When asked about changes in the automotive industry, Deloitte Services Managing Director Paul Wellener immediately turns to look at the 2006 top global vehicle manufacturers list tacked to his office wall. There are 49 original equipment manufacturers (OEMs) on the list. “In the future, there are going to be far fewer than 49 companies here,” he says.
The consulting implications of OEM consolidation, similar consolidation among automotive suppliers, and the problems vexing North American automakers are massive. Consolidation will produce truckloads of postmerger integration engagements and the technology, human resources, and process consulting that large restructuring efforts automatically spark. Plus, automakers in North America and, increasingly, Western Europe are hungry for innovative ways to deal with overcapacity, legacy costs, and other front-page challenges that their Asian competitors have nimbly dodged.
“The issues that get the most play in the press — overcapacity, union issues, quality, and fuel economy — are not going to kill the automakers,” notes George Stalk, Jr., senior vice president and director of The Boston Consulting Group. “Those problems are part of larger, systemic failures. The issues that will determine the outcomes for many automakers are not so obvious.”
These issues, which consultants describe with ominous-sounding terms such as “doom loops,” “death blows to the middle,” and “death spirals,” almost require that troubled automakers seek help from consulting firms. “One of the unusual characteristics about strategic risks is that very often an outsider can see them more clearly than an insider,” says Adrian Slywotzky, director of Mercer Management Consulting.
The current automotive industry represents a study in contrasts. Many Asian-based automakers are thriving while North American and Western European OEMs and automakers are diving to new lows.
Earlier this year, a New York Times Magazine article described Toyota’s performance in 2006, a weak year for car sales, as the equivalent of a Major League baseball team winning 150 out of 162 games in a season, an unheard-of feat.
Toyota, Honda, Hyundai, and other Asian automakers thrive in large part by avoiding the problems that plague Ford, General Motors, and DaimlerChrysler. And soon, observers predict, automakers in China, India, and perhaps even Russia will pose similar competitive threats to U.S. and European automakers.
The impacts of comparatively high labor rates and other legacy costs can be crippling in a capital-intensive industry, particularly when competitors have figured out ways to lower their own cost structures and plow that money back into research and development, production, and marketing.
“There is so much demand for investments in technology and regulatory compliance that companies in this industry need to have a globally lean cost structure,” notes Richard Spitzer, global industry managing partner of Accenture’s automotive and industrial equipment practices. “When lean cost structures do not exist around plants, material costs, and labor rates, it can precipitate the death spiral of a product lineup.”
Struggling OEMs start to “de-content” vehicles, delay new product programs, and let product life cycles linger too long. Those conditions result in falling market share, lower prices, less growth, and more of the conditions that precipitated those results.
“Until an OEM can get its inherent cost factors in line with the rest of the industry, it’s very difficult to get out of that spiral,” adds Spitzer, a longtime industry veteran who is hard-pressed to identify a historical parallel to the breadth and depth of the challenges U.S. automakers confront today. “It’s far worse now than it’s ever been. And the experience that U.S. companies face is a leading indicator of what some European companies will face. They have similar issues.”
Those issues make the challenges U.S. automakers faced at the turn of this century seem quaint. “In 2000, the biggest change that was going to help the industry involved collaborative networks and online exchanges that allowed knowledge and products to flow more freely among different organizations,” recalls Wellener, who led Deloitte’s automotive practice from 2000 to 2006. “That didn’t happen as it was envisioned.”
That failure and many others have created much larger challenges (not to mention more expansive consulting prospects). “Today, the opportunity is to help companies think through their entire business model,” he says. “The restructuring is taking place.”
Dangerous Doom Loops
If it is to succeed, the restructuring among troubled companies will address several root causes — some obvious and many less so, as Stalk emphasizes. He believes that hurting automotive OEMs need to deal with
their “doom loops” — the systemic failures responsible for overcapacity, uncompetitive cost structures, and other symptoms that tend to receive more attention.
There are several doom loops, and all are difficult to fix. For example, look at the Ford Escape SUV and the Mercury Mountaineer SUV, and then look at the Toyota Camry and the Lexus RX SUV. Now guess which pair of vehicles shares more parts and delivers greater efficiency from a production standpoint. The answer — Toyota’s mass-market sedan and luxury SUV, which are surprisingly similar in many ways under their shells — is telling.
A number of Asian automakers have fewer product platforms spread across many product models. Buyers have expressed their satisfaction with that arrangement, Stalk notes, by paying for that perceived variety. Ford, and its U.S. brethren, typically have many product platforms spread across many product models. Buyers are not willing to pay for that sort of variety, which is difficult to detect. Stalk refers to the squinting that most consumers must perform when trying to distinguish the Mountaineer from the Escape or the Explorer as “channel confusion.” In addition to confusing consumers, the many-platforms/many-models arrangement means more parts, greater production complexity, and a higher likelihood of quality problems.
This and other doom loops consist of highly interrelated problems — quality issues, higher cost structures, supply-and-demand imbalances — that tend to exacerbate one another.
Assessing the Landscape
Thriving automakers must avoid these painful spirals if they are to remain atop the industry, Stalk asserts. Restructuring automakers need to identify and implement ways to eradicate doom loops. Both sets of competitors must also contend with other challenges, including the following issues that figure prominently on the minds of top consultants:
The Globalization of the Market: “The center of gravity has shifted,” Stalk affirms. Half of the market growth in the industry will occur in Asia, mostly in China, in the next five years. Half of the market growth will occur in North, Latin, and South America. Europe will account for almost no market growth. Among the North American and Western European automakers, General Motors, thanks in large part to its 2001 Daewoo acquisition, appears to have the most established position in Asia, although some question the viability of that position over the long term. “Many of the European and U.S. OEMs are still very much in an infancy stage of being global auto companies,” says Spitzer. Establishing more effective, long-term presences in Asia will most likely require greater collaboration with other OEMs. For example, entering China virtually requires the formation of a partnership with a Chinese automotive company, under the Chinese government’s guidelines.
Greater Collaboration: Slywotzky views collaboration as a vital strategy for struggling OEMs; it’s a way to more efficiently allocate capital to activities that offer little in the way of differentiation so that companies can pour more money into areas the customer perceives as highly valuable. There are plenty of promising examples of industry collaboration: the small engine plant in Dundee, Mich., jointly operated by Chrysler, Mitsubishi, and Hyundai; the United States Council for Automotive Research (USCAR); and New United Motor Manufacturing Inc. (NUMMI), a joint venture between Toyota and GM. Slywotzky believes that there needs to be a lot more collaboration if U.S. automakers are to succeed globally. “The industry’s compete-collaborate ratio may have gone from 100:0 to something like 95:5,” he notes. “It needs to move much further in the direction of collaboration than that.”
Dealing with Dealers: One automotive expert calls the North American dealer network “perhaps the most antiquated form of retailing that exists today.” Wellener agrees, preferring the more diplomatic description of the model as “well protected.” Some industry statistics indicate that there are twice as many dealers in the U.S. marketplace as there need to be. Most automotive consultants agree that the U.S. is “overdealered” and that the dealers wield too much clout. That’s not the only problem: “Think about the incredibly negative experience most people have when they go to a dealer,” says Stalk. “The model requires major restructuring.” That change will likely come at a steep cost; Stalk describes the challenge as “tougher than the union issue.”
Brain Drain: When a top DaimlerChrysler AG executive met this spring with bidders for the automaker’s Chrysler unit, he must have seen some familiar faces among the representatives from Blackstone Group, Cerberus Capital Management, and other private equity firms who sat across the table. “You would be amazed to see the ex-Chrysler executives who are on retainer for Cerberus and Blackstone right now,” says one 20-year veteran of the industry. “There is a real risk within the automotive industry of a brain drain,” reports Brad Marion, head of executive search firm Korn/Ferry International’s automotive practice. “I think that the impact of leadership retirement in the next five years is going to be huge.”
Unlike those in most other industries, employees in automotive can reach retirement eligibility in their early fifties thanks to the structure of pension programs.
Marion has noted a yearning to leave the industry and try something new, such as private equity. This sentiment is not surprising given the magnitude of the challenges, the weak financial state of certain automakers, and the low probability of hefty bonuses anytime soon. “It’s very difficult to retain your best people when share-holders will not tolerate bonuses going out at companies that continue to bleed red ink,” Spitzer says.
Talent issues could also affect the front end of the pipeline, which requires thousands of new engineers each year. “Not many parents are counseling their kids to enter the automotive industry,” Marion adds.
Outside Help Wanted
Noting that Ford President and CEO Alan Mulally was lured from outside the industry (he was previously executive vice president of Boeing), Marion suggests that more new leaders from outside the industry might bring with them fresh perspectives and ideas that foster innovations that help solve big problems.
Slywotzky agrees. He strongly believes that outside perspectives — “from a customer, a board member, or a supplier” — deliver sharper insights than insider perspectives on the kinds of strategic risks that have achieved their own state of overcapacity. “The industry could well take advantage of this fact.”
Of course, he may be too close to his own profession to remember to list another increasingly valuable outsider the automotive industry will need: the consultant.