In late July, the New York Times published a fascinating insider's look at the days leading up to the bankruptcy of General Motors and the company's amazingly brief stay under court protection. The White House's rescue plan, the article noted, shifted sharply from simply acting as GM's lender of last resort to actually steering the company through the bankruptcy process and forcing company executives, the UAW and other stakeholders to deal with issues that were long considered to be sacrosanct.
Now, what the US auto task force and its advisers call the "shiny new GM" has emerged from Chapter 11 with far less debt, dramatically lower fixed and variable costs, and fewer brands and dealers. It now has a real shot at achieving profitability by 2011, which is its goal. Indeed, all of the Detroit-based automakers say they will to return to profitability in 2011-2012.
That's certainly good news for the US economy, and countries in Asia, Europe and the Americas that have a stake in the future of Detroit's automakers. It also means US-based companies will participate in the global automotive growth that is around the corner (see the article by Henner Lehne, Director, Global Sales Forecasts, in this issue of Insights for more detail).
Perhaps more importantly, it means that more investment and engineering talent will be deployed to solve problems that no bankruptcy court can address: increasing global demand for natural resources and the environmental impact of large-scale industrialization in the Third World. This raises a question: Can Western governments once again disengage from the auto industry? The answer is no.
Commodity Price Inflation and New Regulatory Pressures Loom
It's little comfort that the global recession brought to a halt the relentless upward pressure on commodity prices caused by growth in the BRIC countries: Brazil, Russia, India and China. But now, as a return to profitability by leading OEMs seems achievable, medium- and long-term forecasts show that the very same factors that accelerated the industry's financial crisis - global competition for scarce resources - will soon surface again.
Consider:
All of these trends will increase cost pressures, requiring creative solutions from automakers and suppliers alike just to hold their margins.
This renewed pressure on profitability couldn't come at a worse time as geopolitical dynamics may force already-industrialized countries in Europe, Asia and North America to shoulder more of the burden of reducing greenhouse gas emissions for the simple reason that they are richer and more technologically advanced.
That could be a very expensive proposition for the mature markets. In the US alone, the Obama administration is estimating that current CO2 and fuel economy rules alone will raise the cost of an average vehicle by $1,300.
The risk of this happening is very real. In recent remarks that were largely overlooked, India's environment minister said he is talking to countries such as Brazil, China and South Africa about taking a common stand to demand that richer countries like the US and Britain reduce their greenhouse gas emissions by 45% by the year 2020 from 1990 levels - far above what leaders from the G8 have been discussing.
India also said it will reject any new treaty to limit global warming that makes the country reduce greenhouse-gas emissions because it would undermine its energy consumption, transportation and food security strategies.
They do have a point, as so many people in BRICs countries live without access to clean water, reliable electricity and other underpinnings of industrialized societies. They also make a strong argument that approximately 80% of the CO2 buildup in the atmosphere to date has been contributed by industrialized nations like the US.
Driven by social justice arguments alone, it's not unreasonable to expect that governments in the West will compromise and at least to some extent agree to compensate for the greenhouse gas emissions of less-developed countries. If history is any guide, one of the first places they will look for cuts is the auto industry.
This double whammy - commodity price inflation driven by increasing global demand and increasing regulatory costs - is hardly a new phenomenon. Of course, one could argue that the industry is better positioned to deal with both factors because so much capacity and other costs have been painfully cut out of the system. However, lenders must be repaid, shareholders will expect dividends and healthcare and pension obligations must be satisfied - all at the same time commodity costs will likely start rising again.
Short of having the consumer directly fund the commodity cost inflation and research and development (R&D), the government and the auto industry almost certainly will need to continue their partnership even after the present financial crisis has passed; that is, if governments want the industry to be consistently profitable, not just viable, while delivering its share of the solution.
Industrial Policy: Now or Never
At CSM Worldwide, we believe that the US government's Advanced Technology Vehicle Manufacturing Loan program, which authorized up to $25 US billion in direct loans to eligible applicants for the costs of re-equipping, expanding and establishing manufacturing facilities in the US to produce advanced technology vehicles, and components for such vehicles, was a meaningful step toward creating a Japanese-style industrial policy for the domestic auto industry.
The reality is, however, that this program simply subsidizes many of the plans that automakers already had in place to meet new, more stringent CAFE standards. What we believe is needed is continued partnership to look even farther down the road, and that applies to Europe and Asia as well.
Already, automakers have largely set their strategies to meet US, European and Asian fuel economy and emissions standards through the next two product cycles. Those plans are behind our forecast for robust growth in powertrain technologies such as direct injection, forced induction, advanced transmissions and more.
That's not to suggest that there aren't near-term opportunities. In fact, with some 85% of energy lost to engine and driveline inefficiencies and idling, plenty of opportunity exists to deploy technologies that enhance the performance of engine-driven accessories, braking systems, cooling systems and more.
Beyond 2015, the picture becomes murkier. We expect continued growth in vehicle electrification as mild, full and plug-in hybrid technology proliferates. We also will see major ongoing investments in technologies such as compression-ignition gas engines, ultra-downsized, spark-ignited engines and alternative fuels. But to make accurate predictions that far out, we need to better understand the national and global policy framework that will exist, technological readiness and the associated cost curves and the cost of fuels. Right now, we don't know what we don't know.
Once thing is certain, however: China, India and other regions will continue to grow. But they may have less inclination or fewer resources to simultaneously reduce their emissions. That's why we believe the governments in industrialized nations, especially the US, need to remain engaged in the auto industry and continue to offer assistance for advanced technology R&D.
If developed countries must shoulder more of the burden of reducing greenhouse gas emissions and the auto industry must lead the charge, governments must recognize that the cost of innovation can be very high, private companies aren't immune from market forces like supply and demand and that the goal of private enterprise is to earn a profit.
We need to innovate our way out of this box, and the industry and governments around the world should cooperate to achieve it. Well-timed - and affordable - innovations in battery technology, biofuels and vehicle electrification may be needed more than ever.
Explicitly, governments in the industrialized nations shouldn't disengage from the auto industry, even if they are paid back in full on their recent investments.
Eric Fedewa can be reached via e-mail at ericfedewa@csmauto.com.
