June 30th, 2008
The proverbial “perfect storm” appears to be upon the US auto industry with the continued rise in fuel prices and what may be a significant downturn in the US economy. These two factors have not only pushed down industry sales in 2008 but the price of fuel has caused a sudden shift in buyer behavior away from highly profitable trucks and traditional SUVs. Truck sales have been declining since hurricane Katrina however truck sales all but collapsed in May 2008. Truck sales (including pickups, SUVs and crossovers) were down 24%. Ford F-Series Dodge Ram and Chevrolet Silverado pickup sales were down over 30%, 38% and 40% in the same month.Weak sales are expected to continue in June. J.D. Power and Associates anticipates June’s seasonally adjusted annual sales rate will be approximately 12.5 million vehicles. This is down from 14 million per year rate in May and 16.3 million in June 2007.
Power's also expects the US OEMs will continue to have the sharpest drops. It predicts a year-over-year 26.2% sales decrease for GM, a 31.4% for Ford Motor Co. and a 30.1% for Chrysler. However, Power expects a sales decline of only 6.6% for Toyota and 9.3% for Honda. These estimates would give Toyota a market share of 18.7% and will approach GM's predicted market share for the month of 19.2%.
Personally I believe we are on the cusp of what could not be imagined a year ago; the collapse of the US auto industry, as we know it. Back in 2005 when GM began to have serious problems I did not believe bankruptcy was a serious possibility. Given the liquid credit markets at the time and available assets I believed GM could raise the capital to pull off a successful restructuring. Chrysler still had Daimler and Ford was spiraling out of control but ended up mortgaging everything including the “Blue Oval” to re-capitalize the company.
Three short years later the bottom has fallen out of the industry and I believe that Chrysler and GM might be headed into the hands of creditors without drastic action. Ford only by shear luck of raising cash when they did put them in a better position today. My thoughts on Chrysler’s future are well document. However I have been very quiet on both GM and Ford. That is until I fully digested May’s sales results, $140+ barrel of oil, the bleak outlook for the US economy and lack of liquidity in the credit markets. The housing collapse in the US most likely has not hit its nadir and the banks have not fully resolved their books. The automakers may have a very difficult time raising capital to sustain them while the market works itself out. All of this assumes there will not be a Bear Sterns like government bail out of one or two of the Detroit three. What follows is my assessment of the Detroit 3 and their chances of weathering this catastrophic turn of events.
Given that I have written much on Cerberus and Chrysler I do not have much to add beyond some recent developments. Cerberus has two large automotive headaches to deal with including Chrysler and their 51% stake in GMAC. It appears Cerberus raised additional funds from investors to raise cash for either GMAC or Chrysler. The financial picture is just not clear as there is a lack of transparency at the company. Personally I do not trust official statements by Cerberus or Chrysler as to the situation at the company.
Just last week Chrysler drew down $2 billion from a line of credit that was established when Cerberus took control of the company. It must be remember that Cerberus funded the purchase of Chrysler with borrowed money and the loan matures in 2013. Also last week, the rumors began to circulate that Chrysler may file bankruptcy which Chrysler officially denied.
Given the global overcapacity and the problems with the US economy I do not see Nissan, VW or any other major OEM now considering taking Chrysler as a partner or buying Cerberus out right. CIBC is predicting $7 per gallon fuel cost and a sustained 12 million unit US market. Given how crowded the US market was at 17 million units a year, I have to question if there is room for Chrysler if CIBC’s estimates turn out to be accurate. At $7 gas, what will become of Jeep, the poster child of the SUV craze in the US. As of May Jeep sales were down 14% for the year with Grand Cherokee down almost 25%. The company’s recently launched minivans and midsized cars have not performed well in the market showing declines in May. Overall Chrysler’s passenger car sales declined 33% in the same month. It would seem buyers did not migrate to the company’s passenger cars. That is not a good indication for the company.
Ford has been restructuring since the Explorer-Firestone debacle in 2000. The company’s fortunes reversed and went from possibly overtaking GM as the world largest auto company to imploding and now ranking as the third largest auto maker by volume in the US and globally. Ford dropped from approximately 25% US market share to struggling to maintain 15% today.
In late May Ford’s CEO Alan Mulally, revised the company’s restructuring targets to account for rising fuel cost and the deterioration of the US economy. Mulally, does not expect the company to return to profitability in 2009 and expects continued losses at the auto maker and will take appropriate measures to further reduce capacity and reduce structural costs including a 20% staff reduction. Production will be cut 15%-20% in the third quarter compared to the same period in 2007. Mulally’s announcement was in sharp contrast to GM’s earlier expectations that auto sales would rebound in late 2008. This also placed a shadow on the company’s first quarter surprise $100 million profits announced in late April.
Ford did report a negative cash flow of $1.5 billion for the quarter and a reduced cash position of $5.9 billion since the start of the year. Ford’s cash on hand is still the strongest of the Detroit 3 at $28.7 billion at the end of the first quarter. Ford also completed its sales of Jaguar and Land Rover to Tata Motors, raising $1.7 billion.
Going into the second quarter, Ford Europe showed positive progress contributing $739 million, Volvo lost $151 million and Ford Credit broke even. It should be noted that the European economy appears to be slowing, Volvo is restructuring and Ford Credit although not as exposed to the mortgage melt down as GMAC, Ford Credit is at risk to defaulting car loans as the economy sours. Rumors continue to swirl that Ford may sell Volvo to raise additional capital.
Overall, I believe Ford is in the best shape of the Detroit 3. I base this on Ford’s cash position and past restructuring efforts. Ford also is not as exposed or reliant on pick trucks and SUVs as they once were given it is a much smaller company than it once was. With June sales announcements tomorrow, I fully expect the F-Series pickup to drop in line with May’s results. However as in May, Ford’s showed resilience in cars sales which were up as the Fusion and Focus posted strong sales. I take this as a positive sign that Ford was able to maintain buyers in the brand as customers transitioned from trucks to passenger cars.
As with the entire industry, Ford is still going to have to cope with rising commodity prices (steel, plastic and energy) which will continue to pressure its cost structure. Ford Credit will likely see increased car loan defaults and losses on leased trucks and SUVs when the vehicles are sold at auction. The company will also continue to burn cash rapidly as they restructure their product line from trucks to cars.
Chart 1 : Ford Stock Price
“It depends on whether fuel stabilizes at $3. If it stabilizes at around $3, it is going to be just fine."
GM gambled and may have lost. They mortgaged the company to release early its reengineered highly profitable fullsize SUVs and pickups in 2007 to generate positive cash flow to fund the company’s restructuring that was first announced in 2005 because they do not make money on cars. Then to witness the sales fall off a cliff with $4 gas.
The company also sold 51% of it once cash cow GMAC, in late 2006. Now GMAC’s Residential Capital teeters on bankruptcy as the mortgage meltdown continues to unfold in the US. I previously discussed GMAC deteriorating situation last year. GM's current predicament is arguably worse than in 1992 when on the verge of a financial collapse that resulted in the ousting of then Chairman Robert Stemple.
At GM's annual shareholders meeting Chairman Rick Wagoner announced GM reevaluated its expectations for the US market for the second half of the year and will cease production at four pickup truck and SUV plants and that the future of the Hummer brand is up for review.
The next generation fullsized pickup trucks and utilities have been put on hold and the GM spokesman reiterated that all options are on the table for the company and hinted that North American brands might be phased out. I have heard that many of GMs future programs are on hold pending new business case reviews. Given the new pending CAFE requirements and the need to conserve cash this was expected. I have also heard that GM employees are being asked to give back vacation, take unpaid leave and that restrictions will be placed on benefits except in the case of an emergency this July.
All this comes as GM’s truck sales across the board were down 39% in the month of May, including the high profit margin fullsize pickup and SUVs such as the Cadillac Escalade and Chevrolet Tahoe. To make the situation worse, car sales were also down 11% for the month. Much like Chrysler, buyers did not flock to its cars. This is very discouraging as Toyota, Honda, Nissan and Hyundai all increased passenger car sales with Toyota improving 20% on the high side and Hyundai at 7.1% at the low. It would appear that GM truck buyers left for Japanese and Korean passenger cars in droves. However GM’s new Malibu, CTS and even the Cobalt did well but I do not believe well enough to sustain the company.
Then factor in the pressure GMAC faces from both the housing and automotive sector. The mortgage crisis had put the company’s survivability in jeopardy prior to the US economic down turn. Now GMAC will face additional losses as car loan defaults increase and losses on the declining resisdual value of off lease vehicles sold at auctions. GM’s exposure to GMAC is another distraction for the company. GM and Cerberus just loaned GMAC $750 million to help the finance company secure a $3.5 billion credit facility. What GM’s ultimate liability will be is uncertain. GMAC looks like it could be a serious risk for GM with no immediate end in sight.
In the first quarter 2008, GM North America lost $611 million, Europe was up to $198 million, Latin America $517 million and Asia $286 million. GM has about $24 billion in cash and that was $4.1 billion lower from the start of the year. I am not bullish on GM’s overseas operations to sustain the company. Latin America is historically a day away from a crisis that can reverse the company’s current good fortunes and the European operations have been in the red for much of the past decade. GM only owns about 50% of its China and Korean operations including Daewoo.
GM could have substantial cash problems going forward and with little assets to sell. Most non-core businesses were sold since 2005 and the proceeds used to fund what was the current restructuring. However, Citibank was just hired to help GM review future options for the brand. Given how dependent Hummer vehicles are on GM mass market platforms and engines, any potential buyer of the brand will have to invest billions into the make. For that reason, I do not expect GM to raise significant capital from the sale.
The company is currently in summer shutdown when the factories are closed for 2-weeks encompassing the July 4th holiday. I did hear, the shake-up and fireworks will be announced soon after and this will include high level management. Personally I would not be surprised if NA President Troy Clarke, Mark LeNeve head of NA Sales, Service and Market or John F. Smith Global President for Product Planning were replaced.
Chart 2: GM Stock Price
To make the situations worse, debt rating agency Fitch just downgraded Chrysler's and GM’s debt further into junk and will review Ford citing fuel cost, commodity prices and the economic conditions in the US. Standard & Poor's last week said it also may also downgrade the three companies. Fitch cut the ratings of GM and Chrysler by one notch to "B-minus." This is six levels below investment grade from "B" with a negative outlook. In the case of GM, Fitch estimated the company may suffer cash drains exceeding $10 billion this year and would need to raise new capital over the next 18 months to maintain a comfortable cash position of $12 billion to $14 billion. This will further hinder both companies’ ability to raise cash in the near future. These recent concerns are reflected in both Ford’s and GM’s stock price which are both hovering at lows. GM is at a 50 year low. (SeeCharts 1 and 2) I also generally trust the analysis conduct by Fitch as being fair and thorough.
For GM and Ford in particular, their fragile European operations will also have to deal with the sudden rise in the price of oil. Much like their respective US operations, GM and Ford have been struggling to restructure their European division. European sales in May were down 7.8% (Table 1). This can put additional pressure on their bottom line.
|Manufacturer ||May-08 ||May-07 ||% Change ||Y-T-D 2008 ||Y-T-D 2007 ||% Change |
|GM ||133,061 ||140,691 ||-5.4 ||679,936 ||713,423 ||-4.7 |
|Ford ||140,778 ||153,984 ||-8.6 ||737,180 ||766,167 ||-3.8 |
|Chrysler ||10,214 ||10,276 ||-0.6 ||48,951 ||50,415 ||-2.9 |
|Overall ||1,334,081 ||1,446,283 ||-7.8 ||6,919,190 ||6,969,408 ||-0.7 |
Table 1: European Vehicle Sales
Consumers may also have a tough time financing new cars to get out of trucks and SUV if they are upside-down on a current vehicle loan they plan to trade in. I was recently told GMAC lowered the amount a borrower can finance when rolling an upside-down loan into a new one. Some cash strapped borrower may have to put up more cash or may not be able to get out of fuel thirsty vehicles. This could further weaken new car sales as the credit requirements are tightened.
With that I am very bearish on the Detroit 3 and in particular Chrysler and GM. I expect the carnage for the Detroit auto makers to continue tomorrow when June sales are officially released and followed up when GM and Ford release their second quarter results toward the end of July. The next six months are critical if the Detroit will survive and if so in what capacity.
| || || || ||Car || || ||Truck || || || ||Total |
| || || Car || Car ||percent ||Truck ||Truck ||percent ||Total ||Total ||Point ||Percent |
|Make || ||2008 ||2007 ||change ||2008 ||2007 ||change ||2008 ||2007 ||change ||change |
|General Motors || 141,024 || 159,469 ||-11.6% || 127,868 || 211,587 ||-39.6% || 268,892 || 371,056 ||-4.5% ||-27.5% |
|Toyota Motor Sales U.S.A. || 168,942 || 168,270 ||0.4% || 88,462 || 100,753 ||-12.2% || 257,404 || 269,023 ||1.2% ||-4.3% |
|Ford Motor Co. || 92,661 || 90,534 ||2.3% || 124,607 || 167,761 ||-25.7% || 217,268 || 258,295 ||-1.0% ||-15.9% |
|American Honda Motor Co. || 114,796 || 87,064 ||31.9% || 53,201 || 58,303 ||-8.8% || 167,997 || 145,367 ||2.7% ||15.6% |
|Chrysler LLC || 47,155 || 70,707 ||-33.3% || 101,592 || 128,686 ||-21.1% || 148,747 || 199,393 ||-2.1% ||-25.4% |
|Nissan North America || 71,097 || 59,911 ||18.7% || 29,777 || 33,151 ||-10.2% || 100,874 || 93,062 ||1.3% ||8.4% |
|Hyundai-Kia Automotive || 58,710 || 45,308 ||29.6% || 18,752 || 27,071 ||-30.7% || 77,462 || 72,379 ||0.9% ||7.0% |
|BMW Group || 26,233 || 25,586 ||2.5% || 5,585 || 5,268 ||6.0% || 31,818 || 30,854 ||0.3% ||3.1% |
|Volkswagen Group of America || 28,822 || 29,247 ||-1.5% || 2,309 || 2,271 ||1.7% || 31,131 || 31,518 ||0.2% ||-1.2% |
|Daimler AG || 19,126 || 15,711 ||21.7% || 5,369 || 6,082 ||-11.7% || 24,495 || 21,793 ||0.4% ||12.4% |
|Total market || || 823,502 || 804,413 ||2.4% || 573,908 || 759,975 ||-24.5% || 1,397,410 || 1,564,388 ||0.0% ||-10.7% |
Table 2: Car and Truck Sales May 2007 and 2008
Here is another sobering take on the Detroit 3 from Automotive News, “Detroit 3 cash crunch: How bad is it?, June 30th 2008.
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