Which future for the car industry?

Photo Claude Satinet / Former Managing Director, Citroën / February 13th, 2012

The automobile industry is over 100 years old and yet, it still isn't fully mature. While undergoing deep transformations from a technological and commercial point of view, it isn't clear who the winners and losers will be.

In the car industry, as in other fields, there is no life without consumers: you’re meant to attract as many clients as possible and make as much profit from them as you can. From this perspective, several parameters should be taken into account: quality of network, communication and image. But the key element remains the product. Its definition is entirely submitted to the internal decisions of each manufacturer.

The dynamics of offer
Nowadays, the offer is so abundant that any client can expect to find whatever car matches his exact needs. Clients no longer feel obliged to buy multipurpose vehicle. Besides, some clients might own several cars, each responding to a specific use or to specific needs. This variety in the offer has increased even more, if we think of all the options included in the definition a vehicle.

Sometimes, similar models sharing the same features are sold on the market at very different prices. These differences are mainly due to image value of the different companies. If a manufacturer tried to offer models suited for every need under the same brand, the resulting catalogue would certainly be very confusing for the buyer and difficult to manage for the vendor. Splitting into multiple brands seems the most natural way for big companies to divide their offer. It is also the best way to sell similar products at different prices, if they manage to create different image values.

The most striking examples today is that of the VAG group. Following their strategy, they created different brands on four levels: luxury (Porsche, Bentley), premium (Audi), mainstream (Volkswagen) and aggressive (Skoda or Seat), each presented on a different network. Each of these brands can offer many models, without ever loosing unity and coherence within the brand. The price differences within a group are mostly due to different features and equipment. For instance, a brand like Audi offer sedans, sports cars, SUVs and several other models.

On the other hand, price differences between cars with similar features, but from different groups, can increase as much as 10% to 30%: an Audi A4 is much more expensive than a Volkswagen Passat, which in turn is more expensive than the much bigger Skoda Superb. This price difference is also understood by the clients as a value associated to each brand.

The presentation of a coherent price offer in a show-room, by separating brands, may seem an obvious fact, although this rule isn’t always followed. Renault decided to develop its low-cost brand Dacia in Eastern Europe, with the Logan model, which was similar in space, but cheaper, than the Megane Model. It proved an excellent idea, because in Eastern Europe, retailers followed the rule of separating the two brands in two different show-rooms, even though the vendors were the same. But when Renault decided to sell the Logan in France, they put the car in the Renault show-room. The first effect was to disorganize the vendors, who were used to selling Renault and didn’t know how to manage their clients properly: when a client comes in, you can’t predict whether he is coming for Renault or Dacia, and therefore, you can’t adapt appropriate arguments in favor of the product! The result is well-known: a transfer of sales from Renault to Dacia and a total market share that decreased. Some might say that the bad shape of the Renault line was the major cause. Maybe; but then, they must have been much more vigilant. When Renault realized its mistake – perhaps too late – they converted part of their second-hand showrooms in Dacia showrooms, to stick to the rule.

Another interesting case is that of Citroën, who increased focus on premium brands by putting forward the DSx models, which evoked the famous DS (1956-1973). The situation of Citroën was very fragile at the end of the 90s, and bettered significantly until 2007, thanks to its product politics. At that moment, thanks to its previous successes, the company managers decided to create a new brand, the DS (the first model, DS3, didn’t show any Citroën identification). They eventually transformed it into an entire line of DS products. Almost immediately, they realized that a brand without a specific network, nor a dedicated commercial structure, wasn’t really going to work. As a result, they introduce a much more expensive model (DS3) in the Citroën showroom. This model worked out well, because the vehicle appealed to the public: it is attractive and all communication efforts (including competition) were dedicated to promoting it. Besides, there isn’t any analog model in the main line of products. Consequently the C3, which was launched at the same time, enjoyed a fairly average result

The true result of the DS line is seen with the second product: the DS4. This model doesn’t have the natural appeal of the DS3 and was compared to the C4, a model (quietly) launched at the same moment. The difference between their features didn’t justify their price difference. The DS4 sales were far from achieving their goals – and therefore, they the C4 didn’t produce any significant benefits. They will have to wait for the results of their third model (DS5) to know whether Citroën was able to successfully launch a premium line of products. Otherwise, the whole DS line is condemned to disappear…

The path of diversification
For a manufacturer, a straight-forward way for growth is to broaden your product portfolio. This can be achieved by increasing the number of models in one brand: the size of showrooms determines the limits. You can also increase the portfolio of brands, either by establishing a pricing hierarchy (like VAG did) or by creating front impacts between competitors (Peugeot-Citroën, Hyundai-Kia).

However, a constructor who wishes to increase his portfolio of brands must not forget to enlarge at the same time his showroom network. The VAG group proceeded that way in 80s, when Audi split from Volkswagen. Another condition should not be underestimated: enlarging an offer requires strong financial capabilities! When constructors decide to introduce a model in their line of products, they implicitly agree to renew this product every now and then (for instance, every 7 years).

Increasing the portfolio naturally leads to increasing maintenance costs of the product line, although a strategy of platforms and modules significantly reduces this need. Creating a new brand is a heavy decision to make: as it is very difficult to synchronize the creation of a new network with the launch a new line of products, you’re always compelled to support financially the network at it starts. That’s why the big players don’t create new brands. The most efficient solution is to buy an existing brand with its network and transfer gradually its products into the technical universe of the buyer’s group.

The opposite process was experimented by manufacturers struggling to reduce their investments and operating costs. Fiat bought Lancia and Alfa Romeo in the 80s and ended up in a similar situation in the 90s. Their reaction was to regroup the three brands in the network and reduce the number of models in each brand. This only accelerated the decline of the group, although the success of the Fiat 500 halted that course for a while. More recently, Fiat bought Chrysler and tried to make a great mix of products, without investing into new products. Fiat and Lancia inherited several Chrysler models, while Chrysler concentrated on Jeep. The Fiat 500 was launched in the USA but didn’t achieve great success.

The case of Ford (especially in Europe) is even more relevant. At the end of the 80s, Ford suppressed all of its high-end models and bought Jaguar. They said that clients would shift to Jaguar, who would consequently improve its sales. At the same point, Opel (GM) did the same with Saab. The idea was quite simple: these premium models have a very small market share in retailers and their profit margins are sometimes negative; therefore, it’s a win-win situation if they are suppressed. By transferring this small volume of sales to Jaguar (or Saab), the premium brand would win money instead of losing it, and win on both grounds. Both American giants spent their fortune on their premium brand but forgot that nothing would keep a client from Ford who couldn’t find a sedan to go to Jaguar, in another network, not as heavily loaded. The comedy lasted 15 years, cost billions of dollars, until Jaguar was sold out (to an Indian) and Saab disappeared (unless a Chinese miracle happens). These are striking examples of the difficult art, in the field of automobile, of simultaneously reducing the product offer to achieve financial balance!

Technological breakthroughs
Apart from diversification, the acceleration of technological development represents an enormous challenge which proceeds from several sources.

The main source is the pressure to reduce our consumption of fossil fuel. Manufacturers are forced to combine the technology of thermal engines with electrical engines and batteries. This pressure comes from the evolution of regulation and taxation but also, as in Europe, from the obligations created by voluntary commitments made by each group. Manufacturers committed themselves on a schedule to reduce the emissions of CO2 of the average vehicles that are sold in Europe.

As consequence, the life service of the involved technologies shortened, costs for R&D increased, as well as costs due the higher engine complexity. The mastery of engine control technologies is unfortunately held by only three or four specialized suppliers. Although they are competitors, this doesn’t help manufacturers in reducing costs.

The only way not the decrease vehicle prices is to increase the annual volume of vehicles by engine type. This implies either working with other constructors, or – if there are strong enough to so –increasing their market shares. The speed of regulation evolves impedes prolonging older series, as they rapidly become obsolete.

Until now, the consumption of fuel (or the emission of CO2) was a competitive issue among others. However, the voluntary commitments are followed by heavy fines. The development of low-consumption (and therefore electric) vehicles is now an economic necessity for all constructors, even though these vehicles are sold without margins or even, at a loss. The possibility to see Europe give up its objectives is very thin, even though the example of California abandoning its standards should make cautious.

The rise of very low consumption vehicles (purely electric or hybrid-with-mostly-electric engines) will introduce a genuine break in conception. One core component of electric vehicles is its energy reservoir: the battery. It’s heavy and costly, and sheds light on a feature nobody cared about up to now: autonomy.

To endow a thermal vehicle extra 100km autonomy, you only need to increase the reservoir by 10 liters. There are very little penalties on mass (only a few kilograms) and costs (a couple hundred of euros); whereas for an electric vehicle, we’re talking of a 150kg increase and 6000 euros cost. Chasing out superfluous electric consumption becomes a key issue.

For instance, heating a thermal vehicle is free, as cooling the motor always produces an excess of calories. In an electric context, warming will directly decrease autonomy: should steel or aluminum used in the frameworks be replaced by more thermal-insulating materials?

Another tendency is to reduce mass (with no performance loss); as long as additional costs are compensated by fuel economies (we’re talking of a few percent cuts). With electric cars, the cost of autonomy will decrease as battery production increases, but the weight excess won’t evolve (that’s physics). Therefore, you must compensate mass elsewhere; but you need hundreds of kilograms, not kilograms! No wonder BMW and Audi started using carbon fiber in their production lines, when it was only used by their competitors up to now. They could achieve weight reduction of approximately 300 kilograms.

Young markets versus mature markets
The global situation isn’t uniform: looking into separate geographic zones gives interesting results. To make things easier, I chose two of them, China and Europe: they are at different stages of evolution and different futures await them.

China is a perfect example of a young market: in only 11 years, it evolved from the size of the Belgian market (500 000 v/year) to that the world’s first market (10 million). And things haven’t settled yet, as demands are still enormous. Public authorities mean to develop Chinese manufacturing and increase the Chinese part in joint ventures dominating the market. The non-Chinese actors maintain a strong influence, as they bring the technology and much of the commercial offer, either by importing models created elsewhere, or by technically assisting the creation of specific models.

Reviewing these specific models in Chinese joint ventures shows that there is virtually no technical backwardness, at least for mainstream constructors. As for electric vehicles, we are certainly in an opposite situation: China is far ahead in terms of batteries (thanks to their experience with bicycles) and better positioned for imposing a commercial launch.

The upcoming years should be quite interesting on this market: concentration of the Chinese makers, too numerous at this day; obstacles to the entrance of new foreign constructors; massive launch of electric vehicles; increasing power of Chinese partners in joint-ventures, at various levels, according to the case.

Statistics will also offer a very interesting twist. Today, joint-venture productions (generally, 50/50) are counted as 100% in the productions of non-Chinese partners. There is no reason why this should go on as it is. When this change happens, it will give another look to the world ranking of constructors.

The European market is ripe in terms of size, but it will also evolve when submitted to technologic pressure. To keep things economically viable, constructors will have to make important numbers of reduced types, especially when it comes to engines. This is quite automatic for most big manufacturers, especially those who have established premium lines: that is, those who can produce significant volumes and afford important margins to start with these new methods.

If they don’t find quickly their natural market, electric vehicles will be required to respect the voluntary commitments made by vehicle constructors. But in this case, they alone will have to develop these technologies and master them in the future.

All these factors will cause a decrease of the number of independent constructors in Europe. The Germans are, at this day, in the best position: VAG (first European constructor, in terms of sales and margins; they are organized to grow even more, especially through there management of brands); Daimler Benz (thanks to their diversification out of the automobile field); BMW (because of the profitability and strength of its shareholdings). Ford and Opel are the European arms of American manufacturers. Their future lies elsewhere. Three question marks still remain.

Renault is completely committed in Alliance. In this universe, Renault’s future isn’t as clear as that of Nissan and Dacia. An interesting path is their growing ties with Mercedes.

For Fiat, the key issue was resolved when they separated the automobile from their other assets and created close bonds with Chrysler. Anything could happen; but the lack of development of new products is very negative sign. Their future should be more about regrouping with other partners than developing independently.

PSA: Difficult to say! To survive, a manufacturer must win market share on these key-territories, renew its product offer, make profits under these conditions and have strong shareholdings. Today, PSA is losing market shares in Europe (source of their margins) and is undergoing heavy losses. Up to now, they have renewed their line. But only a few people know if they will be able to keep it up in the coming years. As for the family shareholders, they have been remarkably constant up this day.

The present volume of sales is insufficient and the absence of grow perspectives should impose a minimum of collaborations and probably, the creation of strong partnerships. How will the family shareholders react tomorrow, when they will be confronted to an alliance with another constructor? How will the next generation of the family react? The interested parties alone can answer this question!

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