Portugal Navigates Turbulent Waters

Just as Portuguese explorer Ferdinand Magellan set out to circumnavigate the world in 1518, Portugal now has its eyes set on conquering lucrative investments from auto makers in the coming years.

Already established as a leading center for automotive manufacturing on the Iberian Peninsula, thanks in part to Volkswagen AG's massive AutoEuropa plant in Palmela, Portugal now faces an uphill battle in gaining new auto assembly plant production. Government officials recognize their fight may be fruitless, but they remain confident in hopes they can garner new investment in research and development activities.

The murky outlook has taken root thanks to plans by the European Commission to level the playing field between member countries (Portugal has been a member of the EU since 1986) when it comes to investment incentives. The Commission already has placed a number of auto investments in the region under the microscope and plans to further scrutinize any incentive programs that could place other EU countries at an artificial disadvantage. The EU's aggressiveness could bring an end to any ideas the Portuguese government has to bring new auto investment to the region.

“The European Union is becoming less and less competitive for big auto production operations,” Maria Joao Gomes, Deputy Director, International Investment Division of Investimento, Comercio e Turismo Portugal (ICEP), tells Ward's during a recent tour of several auto-related facilities in Portugal. “There is more and more of a trend in the European Union to being less supportive to the auto industry, and that will impact the competitiveness of Portugal. In terms of new investments, I don't foresee very big investment projects (from the auto industry) in the next few years for Europe.”

Gomes says non-EU countries, such as the Czech Republic, Poland and Slovakia, will benefit from the EU's restrictive incentive policies, because they are able to provide lucrative incentives prohibited under EU policies.

That doesn't mean Portugal hasn't made inroads into the auto sector. The country is home to five assembly facilities for companies such as VW, Mitsubishi Trucks, Adam Opel AG, Toyota Motors Europe and PSA Peugeot Citroen, as well as 160 component operations.

Government statistics show that Portugal's automotive industry accounts for €6.3 billion ($6.2 billion) of economic activity on an annual basis or 7% of the country's gross domestic product. Portugal's auto factories produce nearly 245,000 vehicles annually.

The newly elected Social Democratic Portuguese government is looking at ways to make the country's rigid labor laws more business friendly. Currently, Portugal has a law on the books that limits the amount of overtime an employee can work to 200 hours per year or two hours per day. Even with this law, Portuguese workers toil an average of 1,738 hours per year on the job. That's in stark comparison to Germany, where workers put in an average of 1,688 hours on the job annually.

Wage rates also are attractive to investors. The average production technician in Lisbon earns €17,484.82 ($17,176.77) per year, compared to €29,579.26 ($29,054.09) in Frankfurt.

The labor market may be the most beneficial factor in locating operations in Portugal, says Martin Apfel, managing director of Opel Portugal. “We actually have a very high content here of what you would call, in global terms, unskilled labor… but they've picked up things so fast, and they are very apt to learn,” he says.

Portugal's lack of formal skilled trades training, however, makes it difficult for companies like Opel to invest in the latest cutting-edge automation, because there's limited resources at hand to help install and maintain the equipment.

“We have to make a very careful decision when we put automation somewhere because we've got to know before we spend the money for the equipment how we're going to maintain this. I don't want to fly people in from Spain to maintain that at top dollars,” he says.

ICEP's Gomes says the Portuguese government is working to develop training programs better tailored to the manufacturing sector, although it could take many years before the fruits of technical education will be ready to harvest.

Despite the lack of formal skilled education, Opel recently completed an €130 million ($122 million) investment at its Portugal facility in Azambuja, just south of Lisbon. The investment took root over three years ago with the groundbreaking for a new paint shop. Once the paint shop was completed, Opel transformed the facility's body shop and general assembly operations to prepare for production of the Combo Cargo and Tour multi-purpose vehicles.

The Portuguese facility plays an important role in Opel's plans to expand into the European light commercial vehicle sector. “Opel has made a big stride to grow from only passenger cars into the commercial segment. This plant produces one of the pillars of that commercial fleet and that's the role we play,” Apfel says.

Suppliers also are revamping their operations in Portugal. Delphi Corp., for instance, has established a Manufacturing Excellence Center for its wiring harness operations. The center, which coordinates all research and development functions for Delphi's wiring harness businesses throughout Europe, was the first research and development facility established in the country. It's these types of investments the Portuguese government wants to grow.

But storm clouds of uncertainty also are starting to build over the Portuguese auto industry. VW's AutoEuropa facility faces an uncertain future since VW announced it would build its Microbus in Hanover, Germany.

With Ford Motor Co. already confirming plans it will pull out of AutoEuropa in 2005, VW executives must make a quick decision on whether Portugal will remain a part of the auto maker's future.

The plant continues to run significantly below the total installed capacity of 180,000 units. Expectations are for production to reach a mere 125,000 units this year and for the operation to employ 3,660.

A similar cloud of uncertainty rests over Mitsubishi's sole European truck plant, which is located in Tramagal, just 93 miles (150 km) northwest of Lisbon.

The facility currently builds the Canter commercial truck, which is being eyed by Mitsubishi's largest shareholder, DaimlerChrysler AG, to replace the Mercedes-Benz Vario truck. The Vario is likely to be phased out at DC's Dusseldorf, Germany, plant, at which point production volumes would be taken up by the Canter to better utilize Dusseldorf's capacity.

On top of the capacity issues, Portugal has to deal with another fundamental problem facing the industry: the power infrastructure.

Opel's Apfel complains his plant experiences more than 10 power outages a year, causing Opel to lose several hours of production and several more units that are scrapped during an unexpected shutdown of paint shop operations.

“In paint shops, if I have a car in the process and I get an energy outage, I can throw that vehicle away,” he says. “That scrap cost is hundreds of thousands of euros for the auto industry every year.”

In addition to that, AutoEuropa's Sainz says the Portuguese utility raised electricity rates last year by 16%, an increase much higher than the 3.5% anticipated by budget planners.

“It is very bad when we have to explain to Germany that we have the most expensive electricity in Europe,” he says. “In the future, no one will be able to bear this kind of increase.”

The situation is so dire that AutoEuropa is studying ways to bring electricity in from neighboring Spain.

It is such issues that make or break decisions by the global auto industry to commit new investment in brick and mortar in a foreign country. With the EU cracking down on economic incentives, and the industry moving quickly to rationalize global capacity, it is countries such as Portugal that have the most to lose.