Industry Outlook 1991: MANUFACTURING
DETROIT COULD USE AN AIR BAG ITSELF
Prepare for the worst. That's the auto industry's strategy for 1991. U. S. sales of new cars and trucks may fall only 4%, to 13.5 million vehicles. But that's down 17% from the 16.3 million vehicles sold in 1986, the last peak year. That five-year slide has provided time to adjust to lower volume. But the carmakers are starting to recall the old joke about jumping out a fifth-story window: The first four floors aren't so terrible, then comes the crash. The only way they may avoid one is if lower interest rates and a resolution of the Mideast crisis restore consumer confidence.
Indeed, consumer pessimism is the problem right now. The University of Michigan's Index of Consumer Sentiment plunged to 63.9 in October, down 24.3 points from July. This was the fastest three-month decline in the survey's history, exceeding even the 15-point drop that followed the OPEC oil embargo in 1973. In October, the survey showed, 50% of households were inclined to buy a car in the next 12 months, the lowest share since the recession year 1982.
Even customers who want to buy may not be able to. Up to their vests in bad loans, bankers and other lenders have tightened credit. In theory, this should mean more business for the carmakers' finance arms. Chrysler Financial Corp., for instance, earned more than $300 million in 1990, its best year ever. Still, after a recent spike in delinquencies, even giant General Motors Acceptance Corp. is looking more closely at credit ratings.
With consumers unwilling to buy or unable to borrow, car dealers are cutting back orders from Detroit. They remember mid-1989, when they got stuck with too many cars just as interest rates peaked. After 18 months of curbing inventories and working back into the black, they aren't about to repeat that mistake.
This is forcing auto makers to slash production. In December, more than one-third of the 78 assembly plants in the U. S. and Canada were closed temporarily. And for the first quarter, car and truck plants will operate at only about the same level as a year ago, when demand was weak. The good news for Detroit is that slightly higher U. S. output by foreign-based carmakers will be offset by lower imports, leaving General Motors, Ford, and Chrysler with about the same market share as in 1990.
The bad news is that carmakers will be selling a less profitable mix of vehicles. Customers are trading down to smaller, cheaper, more fuel-efficient vehicles--which are less profitable than large ones. And purchases of light trucks have hit the skids. That category includes pickups, minivans, and off-road vehicles, all of which generally get 10% to 15% worse mileage than cars. Moreover, the recession has dried up commercial demand from customers such as builders. Such sales used to produce operating-profit margins of 11% for Detroit, vs. 2% on passenger cars, estimates auto analyst Maryann N. Keller at Furman Selz Mager Dietz & Birney Inc. In 1991, truck sales could drop 7%, to 4.2 million vehicles, prompting higher incentives and thinner margins.
This means that about the only prop holding up auto sales is rental fleets, and they're a mixed blessing. Fleets now account for nearly 10% of all new passenger-car sales in the U. S., up from 6% in 1985. That helps keep factories humming. And it doesn't hurt if a family falls in love with the minivan it rents for a week at Disney World and wants its very own. Based on that rationale, auto makers discount fleet prices, letting rental-car concerns restock every four months.
But that produces more than 1 million low-mileage used cars to be sold each year. So the Big Three and Toyota buy back the rental fleets, then auction them to dealers. Fleet buybacks help boost dealer profits, since used-car margins typically are fatter than those on new cars. But the recent surplus of such nearly new cars threatens to undercut the manufacturers' new-car sales to dealers. "Every time you sell a 3,000-mile fleet car, it takes a new-car customer away," complains Ray Green, president of the National Automobile Dealers Assn. Indeed, a 1990 survey by J. D. Power & Associates Inc. shows that the average purchaser of a nearly new used car is older and more affluent than the average new-car buyer.
Add it all up, and lower volumes, fewer high-margin vehicles, and more cars being sold to rental fleets could punch a hole in auto makers' bottom lines. "Profits are under enormous pressure in the North American market--and they start off from an abysmal level," says Ford Motor Co. President Philip E. Benton Jr. None of the Big Three is certain to turn a profit in its North American car business this year, though earnings from nonauto and overseas operations should keep GM and Ford in the black.
FEWER BOSSES. To make sure that happens, Detroit is furiously cutting fat. GM has reduced costs by some $13 billion, or 15%, since 1987, and wants to chop factory management layers to four from six or seven. Chrysler has targeted $2.5 billion in savings, a 10% cut in costs. Ford expects to trim white-collar employment one or two percentage points faster than its normal 5%-per-year attrition rate through limited early retirements.
Usually, such moves presage a rosy outlook. When demand picks up, lower costs and lean inventories add up to better profits. Auto executives haven't abandoned this as a scenario for 1991. If the Mideast standoff ends without bloodshed, gasoline prices should fall, the economy might improve, and auto demand could turn up "in a matter of months," says General Motors Corp. President Lloyd E. Reuss. In fact, as GM gets ready to launch nine new passenger cars and two new trucks this year, some of its assembly plants will be down for four months to retool. Reuss worries that he may get caught short of product if sales spurt.
If that sounds odd when business is so anemic, it's how Detroit is thinking these days. Optimism lies just below the surface in a year that's starting out poorly.James B. Treece in Detroit