Tuesday, 26 August 2008

Macro Level Trends – Industry Realpolitik – America Auto's SOS

As North American Automakers steel themselves during these watershed times and orchestrate strategic change through smaller vehicles and propulsion ancillaries, they look to the Senate and Congress to assist through these difficult waters. Hence reports of Detroit and the 'New Americans' (From Toyota to Hyundai) calling to draw upon the initial $3.75 billion of the alloted $25 billion from last year's Energy Bill that seeks to serve the auto-industry in changing its ways.

But as the governmental affairs people of any car-maker knows, all too often the rhetoric that is postulated on the floor all too easily turns into lip-service and decreased budget spend. Hence the push to begin to access those funds as soon as possible, to firstly ensure its acquisition and secondly, continue to lobby for additional $25 billion funds as the more socially spendthrift Democrats come to power. The timely call for assistance coming as GM & Ford combined lost $24.1 billion in Q208.

Obama has of course been leading the torch of energy change and even at one stage muted, though not confirmed, that $150 billion may be the required sum to re-organise the auto-sector to meet the challenges of this very different century. The foundation vehicle to that better tomorrow exists in the guise of 'Renewable Energy' and the 'Renewable Portfolio Standard' to include: nuclear generation, carbon capture and sequestration, energy efficiency and demand response programs.

The 2007 US Energy Bill set the cornerstones of both social and industrial understanding and the range of legislative 'weaponry' that would be rolled out. This year, amongst the plethora of issues raised by Congressmen to be included as Amendments to the Energy Bill, we see proposals that span a multitude of areas, the following providing only a flavour of this massively wide-reaching piece of historic public legislature:

a) declined Virginia's Governor to explore off-shore drilling
b) alternative energy capture via methods such as geothermal extraction
c) creation of national ocean energy research centres
d) active co-ordination of nano-science centres and IPR 'first calls'
e) et al

Importantly, the Proposed Ammendments to the US Senate Energy Bill heard between the 12-19th June 2008 that have direct influence on auto-industry direction, budget and behavior are as follows:

- SA 1527 *Extension of tariffs on imported ethanol to 2010
- SA 1532 *Fast-track (180 day approval) of higher blend ethanol (over 85% ethonaol) [Thune]
- SA 1534/65*Biofuels Investment Trust Fund
- SA 1543 *GEM Flex-Fuel Vehicles – expands definition to include M85 (85% methanol)
[Bayh, Brownback, Lieberman, Coleman, Salazar]
- SA 1558 *Healthcare for Hybrids – 10% re-imbursement to automakers on retiree costs in return that at least 50% is put toward fuel-efficient initiatives (R&D, production development, worker re-training) [Obama]
- SA 1563 *E85 Support for Retail Gas Stations
[Dorgan, Craig, Kerry]
- SA 1711 *Alternative CAFE Proposals (more lenient) – [Levin vs Bond positions]
- SA 1752 *Electric Drive Transportation Programme - Promotes the development of 'plug-in' electric vehicles, deploying near term programmes to electrify the transportation sector, and including electric drive vehicles in the fleet purchasing programs
[Salazar, Bayh, Brownback, Lieberman, Coleman, Cantwell, Lincoln, Clinton, Biden, Klobucher, Durban]

Ultimately realistic goals appear to be the driving force. The SA 1538 Clean Portfolio Standard which sought to 'stretch' the clean energy percentage mix attainment (of the SA 1537 Renewable Portfolio Standard from 2010 to 2030) was tabled, probably in the belief that it would be unattainable and cause industrial disruption in endeavouring to do so.

Interestingly, the SA 1546 proposal by DeMint “limitations on legislation that would drive up the cost of auto-fuel” was retracted or rejected. This could be construed to be a salutary political ploy (& play) to demonstrate Congress' dedication to the green cause; highlighting the willingness to cross traditional energy related boundaries born from social taboos (ie a high gas price). But of course we suspect there was a none too small aspect of political showboating behind the 'one-man-crusade' proposal. It was not exactly well backed, in the way that many of the directly auto-related issues were. Given the lack of names registered forwarding, seconding and thirding the motion proposal, we assume it to be a a rhetorical display and although passed, the wording very probably lightweight and tenuous.

On the surface, the same seems true of a possible disengenuous proposition to disallow the combined co-processing of renewable diesel and petroleum – SA 1800 [Kyl].

But perhaps the most absorbing motion was for that of the 'Gas Price Act' [Inhof & Thune] which whilst including some useful inititaives also included ideas for Indian Reserve land exploration – a very sensitive topic. So for all the apparent 'do-gooding' was undermined by the inclusion of a 'political bomb' that blew the motion out of the water; defeated by 52 to 43. Another case of staged dramatics, and outcomes, it seems.

However, the 'Sense of Congress Act' (requiring 25% renewable energy by 2025) seemed to answer the call set out by Al Gore's long standing, globe trotting 'Inconvenient Truth' campaign. The views of US politicians and their voters have gradually aligned to the 'awakening'. Whether ultimately scientifically proven or not – the detractors still there but increasingly marginalised – the politicos in DC have recognised that 'saving the planet' is a massive force for economic change, and one that is more easily embraced by the populous as the possible hardships of said change takes effect. As such the usual divisions in the ranks between Republicans & Democrats have been closed, an aligning of understanding and interests illustrating that the merits of major issues are not to be debated, instead the goals to be reached and the roadmap forward to do so.
This then bodes very well indeed for the American auto-industry and its case for sizable fund appropriation.

In its current deflated and weak state it will need major Federal assistance to properly get back on its feet. Yes the major problems such as the massive pensions and healthcare legacy costs are being transferred off of balance sheets and into UAW VEBAs, and as such will lighten the fiscal load on the Big 3. But even with this depleted baggage present-day headwinds such as experienced cost-push inflation of input prices, the concerns of possible longer-term stagnant Western markets, slowing Asian demand and the size of the international competition gap (esp against Asians) remains daunting.

Thus seniors in Detroit (and those in Wall Street should) well recognise that a weighty argument for hefty loans &/or grant subsidy, with reduced usage clauses, can be presented. Indeed, from the perfect storm of events, suggests that there has never been a better time for arguing the case.

But Detroit and its 'New American' cousins may need more than what might be seen as over-played Michigan-centric gambits to state its case. Even with the high number auto-empathetic Congressman (from Bayh to Salazar – see aforementioned list), or perhaps because of, investment-auto-motives believes that Washington may well call for an independent review, following on in the footsteps of similar exercises in Australia and, currently, the UK.

A US Auto-Industry Review would put metered argument into the debate and ensure a resultant balanced, far sighted and monitored process by which the much needed monies and off-sets - presently argued at a value of $50 billion but possibly rising to Obama's $150 billion - could be deployed in fundamentally re-shaping the sector. Old names like Detroit Diesel and Detroit Electric possibly reborn whilst southern states and newer players receive their quotient too. A full industry review born from fully understanding the cost to align Auto and Energy will we suspect bring forth a world of investment opportunity that both the VMs and industry backers.

For bond-buyers (and their brokers) such governmental involvement adds long-term security which will be evident in the re-rating of the Big 3 and so in due course promising to lift out of “junk”/High Yield territory. The present day short-termist bond-holders enjoying higher returns and no doubt holding default policies will be replaced by a greater field of institutionals who seek the safe plod of lower yield.

For stock-buyers the upside comes in two forms: the near and the long. Near term 'value-based' early buyers will see an intermediate upsurge in auto-stocks as confidence is injected back into the market, whilst once back on its feet and healthier the sector will attract 'growth-based' buyers.

These 2 groups short and long play groups would generally be characterised as private money vs public money.

As value-based seekers Private Equity and Hedge Funds buying into the sector via publicly traded stock would look to see this PIPE (Public Investment of Private Equity) as a natural follow-on strategy to their previous and current privately held auto-sector acquisitions. Acquisitions that were bought and turned-around to be held if warranted or sold off onto the listed public markets if they held greater ROI potential than trade buyers (who besides cash-rich family owned entities look thin on the ground right now).

And of course once the auto-industry, its players, their volatile valuations and public markets have stabilised, in a more confident national and global economic climate, the big Fund players will appreciate the long-term value growth that Autos brings as it has demonstrated itself to have pulled through the present, and dark, long-cycle trough.

But as Wall Street knows, the key element to the start of that upturn is government's appreciation of the systemic rewards that its own investment in the US auto-industry will bring.

To ascertain the investment levels demanded for the sector's re-structuring will take a full and comprehensive review, which given the global span of the Big 3 and the likes of Toyota, in turn will have relativity to Australia and the UK - and their own respective investment possibilities.
So Congress must understand the consequences of its actions as it seeks to appreciate the profoundness of its benefactor role.