Monday, 24 December 2007

End of Year / Yule -Tide Message

A short entry simply to thank all of those auto-industry related bankers, corporate executives, financial/auto press editors and respected management consultants who have taken an interest in, and involved themselves with, 'investment-auto-motives' throughout 2007.

A special thanks must go to Dave Leggett who has, on many, many occasions aired what have been lengthy and detailed repostes to his own blog at Much appreciated Dave.

Wishing a very Merry Christmas, Happy Chanukah, and a prosperous 2008 for all.

Warmest Regards


Friday, 21 December 2007

Company Focus - BMW Re-alignment

In early October BMW set out its stall to rekindle investor belief that the auto-maker would return to previous profitablity levels. Re-alignment highlighted by CFO Ganal’s taking centre stage in company announcements.

In analyst presentations the company drove home the message that RoCE & EBIT measures would take precidence, the latter deleting the usual Depreciation and Amortisation elements (of reporting typical EBITDA) to clearly illustrate top-line growth. [corporate guidence shows analysts averaged projected EBIT at: €4053m in 2007 /€4236m in 2008 /€4581m in 2009 / €5460m in 2010]
RoE to receive the same attention to re-assure the Quandt family of its 46.6%family holding and current institutional investors to enjoy the fruits of a stock rise driven by intended buybacks from the company in 2008.

The catalysts for change would be: higher dividends to generate additional investor interest - enabled by the transfer of pensions obligations (like Detroits Big 3) - efficient $ currency hedging and extended $ procurement payments (given the strong Euro) for US plant supply and across Asian facilities.

But that didn't stop a flurry of stock selling between early Oct and late Nov; many believing that the shadows of raw material cost increases, the weak US dollar, immediate western economic (esp US 'credit-crunch') malais and potentially hard-hitting future CO2 legislation were short-medium and long-term headwinds hard to overcome.

Thus news of additional overhead cost reduction from the 8,000 (mainly German) redundencies has come to demonstrate management conviction that fight-back plans are being implemented - especially given the comparison of Daimlers' good performance. Ganal and the Board recognise that BMW has to prove itself, the halcyon years of BMW riding the waves of global economic expansion and accordant consumer aspiration must seem very distant.

investment-auto-motives recognises the major effects of the aforementioned headwinds, but also believes that the down-turn in company fortunes is partly the result of what for some time have been strained stake-holder relations. Suppliers, employees and dealers have become somewhat dissillusioned with an toughening business climate over the last few years and found themselves in an unwelcome position 'trapped' between harsh market conditions and BMW's neccessary corporate retractions. Beyond the pressured external and internal business climate, an additional important factor appears to have been a lack of co-ordinated product management: from product design strategy (eg 1 series & X3) to launch timings (3 series, new 7 & X5) to production constraints and order fulfilment (on all except Rolls-Royce) and hence strained dealer/customer relations.

The Mini example demonstrates:

The 'playsafe' approach of 2nd Gen Mini has, we fear, backfired. Although larger, safer, more frugal etc, the small aesthetic pigeon step forward has undermined potential demand within Triad regions, putting a greater onus on new variants like clubman and possible SAV. We suspect this was done so Asian market buyers could gain the same 'authentic Mini' sense as western buyers experienced back in 2001. But this has left potential Euro, NA & Japanese buyers somewhat deflated, seeing little visual difference to the 01 car. More should have been done to manage the different expectations of both new and old regions, such as adaptable lamp lens covers, vanity trim items, etc to aid differentiation.

However, given market expansion, global demand infact put capacity constraint on the Oxford plant, running at full tilt. Good yet also bad news in terms of order fulfilment. We feel an additional local CKD (completely knock down) assembly site for Asian markets could have been constructed in India (alongside 3 series) to relieve Oxford capacity demand, reduce export costs, test local component manufacture cost & quality, and critically be in situ to highlight BMW commitment to developing the Mini brand (in many forms to come) as the prime 'designer' city car throghout Asia-Pacific. That CKD site would expand to full production maturity (as a copy+ of Oxford) to avoid any lag in meeting latter day demands that would otherwise be captured by indigenous players and the Japanese and Koreans.

Again on the small car front - but not as balance sheet relative - BMW (like Mercedes) at long last looking into the development of an off-shoot sub-brand dedicated to fashionable-eco 'A/B' segment cars. Although city cars have historically been on and off the agenda (eg Z13 studies of mid 90s) the reports of a New Isetta (picturing a computer generated mock-up) over-play the initiative to create splash headlines.
The initiative, ideally, should already have a range of 3 or so serious conceptual design options available, about to elect a favoured for conceptual engineering feasibility studies and full programme appraisal and confidential 'early adopter' customer feedback. Platform-share discussions with Daimler and Fiat, if agreed, would reduce programme timing and costs, much dependent on the adaptability (for brand execution) of the shared vehicle frame and modules.

As previously stated there have been problems in other areas of the business (eg product execution and mix, customer delivery dates, dealer over stock etc) - far too detailed to fully discuss here.

Though mistakes have been made, the reality is that the group's relative poor operating margin performance (beyond tight western pricing elasticity) is also partley of it's own making. Critical internal management policies and methods are be fixable to return the company to the lean, effective and forward-thinking operating mechanism it had previously earned a reputaion for. One that is gradually able to overcome the serious headwinds that worry the sector in general, but specifically the German luxury makers.

There is much on BMW's plate to be considered and implemented, and transparency will be key.
Just as global banks are now confiding their exposure to value destroying SIVs and being transparent in their write downs, so BMW should take note and act accordingly. Demonstrating - in detail - its credible plan to reach announced EBIT targets (esp the growth climb between 2009-2010 ) to overcome any remaining investor reluctance. This will take more than 'splash' auto-press headlines, perhaps requiring yet more of Ganal acutely demonstrating what winds of change lay behind the numbers.

Thursday, 20 December 2007

Industry Practice - India: take-aways & home-made recipes

Just as the Indian automakers TATA and Mahindra enter the final furlong to secure the assets, order-book and goodwill of 2 respected British marques, a 3rd Indian entity - Maruti-Suzuki - airs its intentions in seeking additional European small car market sales.

On the surface it looks like big news... the possible new entry of an Indian producer to beat the Chinese into Europe's heartland?

But in reality the Maruti-Suzuki alliance is actually slightly biased to Suzuki (54%). The 'interesting' news from Maruti Udyog Ltd really seeking to convey to Western, Japanese & Korean automakers the continued benefits of maintaining and extending India as a low-cost global production base. No doubt ideally partnering with MUL in their search for increased margins.

To date foreign manufacturing interests include: Suzuki, Ford, Chevrolet, Honda, Hyundai, Fiat, Mercedes, BMW, Mitsubishi, VW-Skoda, Toyota and Renault (partnering with Mahindra and latterly Bajaj).

Although last in, Renault have perhaps engaged the greatest favour amongst newcomers from the authorities by vocalising its commitment with its 2 partners. A commitment that should eventually promote the goal of full-service design and development competance. Starting in logical order with the 2005 'observational unit' that researches local design needs.

Mahindra, TATA, Bajaj and the politicos will want to hear similar sentiment from other 'guest' VMs so as to strengthen the indeginous skills-base and introduce advanced processes (across conceptual design, CAD engineering, production engineering, prototype construction etc). The obvious intended conclusion to provide India Inc. with 'world-class' development capabilities. India endeavours to absorb over 400,000 graduate engineers annually, and although local automakers have made remarkable NPD strides in recent years there is still a recognisable gulf in adopting latest practices to encourage quicker, efficient and quality orientated NPD techniques that in turn reduce resource/project expenditure.

Importantly, beyond the aim of a full-service engineering function within individual Indian VMs, we believe the national goal ought to, in parallel, create a new breed of leading Engineering Consultancies (akin to Lotus, Ricardo, AVL etc), and Niche Vehicle Houses (like Pinifarina, Bertone, Karmann, Valmet etc). This latter group of respected European specialists - in creation & niche production - are heavily 'distressed' at present and seek fresh injections of capital and business model modification.

If India Inc. were to partner these Carrozzeria, it would provide major strategic gain over the currently dominant Chinese. Local PE firms and the regional divisions of large investment banks, should take this opportunity to assess the cost and fit of such a proposition. And one would imagine the likes of the well connected Dilip Chhabria [of the very active but possibly under-resourced DC Design] to be exploring finance options to create such an outcome.

Such a national strategy would allow India to balance its manufacturing output ambitions with a new service dimension, thus providing a self-fulfilling ability to catch the Chinese, over-take it in the greater 'value-adding' NPD service sector. (Much as is done for IT today). IT & Auto would boost India's Balance of Payments considerably.

Such scenarios are undoubtedly on the 'Indian Radar' for seniors such as Ghosn, Mulally and of course (Osamu) Suzuki. Each are skilled diplomats and well recognise the role they could play in assisting such a hypothesis. They are more than cogniscent of need to create a mutually beneficial route-way forward, if they are to fully exploit a burgeoning Indian consumer-base and utilise the region as the global small-car production-base. (This obviously philosophically led by the much vaulted TATA 1 Lakh car). And of course from a corporate productivity angle, consequentially, the stronger India grows in its ability to deliver inexpensive units, the more pressure each CEO can apply to Eastern European, Latin American and Chinese facilities to drive down their own build costs.

However, the Indian focus has to be much more than an unco-ordinated rush for cheap export build and possible bolt-on acquisitions. The very nature of the region demands that the innate structure of the domestic industry needs to serve what is perhaps the broadest set of B2B and B2C customers ever known. The western industry matured from luxury to middle-class to affordable segments over a matter of decades and generally within isolated nations. In contrast, Indian industry must serve a full spectrum of clientele, from small IPR-centric start-ups to large Tier1/2 parts supplier facilities, from the one-off modified 'Raj' Rolls-Royce to what will be a modern day Model T for the millions. Include 3-wheelers, LCVs, HGVs and the very important downstream aspects of distribution, retail, vehicle financing (at 85% in India, a global high) etc and the level and increase of complexity is apparent.

This myriad of commercial interests, from all parties, desperately needs full and proper framework structuring, consensus-building and speedy implementation if we are to see the interests of global investors and corporations best served and the efficiency of the industry raised. Such a co-ordinating role is presently undertaken by SIAM guided by the 2006-2016 Mission Plan. This highlights the importance of R&D progress (in product and manufacturing, esp via leveraging local IT knowledge) and the need to gain far greater economies of scale. It states that China effectively has a 23% cost & productivity advantage. The productivity gap due to inflexible labour relations policies, poorly-skilled workforce and taxation policies which act in unison as surpressers.

Thus whilst external investment is being courted by the likes of Maruti, TATA, Mahindra and investors keep tryingto fathom the possibilities, there are still on a generalist level, if not case by case, fundamental barriers to be overcome. To at least parallel the Chinese (before a new round of efficiency-seeking Chinese industrial consolidation takes place) policy must be converted into action to speed up the rate of Indian structural change. The rapid transformation of local financing and capital markets is 'oiling the wheels' tremendously, but still there must be informed, market-sensitive guidence and entrepreneurship by industry luminaires. The prizes and risks are too great to be left to well-intentioned but ultimately unattached bureaucrats or remote association-linked intermediatories. Which to SIAM's merit, it well recognises.

Wednesday, 19 December 2007

Company Focus - Daimler's smart thinking

Significant strides have been undertaken within the Mercedes Car Group since Daimler's re-appraisal led to the possibility of a new dawn for smart GmbH. Since the original 1992 concept (car & business model), the project has been beset by troubles, both in terms of original set-up by Swatch - the initial partnership with VW floundering - and the lengthy time taken to reach break even.

The ambitious project has come under unfavourable fire when times have been financially tough, but visionary leadership has consistantly saved the day, understanding far greater, bigger picture, returns were further down the road.

It is the case that the most intelligent of species require longer gestation and formative nurturing periods.

Whilst the marketing hype behind a new Ford or GM overplays conventional, small step product evolution, Daimler's use of low-key PR underplays what are 2 milestones for both smart and the very nature of the 'received' automobile. As history shows, meaningful evolutionary strides are often played out in the shadows of louder and bigger beasts.

Firstly is the introduction of the Zytec engineered smart EV (or more commonly known "electric smart") in Europe, and secondly is the introduction of smart into the US. Both are radical onward steps that serve to intertwine traditionally rejected notions...the full electric car and US micro-car. However, unlike previous attempts the formulae applied by Daimler for both initiatives demonstrates the importance of leading and educating the market step by step. Hence to reach this point smart has had to wait for general (ie European) market acceptance before embarking on new powertrain technology and expanding into what many previously saw as a geographical anathema.

Of course social perception comes from environmental context, and there has been a rapid change of consciousness and appreciation (even amongst the most cynical) in a very short timescale over recent years. The push and pull effects of Al Gore's message, legislative pressures and importantly oil/energy security & price have made the western world a very different place to that not so long ago. Daimler recognises that immediate profitability of these dual ventures is negligable relative to group-wide earnings, the real focus is to strategically plant the seeds of change regards the very DNA of Mercedes product. It did this successfully with A-class (spawning B-class) in Europe as a fast follower to smart, and is attempting the same thing again in the US, intrinsically "opening the doors of perception" for the public, so as to introduce alternative core and sub brand attributes. [We believe the time is right to introduce a new intermediate premium small car recipe and sub-brand. See auto-antenna Q3,07]. And here, in Europe, the electric smart paves the way for part and full hybrid technology in large and mid-size cars, aswell as taking the notional upper hand in corporate eco responsibility as Toyota has done with Prius.

These exercises of 100 cars in London and a notional 30,000 in the US (based on conventional Canadian:US ratios) wouldn't ordinarily be judged on traditional Return on Investment grounds given their strategic nature. However investment-auto-motives expects that Daimler has had the acumen to make the individual project finances work. The London 'experiment' deriving income from a lease based scheme via 'highly price elastic' fleet owners (such as government agencies, local councils, energy cos and telecoms cos) needing to be seen to be green. And for the US cars, that much of the 'Bill of Material' piece price and Capex costs already amortized by previous production, leaving the 30,000 units 'owing' the cost of US specification re-engineering and marketing overhead, thereby probably providing a positively healthy profit-centre for latter day US market next step projects.

These 2 ventures will be closely analysed: the electric smart demonstrating that electric can be populist and mainstream when incorporated into the right, intelligent vehicle; whilst the new chic runabouts for Seattle, Boston, San Francisco, New York and possibly closed communities and retirement regions sit in that middle ground between a trendy BMW Mini and taking socially responsible public transport.

Lastly, investment-auto-motives likes to highlight a case of serendipity...VW originally marketed itself to America with the slogan "Think small!" from small acorns strong oak trees do grow.

And given the overtones of such 'smart thinking', what of the potential business relationship between Daimler's smart and Frazer Nash's, ex Ford owned, and conceptually similar TH!NK ? That conversation must have surely taken place given Frazer Nash's expertise with electric drive.

Tuesday, 18 December 2007

New Business Opportunities - From Detroit to Mumbai via Coventry & Solihull

Amongst the 3 remaining Jaguar-Land Rover bidders, reports indicate that the deal sentiment within Ford sides with TATA, as opposed to Mahindra-Apollo and One Equity. Given Ford's need for broad strategic considerations such a probable expected outcome isn't surprising.

This deal was always far more than one based purely on financial rationale of best and last price offered (including proposals to plug the Jaguar-LR pension gap). Alan Mulally et al recognise that the ideals of such a sale should also enable the opening of industry and market doors, in management consulting parlance "to ratchet value-chain efficiency levers". And it is TATA that appears to offer the best basket of ideals.

Although led by ex Ford CEO Jacques Nasser, the One Equity offering will have had major political ramifications given the recognised present financial squeeze on PE to produce results and returns as soon as realistically possible. In this climate that could all too easily result in a marginalised labour-force, harking back to the 'bad old days' of PE behavoir. And beyond pay, concessions and hours, exactly how much fat is actually left in Jaguar-LR in its present form given that the 2 have been on effective operational slim-downs to date? The obvious jewel in the crown for a PE firm is the real estate value of Land Rover's Solihull plant, situated in what is considered an upmarket area of the West Midlands, and one day ripe for brown-field redevelopment given the UK's housing shortage and 'density housing' needs. But that presently invisible but possible temptation - and its subsequent ramifications - as part and parcel of the One Equity offer looks like a step too in the direction of unabated capitalism given Detroit's remit to act as a responsible corporate citizen. But by far the greatest element is a lack of additional synergies between the PE firm and Ford operational ambitions.

One would have thought that the Mahindra-Apollo partnership would have the required elements for success given manufacturing/market expansion corrolaries and direct access to cashflow enhancing capital. (As opposed to what are often complex A or B share cross-holding deal offers from trade buyers). Thus making for, what on the surface, would be a well balanced, simply structured powerful offer. Of immediate interest to Mahindra is LR's Global Defence Market order book, and the Indian firm's product/service expansion into the credible 'dark-green' (warfare) applications that Defender model variants have been heavily re-engineered for. Thereby creating a far more plausable 4x4 military fleet than the present 'lightweight' 60 year old Jeep CJ derived range. More importantly in the medium-long term was the opportunity of 4x4 technology transfer to markedly update what is realistically a very basic (ie globally backward) civil/consumer market range. Conversly, Jaguar however has no counterpart within Mahindra; the renowned 3-wheeled Tuk Tuk the very antithesis. Hence Jaguar would have undoubtedly been immediately sold-on to another trade or PE buyer to offset the initial Jaguar-LR purchase expenditure. The time lag to do so however (with only tick-over funding made available to Jaguar) would have reduced the marketability and entity value of the company - let alone calculating the real NPV cost-benefit of undertaking the process.

Neither of these scenarios compare to Ratan Tata's & Ravi Kant's undoubted rounded and matured proposal that provides mutual synergies between the US and Indian automakers. Both he and Mulally recognise the partnership benefits of maintaining a loose formal alliance (via engine/component supply etc) with the prospect of scratching eachother's backs in the years to come with possible:
a) shared R&D projects
b) high-value engineering work undertaken in the US
c) low-value engineering work undertaken in India
d) political/distribution allies for Ford of India and potentially TATA Americas
e) the ideal of small car platform sharing between Ka/Ikon and Indeca/Indego.
But perhaps the greatest immediate attraction for Mulally is lower cost, alternative sourcing of materials and components from TATA's impressively wide and deep value chain.

Theoretically TATA ownership should provide Jaguar-LR with much needed business capital and liquidity, the Indian owners looking to exploit the prestige brands and maximise sales opportunities from the aspiring middle-classes now evident throughout the robust Asia-Pacific economies. But history tells that such capital is only ultimately be made available if both brands are able to convey technology and commercial benefit directly back to Mumbai aswell as developing their own brand equity. (investment-auto-motives can offer case study examples highlighting the destructive friction that can emerge within middle management; resulting in the expectations of leaders and their investors heavily soured). Thus commercial and technical strategies will need to have been properly outlined before the full sale transaction is complete, so that there is a clear stage by stage roadmap for all incumbent parties to follow and demonstrate mutual value from the word 'go'.

We would expect this to be the case, since TATA Motors has risen pheonix-like since its 2001 major financial setback (losing $110m / 5 billion Rupee). This was the result of a collapse in sales of domestic HGVs, aggrevated by the need for ongoing heavy capital expenditure in passenger cars. A 3-phase, 6-year turn-around plan was formulated.

1. Cost & break-even reduction
2. Domestic consolidation
3. Overseas Expansion

Behind first-step efforts of major cost-cutting (inc. early adoption of e-purchasing) and second step product quality improvement was the need to expand TATA Motor's activities to a point that it could overcome and negate cyclical local truck market trends. Hence management broadened it's global truck to off-set regional cycles, grew the less erratic bus business order-book, developed parts & maintainance sales and importantly refreshed efforts to build and sweat car-based assets. Both organically with domestic 'home-grown' small cars aswell as looking-outwards for joint venture and acquisitional opportunities - hence the desire for Jaguar-Land Rover.

Finally and for the moment, from a structural (re-alignment) perspective a Ford - TATA outcome looks very promising indeed for both parties.

Monday, 17 December 2007

Company Focus - Where next for Bentley & VW?

Bentley Motors' Chairman & CEO Franz-Josef Paefgan states that the company's era of impressive growth (averaging 15%) will soon come to an end; as the trend for incremental expansion, via product range additions, has reached a natural plateau. So what does this mean for the future of the company, and for those inside VW seeking profit maximisation?

Today we view Bentley as being at a crucial point in its global growth path, here and now a pertinant time to assess the type of financial and operational stewardship required to set a new prosperous path into the future.

It is well recognised that the most important new product development activity of the recent past was the introduction of an all new 'baby Bentley' platform giving rise to the 'Continental' variants of: GT/Spur/GTC. These new-borns have in turn heavily influenced the styling philosophy of an ageing but heavily modified 'large car' range (inc Arnage saloon, Azure convertible and new Brooklands coupe). In short a well executed, cashflow astute route to margin optimisation and turnover.

VW Group rightly saw the opportunity within the challenge to revitalise a then lack-lustre prestige brand and has maintained budget, political and technical support throughout to critically grow unit volume, leverage platform & technology efficiencies (with Phaeton and Bugatti) to reach the goal of ultimately providing a more contemporary customer connection. A new company construct which underpins a far more robust and long-lasting, secure business model. VW injected the necessary capital and acumen to make Bentley great once again, under this renaissance plan Paegan managing to skillfully balance the introduction lower entry models alongsidea a re-strengthening old aristocratic/Bentley Boys values. These values showcased by merchandising enshewing a romanticised ideal of class, provinance and patronage.

So with the company turned-around and self proclaimed maturity reached, Piech and VW will be considering the next step options that will need to be undertaken to extract as much value from their halo marque as possible.

Whilst expanded merchandising can offer welcome additional revenues through clothing, model cars, wood & leather goods etc, the reality is that traction (generated primarily by western markets) is probably peaking, and with limited sizeable income available from special editions and bespoke versions of a static model mix, an accompanying market-expansion sales strategies should be the order of the day. Such a change in strategic direction also raises the question: "which ownership/guardian structure (with related operational competancies) would best secure a course for Bentley's stable growth?" Something that must be seriously considered whilst product (appeal) and plant (condition & amortization) are in their prime.

VW's new focus is on making itself more populist and accessable in mainstream markets through affordable and 'green' small & medium size cars/CUVs. Hence a luxury British company will sit less and less easily within a corporation seeking greater cross-brand synergies and considerable focus on Euros/Cents cost-savings. And given that Bentley sales of 10,000 are considered miniscule at a group level, the corporate cost-benefit of developing/adapting radical new emissions-reducing technology (such as full-hybrid if ultimately required) for such a niche is, at first sight, questionable. (The same theorum applies to an ever more philosophically and physically 'removed' Bugatti).

investment-auto-motives believes VW may have done all that it can given it's core competancies, a continued ownership possibly a creating a case of diminishing returns and inadvertant corporate drain? Piech and VW seniors must surely be tempted to quietly test the financial market's external waters to at least gain an idea of hot or cold reactions and Bentley Motors' valuation, beyond usual internal ratio analysis valuation exercises. [Bentley possibly sold in conjunction with Bugatti, the offering window-dressed to demonstrate the viability Bugatti branded model spin-offs].

Although global financing conditions are less than perfect the possibility of selling substantial stake(s) in such a highly esteemed brand to Middle Eastern and Asian investors (esp ravenous Sovereign Wealth Funds) should seriously be considered. These potential buyers have both proportionately greater liquidity and regional political might than any trade buyers (who's focus anyway is elsewhere) and the 'squeezed' notional Private Equity houses. And critically, beyond the question of capital, Middle-Eastern & Asian parties would have a far greater access to the critical distribution/sales networks of the BRIC+ nations that are key to maintaining future turnover.