Disruptive change is here in the auto industry
While the 2008-2010 decline in the automotive industry occurred rapidly and was perceived by many participants as a surprise fall from a cliff, the cracks in the pavement were apparent well in advance of the collapse. In fact, months before the cascade started, certain observers pointed to the general economic conditions, rising oil prices and the extreme over capacity in the supply base while predicting the industry was about to hit a wall. Some suppliers realized the temperature of the water was rising. They consolidated, conserved cash, found better sources of supply and employed other strategies. These companies survived the downturn and reaped profits as the industry rebounded to record levels.
A decade later, the industry is experiencing near record volumes and the economy as a whole is humming along at full employment with little inflation, still relatively low interest rates, and low oil prices which appear to be relatively stable. However, cracks in the pavement are again emerging. While most experts predict only a small decline in volumes (at least prior to GM’s announcement of plant closings and layoff) for the next few years, interest rates are rising as are material costs and labor rates. Auto industry factory utilization has declined from 93 percent in 2015, which is perhaps too high, to 82 percent this year. The impact of tariffs is uncertain and could be dramatic for some suppliers. To this add 40 product launches scheduled for 2019 with more to follow as the industry adapts to the American consumer preference for cross-overs instead of sedans. The switch can be expected to create unanticipated issues. With the large number of used vehicles coming into a market that has absorbed over 17 million new cars per year for several years, we can anticipate disruption occurring throughout the space. Finally, the current U.S. economic expansion, which is the second longest on record (soon to be the longest), is anticipated to end sometime in the next two or three years, and this will certainly impact sale volumes, possibly more than currently anticipated.
More important than these factors, which could easily lead to a short-term downturn, are the longer-term structural changes being faced by the industry. The need to convert from combustion engines to electric will require complete changes in platforms, drive trains, and sources of supply, not to mention the impact on the service industry due to electric engines requiring significantly less maintenance. Service has been the profit source for most dealerships. Add to this the change from the concept of the industry as providing cars to be owned to the concept of the industry providing the service of mobility coupled with individualized amenities on the trip from point A to Point B. Also add the anticipated (but unproven) demand for driverless vehicles, controlled by computers subject to cyber threats, and it becomes clear that fundamental disruptive change has begun.
While much is uncertain, some outcomes are becoming clearer, and those in the industry need to begin planning and implementing those plans now. GM should be applauded for the difficult changes it recently announced, which are clearly a first step in its preparations for the disruption tsunami. While the crystal ball is cloudy, we can still see that sedans, which are not profitable and do not sell, and six-speed transmissions (as opposed to the more efficient 8 and 9 speed transmissions) used for combustion engines should no longer be produced. Consequently, while painful, GM has to close the facilities that manufacture these items to preserve resources enabling it to make the major changes needed to adapt to whatever lies ahead.
Auto suppliers, like GM, are facing uncertainty. But with proper planning, they can weather the storm. Depending upon a supplier’s unique circumstances, now may be the time to consolidate, to move sources of supply, to prepare for increases in component and labor costs (with both suppliers and customers), to prepare for cyber issues, to seek new markets, to reset loan covenants, or simply to conserve cash. The goal is to survive and hopefully thrive