Consolidation Reconfigures The Automotive Industry Landscape

Sweeping change that has been reshaping the automotive industry during the past several years continues to pressure both vehicle manufactures and parts suppliers to strengthen their core competencies, operate more efficiently, and slash costs. The movement, paced to a large degree by mergers and acquisitions, continues to transform the sector through consolidation in all areas of the automotive supply chain. Over the past few years, vehicle manufacturers increasingly have been demanding that their suppliers deliver larger “chunks” of vehicles – modular automotive components or systems. As pressure has been placed on Tier 1 suppliers to provide complete systems or modules, and to become systems integrators that can assemble those modules, suppliers have been required to gain product design, development, and testing capabilities in order to secure lucrative contracts. Also, recognizing that vehicle manufacturers have been expanding into new, global markets, Tier 1s have had to cultivate or acquire the capability to follow their vehicle-manufacturing customers into those new markets. All of those factors have been pressuring automotive suppliers to become bigger and more diversified players, and many have used m&a to achieve the skills required to remain vital players in the field. While mergers and acquisitions activity has slowed from its more robust pace in the 1995 to 2000 period, persistent consolidation will continue to change the industry playing field, particularly among the ranks of the suppliers, industry followers note. According to Michael Burwell, an automotive industry partner in PricewaterhouseCoopers’ Transaction Services group, there are nine major automotive manufactures that generate most of the world’s vehicles. By 2010, he expects that number to decrease to six. Additionally, there are currently about 600 Tier 1 suppliers, and he estimates that the number to dwindle to about 30 to 35 by 2010. At the Tier 2 level, there are about 9,500 suppliers today. That number should drop to about 800 by 2010, he says. Sector dealmaking will be a key force in making that happen. Nick Galambos, a Vice President in A.T. Kearney’s automotive practice, says that throughout the year he expects to see more numerous deals that are smaller in nature, particularly as EBIT-DA multiples rebound from their current low levels and more companies are encouraged to divest non-core assets. Bill Peluchiwski, a Managing Director in Houlihan Lokey Howard & Zukin’s automotive practice, agrees, adding that forecasts of the number of vehicles to be produced this year have been revised upward from less than 15 million to between 15 million and 16 million, he says. Performance at many automotive companies is much better than anticipated and companies are beginning to feel more confident about the health of the economy, he notes. “As a result, some firms are saying that instead of minding the store they can now start looking at top-line growth again and possibly do that through acquisitions,” he states. The experts say that while m&a activity will take place throughout the entire automotive supply chain, strategies for industry players will vary depending on which segment of the market they are in. In the vehicle manufacturing segment, companies should continue to look toward the Asia-Pacific and South American markets, says Mel Niemeyer, an automotive industry partners in PricewaterhouseCoopers’ Transaction Services group. A strong buying trend last year was the acquisition of minority stakes in Asia-Pacific automakers, he says. For example, General Motors Corp. acquired a 9.4% interest in Suzuki Motor Co. and DaimlerChrysler AG bought a 3.3% interest in Mitsubishi Motors, he says. According to his firm’s analysis, he adds, there is about a $1,500 cost advantage per vehicle on small cars in the Asia-Pacific region when compared with the North American market. “I would look to leverage that cost advantage into my other markets, such as North America and Western Europe, and have a pricing advantage over my competitors in certain markets. I would also try to grow domestically in those markets and would look at acquisitions.” Peluchiwski says he anticipates seeing the big automakers seeking out alliances, as opposed to full acquisitions, to gain control of “second tier” automakers, like the Mitsubishis and Nissans of the world. Once the number of vehicle manufacturers decreases to six by 2010, as his firm expects, companies in that segment will realize some growth due to the shrinkage in the number of competitors in the field, says Niemeyer. “But at the end of the day, the OEMs are selling cars, and future growth will depend largely on the number of vehicles sold. Western Europe and North America historically have been the high-water point in terms of number of cars purchased by consumers. In the future, there is not going to be a lot of growth in those two markets. All of the growth will come from South America and Asia-Pacific and the developing parts of the world, and they will have to figure out how to capitalize on the growth in those markets,” he says. Vehicle growth – about 2% to 3% per year – is a good predictor of the automakers’ own growth rates, says Elias Farhat, a Vice President at Bain & Co. But vehicle manufacturers will also have to charge higher prices per vehicle in order to help them achieve growth, he notes. One way to do that, he says, is to produce a line-up of vehicles that have “more content,” based on customer needs. Galambos says that while recent deals have been done by vehicle manufacturers in the Asia-Pacific market, he also expects to see more m&a activity in the region, especially in Japan, by Tier 1 suppliers, specifically among those companies looking for access to customers and technology. “The Nissan revival shows that there is potential to look at the Japanese supply base as something that might be of interest to the large Tier 1s,” he says. Generally, Tier 1 suppliers should continue to look for accretive transactions that fill either a geographical or product portfolio gap so that they are in a position to supply entire automotive modules or systems, the experts say. They made need to acquire technologies or gain capacity to manufacture components related to the ones they already supply in order to be able to provide full modules or systems to the automakers. Additionally, says Burwell, they should be looking to establish a branded strategy as they “continue to want pull-through from the vehicle manufacturers.” “They should start differentiating and branding their products, because if customers are demanding those products, the suppliers will have a pricing advantage and a margin advantage with their customers,” he says. At the Tier 2 level there will be a continued drive for scale, Galambos says. Since many Tier 2 suppliers are regional companies that provide commodity types of products, the desire for geographic expansion and economies of scale will be the main drivers of m&a activity among those firms. Peluchiwski also believes that Tier 2 suppliers should be striving to gain engineering and design capabilities to make them less susceptible to obsolescence, such as from contract manufacturing companies. “They should be able to add value from an intellectual standpoint. That way they would not just be taking a design and simply manufacturing or assembling a part but really adding value from doing engineering and design work,” he remarks.