Tuesday, 30 December 2008

Year End Comment - Looking Back, Looking Forward

Stating the obvious, 2008 has undoubtedly been the most precipitous year for generations. Trillions of US$ wiped-off global stock, bond and other asset class markets with the very nervous system of a deeply inter-related financial system ultimately exposed and seen to be nervous indeed.

Across the board a diaspora has emerged as the very structure of the prevalent Anglo-American capitalist system which served the world so well throughout the 20th century cracked due to a lack of oversight, servicing and fine-tuning. From the all too opaque world of private hedge funds to the all too prominent world of fiscally war-torn public companies, questions abound as remedial action is undertaken by world governments, and the terms 'credit-crunch' & 'bail-out' became parallel features of everyone's new economic lexicon.

Remedies continue to be sought to both: stop the spiraling of financial hemorrhaging in the 'write-down' process that has blown a hole through each and every industrial sector, and to help create a new economic platform from which to build a new, improved sustainable – in all senses of the word - capitalist future.

This process of events is perhaps best seen within the automotive industry given its financial might, its social prominence and its central position as catalyst - and possibly arbiter - of change. This socio-economic-centric position shared equally with the housing sector and of course finance sector. All three, so core to economic well-being, are ripe for renewal given their individual experiences of over-extended value-creation into untenable territories that led to eventual value-destruction within each of their business models.

To reach that new sustainable future an interim period – for however long – will prevail.

As markets continue to falter, that period will involve an extension of governmental regulation, possibly into the realms of an unprecidented central planning. Such 'public works' undertaken so as to rebalance market forces old and new to 'assist' equilibrium across the economic spectrum. This may affect consumer choices directly and indirectly via direct and indirect pursuasion. And could, if a latter-day fiscal turmoil emerges, feasibly extend to pricing regulation as seen in previous eras. The 'quantitative easing' exercises of today ultimately leads to over-inflation of national economies and so a return to rapid, uncontrollable, inflation without remaining policy levers to pull. From an industry perspective, a similar story of 'encouraged behavior' could prevail via efforts such as carbon-capping and carbon-credit trading, efforts that must be managed professionally and without bias if the confidence of free-marketeering is to prevail.

What is clear is that international governments are undertaking monumental, aligned and often inter-dependent tasks that should lead to that fiscal and ecological sustainable future. Utilising the need for Eco-change (inherent in technology-led / enabled social behavior) as a platform to simultaneously develop new economic and industrial structures.

As stated, the auto-industry has a massive role to play in this 're-orientation'. To do so it must in itself be structurally 're-orientated' to profitably create and satiate new consumer trends and expectations, so as to in turn create new investor confidence.

Of course the topic of sustainable economic 're-orientation' is a broad and deep one, incorporating many macro-level (PESTEL) and micro-level (sector value-chain) facets. Finance, Politics and Industry being the 3 prime players which individually and inter-dependently contain so much complexity. From the sensitivities of encouraging BRIC & OPEC involvement (beyond political lip-service and gestures) to the major shift required in consumerist (ie social) idealism, to embraceme a different - arguably more utilitarian & modernist ideology -that must create a "less is more" consumer paradox.

Hence there is a veritable gamut of challenges within challenges that must be logically and creatively overcome to build a new era of value creation from re-shaping society itself and accordant industrial and service sectors.

However, the criteria that propels private investment reasoning will alter little, since "it is all about the numbers". As a consequence to the rightfully pragmatic attitude of The City and Wall Street, there will need to be hefty consideration as to how the public and private sectors can mutually aligned. And having been through a period of great value destruction in sectors such as Autos in the West, regulatory and investment specialists will need to create elements of a new "honeycomb structure" the compartmental cells of which attract the busy-bees of public-private inititives and wholly private enterprise. Unlike the typical 'public good' utility sectors of say Energy, Transport or Banking, the Automotive industry has a far far harder task to overcome, and the investment community knows it.

This in turn begs the question about exactly how it does and should assess the enterprises within the automotive arena. Will it differentiate between "old" and "new" business models that have inherently different ROI structures and timeframes? Or will conventional, practical thinking rule, having learnt the burst-bubble lessons from other supposed paradigm-shift examples?

Between 2000 & 2007 the investment community's focus conventionally questioned the operational dimensions of automakers, supplier and dealers. Criteria that have remained constant for nigh on 100 years:

1. Auto-Makers
Focus on the core issues of volume, capacity-alignment, segmentation (creation/hold/entry), new product cadence, platform utilisation, market share and competitive advantage enabling pricing elasticity.

2. Supplier-Base
Focus on core-product lines and an exodus from diversity, centralisation & consolidation of competence(s), exposures to emerging markets and avoidance of single client dependence – all seen as the sin quo non of profitability.

3. Dealer-Base
Focus on inventory turnover / volume and wholesale financing became the necessary evil to off-set to falling unit margins. An emerging 'commodity car' consumer mentality evolved driven by excess capacity and incentivisation. Unit pricing even amongst supposed premium brands became squeezed so the importance of credit-financing, access to wholesale finance and leasing models became ever more encouraged, as did unit volume turnover and overhead cost reduction; seeing the shift to ever larger site ops and the importance of virtual presence on the internet to capture local and inter-regional sales.

Of course many of those fundamental assessment criteria will remain unchanged, they are fundamentals in ascertaining automotive company valuations. But in this new watershed era the predominant shift has been to highlight the positional advantage of the cash-rich strong (with visible income streams) over the liquidity-stretched weak (previously reliant on financial engineering). The credit-crisis has already altered the assessment notions of stock analysts, fund managers and critically private equity companies keen to differentiate the wheat from the chaff. So we expect to see a trend of investment divergence based on pragmatic valuation fundamentals. Pure rationality should now reign, the previous whimsicality of an over-reactive, over-optimistic then over-pessimistic stock-market ended. The long-term investor will once again emerge as a results of meaningful due-diligence become the nadir of investment rationale.

Thus the shifting sands of the economy and the auto and investment sectors has altered immeasurably, irrefutably and irredeemably - radically altered capital markets married with radically altering industrial and consumer markets.

investment-auto-motives is proud to look forward, to play its independent role in the centre-ground of the tri-partite stakeholder function made-up of: Investors, Government & Industry. A role that assesses economic value and devises new value-creation. A role that plays a small but pertinent part in creating tomorrow's auto-economy.

And to that mutual end, investment-auto-motives wishes all a prosperous 2009.

Monday, 22 December 2008

Industry Structure – US Autos – Santa's Clauses

President Bush's agreement to provide the $17.4bn bridge-loan from TARP coffers to GM and Chrysler has answered both company's previous Thanksgiving prayers. $4bn goes to Chrysler and $13.4bn to The General. To slightly confuse matters, the monies are split between December and February payments to both parties in similar amounts - $13.4bn now and $4bn later.

So, Christmas has indeed arrived in Detroit, providing everyone from CEO's to track-workers a reason to breath a temporary sigh of relief, George W. Bush acting as a much needed and awaited Santa Claus, giving provision for both companies to maintain operations whilst devising individual, or possibly inter-dependent, viability plans.

Santa has indeed arrived, but there is now much deliberation regards the level of conditional constraint tied to the low cost loans. There are Clauses to Santa's proposition, but exactly how onerous – indeed 'company & sector trans-formative' – are those clauses?

It has already been aired in the press that the primary intent of the out-going President's actions are to simply 'pass the buck' to the incoming Obama administration, having to deal with multi-stakeholder negotiations, and to provide enjoy the 'final days public glow' of such a action.
Although the deal is theoretically orientated around Congress' previous turn-around action and reporting demands, reported portions of the released wording of the loan agreement, and a summarised White House Fact Sheet, indicate a fair degree of leniency has been written-in to provide flexibility as to how GM and Chrysler report their progress paths to commercially viable entities. That, we suspect, means that deviation from the previously set-down quantitative targets will be permitted if sound reasoning can be proffered.

But, of course the real issue will be for Congress to understand every dimension of the business and its operational and sector inter-dependency. I has previously heard the rhetoric, but now it must investigate the numbers in detail. From the realistic operational limits of capacity reduction that still enable a sustainable supplier feed, to the impact of the still sizable labour & legacy cost content in UAW plants now that the last-in/first-out low-cost $14 UAW newbies are being retrenched, all of which along with general fixed and variable overhead creates the plant-operation break-even that is so important in determining the ex-factory per unit price and margin.

And this must be set against the benchmarks of other foreign automotive operations in the US and globally, both within the GM and Chrysler corporate folds and more importantly the productivity gap between the GMNA and Chrysler NA and the rest of the world.

Thus it will be the remit of Congress to request that Wagoner and Nardelli demonstrate the 'fair and true' 'economic floor' of GM's & Chrysler's innate business models within North America. For it is only be by highlighting the disparity between NA and RoW that rationality regards the sector's next steps can be undertaken.

Whether that inter-mediate wording is called 'Leeway' or 'Loopholes', the matter appears almost academic for now as the sector sits in effective suspended animation over the coming three months.

Wagoner and Nardelli will of course be in deep negotiation with UAW, supplier, creditor and investor stakeholders. Both are undoubtedly respected and determined men that have demonstrated resolve in their achievements to date, especially so with the UAW – which thanks to Gettelfinger's mediation efforts has recognised the problem and provided for steps of much needed change (such as the VEBA and its malleability).

The problem is that those steps are in real (ie globally competitive) terms too small too late – even if they appear drastic to conventional UAW expectation. Had they come earlier, during better times in recognition of the productivity gap that would be exposed during worsened periods, the industry would be in better health and better able to respond to this unfortunate economic turn of events. But of course the UAW are only one dimension of what is a seismic problem.

Creditors and Investors are the other other prime parties to convince that a sustainable turnaround is viable, ideally with their assistance by 'taking a (financial) hair-cut' and becoming more commercially integrated in the process with the issue of debt for equity swaps. This initiative ideally puts all parties in the same boat for the long-term, but in the short-term could be viewed as pitting the interests of present-day investors and creditors against each other as the common-stock bases of GM and Chrysler are diluted.

Ironically such a move could well see the re-integration of parts-makers with VMs as cross-shareholdings such as GM-Delphi initiate closer mutual interests. If that ultimately means a negotiation path to the creation of a new and broad Tier 0.5 supply-base, expanding the responsibilities of present Tier 1s to ultimately provide an independent low-cost vehicle assembly base...all to the good. But if it simply means the creation of expansive 'apparently synergy seeking' dual-control empires which invariably become self-centred, pressure-removed and uncompetitive then...all to the bad. The industry has been here before, and it is not a routemap with which investment-auto-motives can concur.

More than ever the US supply-base needs a transformation to a new lithe and intelligent industry structure, one that is investor transparent and trend-reactive, not a re-visit to the eventually failed mega-structures of the past, whether the Fordonian vertical consolidation of the 1920s or the British Leyland-esque horizontal consolidation of the 1970s.
Thus whilst Wagoner and Nardelli will undoubtedly work hard to align stakeholder interests, and endeavour to head an unofficial task-force for change comprised of sector CEOs, CFO's & COO's, we suspect the size of the challenge and the non-availability of critical turnaround levers to informally achieve such change (ie massive liquidity, UAW & dealer regulation, reformed supply-base structure and concordent investor confidence) means that it would be a Herculian task and miracle to do so by March-end.

It will be Obama's official economic task-force comprising of Volcker et al that will be ultimately handed the responsibility to oversee and question the autonomous re-alignment of Detroit's No.1 & No.3 players. And to importantly lay out an industry policy and plan that can attract domestic investment and critical FDI monies from massive US$ reserves held in the Middle_east and Asia. This would create a latter-day round of $ repatriation, once the currency's FX valuation vs the Euro, Rem nimbi, Yen & Rouble falls back to historic norms. Such an event also encourages greater international technology trade that will be so important to the Greening of Detroit, and encourage the public's conviction to believe in a much transformed US Autos sector and related automotive 'value' and 'growth' stocks.

That is some time away, but the sooner the size of the challenge is understood, and an Auto-Plan created and executed the quicker the sector's upturn can come.

Thursday, 18 December 2008

Industry Structure - EU Autos - National Self-Interest Over Regional Rationality

As Detroit awaits the timing and shape of its $14bn assistance package from Capitol Hill - the Presidential vacuum denying substantive leadership - across the Atlantic in the EU region politicians have been rather more forthcoming.

The trouble is that in doing so for their own national interests, and consequential ruling party favour, the very basis of the EU as a collaborative project to gain global strength, is coming under intense pressure; slowing its progress to a virtual standstill, if not fatally fracturing the uni-border set-up.

Self-interested national mindsets seem to have been born and latterly crystallised by the damage-limitation reactions created by the financial melt-down that has hit Europe over the last quarter. Given the opacity, indeed invisibility, of the CDOs and SIVs that were the undoing of the inter-connected global capital market, and the rapidity of Iceland's fall from grace there has been rapid reaction to 'bolt-down the hatches' where feasible. A case for many Central Bank and Treasury officials of grabbing as safe a seat as possible once the music of free-flowing capital markets revealed itself as instead a game of musical chairs.

Trust in internationalism, for the time being at least, seems depleted; none more so than in the EU. Although there is the usual rhetoric of "mutual solutions' espoused from Ministers, Commisioners and MEPs in Brussels, the individual national reality has been very different. In an attempt to counter an ongoing "tearing up the EU fiscal rule-book" Jean-Claude Trichet (the ECB President) has rebuked the trend to individualism witnessed thus far, and insists that the EU's "stability and growth pact" is still valid given (apparent) flexibility budget/debt rulings for those core members with larger economies and consequent economic leverage.

But the truth is that Germany, with the most cautious fiscal & monetary policies and a consolidated, re-strengthened industrial hub, stands apart from the rest of the membership - importantly Framce, Italy, Spain and Greece. They have been more exposed to the rapid change in the financial fall-out that has affected either commerce or housing sectors. (The 'spread' - or default risk premium - between German government-bonds and those of other member states tells of the capital market's caution and its EU flight to safety under the German umbrella. This in itself strengthens Germany's position and enlarges the 'confidence gap' between it and other states).

And of course as a major pillar of the EU economy, the region's auto-industry is a central component of the EU Project, now perhaps more than ever. But at a time when that belief in inter-dependent harmony should be heavily demonstrated, the self-interest in individual national auto-sectors has availed. Perhaps unsurprisingly after Angela Merkel's independent initiative to defend Germany's banking sector with government guarentees, it was she who first stood to protect Germany's auto-sector with mention of a 1bn Euro guarentee for Adam Opel AG when the woes of its US parent were highlighted.

That action previously stood in sharp contrast to the ambitions of France's Sarkozy and Italy's Burlesconi, who have been leading a call for an EU-wide solution to the region's car-making profitability problems. One that subtely intimated that a multi-member contributed fund could aid the increasingly interdependent sector, allowing it set within a planning framework to meet its combined challenges of over-capacity, product proliferation, CO2 reduction ambitions and the chasm caused by a historical reliance on now essentially defunct consumer-credit.

investment-auto-motives believes both the French and Italian Presidents could well be proposing the beginnings of what could ultimately be radical reform and a new era for the European auto industry and the consumer use of its vehicles. The results of such a possible reform could be years away, but whilst at this critical historical juncture these were perhaps efforts to make a start on that transformation.

Burlesconi will be conveying the wishes of FIAT SpA that seeks greater inter-company alliances and indeed legal partnerships as a solution to its declining fortunes and the need to repeat the JV success of its 500 city-car (with Ford) in the mid-car segment (with another partner) to reach today's 400m+ unit platform ideal. On the other hand, looking past today's immediate challenges, Sarkozy will be conveying the calls of Renault SA's respected CEO, Carlos Ghosn, who is pushing to take the first baby-steps towards a new era with all-electric vehicles and 'pay-as-you-go' business models. Given the French government's major stake-holding in Renault, Ghosn undoubtedly seeks EU or French funding as the 'fiscal starter motor' to encourage consumer momentum toward this new auto- world, one which is orientated toward greater free cash flow and more buoyant balance sheets that allow a company to operate more autonomously; as a dynamic 'brand enterprise' as opposed to heavily baggage laden conventional auto-maker. That in turn theoretically permits Renault to rely less on the French tax-payer in future.

For the moment, given the stalled collaborative EU action on the fiscal front, let alone auto-sector issues, a unified approach toward the challenges of the sector looks less and less likely without Brussel's leadership and German accordance. And that's an accordance which given its efforts to strengthen its domestic auto-sector - putting the likes of VW, Daimler and BMW onto a stronger footing comparative to their peers - looks ever more remote, unless to Germany's advantage.

Given these circumstances it was not surprising that Sarkozy decided to, like Merkel, 'go it alone', as Berlusconi may well have to do; replaying decade after decade of government patronage towards FIAT. Having met with met with car executives from Renault, PSA and Valeo at the Elysee palace, Sarkozy charged minister Luc Chatel to devise a plan by the end of the month to "save" 'Automobile Francais' which reportedly directly or indirectly employs 10 percent of the country's workforce. This appears to be fait accompli given the 26bn Euro aid package his government gave previously, the 100bn Euro package now stated and the promised 1bn Euro loan facility to Renault and PSA.

But although the Review is set to examine the sector's structure (especially supply-chain) and R&D priorities leading to overall investment strategy, the time-frame looks far from plausible to undertake an indepth and thorough job that creates efficiencies instead of simply paying for the wish-lists of domestic VMs and suppliers. So ultimately instead of creating a rational base for a more collaborative European auto-sector, it could well be that politics and national pride conquers the ambitions of the EU Project, its imperitive and rational.

That for Europe would be a mistake, and Brussels needs to demonstrate its industrial policy might by instigating its own EU Auto Review that depicts the operational and profitability advantages of cross-border internationalism over the spiralling tax-payer costs of domestic protectionism.

So at a time when the EU is supposed to be acting as the vanguard of the industrial Eco-cause, creating efficient industrial infrastructures that produce CO2 'tread-lightly' vehicles and conjoin cultures and consumer mindsets under the Green banner; the very mettle of it's leadership is being tested.

At its 10th anniversary, If the EU does not 'walk the walk' why on earth should a more cynical Russia, China or India?

That leaves the door open for Preseident Elect Obama to seize this opportunity to mould US-EU and global foreign policy, using Autos as a 'prime-pumper'. And crucially, enabling the US to access and productionise the best of the EU's presently latent eco-tech. How would that go down in Brussels?

To avoid that outcome, the EU Commission, the ECB, other possible stake-holders (eg the EBRD - European Bank for Reconstruction & Development) and ironically but critically senior investment banking figures, may have to come to the cause of economic rationality and unify the unfortunate present and growing tri-partite.

Wednesday, 10 December 2008

Industry Structure - US Autos - Not Just Renovation, But Foundational Re-Construction.

Wall St has been laying out what they understand to be the central aspects and consequences of Congresses' plans to reform the Big 3 and the US auto-industry at large.

It is a common expectation, as parlayed by the banks bail-out, that shareholders face huge dilution as the government takes up to 20% equity (the details of which, whether 'preferred', 'common', 'convertable' etc yet to be seen). And senior tier debt-holders such as GM bondholders and UAW's VEBA are asked or co-erced to swap debt for equity. And so current investors, largely the institutionals, are concerned that the 'threat' of sizable new stock issuance, above and beyond the inherent rights of present common stockholders, will undermine their own interests.

Such an outcome where the real investors that propped-up GM (whether the likes of CALPERS or Fidelity right down to the individual Chevy loyalists in the public domain) suffer as consequence must be avoided. Any government, UAW and creditor stake-holder conversion must not split and pit one set of new investors against the interests of the incumbent believers who have hung on through the toughest of times and tested their belief in GM, American industry and American capitalism writ large.

And that phrase 'capitalism writ large' is the central message here. The core remit of the legislative and policy-making being written as the terms and conditions of the (possible first round) $15bn funding must create new sustainable belief. To do so it must create fertile foundations that encourage future capital/equity attraction to grow the strength of a new GM(-related) entity in whichever form(s) that may take.

Thus the government and present GM debt holders, must be put on par with the today's stockholders - no more no less. Do do otherwise would simply dis-incentivise the mass trading of the common stock, resulting in the a loss of 'life-blood' to the enterprise from not just US capital markets, but from those around the world.

Remember the massive levels of BRIC (esp Chinese) US$ foreign reserves and the Petro-Dollar based SWFs that seek 'defensive-sector' investment homes typically utilities, infrastructure, civil construction and autos - those core activities of Obama's US Revitalisation Plan.
And, crucially important, it is the growth demand by the common stock-holder that is the powerful driving force behind the dualist marriage so key to enterprise expansion: operational & budgetary efficiency linked with innovative exploratory thinking.

Thus the urge to segregate GM stake-holders into 2 camps must be denied, instead it should be alloted voting rights alone that provide a voice to the government, creditors and UAW.
This should be a top priority for any new incoming Car Czar (Pelosi suggesting Volcker), because by doing so it breaths much needed life into the NYSE, autos acting as a 'liquidity feeder' to other industrial sectors and so in turn boosting confidence; perhaps even as far as effecting the auto IT hardware & software product and service providers listed on NASDAQ. Putting investor confidence in a renewed GM, or seperately stronger divested parts there of, would provide a much needed ripple effect through-out the economy.

As for the future of Chrysler, it is obviously in a very different position since it is privately owned by Cerberus with Daimler's 19.9% remaining stake. Although certain lawmakers have attacked Cerberus for not putting more money into the company, the truth is that throwing money at Chrysler, such a marginalised player, would have not solved its ills and before the financial implosion there was no real need to. Chrysler's problem is primarily its strategic fit in the US & global markets, not its fiscal strength. The liquidity Chrysler already had was already being allocated to small and mid car programmes by the time Cerberus bought-in. However that small car strategy should have been undertaken far earlier to give Chrysler competitive advantage over GM and Ford. And although it chose the right path to undertake foreign JVs with Chery & FIAT, that process creates longer car-project lead-times given political and platform demand complexity. It defrays capital costs but also delays the timing of the resultant income stream that was needed far earlier as part of a self-sustainability mentality.

As investment-auto-motives recommended in mid 2007, Cerberus should have prepared to have fully divested Chrysler to a foreign suitor, via a structured phase by phase divisonal sell-off whilst the markets were liquid and foreign appetite high. That didn't happen, and honourably and rightfully the private-equity group has promised to forgo any benefit resulting from government aid to Chrysler. Though we suspect Daimler may well argue for partial access to the Chrysler monies if it can convince Chrysler and Congress that it intends to maintain its US-focused JV partnership, possibly coming to the technology and platform aid. In short the operational benefits of the previous D-C marriage without the legal and political intractability. Just how Chrysler will react to such a possible action depands much on its own strategic choice.

As of today (10.12.08) reports that Chrysler has ended its small car ambitions with China's Chery suggests that it has been convinced to seek either full Chinese control of that project, possibly taking a role as an end-buyer only of the car, a new JV with a Detroit peer is on the card (given GM-Chrysler alliance conjecture) or that the company (or its assets) as a whole is being reviewed for sale to external parties.

From an investment perspective Cerberus ended up between a rock and a hard place with Chrysler once the US and global car market demand plunged, the retreating tide demonstrating that it was indeed swimming naked strategically. Like much of the private equity world which has lost up to 40% of portfolio value over the last year, Cerberus will either be keen to exit Chrysler for the same price it bought its 80% stake - something looking less and less likely - so more probably look long term to seek mid term efficiencies advantage from US sector integration and far a more lenient UAW advocating recognised neededlow cost labour reforms and deferred/reduced VEBA contributions.

As for the Ford family, it will use this crisis to demonstrate the advantage of its own family-governance structure and 'in-tune' management that has undertaken a seemingly successful One Ford turnaround inititiave. As comparitively the most buoyant, thanks to Mulally's 'large re-mortgaging loan' against Ford assets (at what was an asset high-value watermark) it has stated that will not need the short-term emergency loans but may want access to government funds later. That fiscal position plus ongoing cost-savings, the probable sale of Volvo, a good incoming US product mix with high % of small and compact and critically no government 'interferance' that creates ROI drag for investors perhaps continues to best places FMC in the eys of Wall St and the world.

The tug-of-war between politicians and executives regards the capability of that has emerged over GM’s board & senior management has set the Congressional cat amongst the Detroit pigeons; urging a shake-up as condition of government financing. But whilst Detroit contends that GM is on the right track and its problems stem from economic forces, not poor management the truth is that it should have been acting more like a far more 'in-tune' Ford, when it was in fact acting like Chrysler with such an addiction to the high margins of SUVs created by what were obviously overly massaged credit conditions. Ironically given that GMAC itself was a participant of sub-prime lending offering ridiculous deals with far-off breakeven periods, should have created inter-company dialogue that prepared GM for the inevitable snapping of the over-stretched elastic credit band.

Whilst the pressure for fresh blood is less intense at Ford, Chrysler should not be left off the hook of examination, but who really is to blame? Very probably the Daimler-Chrysler divestment process, since much would have been at standstill as the big picture issue of finding a new Chrysler buyer by typically prettying-up the operation for sale and stemming budgets to hoard cash for the balance sheet took precidence. The executive angst of redundancy was palpable and undermined the desire and ability to properly plan; a great shame when seniors more than ever needed to be operating better than ever.

Today, Job losses will continue carmakers adjust capacity to present demand and the new 'Car Czar' looks a much diminished near-mid term sales demand future. That opportunity to re-structure for a brighter tomorrow muct be recognised by the blue-collar staff who whilst feeling so low must open their eyes to the reality of what has been an over-blown, overtly comfortable and now defunct US automotive business model; a dinosaur model created over 60 years ago in a very different age. Yes the UAW made increasing concessions year on year but the tide of change grew to an unstoppable tsunami.

That means the government will need to set labour rates and conditions at parity pay levels to the 'cheap labour' that has assisted the competitiveness of largely foreign brand automakers' that lie below the Mason-Dixie line. To do so Obama and his economic advisory team will need to convince 'John the Line-worker' just how different, and industrially hungry, the world is beyond the US borders. Whilst John moans of the Mexican story of work translocation, he must be fully educated to the realities of how the Big 3 can and do operate in BRIC regions and beyond into new emerging territories. So even the UAW's agreed two-tier wage structure under which new recruits are be paid $14.20 vs $26.00 per hour will need to be extended.

But whilst the Big 3 will continue in one recognisable form or another, it will be the supply-base that requires greatest consolidation and efficiency creation. It is essentially a nationally complete value chain, created by the likes of Henry Ford and a myriad of family enterprises backed by understandable government ideology and policy of the time. It of course has been remoulded over time, but the plethora of businesses operating at very low profit margins still evident today highlight the systemic inefficiencies of the complete value chain, each party trying to eak-out its slice from a cake of finite value. As we've seen over the last few years, too many parties slicing the a diminishing cake too thinly leaves nothing but crumbs. Not a sustainable diet.

The same is of course true for the massively sprawling, inefficient dealer base, created by the constant previous amalgamation of delaers representing the likes of Fraser, Nash, Willys, latterly American Motor Corp etc etc. All three carmakers have told Congress that they will trim dealer networks, GM axing 1,750 outlets over the next four years, but even then, it would have more than three times the number of Toyota, which is only slightly behind in market share. With fewer brands and a naturally declined attritional market share, that x3 figure will prove too many and so once again encourage price warfare and value destruction amongst the survivors.

That would of course hit GM's profitability and so an eventual return to the problem today. The dealers, well-connected and politically powerful, are protected by state franchise laws, and these require changing. As the FT reports, GM paid out $1bn compensation to dealers after abandoning its Oldsmobile brand in 2001. It could afford it then but not now and definitely not at the taxpayer's or new investor's expense.

Instead, there will need to be a push for regional consolidation where old dealer foes will need to work in unison to merge and re-generate their combined businesses. GM's and Chrysler's delay and cancellation of pipe-line vehicles should allow proprietry and dealer car inventories to whittle down over time and allow for that transition. The quicker they realise that and act to present themselves as part of a renewed, invigourated schema or plausibly elect to leave the US brand fold and take on franchise deals with the likes of Hyundai, Honda, VW etc the better.

The future emphasis smaller cars that will imbue higher cost technologies, from direct injection diesel to plu-in hybrids in the challenge to gain fuel efficiency, meet CAFE regulations and reduce CO2. This in turn means that profitability for supplier-base, VM and dealer will be gained from the leverage of greater volume for single platforms (over 4m becoming the norm) with less model variants and less specification configurations, allied to larger, higher output sales environs, that focus as much on the service and through life experience that both reduced costs and improve pricing abilities with novel new technologiy and usage-method options.

A viable, indeed prosperous tomorrow is attainable, but it needs a massive re-adjustment of sector perceptions and practices to reach it.

Monday, 8 December 2008

Parallel Learning - Formula One - Exploring Strategies for Traction in Changed Conditions.

As an international sport encapturing the pinnacle of competition and glamour Formula One has from the 1970s onward become the "sport of 'new' kings". A highly visible, commercially orientated realm today physically, tele-visually & cyber-spacially spread across the globe to an audience population of 600 million plus that remain crucial to the fortunes of the F1 kingdom, a kingdom which is essentially ruled by a triumverate that faces external and internal challenges - the FIA (the sports official body), the Constructors & latterly Auto-Companies & the commercial rights holder - presently FOH (Formula One Holdings).

Long ago the sport's internal tension was primarily between the FIA and the race car constructors over the set and re-set technical / specificational 'formula' the race vehicles had to abide by. And whilst the sport was essentially visually limited to circuit attenders and the sport's devotees that tension was part and parcel of the evolving face of an intrinsically 'techie' motor-sport; pitting technical innovation against the boundaries and loopholes of the rules - a theme that ran right through to the early 1970s before the advent of media global coverage. From that point onward though the sport, through TV, gained massive popularity and so encouraging corporate sponsorship, initially by cash-rich tobacco firms, and so inevitably the issue of commercial distribution rights

That paradigm shift through the 1970s, which saw the fiscal stakes raised massively, altered the activity's core persona forevermore. Changed from that of a marriage of 'sporting gentlemen' (eg Stirling Moss and Graham Hill) and 'engineering gurus' (eg John Cooper, Jack Brabham & the 'Cosworth' duo) into something far commercially-based, corporately orchestrated and money-charged. So attracting greater interest from the auto-industry's major players who could leverage parts of their large R&D and marketing efforts and budgets to gain competitive technical advantage and promotional visibility amongst the consumers within the mainstream marketplace. The Europeans like Renault, BMW and increasingly FIAT via Ferrari similarly espousing the 1960s US proverb: "Win on Sunday, Sell on Monday"

Integrally stressed engine blocks, ground-effect, suction-fans, turbo-chargers, V10 configurations, layered composites, woven carbon fibre, ABS, active-suspension etc etc all tell the tale of rising innovation and technical budget spend through the 70s, 80s and 90s in bids to increase power, reduce weight and increase controlability; the FIA forever having to catch-up with and re-rule this inventiveness in the name of fair competition and driver safety.

Of course there is the adage that 'racing improves the breed' and race-teams R&D engineers will highlight the 'trickle-down' effect of technology into road-cars, though their is also much counter-weight to the CFO and CEO argument that the technology does not automatically transfer, and very often is developed concurrently by external suppliers adhering to very different 'real-world' performance parameters. Whilst there can be a technical intertwine between F1 and mainstream cars, that relationship is obviously very dependent upon the VM's interdependency with the sport; Ferrari and Renault perhaps being the polar extremes. Even though Renault tries to perceptually reduce that chasm the difference between their respective core products of an F430 and a Megane (& Dacia).

Obviously, the more money available, the more able at massage that connetation. But as is evident today the world at large faces a different interim period over the next 3+ years.
The 5 years of rising fortunes of for strong globalised economy, buoyant corporate earnings in many sector value-chains and the accordant 'feel-good' consumer spend that was seen between 2002-2007 has evaporated before our very eyes as a result of complex and infected financial markets. The viral effect has wiped billions of Dollars, Pounds and Euros from capital and money markets, and wiped millions of off corporate balance sheets as they take the hit of accounting write-downs and plunging asset values. Corporate CFOs, Treasurers and Pension Commitees are doing all they can to mimimise their financial pain, and cost-cutting necessity is perhaps more virulent than ever given the lack of operational liquidity and the need to survive and re-strengthen in future, (let alone for some the potential of hostile take-overs by those with diminished by comparitively stronger positions).

That reality has now finally hit Formula One, with the statement that Honda will be exiting the sport. It is a reality that investment-auto-motives noted some time ago as an obvious consequence and the impact could be potentially huge. It acts as a watershed moment for the sport. The resultant evaporation abundant finance from major sponsorship deals that balooned team R&D and tour caravan size now encourages, indeed necessitates, the need for individual participant frugality and community macro-rational efficiency. The age of simply throwing cash at the problem of finding a micro-second performance advantage has gone.

This is the central message that both the FIA's Max Mosley and FOH's Bernie Ecclestone are vocalising - a rarity to have them singing off the same hymn sheet, and thus indicative of the issue's importance. The FIA acts as the conduit of the new pan-western political will for eco-advacocy and energy-conservation, hence is keen to continue on its path re-set the technical specification 'formula' of F1 to reflect the new eco order.

A time for prescient change.

Change must also be considered on the macro-operational level of the sport. It may now be time to re-assess the present business model and the value-creation it provides for the ruling triumverate (FIA, Race Participants & FOH) and their value-seeking associates. Equally important is the role and say of the high-profile and low-profile Sponsors. High profile are the Corporate Sponsors, best exemplified by Santander or Vodaphone who through FOH's efforts have gained increasing exposure on the race-cars, trackside (often electronic) advertising hoardings and in & around TV camara hotspots and spectator hotspots throughout the circuit itself. Low-profile are the increasing proliferation of State Sponsors - from Istanbul to Beijing - that have invested from their SWF pots in infrastructure and man-power for the good of national pride, profile, tourism, the regional economy and trade relations are increasingly enchanted with F1 as a method of showcasing themselves to the wider world.

Thus, in these changing times investment-auto-motives prompts the sport's major players to not only explore the envelope of the traditional business model and value chain as recognised today, but to also explore the potential for expanding and evolving the very nature of F1 and its international, cross-generational, cross-gender appeal. The 'entertainment' element of the 'sports entertainment' dualism has been growing steadily, but needs to be explored further to further capture that local and global audience's attention and imagination.

This means a philosophical de-construction of what we know the sport to be today, to fully examine each and every component part seeking 'inherent' value release as well the re-construction of the value-chain. Additionally comparison to the plethora of other sports business models that operate across the world, from football to horse-racing, and eventually a overlay of contributive aspects to the mix. And finally a review of the entertainment industry to provide a similar exercise and benefits.

Strategic review of F1 direction for is of course part and parcel of the ever-ongoing triumverate dialogue, and recognise the growing PESTEL and commercial cross-industry 'inter-connectedness' that F1 has displayed in recent years to grow its franchise. This perhaps best seen by the first ever night-race in Singapore taking place this year which aligns to the computer game 'game-play experience' which itself was prompted by the need to tap into a unified global TV audience. Thus the visionaries of F1 has long noted the need for perceptional and inter-actional involvement, and given the evolving the context and backdrop of the sport its evolution on and off the track must be comprehensively considered and well guided.

investment-auto-motives continues to be part of this dialogue to ever stretch and maximise the industrial, entertainment and political value-creation agenda.

Monday, 1 December 2008

Micro-Level Trends – Portfolio Divestments – SAAB & Volvo : Homeward Bound?

As Wagoner, Mulally and Nardelli re-visit Washington to proffer their re-drafted mid-term plans, a central element for GM and Ford will be the divestment of SAAB and Volvo.

As investment-auto-motives predicted some time ago (see previous items) this event is a natural consequence of efforts to relieve the ever-growing fiscal pains both multi-nationals have been facing.

Ford re-assigned Stephen Odell from Mazda to Volvo a couple of months ago to, as we suspected, provide greater bargaining power with the Swedish government regards government loans and undoubtedly, very diplomatically, air the idea of Sweden itself re-absorbing one of its national car-makers. Concurrent to, and possibly on the back of, that conjecture GM has undoubtedly requested that SAAB's CEO Jan-Ake Jonsson take perhaps a less strong-arm, more 'fellow country-man' tack with Maud Olofsson, the Minister for Industry.

Thus, as national governments across the West become the new realm of direct and indirect international intermediaries, financiers and 'public good' industry policy arbiters, so we imagine there could be a raft of nationally-orientated M&A events that brings back what were once national industries back to the country-fold, driven by a compelling mixture of conglomerate divestment in search of cash and liability depletion and essentially sovereign interests to recapture and control what are critical domestic enterprises and brands.

Under these skies, funded by Chancellors of the Exchequer under homeland political pressures, the time could well be here to begin a new era that combines and intertwines the acumen & doggedness of corporate strategy formulation with the sensitivity & subtlety of international diplomacy.

In short, though under pressure to regain 'national treasures' that are so important to the domestic and regional economy, such Chancellors will want to see a game plan that provides the tax payer and national budget with a mid-term return on investment.

Ford and GM (and their Bankers) may be working competitively or co-operatively on the approach to Olofsson and his Swedish peers, their approach strategies largely depend on their respective views about the size of the national budget notionally allocated to 'saving the auto industry'. If small, an inevitable bun-fight would unfold. If government indicated that it was only interested in saving one auto-maker that could well be SAAB as a smaller and less costly purchase exercise and its present-day integration with European Opel. Volvo, as a far bigger and expectantly more valuable enterprise, even with less European (Ford) integration (given its NA-shared large car & 4WD platform) would on the open market expect to command a greater price...but then, as we recognise, value is very very relative in these turbulent times.

If the Bankers work wisely, they'll demonstrate that the greatest high-value long-term play by the state, would be the dual purchase of SAAB and Volvo. In a world increasingly psychologically attracted, and led, to that which is ecological, sustainable and intelligent, Sweden itself has long represented those values, even if a mix of perception and reality.

Both brands have historically been the ambassadors of such, even the Volvo XC90 seen as a family responsible, and acceptable face of 4x4s, thanks to its marque. Volvo has longevity and dependability (ie sustainability) running through its DNA thanks to a reputation set by the robust 120 “Amazon” series and the boxy 240 series. And as Swedish sibling, SAAB was similarly born from 'responsible roots', its own DNA served by a mixture of aerodynamic efficiency and lightweight construction to lessen fuel consumption and accordant pollution. Of course as both brands gained a reputation as 'aspirant' vehicles - sold to the pseudo-intelligentsia globally – so they were able to raise prices and margins that attracted Ford and GM to roll them into their respective portfolios. An act that for a period provided high unit margins, but as with their other brands, became victim to ultimately zealous economic rational and so lost much of their original magic.

But to summize, Volvo & SAAB, as were and as could be, the very representation of high-morality export consumerism. And at a time when smaller vehicles are en vogue, both companies have the opportunity to re-mould and expand their vehicle portfolios – with meaningful, powerful messages – into the premium mainstream, much as Mercedes did with A-class and Audi are doing so with A1.

Of course, importantly, the industrial-base to conquer these opportunistic ambitions for both brands already exists in the medium term by virtue of Ford and GM's European operations. And that idea of a more cohesive Europe could be key to the nationally sponsored transformation of the Swedish auto-industry even though the country does not share the common currency. Even with the present Merkel - Sarkozy difference of opinion regard the level of European fiscal & industrial integration, the very fact that the Ford & GM small and medium platform production centres reside with Europe, itself the initial target market for Sweden's smaller-eco vehicles, means that the FX disparity between the Krona and Euro should not be problematic. Indeed if the Euro maintains its recent history strength, as a consequence of the US Dollar's expected mid-term decline, Sweden could benefit double-fold including the FX effect.

From the intra-political regional economic perspective, Merkel may well recognise such a Germanic-Swedish agreement as beneficial to her own state and national economies, though she would of course be heavily lobbied by the indigenous 3 (VW, Daimler & BMW) to either reject the Swedish proposal or have themselves as JV beneficiaries as providers of essential hardware. And the engineering services sector, from Porsche Engineering to AVL would by default be preferred suppliers for the necessary integration engineering work.

Such a scenario would naturally build upon the implicit & explicit German industrial consolidation that has taken place over the last 18 months, most evident with Shaeffler-Continental and Porsche-VW. (Infact such actions although seen as self-serving and protectionist amongst EU peers may well have set the die for many nations/regions to subtly review their respective positions and natural techno-political alliances). If Berlin believes it has achieved much of the national consolidation originally sought with the integration of VM and OEM players, it would very probably seek-out like-minded regional partners that share similar policy sentiment – close enough to benefit, but not so close as to be an irritant.

And from Sweden's and Olofsson's perspective, their could be an equally powerful and prosaic possibility in forming Scandinavian-centric automotive policy centred purely on 'eco'.
Large sections of a theoretically near complete value-chain exist today and can be grown into the future : from small-scale but maturing TH!NK, to a re-vitalised Valmet focused on part to full-hybrids and all-electric premium vehicles in low-mid volumes to the possible SAAB-VOLVO alliance to incorporation of Project Better Place's new-energy infrastructure impetus.
Such as Scandinavian coalescence may in turn even require Krona to Krona pegging and even Krona to Euro pegging agreements but we presently imagine, that at this critical world juncture, that many variations of industrial policy scenarios are being presently explored by Sweden's Trade and Industry bodies.

Whilst the world looks on at the hopeful outcome of the next G20 summit, creating new direction al themes for global trade & fiscal policy-making that Obama and his new economic advisory forum can broadly agree, the GM, Ford and the Swedish government will be assessing their respective positions within the new global socio-economic context.

But critically for such an ideally corroborative deal to be struck, all parties will need to take an amiable, mutually respectful view that allows SAAB and Volvo to return home at a 'fair value' price. One that from Sweden's corner reflects and their long-term 5-10 year values, yet also from the VM's corner demonstrates a willingness to alleviate themselves of their present-day divisional write-downs and corporate cost 'drag'.