Thursday, 19 April 2012

Industry Practice - Global VMs (Part 1) – Down-Shift Products to Scale-Up Volume & Profitability.

Investors and commerce maintain a fingers crossed stance regards the global economic slow-down. So far, although stock markets have sold-off recently, it appears somewhat tempered by periodic, tentative good news labour reports from the US, the sigh of relief that is China's 8.1% growth rate, the deep re-structuring of Japanese industry and an optimistic expectation that the recent productivity loss seen in the BRIC nations can be substituted by the new CIVETS constituents; themselves part of the “Next 11”.

Europe of course remains heavily subdued, still suffering from the entwined relationship between national sovereign debt and the balance-sheets of the EU's banking sector. The ECB acting as drug-prescribing doctor via the LTRO, itself surely with a long-term agenda of slowly weakening the Euro to eventually eradicate the European disadvantage. By way of ongoing phased QE and similar methods which will circulate EU liquidity; the German reluctance a manner by which to manage an orderly devaluation whilst Germany itself re-orders so as not to be highly exposed to the increase in materials import and input costs.

Car-makers perhaps most exposed and so presumably heeded by Brussels and each country's government.

VMs Seek 'Rational Product' Growth -

Upon this highly fractured world-wide playing field, global vehicle producers are having to sensitively balance investment markets expectations against a now much more heavily price competitive international vehicle market.

[NB Investors seeking the equity and bond 'safe-havens' by way of cash & asset-backed corporations on favourably historically low p/e's yet unfavourably muted dividends].

The now firmly entrenched 'new norm' contrasts markedly to the credit-fuelled boom seen in Western and top-tier BRIC consumerism, experienced prior to 2008. The economic contraction, which most affects the behavioral patterns of the squeezed western mass middle class, has re-molded and re-aligned the trends of consumer demand. From what was previously largely desire-driven consumption - arguably focused on increasing frippery - toward a greater needs-driven trend which values innate functionality and quality.

This in turn has closed the chasm which once existed between the distinctly separate psychological perspectives of consumers and corporations in 'post-industrial' and 'advancing industrial' regions.

In short, there has been an increasing meeting of minds over recent years, which re-emphisisies the importance of price and innate utility over the frivolity of fashion. So, behind the seemingly constant reports about mega-wealthy and newly wealthy spending habits amongst the top-tier of BRIC and Middle-Eastern populace, the true reflection of mass global consumption is that intra-national values have necessarily coalesced.

This is of course 'old news' to the DAVOS crowd.

The Dual-Approach Reaction -

For most companies, such intelligence purports that either or both of 2 strategies may be undertaken.

1. To target the 'shallow-pocketed' western middle-class, and simultaneously, the growing, increasingly 'deep-pocketed' EM middle-class.

2. To target the millions – indeed billions – of 'no-pocketed' who exist within the bottom tier, but which en mass, constitute large portions of any EM economy.

Targeting the Thrifty Western Consumer -

Understandably, companies will make strategic investment decisions that align to the squeezed environment, making best use of this understanding and extracting as much environmental and competitive knowledge as possible.

Yet the naturally concluded management recommendations applied internally and externally do not provide guaranteed results.

Companies are having to apply ever greater efforts in reviewing unit-price and overhead cost levels and so 'de-content' to 'de-cost' their products, constantly re-appraise administrative leanness, refine input costs via supplier rosters / price bargaining / delayed creditor payments, re-structure distribution and retail channels.

Yet of course by far the best way to ameliorate costs is to extend the life-span of current vehicle platforms and now with a strategic imperative to re-generate what were defunct 'last generation' technologies. As the profit margins of truck, bus and car-makers in yesteryear's “developing countries” through the 1960s-80s demonstrated, the re-utilisation of 'old' technology platforms – then bought from western firms – provides for healthy profitability when macro and micro market circumstances allow.

That 'recycling' of previous platforms, modules and components has been rediscovered by western VMs in the mid 2000s, to proffer a new type of affordable passenger car. The archetype that pioneered the way has of course been Renault's highly impressive fundamental re-invention of Dacia. Using re-deployed lower-cost parts to create a low-cost vehicle amenable to what were initially CEE growth economies, from homeland Romania up to Poland, then latterly in the MENA region with prime assembly hubs in Iran & Morocco, in Russia, India, Brazil & Colombia.

However, renewed sizable market demand for low-end affordable new cars in Western Europe, within the 'new norm' economic age, provided yet further sales expansion opportunity; a market gap which the Logan and its siblings have filled admirably.

Ironically, even though western consumers are forced to accept the 'new norm' on a rational level, because the private car buying process is such an emotive one, the VM must seek to massage the ego to demonstrate that the affordable product is not necessarily “second-best”. The consumer perception aspects that are customer pre-awareness and sales process persuasion are the all important.

Hence, any car company seeking to fulfil this market gap must have deeply assessed its own corporate position both prior to and after the 'new-norm' watershed, so that it may determine those strategic paths available which are vitally credible in the eyes of the squeezed consumer, with recognition of the ramifications – both +ve & -ve - such new product and probably brand actions may also create.

Re-Taught Lessons From EM Divisions -

The very concept of the 'low-cost' car is becoming increasingly engrained within the heart of all global VM's internal industrial systems. Core learning about low-cost design and manufacture has been seeming back into corporate headquarters from EM located plants, national sales companies and where evident regional engineering centres. This learning spanning all aspects of factory and tooling capex, R&D capital, base vehicle programme development capital, and variant project capital.

Whilst industry and press circles chatter about the 'low-cost' car as if a new phenomena, the fact is that this category was created long ago, when the tooling of superseded western vehicles was 'lifted and shifted' into 'colonial' and foreign markets where new low-cost business models could be created to feed local economic expansion and national agenda ambitions.

Long defunct BLMC produced localised. 'cheaper' original Land Rovers and Minis in Australia and South Africa as distant sub-economies of the UK. Volkswagen aided massively in the industrialisation of Mexico and Brazil with original Beetle, Van, Variant, Karmann Ghia and other domestic-only models like the Puma sports-car (not to be confused with Ford's much later Puma) aswell as the eponymous (Euro & South African linked) Gol. Likewise, FIAT sold its 1950s sedan models to India's Premier Motors (as did Britain's Morris to Hindustan) before developing Argentinian and Brazilian interests, starting with the 600 and small van imports and CKD, locally manufactured 147 variants in the 1970s-80s, leading up to Uno variants in the 1980s-90s, the latter Tipo and Palio variants & and recently the Brazilian developed Novo Uno. And Renault produced its own vehicles in Mexico and Brazil during the 1960s before its fateful amalgamation with America's AMC as part of a failed bid to corporately conjoin South, Mid and North America; its retrenchment back into Europe overcome in 2004 with Logan.

Of course it was the Detroit 3 during the 20th century, riding on the back of the American boom fed by materials from abroad, that were able to best demonstrate themselves as producers of localised vehicles, the fervency of Detroit's pathological obsession with new model years thus stylistically ageing cars quickly and – though usually based upon same mechanicals – GM, Ford and Chrysler were able to 'localise' visually older products elsewhere around the globe, able to wield both heavily amortised tooling and its strong (world reserve) US$.

Conversely, when applicable in regions with different cultural backgrounds and domestic national economic agenda ambitions, auto-makers have traditionally sought to provide either whole re-badged vehicles, sent complete vehicles in component parts as CKD kits, provided major sub-assembly components or set-up complete plants as part of a JV agreement.

The past saw Rootes Group undertake the technical feasibility and early development work for Turkey's Anadol national car in the 1960s, soon after also nurturing Iran's nascient car industry with Iran Khodro's Paykan. In the early 1980s Mitsubishi sold its Colt model rights to the newly born Proton Motor of Malaysia to create another national car. During the same period PSA allowed Egypt, Kenya and Argentina to produce the 504 and itself served as the linch-pin for the effective overhaul of Iran's auto-sector replacing the old Paykan with the far newer 406 based Samand.

As seen, 'platform recycling' has long been part and parcel of the international modus operandi of large multi-nationals for over half a century. It was simply a forgotten art over the last 30 years or so as the West lost its previous economic grip over 'developing' nations and so western VMs lost their secondary markets.

After the 1980s, that once integral practice grew ever less required as a consequence of Japan's transformative influence. It had manufactured vehicles that were of such comparative high quality, had such broad international sales reach, were consequentially given grey-import 'second-lives' in a host of then burgeoning EM countries. Toyota, Nissan, Mitsubishi and Honda had inadvertently but effectively banished the local market need for 're-cycled' western models.

Whilst those used, old but reliable Japanese vehicles had sufficed a previous need in many EM countries, rapid economic growth supporting a concordant rise in commercially linked fleet vehicles and private consumerism has meant that second-hand, no matter how durable, does not suffice.
Hence the desire for what at least appears modern and contemporary cars as seen in Berlin, Paris, London, Los Angeles and Tokyo, though with an expectation that they can traverse what are often still problematic roads in such EM regions.

Global Product Convergence -

EM consumer desire, and so the auto-industry requirement, to visually coalescence 'post-industrial' market cars with 'advancing industrial' market cars has come to the fore in recent years.

The trend allows corporations to seize a thus far denied yet massive engineering opportunity to merge NPD philosophies and so marry simplicity and volume growth by producing a close-knit set of structural sub-assemblies, mechanical components, electronic architectures, trim-based styling components etc.

That product alignment is of course good news for VMs if they can create compelling technical strategies to deliver investment and re-investment value.

Yet even though a now squeezed western middle-class, the car buyers across Europe, North America and Japan do not wish to feel as if they've been forced to accept a down-grading of their previous motoring expectations.

So it is imperative that VMs are able to create convincing and compelling product, brand and marketing messages to this somewhat schizophrenic western audience. An audience who still hold much of the prime purchasing power, even if more reluctant to spend as they build-up their own savings levels.

[NB Which in turn provides banking sector capital liquidity which when loaned as investment capital acts to provide the much needed 'productivity push' to boost their own purchasing patterns].

Every major VM seeks to explore and deliver by following in the same footsteps of Renault / Dacia. Especially so given the recent announcement by Renault-Nissan that the Datsun name will be re-introduced as Asia's interpretation of Dacia. (Very possibly badge-engineered Dacia's). The 'anti' raised again by Volkswagen Group's ruminations regards adding an new entry-level brand to compete against Dacia head-on; below Skoda.

The Economic 'Floor' of the 'Low Cost' Car -

The economic advantage gained by 'recycling' a last generation technology set (eg basic structural platform, powertrain, electronic architecture, sub-structure fittings etc) with whole vehicle assembly taking inside a lower tier CEE EU country, is proven by Renault's reported 6% margin to be very impressive.

[NB Those magic investment friendly ROI figures being 3% - 5% margin on mainstream cars (typically presently though <0% - 2%), 5% - 8% on commercial vehicles, a similar level on 21st century 'low-cost' cars, 10% - 12% on premium cars and 15% - 17% on super-cars]

Yet there is of course still the matter of the all important ultimate 'floor' pricing level.

Within the EU, this is estimated by investment-auto-motives to be approximately E4,500 for an A-segment sized car, E5,200 for a B-segment sized vehicle and E5,800 for a C-segment sized car; all consisting of very basic feature and specification.

Thus, as can be evidently recognised, even this much reduced ex-factory base price, such costs, even as break-even market-share chasing prices, would be far beyond the reach of the bottom-tier masses in the likes of India, China, Brazil and Russia.

Renault's previous JV with India's Mahindra and Mahindra managed to save 15% off of the ex-factory price via the use of local parts supply deals and cheaper Indian assembly labour. This then lowers a typical B-C segment car (as is the footprint of Logan) from an estimated E5,500 to E4,675 or INR 3,17,900 (Indian Rupees).

EM nations such as India have such large quantities of poor folk because of economic fundamentals, critically a surplus labour relative to the national productivity requirements. To such an extent that for those earning a basic and average living amongst the 'bottom-tier' mass – typified by the unskilled agricultural worker - even the ex-factory price of that M&M (Logan) sedan at INR 3,17,900 represents 30 years worth of earned income (supposing an above average rate of INR 70 per day and 150 days of work each year). This means that ownership of the archetype 'low-cost' car is nothing more than an unobtainable distant dream for most.

The Ideal of the 'Ultra Low Coat' Car -

This dilemma has prompted political and corporate leaders in EM countries to seek two alternative routes. To try and enable an extension of the 'low cost' car, aswell as (seemingly more prescient) the feasible invention of the 'ultra low cost' car. Solutions required to transform the lives of 'bottom-tier' people so enabling them to achieve mass private mobility in 4-wheeled comfort..

Those two alternative routes to social, commercial and economic change, range from the conventional & conservative to the radical & innovative.

Conservatively, the purchase of old technology from those advanced – and not so advanced - foreign VMs (for a cross-border 'lift & shift'), with of course the least advanced technologies providing the most affordable option.

Radically, to nurture domestic industrial creativity, providing for original, innovative 'homeland' NPD possibilities. Where hopefully the usually opposing forces of management science theory and application can be combined with the re-ordering of the traditional industrial process: as seen with TATA's ideal for the “1 Lakh” Nano

These opposing philosophical road-signs thus present a very contrasting paths for VMs own individual, and possibly multiple shared, technical strategies.

Whether 'thesis' and 'anti-thesis' can meet in the form of a ground-breaking new 'hypothesis' remains to be seen. Business models often can, like cars, with practical creativity be dissected and reconstructed to suit. Presently however, that possibility appears a distant possibility given the widespread reliance on a 'low cost' route, and the great intellectual flux of the 'ultra low cost' route.

To Follow – (Parts 2 & 3) -

Part 2 of this web-log will provide a general outline of those alternative routes.

As the most progressive yet most challenging of those alternatives, it will consider where the inspiration originated for the 'ultra low cost' car.

A potted history of those successful and less successful pioneers should serve as lessons learned but possibly forgotten, ranging from Ford's Model T through to Morgan & Reliant 3-wheelers through to TATA's Nano

It will include 'snapshot' views of today's players in EM regions who have sought through history and today to provide mass mobility private transport and consequentially sought to turn the auto-industry on its head, and the success achieved thus far.

Part 3 of this web-log will contrast and compare the notions of the 'ultra low cost' car as exemplified by Nano, with the 'low cost' car (as depicted by Logan). With the important recognition that these two ambitions, though seemingly on a linear cost savings scale actually represent very different viewpoints and very different commercial hurdles, pitting an adaption of business as usual against a radical re-think of the auto-business.

Given the 'low cost' car's greater affect and potential affect upon the global auto-industry, the piece returns to provide deeper contextual insight regards Renault's impressive achievement with Dacia, by both learning from VW's previous efforts in reviving Skoda, and confidently seeking even greater advantage from the rising economic tide that was EU expansion.

It poses the question as to whether any other western VMs can indeed copy the 'Renault EM Playbook', or whether it was the last example of the West's ability to do so?

Lastly, the natural final question is to ask which vehicle manufactures across 'advanced' and 'advancing' regions might be best placed to follow these wholly separate routes of 'low cost' car vs 'ultra low cost' car? And whether any of those global, regional and national players might possibly be strategically equipped and ambitious enough to explore both paths?