Special Report

logo2006 Year in Review

In the 1980s, the theory of “trickle down” economics suggested all levels of society benefit and ultimately thrive if the wealthiest in the food chain remained so, creating employment opportunities for everyone, including those at the bottom.

In the auto industry, the theory worked in reverse in 2006, as struggling North American auto makers continued to inflict pain on Tier 1 suppliers in the form of reduced volumes, canceled vehicle programs and extreme pricing pressure.

The pain trickled down to Tier 2 and 3 parts makers and raw materials producers, although suppliers facing bankruptcy, closure or a complete overhaul of their businesses might argue the “trickle” was more of an avalanche.

“There is no question that pain is felt on all sides,” said Kimberly Davis Rodriguez, a partner with restructuring specialist Grant Thornton LLP in Southfield, MI.

“The entire supply base needs to downsize – it is something that has to happen,” said Rodriguez, who had been offering financial and operational guidance to distressed suppliers, as well as their stakeholders, for more than 20 years.

As 2006 drew to a close, even suppliers that had been relatively profitable – namely BorgWarner Inc. and American Axle & Mfg. – were downsizing.

Veterans said they had never seen the North American auto industry in such turmoil, but that this cycle too shall pass.

“I’ve been in this industry long enough to know it will come back, so I don’t worry about that,” said Chip McClure, chairman, CEO and president of ArvinMeritor Inc., which began a round of cost-cutting in 2005. “Is it different? Yes. Will it make us stronger afterward? Yes.”

Rodriguez said many suppliers suffer from “systemic distress” due to Detroit’s woes. “But a lot of people are dealing with it proactively through divestitures, sales, downsizing or even mergers and acquisitions,” she said.

Grant Thornton worked for Ford Motor Co., monitoring the health of 1,600 suppliers to its North American operations. The contractor used a Web-based system to track every supplier’s performance on material management, delivery, quality and cost.

“If the price of rubber goes up and it will cause you some distress as a supplier, we share it with Ford,” Rodriguez said. “It’s really to everyone’s benefit if both parties are well informed.”

Of the 1,600 suppliers, Rodriguez said her office tracked “a subset we consider at risk” of failing to meet Ford’s supply terms or of lapsing into financial distress.

On Ford’s behalf, her office kept close watch on bankrupt suppliers Collins & Aikman Corp., Meridian Automotive Systems and Dana Corp. Rodriguez said Ford called her office in October to deal with Collins & Aikman’s refusal to ship products to its Hermosillo, Mexico, plant due to a component-pricing dispute.

“It was a disappointment,” she said of the spat. “Most suppliers resolve commercial disputes in other ways. Shutting down plants hurts everyone. It is not an effective tool.”

At an industry conference in November, Collins & Aikman President and CEO Frank Macher made no apologies for stopping shipment to Ford, nor did he divulge the source of the dispute with Ford.

Pricing disputes are becoming increasingly common as domestic auto makers and suppliers struggle for survival in North America, but stopping shipment of components was seen as a rare occurrence that came only as a last resort.

Shortly after the shutdown, Macher spoke at an industry conference to call for some sanity in the deteriorating relationship between suppliers and OEMs.

Using terms such as “immoral,” “shenanigans,” “sin” and “horrible,” Macher laid bare the dynamic that has driven many suppliers into bankruptcy or entirely out of the industry.

“We’re not in an evolutionary environment any longer where the terms and conditions were modified and adjusted over a period of time,” Macher said. “Where we are today is in a radical sea of change, a tsunami of unprecedented proportions: untold supplier bankruptcies, closures, sell-offs and, with a few exceptions, an ever weakening of a supply base. It becomes more and more obvious every day that major disruptions are on the horizon because of insolvency and liquidations.”

To fix the business model, Macher proposed a Bill of Rights stating clearly what auto makers and suppliers should expect from each other.

OEMs deserved top-quality products built to specification every time; on-time delivery; first-rate technology and service; competitive component prices; and collaboration to achieve affordable cost targets, according to the proposal.

From OEMs, suppliers deserved realistic product volume projections. Suppliers also were entitled to a “pay as you go commitment” for product development; timely tooling reimbursement; protection of proprietary technology; an end to OEM market testing of a supplier’s technology; a framework for resolving commercial disputes; and an indexing mechanism for the OEM and supplier to shoulder high costs for raw materials.

At issue was the ability of the supply chain to post profits in the U.S. auto industry. “It is not a sin to make money. It’s good,” Macher said. “And it assures the shareholders will stay with you, that your employees are taken care of, that you have a viable business.”

Despite his impassioned pleas, Macher would not last long at Collins & Aikman. He would resign by February 2007.

Sean McAlinden, chief economist and vice president-research at the Center for Automotive Research in Ann Arbor, MI, was blunt in his description of supplier dealings with Detroit.

“It’s rotten business,” he said. “What are you going to do to get GM (General Motors Corp.) business? It’s the cobwebbed dark corner of the plant.”