What will become of the auto industry if it cannot build vehicles? With auto plants on both sides of the Atlantic shutting down for the next few weeks due to the COVID-19 pandemic, we are about to find out.
When the global financial crisis struck in 2008, many US and European automakers idled production to prevent a buildup of unsold vehicles.
This time, though, the shutdowns are happening simultaneously and slumping demand is not the only problem automakers face. Workers are understandably fearful to step onto crowded production lines and the supply of key components risks being disrupted.
Manufacturers hope the production hiatus would be brief, but that could prove to be wishful thinking, because the virus is a long way from being under control. (That some have offered to repurpose factory space to produce life-saving ventilators underscores the severity of this global health emergency).
Even without coronavirus, this year was shaping up to be a difficult one for the industry due to the massive cost of developing electric vehicles and overhauling factories to build them.
Unlike a decade ago, when General Motors Co (GM) and Fiat Chrysler Automobiles NV sought bankruptcy protection, most automakers have big cash piles they can draw on to tide them over a difficult period. Even after a 26 billion euro (US$28 billion) cash outflow due to its diesel cheating, Volkswagen AG has 24 billion euros of cash and equivalents at its disposal.
That is fortunate, because due to high fixed costs and so-called negative working capital, much of the industry would burn through a lot of money. Besides protecting employees from potential virus exposure, one positive about closing plants is limiting the cash burn from rising vehicle inventories.
In an extreme scenario, Ford Motor Co and GM could each burn close to US$4 billion of cash per month, Morgan Stanley analysts have said.
Meanwhile, if unemployment spikes, automakers that lease lots vehicles via captive financial services divisions could be exposed to rising bad debts. In 2008, BMW AG had to take a 2 billion euro provision against loans going sour and falling values of used vehicles.
It is no wonder then that automaker stocks have halved in value since the start of the year and the cost of insuring their debt against default has rocketed.
Those with the weakest balance sheets have suffered most.
The market capitalization of Renault SA, which struggled to generate positive free cash even before the virus showed up, has shrunk to less than 5 billion euros; adjusted for the 43 percent stake Renault owns in alliance partner Nissan Motor Co the equity value is negative.
Jaguar Land Rover Automotive PLC, owned by Tata Motors Ltd, is looking particularly sickly: 650 million euros of senior unsecured debt due in 2024 has tumbled to 60 percent of face value, yielding 17 percent — signaling concerns that credit investors might not get all their money back.
While the argument for consolidation is stronger than ever, so is the need to preserve cash. It is questionable whether it is still appropriate for Fiat Chrysler to pay its shareholders a 5.5 billion euro dividend prior to consummating a merger with Peugeot SA. Fiat’s balance sheet was already one of the weakest of the major automakers.
Unlike in some service industries, vehicle sales should eventually pick up some of the slack. Vehicles age and need replacing, while a restaurant meal not consumed last week does not necessarily mean you will have two the next.
Plenty of folks cooped up at home would be dreaming of taking a long road trip when this is all over, encouraged no doubt by the cheaper cost of fuel.
However, in the short term, demand will probably fall hard — Chinese sales plunged 80 percent last month, when much of the country was in lockdown. Consumer purchase incentives or government tax breaks probably would not be as effective as in 2008 to 2009, as people cannot leave their homes.
An auto industry that cannot build vehicles will not sell them. This year would see the paths of the better capitalized and financially weak firms diverge. It might not be immediate, but demands for external support, whether from taxpayers or shareholders, would come.
Chris Bryant is a Bloomberg Opinion columnist covering industrial companies. He previously worked for the Financial Times.
This column does not necessarily reflect the opinion of Bloomberg LP and its owners.
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