montoro Sánchez, professor of corporate management at the Complutense University in Madrid. “Another factor is the rising profile of China in the sector.” The countries of Eastern Europe, she adds, “offer labor costs that are equivalent to 25% of Spanish labor costs, as well as enormous organizational flexibility and a desire to generate clusters in the component sector.”
For Montoro, Spanish industry might solve its problems by focusing on its strengths, which include “the high level of productivity in Spanish factories; the high level of skilled labor; specialized human capital, and the high level of technology. You also have to add the impact of the cumulative experience of the plants and the component sector, which is strong, well organized, and very competitive globally.” Joaquín Garralda, assistant dean and professor of strategy at the Instituto de Empresa (IE) business school, adds that “Seat needs to be more flexible. One solution to getting out of this crisis would be to move production of low-end autos to the Eastern countries because people there are more likely to buy those models. Meanwhile, they could manufacturer the higher end [cars] elsewhere.”
Strong competition from low-cost labor in other countries has become one of the factors slowing down automakers. Nevertheless, Garralda stresses that the situation differs significantly from country to country. In his view, the auto sector “is very globalized, and you need to have a viewpoint that is global but also regional. Outsourcing has aggravated the crisis. Labor and manufacturing are cheaper in other countries such as Poland and Mexico, so manufacturers are moving their factories to those places.”
In early August, BusinessWeek magazine dubbed the countries of Eastern Europe ”The New Detroit.” Their advantage stems from the enormous capacity of the region, the large scale of investments already made, and the low cost of labor in the region. In addition, the culture there has a tendency toward continuous improvement, and labor unions have a constructive and collaborative approach. Finally, these countries are playing a collective role in “R&D&I” — Research, Development and Innovation.
Montoro points out other factors behind the slowdown in Spain: “overcapacity of production, stagnating markets, and competitiveness.” For his part, Garralda stresses “the excess of installed capacity” in Spain. The manufacturing capacity of factories exceeds the pace at which cars are being sold. “However, it is very hard to close plants; that means paying a very high cost both in financial terms and in reputation.” In addition, Garralda notes, “many manufacturers have not learned how to adapt their [vehicle] models to new times, the latest needs, and the different markets in which they are being sold.”
The Volkswagen group, which owns Seat, is not giving up. Despite having announced a spectacular increase in its deficit for the third quarter, it is sticking to its forecast that it will be profitable in fiscal 2005. Its main brands, led by Volkswagen, Audi and Skoda, have all behaved weakly. Yet the Volkswagen group is recovering from a decline in its sales during the two previous years, and VW has become the highest-selling brand in Europe, surpassing Renault, the market leader since 2002. For its part, BMW registered profits of 448 million euros during the third quarter, about 6.5% lower than during the previous fiscal year. BMW attributed the decline in profits to the rising cost of raw materials and to price wars.
The American Giant Steps on the Brakes
General Motors, the American giant, has stepped into the largest pothole in its long history. The losses it is suffering could even mean that the world’s largest automaker eventually suspends its debt payments. Analysts at the Bank of America say there is a 40% possibility that GM will wind up declaring Chapter 11 bankruptcy during the next two years.
During the second quarter of this fiscal year, the deficit in GM’s accounts reached $4 billion, for the year to date. Among the factors responsible for the deterioration in GM’s condition are growing competition in the marketplace, loss of market share, higher fuel prices, and the need to cut healthcare costs in the plants. GM’s bonds have lost 40% of their value since the beginning of this year. As if that weren’t enough, Delphi, formerly a subsidiary of GM, has suspended its payments. Delphi, the world’s largest manufacturer of auto components, has been choked by high costs and declining production levels. The crisis has increased the pressure on GM, which is ultimately responsible for paying the salaries of every employee in its former subsidiary.
Then, things got even worse. At the end of last October, the Securities and Exchange Commission announced that it was investigating GM’s financial records. The company, led by CEO Rick Wagoner, had already acknowledged that it made mistakes in its accounting results for 2001. GM registered an excess of $400 million in profits for that year because it erroneously registered some credits from its suppliers. Additionally, GM overvalued its stake in Fuji Heavy Industries of Japan, which owns the Subaru brand, by 57%. GM has warned that other mistakes could also be come to light in the future. That announcement sent GM’s bonds plunging to $23.51, their lowest price in 13 years.
General Motors had no choice but to make cuts in the company payroll. It will eliminate 30,000 jobs, or 10% of its total personnel, during the next three years, and it will also close or reduce activity in 12 of its plants in the United States.
GM is not the only U.S. automaker that has problems. Ford, which has accumulated losses of $1.4 billion so far this year, is preparing a plan to reduce its production levels and personnel in the U.S. Although Ford has yet to reveal details, analysts predict that Ford will shut down eight factories, adding 4,000 jobs to the list of those that will be eliminated. The company will announce the details in January. In addition, Ford has announced that it will also make cuts in Europe — 2,600 jobs – and Delphi has announced that it will eliminate some 24,000 jobs over the next three years. Overall, the U.S. industry will lose 58,000 jobs by 2008.
Garralda sums up things this way: “There is a lot of competition in the U.S. market, and firms believe they are forced to improve their financial condition and lower the price of their automobiles. In addition, automakers are overwhelmed by excess installed capacity; they have a lot of factories but they don’t sell as much as they produce. On the other hand, when things go badly for U.S. firms, their component manufacturers also suffer.”
The problems faced by U.S. manufacturers are similar to those battering European carmakers — excessive production capacity; stagnation in OECD markets; and a surging new competitor. “And all of this is happening at a time when the industry is focused on a process of outsourcing components,” says Montoro. In addition, moving plants to Asia “has become a priority because of such factors as costs, flexibility and technology. Europe, in contrast, becomes a stumbling block [to manufacturers] because of its rigidities and the stagnating demand there.”
In addition, GM must tend to its own needs. The company’s president has acknowledged, “If we could go back and rerun the last five years, we would probably invest more time in guaranteeing that each product is distinctive in itself and has a chance to succeed.” One of GM’s faults has been putting more emphasis on marketing than on designing and finishing attractive vehicles, the experts say. GM put a great deal of effort into its SUVs, but that product has been losing popularity in the U.S. market because of exorbitant gas prices. In addition, GM must deal with competition from Japanese firms.
GM is suffering from the rising popularity of hybrid cars, which combine an internal combustion engine with an electrically powered engine in order to save fuel costs and reduce the environmental impact. Hybrid cars require companies to spend more on research. The Japanese automakers committed themselves to hybrid motors from the very first moment, and they have taken the lead in the market as a result. Other manufacturers, including GM, have entered this segment late, and they are now being forced to make a major disinvestment in this concept. “Auto manufacturers are more worried about the environment, and that matters more and more to customers. As a result, they are dedicating more resources to investing in technology for adopting their vehicles. The Japanese companies are the ones who have invested more in these devices for quite some time because of their culture of harmony with nature, and the measures imposed by the government,” explains Garralda.
Another key GM weakness is its legacy costs, derived from job cuts that it made during the 1990s; in 1991 alone, GM laid off 74,000 workers. This has left the company with one worker for every three workers on a pension. Finally, the third big burden for GM is its responsibility for Delphi.
Ford shares several problems with GM. On the one hand, its SUVs are losing market share. On the other hand, Ford is being affected by discount plans aimed at luring buyers. In addition to suffering high labor costs, it spends a great deal on healthcare and pensions for its workers. Finally, Ford is paying a price because Asian manufacturers are highly competitive.
The Japanese firms are gaining market share. Toyota, which does not face the same economic problems as its major rivals, hopes to oust GM from its spot as the world’s leading automaker. To do that, Toyota is going to invest 10.13 billion euro over the next few years. Already, the Japanese firm sells more vehicles in the U.S. than any other manufacturer.
According to Montoro, “In recent years, vehicle makers have gone from an environment in which the level of service and quality assured excellence while costs permitted them to guarantee profitability, to another environment that is more competitive and more global, and in which the business has become more complex.” To emerge from the crisis, notes Montoro, “companies must act with greater flexibility; choosing strategies that enable them to adapt to changes in their customers’ preferences and permit them to respond rapidly to innovation, while creating value for their customers.”
Montoro adds that vehicle makers must ally themselves with suppliers, and work as a team to find solutions that add value and profitability. “That way, collaboration becomes a strategic option that companies can utilize to improve their competitiveness and guarantee their survival. They can conserve resources, share risks, obtain information, access complementary resources, reduce the cost of developing products and improve their technology capabilities.”