Europe Expected to Weather Storm in 2012

Special Coverage

State of Industry: International

Greece may be in a panic, but the European auto industry isn’t.

Sure, the region’s auto sales at best are expected to decline in 2012, and threats of a second dip to 2009’s recession and fracturing of the eurozone certainly aren’t boosting optimism.

Renault CEO Carlos Ghosn admits the economic turmoil is beginning to cloud the outlook for 2012, reportedly telling journalists on the sidelines of a mid-October trade show he is feeling “very great uncertainty” about the coming year.

But some insiders and observers say the market already has taken the belly-punch from all the noise over a potential default by Greece and dissolution of the euro; although staggering, the industry isn’t likely to hit the canvas next year.

A double-dip recession would be a more crushing blow, but few believe the economy will take a second dive. There even are a few bright spots, leaving many convinced the industry will have worked its way off the ropes by the time 2013 arrives.

“We don’t believe the indicators are strong that there will be a true double-dip crisis,” says Alain Visser, Adam Opel vice president-sales, marketing and aftersales in Europe, predicting a mostly flat market overall for 2012.

Most auto makers expressed similar views at September’s Frankfurt auto show, despite mounting economic headwinds and a cacophony of eurozone political squabbling that had reached full boil. Fiat CEO Sergio Marchionne, whose company is most reliant on a severely weakened Italian market, proved a voice in the wilderness, countering the exhibition’s upbeat mood by predicting 2012 would be “difficult.”

Opel’s Visser: Not war-gaming end of euro.

So were other auto makers just whistling past the graveyard, clinging to the belief that if they refuse to talk about a major market retreat, there won’t be one? Maybe just a little.

“It has the risk of becoming a self-fulfilling prophesy,” Visser admits. “If we say there’s going to be a crisis, it’s very likely the crisis will happen.”

The bad press already is “having a profound negative effect on consumer confidence – and business confidence,” says Garel Rhys, president of the Center for Automotive Research at Cardiff University.

“To some extent, the markets have already taken into account Greece’s default,” he adds. Even before the Greek crisis there was “a reluctance to invest by the industry, and they’re holding on to that.”

Still, few expect the 2012 downturn to be more than a small bump on the road to recovery, and many say the auto industry now is in better position to absorb the hit – whatever it may be.

European sales “will be down next year,” notes Itay Michaeli, vice president of Citi Investment Research. “But the (vehicle population) density is stable,” meaning consumers aren’t paring back on the number of cars they own and the market isn’t headed for contraction long term.

“We’re watching to see whether there’s a credit crunch” that could further curtail near-term demand, he adds. “But the good news is we think (European auto makers) more accurately modeled the downside scenarios.”

Renault’s Ghosn feeling “very great uncertainty.”

Pennsylvania-based forecaster AutomotiveCompass predicts a 2.8% decline in Western European light-vehicle sales in 2012, with volume falling to 13,950,000 units from an estimated 14,350,000 for 2011.

“I’m not more pessimistic (than earlier in the year), because the Southern markets have been soft for some time, even before the Greek crisis,” says Warren P. Browne, vice president-business development for AutomotiveCompass.

Western Europe’s shortfall should be offset somewhat by a 7.7% growth in sales in Russia to 2.8 million vehicles, he says, with Central/Eastern Europe remaining flat at 2.4 million units.

“When the price of oil goes up, Russians feel better about the economy and buy more cars,” Browne points out. “And by the way, 2.8 million units relative to France or the U.K.? That ain’t shabby, either.”

Not everyone believes Russia is as bankable as Browne does.

“We don’t think the upturn we have seen in Russia is going to persist in 2012,” Visser says. “Despite being one of the biggest markets, (Russia) is one of the most volatile markets.”

A handful of smaller countries will continue to be bloodied in 2012, including Greece, where sales this year are running at about one-third of historic levels and the retail market has all but vanished. But Germany, the U.K., France, Spain and Italy carry the day in Western Europe anyway, accounting for nearly 60% of sales.

“Europe is a challenge financially,” notes Jacqui Dedo, chief strategy and procurement officer for supplier Dana. “But the countries with the biggest challenges are not where the auto industry is.”

Bright spots among the Big Five include Germany, where Visser sees “slight signs of growth and strength.” The U.K. is “pretty stable,” he adds, and “we also see some strength in the French market.”

More troubling are Italy, where sales were off 11.0% through August, and Spain, recording a 19.6% decline through September. Asked if there’s any silver lining on the horizon for those markets in 2012, AutomotiveCompass’ Browne says simply, “No, no, no, no, no.”

Rather than come into sharper focus as 2011 winds down, next year’s picture only has become fuzzier.

“I would dare to say it probably has never been more crystal-ball to forecast 2012 as it is today,” Visser admits. “Initially, the 2012 market was seen as stronger. Overall, if we look at total Europe, we are planning a carryover – it’s really marginal differences we’re talking about, less than 2% either up or down.

“And in all honesty, if we’re talking about differences of 1%-2%, we can’t even forecast that straight on a monthly level,” he adds. “So for 2012, I would say the gun doesn’t shoot that straight.”

So far, the German luxury car makers have been immune to any downturn. BMW-brand sales were up 15% through 2011’s first nine months, while Audi sales rose 17% and Mercedes deliveries jumped 7.6%.

“We made solid gains right across the globe and once again achieved record sales for September, which contributed to a record third quarter,” BMW sales head Ian Robertson says.

Mercedes-Benz sales chief Joachim Schmidt notes his brand is “on track to make 2011 the most successful year in our company’s history.”

Even a couple of volume players have prospered this year. Volkswagen-brand sales were up 10.5% through August, while Opel deliveries climbed 11.0% in the period.

But what happens if the euro suffers a complete collapse and propels Germany back to the mark? Credit markets that drive industry sales surely would suffer, some analysts believe, and the resulting deutschmark – likely even stronger against the dollar than the euro – might be disastrous for German exports.

“We don’t see any sign of a slowdown up until now,” says Juergen Friedrich, CEO of Germany Trade and Invest. “(But) if there is a major economic downturn, it has to be a negative effect.”

Stock prices for key auto makers offer telltale signs of rising investor concern. Despite its record sales pace, BMW has seen its share prices fall from more than E70 ($96) in late July to less than E55 ($76) in mid-October. Daimler, VW, Renault and Peugeot have recorded similar slides.

But others say even a euro collapse wouldn’t represent a game-changer for the auto industry, which already has been moving production outside the eurozone to Eastern Europe, Russia and China to cut costs and meet local market demands. The Germans built more than 700,000 vehicles in North America last year, and additional capacity is on the way.

“We believe it is only a small effect,” Visser says of a potential euro collapse, pointing to Germany’s already strong role in propping up the currency. A switch to the D-mark wouldn’t fundamentally change the economics, he contends.

“The current round of euro (problems) is not forcing a new strategy for European automotive companies,” Browne asserts. “They’ve been around trying to build them where they sell them for a long time.”

Certainly dissolution of the euro “wouldn’t be good for German exports,” Rhys acknowledges. But he argues export growth merely would slow down, not vaporize altogether. Spain’s auto industry might actually be “rejuvenated” by the demise of the euro, because it could regain its status as a low-cost production source.

Whatever the result, a euro collapse would hit everyone equally, Browne says. “All of the exchange issues, controls, hedging, what you have to give the dealer to cover exchange issues, whatever. The cost of doing business goes up for everybody, period.”

And the odds of the currency vanishing are long, observers insist.

“Germany, France and Italy are not going to break the back of the euro on Greece,” Browne says. “They’ll push (Greece) off before that happens.”

Opel’s Visser agrees. “Are we seriously game-planning with a non-euro scenario? The answer is, no.”

Ironically, the euro controversy may be causing more trouble for the Japanese than the Europeans. The currency’s weakness in relation to the yen is making it tough to export cars profitably from Japan. Most of the country’s auto makers reportedly planned for an exchange rate of ¥112.2:E1, not the current ¥105.8:E1, potentially shifting the pricing advantage back to the home-market players.

“The Japanese auto makers look like every other car company (now),” Rhys says. “They no longer look like world-beaters.”

Some hurdles remain for the Europeans no matter which way the economy teeters.

China, a safety valve for the German luxury-car makers, is showing signs of weakening. Mercedes’ 13% sales increase in September represents a solid gain, but it pales compared with its 60% first-half growth. It joined competitors BMW and Audi in stepping up discounts to as high as 20% on some models in October in an effort to boost demand.

“While we expect luxury to outperform the sector, we are seeing early cracks in sales slowing and discounting,” CLSA Asia Pacific Markets analyst Scott Laprise told Bloomberg in early October.

Still, it’s all relative, notes Browne. “We’re worried (in the U.S.) whether growth is going to be 3% vs. 2%. In China, it’s whether it’s going to be 8% or 10%.”

An upside-down West European economy could drive additional industry restructuring, but auto makers may find themselves between a rock and a hard place when it comes to slashing jobs, should government incentives aimed at keeping workers working disappear.

The cost of taking out an hourly employee is E100,000 ($137,000) in some cases, so most companies did very little in recent years to pare their manufacturing ranks, contends Kevin Cramton, CEO of private-equity firm Revstone Industries.

“Now volumes are soft and governments can’t pay the subsidies any more, and there’s still that cost to get rid of employees. It’s a terrible equation.”

Others say the auto industry is in better shape than many think.

Europe “probably needs to restructure less than (the U.S.) did,” says Dedo. “And government and industry tend to collaborate a little more ahead of the curve than we do (in the U.S.),” meaning both sides likely are prepared for any bigger-than-expected downturn.

Either way, auto makers will continue to face severe product-development pressures as they look to meet tougher fuel-economy goals with a wide array of electric and otherwise advanced powertrains, and roll out tiny city cars and new cross/utility vehicles to fill emerging gaps in their lineups.

“All these things increase the demands on human capital,” notes Rhys.

Estimates are Germany will run some 180,000 engineers short of what’s required over the next three years, Dedo says. There will be fewer educated people drawn to the auto industry, she adds, and the rapid pace of technology development means continuous training will be required for those who do sign on.

“Talent will become the differential factor for the top-quartile-(performing) companies,” Dedo predicts.

In the end, the best European auto makers can hope for in 2012 is a holding pattern, with winning and losing a matter of who performs better in the trenches.

“It’s clear the battle is going to be won on product and dealers, not the market forcing all boats to rise,” Browne says. “One market growing and helping all boats? That’s not going to be present in Western Europe in 2012 at all.”

Sums up Rhys: “I do see hopeful signs we are in a period of stabilization. But that doesn’t mean growth. We won’t see growth until about 2013, (and) it could be 2014 before we recover to 2007 levels.”

– with Eric Mayne

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