Downshift At Daimler

The new $1.3 billion Mercedes-Benz plant at Rastatt is a New Age marvel. The spacious, green factory buildings rise above the lush meadows outside the historic spa of Baden-Baden. Landscapers have lovingly preserved an old walnut grove. Inside, there are no foremen and few traditional assembly lines. Instead, borrowing from Japanese production techniques, self-run groups of employees working in bays churn out gleaming mid-range 200 series cars.

But hopes that Rastatt will guarantee Mercedes a future in the global market could be dashed. Opened six months ago, its costs are likely to be too high to compete with such Mercedes killers as Toyota's Lexus, Nissan's Infiniti, or even archrival BMW, soon to make its 3-series autos in a low-cost Spartanburg (S.C.) factory.

Rastatt is a symbol of how plans are going awry at Daimler Benz, crown jewel of Germany Inc. Until recently, Europe's largest industrial combine, with $62 billion in annual sales, was confidently turning out everything from jet engines and refrigerators to its marvelous driving machines. But lately, Daimler has been looking like anything but a well-oiled roadster. It is being battered by recession, high labor costs, and the superstrong German mark. The shriveling of defense budgets is rocking its Deutsche Aerospace (DASA) unit, which depends on the military for nearly half its revenues.

But most rattling of all is the downturn in Daimler's once hugely profitable car business. Daimler executives have watched in disbelief as competitors snatched away Mercedes sales in the U.S. For the model year ended Sept. 30, Mercedes' U.S. sales were down 5%, while Lexus climbed 39%, BMW 15%, and Infiniti 7%. And they have been rudely surprised as BMW, for the first time ever, has overtaken Mercedes at home. What's more, Mercedes' top-of-the-line S-class cars--with prices as high as $142,900--are turning in disappointing sales. According to industry sources, as many as 100,000 of its best-selling 190s, the Baby Benzes, have piled up in dealer lots. Alan Coats, an analyst at Paribas Capital Markets Group, forecasts a 43% drop in the car company's pretax earnings this year, to $1.17 billion, dragging down the entire Daimler group's results by 30%, to $1.82 billion (chart, page 90).

BRUISING BATTLE. Daimler's downshift is rocking the social contract among Germany's management, government, and labor to its very foundations. In union halls and corporate suites, Germans are debating whether the nation may have been too generous with entitlement programs and unemployment benefits and not lean enough for today's brutal global competition.

Daimler's sudden change of fortune is putting intense pressure on CEO Edzard Reuter, a soft-spoken intellectual who is an art collector and expert sailor. Reuter is a big thinker and internationalist in the mold of his patron, Deutsche Bank CEO Alfred Herrhausen, who was assassinated in 1989. In office for five years, Reuter, 64, has been using profits from the car business to bankroll sweeping moves into aerospace, electronics, and financial services, in hopes of transforming Daimler into a high-tech powerhouse. In Reuter's view, knowhow from airplane-making could benefit autos, and electronic components would be interchangeable, whether for high-speed trains or washing machines. This ambitious strategy led to a bruising battle in 1987 with his predecessor, Werner Breitschwerdt, who argued that Daimler would be better off sticking to cars. The board sided with Reuter and kicked Breitschwerdt upstairs.

Reuter's strategy was perfect for the 1980s, when Germany was on a roll and international competition was less cutthroat. But now, the strategy is in trouble. So Reuter has swallowed hard and proclaimed that the company will narrow its focus. "The whole strategy has just been overtaken by events," says Karl Feuerstein, deputy chairman of Daimler's supervisory board and the company's top elected IG Metall labor-union official. Reuter acknowledges the world has changed but insists that today's weak global market for luxury cars is all the more reason to diversify.

Still, in recent weeks, Reuter has looked like an embattled executive at General Motors Corp., announcing drastic layoffs and scrapping future projects. In June, Reuter vowed to cut 20,000 or more jobs from the 185,000 work force in two years. On Nov. 2, he pulled the plug on plans to build a $650 million truck factory in eastern Germany. Now, he has announced an extended Christmas shutdown plus shorter shifts throughout 1993. In other units, job cuts are mounting, too. DASA slashed 7,500 jobs in civil aerospace. And a further 10,000 jobs could disappear if the German government finally nixes a four-nation consortium to build the $20 billion European Fighter Aircraft (EFA).

Reuter is also wielding the knife around the group's executive suites. AEG, the manufacturing and appliance subsidiary, will soon be slashing staff at its Frankfurt headquarters to fewer than 200, from 940 now. On Mercedes' and Daimler's corporate staff, two of five management grades will disappear on Jan. 1, and many executive jobs are under review. "It's hard getting people who lived a 40-year success story to change," says Jurgen Hubbert, head of Mercedes' car division.

Reuter's crisis management recently won him a new two-year contract to set things right. But Reuter himself has a tough boss in Daimler's blue-ribbon supervisory board, chaired by Hilmar Kopper, CEO of Deutsche Bank, which owns 28% of Daimler. Kopper and top-level union officials, who also sit on the board, decided that however tough the problems, it would be suicidal to dump Reuter. Says Feuerstein: "Kopper argued that Reuter is the only one capable of managing it, and we all agreed."

OMINOUS ATMOSPHERE. There's a growing sense of foreboding around Daimler. At a September meeting in Budapest, Reuter read Daimler top executives the riot act. He warned them that all units were facing hard times and cars and trucks would get worse yet. The mild-mannered boss called for cost savings in every corner of Daimler's empire.

Reuter's priority is to fix the problems in autos. While Daimler may see itself as a diversified giant, in fact it is an auto company with some not-very-profitable add-ons. Last year, Mercedes' car operation produced more than two-thirds of Daimler's $62 billion consolidated sales and nearly 80% of its $2.6 billion pretax profits. Interest on a $7 billion cash pile yielded an additional 15% of earnings--more than all nonauto activities combined. "Everything else falls far behind cars," admits Reuter. "The risk is clear: The Japanese are penetrating luxury markets."

Mercedes is feeling the Japanese onslaught most in the U.S., where it has had to hold the line on prices and even subsidize lease deals. Baby Benz stickers didn't budge for the 1993 model year, and other models rose an average of just 1%. That is battering margins, given the strength of the mark. And aggressive leasing is hurting profits, too. To keep monthly payments down, Mercedes has been charging lease customers virtually no interest. Doug Aiken, publisher of Automotive Lease Guide, says that amounts to a $10,000 rebate on some models.

Reuter faces other formidable obstacles at Mercedes. The company has the highest labor costs in the world (chart). Last year, about 40% of its $5.3 billion wage bill went for paid time off. The strong German mark is another hurdle. Reuter warns that the supermark could soon "be another reason for people to move out of Germany." Mercedes is already making trucks in Mexico and is assembling some cars there from kits.

`LOST CAUSE.' Rastatt was supposed to make a big dent in costs, which were 35% higher than Toyota's--by Mercedes' own reckoning. Will Rastatt close the gap? It will "bring us within 10% to 15% of the Japanese on costs," argues car boss Hubbert, "and we think we can sell at that sort of price premium." But the new plant has its critics. They point out that Mercedes has yet to design cars for new production techniques and that Rastatt's paint and body shops won't be fully operational until 1994. "It's a lost cause," says Detroit auto consultant James E. Harbour, who believes Rastatt staffing levels are far too high. In contrast, BMW is wringing 30% out of production costs at its U.S. plant.

Reuter and other German bosses are banking on Chancellor Helmut Kohl's success in working out a new deal, in which labor would forgo wage hikes in return for job security. Despite the big cuts, Reuter can't slash the payroll to the bone, American-style. Worker directors sit on the board of supervisors--10 out of 20 slots at Daimler, mostly from IG Metall. Mercedes and other Daimler units are shedding jobs slowly, through a mix of early retirement and attrition.

But the country won't let its flagship sink. Daimler is even more important to Germany than GM is to the U.S. One in six German jobs depends on autos. And Daimler represents Germany's entry ticket to the aviation and space industries. Reuter's board also owes him some big chips. For instance, he took over then-floundering AEG in 1988 to oblige Deutsche Bank. That's why, seated on a leather settee in a large office atop headquarters in Stuttgart, Reuter still insists he will continue diversifying--with some cost-cutting thrown in.

SUSHI FEST. Reuter is even trying to draw in the Japanese. But so far, he has little to show from three years of talks with Mitsubishi group. At the latest meetings, in October at the Hotel Okura in Kobe, nine top executives from each side shared platters of sushi and sauerkraut and sang around the piano. Still, the only tangible deal to date is help from Mitsubishi to tweak Mercedes' car-distribution channels in Japan. The two companies are still talking about a deal for the Japanese to make about 4,000 diesel engines a year for Daimler's small trucks.

In the U.S., Reuter would probably be feeling a lot more heat and perhaps would even have been forced out by now. But Daimler's long-term shareholders, who have tight control over two-thirds of the company's equity, don't panic every quarter. They have too much riding on Reuter to abandon him anytime soon. And they have been rewarded for their patience all through the postwar period. But if the betting is wrong this time and Reuter fails to turn his giant around, Daimler and Germany Inc. alike could be limping through the 1990s.