Autos: Heading into the Slow Lane

-- Detroit will keep dishing out incentives

-- Pension and health-care worries will add tension to next fall's union contract talks

Carmakers expect to tap the brakes in the coming year, but sales won't screech to a halt. Detroit's greatest pain will likely be its continuing loss of market share to foreign players. And short-term efforts to reverse the slide by ramping up production and offering additional costly sales incentives will put a drag on profits.

Industry insiders look for U.S. sales of new cars and light trucks in 2003 to total roughly 16.3 million units--down about 2% from last year. While still a healthy level by historical standards, that would mark the third year of decline from a record 17.35 million units in 2000. "We all expect something of a slowdown," says Chrysler Group CEO Dieter Zetsche. "But nothing too dramatic."

Manufacturers based in Asia and Europe have a rosier view. As Japanese auto makers, in particular, extend the popularity and premium-pricing advantages they have in the passenger-car market to their growing lineups of minivans, pickups, and sport-utility vehicles, "the Big Three will lose more share" this year, says Global Insight Inc. analyst Rebecca Lindland. She notes that Detroit's slice of U.S. auto sales shrank in 2002, to 62.8% (in November), from 64.5% in 2001 and 66.8% the year before--with the biggest declines at Ford Motor Co. (F )

Early evidence suggests that the fight for market share, together with industrywide overcapacity, will lead auto makers to build too many vehicles in the first months of the year. Declining market share has left the Big Three with 2.5 million units of excess annual capacity, according to Fitch Ratings. In North America, domestic and foreign-owned factories are scheduled to build 4.3 million vehicles through March, up 3% from the same period in 2002, according to Ward's Automotive Reports. Analysts are especially worried that most of the increase is expected to come in trucks made by both General Motors Corp. (GM ) and Ford--and that it will exceed anticipated demand. "They're setting up a game of light-truck chicken," writes Goldman Sachs Group Inc. analyst Gary Lapidus. The likely outcome? More rebates and other incentives that will further trim once-lucrative truck profits.

Giant inventories will only increase Detroit's reliance on such lures. Since auto inventories remained high in December--averaging a 77-day supply, up 19% from a year earlier--carmakers are expected to continue piling on incentives in 2003 to keep their metal moving. By yearend, average incentives were running $3,400 per vehicle, according to CNW Marketing/Research Inc. in Bandon, Ore. However, Detroit is running out of new gimmicks to lure customers into dealer showrooms. "What else is left?" asks Wesley R. Brown, analyst at Thousand Oaks (Calif.)-based researcher Nextrend Inc. "But the Big Three have no choice," he adds. "If they stop incentives, sales will plummet."

Detroit's top brass also have labor issues to worry about. Heavy pension and health-care costs, a legacy of Motown's decades of building cars in the U.S., will continue to drag down the Big Three. Analysts forecast a 22% decline in GM profits, to $2.9 billion in 2003, largely because of pension costs. Though such costs also weigh on Chrysler (DCX ) and Ford, restructuring should boost profits about 9% at both--to $3.7 billion and $890 million, respectively.

Pensions, along with health care, are likely to create more friction this summer when Detroit auto makers start renegotiating their national labor contracts with the United Auto Workers. Plant closings are likely to be another sore point. Between war worries this winter and the threat of labor strife next fall, carmakers may find 2003 to be a year of living anxiously.

By Kathleen Kerwin in Detroit

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