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1. Changes in Supply and demand

What effect will each of the following have on the demand for small automobiles such as the Mini Cooper and Smart car? Include the determinant of demand in your answer.

The determinants of demands are Change in buyer tastes, change in the number of buyers, change in income, change in the prices of related goods, change in consumer expectations

a. Income declines and small autos are an inferior good

b. Consumers anticipate the price of small autos will greatly come down in the near future.

c. The price of gasoline substantially drops.

Can anyone help me? Thank you

a. demand would increase (change in income; the demand for an inferior product would increase as income decreases)

b. demand would decrease (change in consumer expectations, consumers would decrease demand now in order to purchase later at a lower price)

c. demand would decrease (change in the price of a related good/change in taste; demand for larger automobiles would increase, consumers would purchase fewer smaller automobiles as a result

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Automobile industry : Disruptive technologies are the need of the hour !

Automobile industry : Disruptive technologies are the need of the hour !

 

                                           SUNIL KEWALRAMANI                  April 28, 2009

 

 

Hearing the new, more aggressive restructuring plan offered by General Motors reminds one of the scenario for mankind jokingly foreseen by Woody Allen. “One path leads to despair and utter hopelessness. The other, to total extinction. Let us hope we have the wisdom to choose correctly.” If – and it is a big if – the plan is accepted by debtholders, they will be taking a disproportionate hit compared with other principals. Only shareholders will fare worse – although unbelievably GM’s shares soared 20 per cent.

Under the plan, the union-run healthcare trust would exchange half the cash owed to it for shares, making it a substantial shareholder in a restructured enterprise. GM’s scheme also assumes another $11.6bn in cash from the Treasury. In addition to the $15.4bn of loans received, part of this would be retired in exchange for half the carmaker’s equity. These two steps would give unions and Treasury about 89 per cent of the company, even before private debtholders are taken into account. GM envisions some $27.2bn of that debt being converted to equity, giving holders another 10 per cent of the company.

Whatever happens, shareholders will be either wiped out or nearly so. Even a minimal recovery depends on debt-holders taking a bigger financial hit than the union. Assuming unsecured lenders accept, the restructuring plan would create a much less indebted but also far smaller GM with about 40,000, or a third fewer, US workers, and four core brands with a little over half today’s number of dealerships. This makes sense, as do shedding Pontiac and plans to axe Saturn and Hummer. Someone has to pay. More government cash may be needed to avoid Chapter 11. A bankruptcy restructuring may be messier and less pleasant for dealers, workers and suppliers – but more equitable

Detroit Three have their back against the wall

The market capitalisation of General Motors is now below that of Mattel, the maker of Match-box toy cars.  Once industry leader, GM, now finds Toyota’s market value, at $ 145 Billion, now 25 times greater than GM. 

As a poor strategy, the Detroit Three focused on high-margin gas-guzzling sports-utility vehicles and pick-up trucks, which have now lost charm as oil prices have ventured, however temporarily, into unchartered territory. The Three also failed to control labour costs and have not built flexible assembly lines. As a desperate move, Ford has sold its flagship brands Jaguar and Land Rover to the TATAS.  Credit is the automobile industry’s lifeblood and today, the drying up of credit has hit carmakers’ financing arms such as General Motors’ GMAC and Ford Credit hard.   Detroit’s producers are seeking to tap into federal bail-out funds for their financial arms, alongside a $ 25 Billion low-cost credit line to retool old factories.

 

Germany’s Big 3 also face significant  headwinds; devise counter-strategy :

Volkswagen, Daimler and BMW have acquired a reputation for offering cars with cutting-edge technology.  They are however heavy gas-guzzlers and heavy emitters of carbon dioxide. The trio have now decided to launch electric cars, to desist demand destruction due to high oil prices impacting revenues.  Daimler plans to offer Mercedes-Benz S400 hybrid in 2009. However, the luxury sedan will be out of reach but for the more affluent.

 

Europe too catches the slowdown flu :

Sales in the European union HAVE fall 8.3 % compared with last year. Italy was down 20 %, Spain by 31 % and Ireland 49 %. The Italian group Fiat is to stop production at most of its domestic factories in late 2008 for 3 weeks with hundreds of workers laid off temporarily.  Renault is already cutting 6000 jobs round Europe and Peugeot is cutting fourth-quarter production by at least 20 per cent in France.

 

China’s automobile industry too hits a slippery path :

After stunningly rapid growth in the domestic car market—34 per cent in 2006 and 24 per cent in 2007, year-to-year passenger car sales rose an anemic 14 % in the six months to June 2008.  Possible reasons include the almost 70 % decline in Shanghai’s stock market since its peak in 2007, reducing car buyers’ disposable income. Tight government monetary policy has meant fewer purchases of high-end business vehicles.  According to auto consultancy JD Power, China “could be on the brink of a significant pause in demand growth”.  Only the government’s $ 600 Billion stimulus packaged has saved the scene in 2009, and somewhat restored in China’s automobile market. With the world economic outlook still uncertain, it may be quite some time before the third largest world economy returns to more solid growth.

 

Although fuel prices are subsidized in China, sometime back China did hike fuel prices to reflect market reality but this had only a marginal impact on sales : for the average consumer, it added only Rmb100 ($ 15) to monthly operating expense. This, when weighed against the Rmb150,000 average cost of mid-sized vehicle, was not termed demand-destructive in China.  Yet, faltering world economic growth is beginning to hit hard as China is essentially an export-driven economy. This, coupled with uncertainty over whether oil prices will remain at the levels they are at present, could cause some buyers of sub-compacts to defer purchases and compel consumers to look for more fuel-efficient cars.

 

French car market is turbo-charged by cheaper, cleaner cars :

Renault and its French rival Peugeot-Citroen, assisted by government incentives to produce cheaper, cleaner cars, have already started utilizing government incentives to turbo-charge their offerings.  The ‘bonus-malus’ tax system introduced by the French government under President has stimulated purchase of small cars.

 

The Japanese Four got their strategy right

Honda, Toyota, Nissan and Hyundai steadily captured the bulk of the market in compact cars and SUVs, known as crossovers.  Nissan plans to launch an electric car powered by a lithium-ion battery in Japan and the US in 2010.  Mitsubishi is offering MiEV, its version of the electric car, in Japan by 2009.  Nissan believes that the batteries it is developing with NEC will give its car a range of 160km and be 80 per cent rechargeable in 20 minutes. The range could increase to 300km or so within a few years.

 

In her book ‘The End of Detroit’, Micheline Maynard observes that “with their efficient development methods, their focus on manufacturing and most important, experienced engineers in critical management jobs, the foreign companies never forgot that they were in business to develop top-quality cars and trucks that appealed to customers, as opposed to rental-car models and government fleets”.

 

Toyota’s Prius charges ahead

The Toyota Prius, a petrol-electric hybrid vehicle, finds demand far in excess of what it can supply. The delivery time is anywhere between 6 weeks and four months, indicating that Toyota has stuck the right chord with its customers.  Toyota could foresee consumers’ long-term falling out with fossil fuels, and as the pioneer, had sold its first Prius in 1997.

 

Every battery in a Toyota hybrid is made at a factory in Shizuoka, Japan, by Panasonic EV Energy, a joint venture between Toyota and Matsushita Electric, holding company of Panasonic. The factory has an annual capacity of 500,000 nickel metal hydride battery packs a year, acting as a natural ceiling.  Honda has sold 52000 units of its singly hybrid model, a Civic sedan, in 2007 and plans to offer a new hybrid-only five-door that will have an initial annual sales target of 200,000 units, gradually extending upto 500,000 units by 2010.

 

Honda first car-maker to offer hydrogen-powered car FCX Clarity :

FCX Clarity of Honda is the first hydrogen-powered car whose only exhaust pipe emission is water.

 

General Motors to build world’s largest rooftop solar power station in Spain

Its Zaragoza factory in Spain, which produces about 500,000 cars a year, will be covered by 183,000 square metres of solar panels.

 

   Chevrolet Cobalt and Pontiac G5 to General Motor’s  rescue

   At a time when General Motors is trimming capacity and chopping jobs across North America, Lordstown, Ohio is set to hire 1400 workers for a third shift. The plant owes its good fortune to building the sporty, fuel-efficient Chevrolet Cobalt and Pontiac G5 cars.  While demand for big sports-utility vehicles and pick-up trucks are on the decline, Cobalt sales jumped by 18 per cent in the first five months of 2008.

 

GM collaborating with dozens of utilities for its Chevrolet Volt and Saturn Vue electric cars

  Both industries have a lot riding on the success of plug-in cars that will run largely on electricity, with gasoline or other fuels filling a supplementary role. It is collaborating with utility majors American Electric Power Co., Austin Energy, Consolidated Edison Inc., Dominion Resources Inc., Duke Energy Corp., DTE Energy Co., Edison International, New York Power Authority, PG&E Corp., Progress Energy Inc., and Public Service Enterprise Group Inc. The Chevy Volt is designed to run at full speed for at least 40 miles solely on lithium-ion batteries. Auto makers need the cooperation of utilities since they control the new technology’s primary fuel—electricity—and must make sure that the vehicles’ recharging processes must mesh with the electricity grid and don’t inadvertently undermine grid reliability.  Intelligent embedded software will ensure recharge at most optimal time and price.

 

The ‘Jatropha’ Factor :

Gujarat-based Central Salt and Marine Chemicals Research Institute (CSMCRI) is assisting Daimler Chrysler, M&M and GM in using Jatropha as an alternative fuel in their futuristic engines. Diamler’s Jatropha plantations across Gujarat and Orissa are already in their fourth year.  GM on the other hand has made a first-phase investment of $ 0.5 Million to get biodiesel derived from Jatropha tested in six of its vehicles at CSMCRI’s facility at Bhavnagar in Gujarat, India.

 

BMW and Fiat enter into  strategic alliance :

The two are exploring links between Alfa Romeo and the Mini small car brand. BMW already has an engine agreement with France’s PSA Peugeot-Citroen. Fiat has as many as 29 alliances with competitors to reduce R&D costs. After Fiat withdrew Alfa Romeo from the US in 1995, BMW would help reintroduce it.

Alliances are a significant cornerstone of strategies of most car companies today.  BMW and arch-rival Daimler are jointly cooperating with General Motors on hybrids to further their joint interests.

 

India’s rise as the ‘small car hub’ of the world

  Small cars account for 71 % of Indian car market; the corresponding figure in China is 33 %. In September 2008, Maruti’s export sales rose significantly to 6318 units from 4362 units in last year.  Cumulative exports grew 25% to 30,235 vehicles from 24,236 vehicles for the period April-September 2007.  Maruti currently exports Alto, M800, Omni, Wagon R and Zen Estilo to non-European markets such as Chile, UAE, Algeria and East Africa. The year-end launch of its new compact ‘A-Star’ should provide further fillip.  Nissan plans to buy 50,000 A-Star compact cars from Maruti and export to markets in Europe. Bajaj Auto’s exports grew 43 % to 68,572 units in September 2008 as compared to 48,048 units in September 2007.    Hyundai, aided by high demand for its new i10 compact,  continued to be the leader with export kitty swelling from 9508 units in September 2007 to 23911 units in September 2008.  Hyundai exports 40 % of its small car production in India; ‘Santro’ is sold as ‘Atos’ in 97 countries.  TVS Motor reported 40 % growth in exports at 13036 units during September 2008, as compared to 18229 units in the same month last year. 

 

Car penetration in China and India low compared to Developed nations

The car penetration rate in USA is 600 cars every 1000 people.  In Europe, it is 300 cars every 1000 people (since the public transportation infrastructure is more efficient than in the USA). In China and India, it is about 30 cars every 1000 people.  Thus, as these economies grow rapidly, there will be greater demand for cars to ensure mobility.

 

Hyundai’s i10 and Santro are quick to react to the need of the hour :

Launched to challenge other cars in the market, such as Maruti Wagon R, Zen Estillo, Tata Indica and Chevrolet Spark, the two models of Hyundai—i10 and Santro have enabled Hyundai to clock 39 % growth in sales in the domestic passenger car segment over the period April-June 2008.  The i10 model might further affect Maruti and Tata sales as Hyundai has launched its compressed natural gas (CNG) variant and launced the liquefied petroleum gas (LPG) variant in end-2008.  Recently, in tune with changing times, Hyundai launched a new version of the i10 powered by a 1.2 litre Kappa engine whose double overhead camshaft would enable the engine to run at higher speeds. The Kappa engine is being manufactured at Hyundai’s engine and transmission plant in Sriperumbudur and its remarkable fuel-efficiency will significantly raise the bar in the segment.

 

65 % of Maruti Suzuki’s Swift and Dzire are diesel variants :

The growing trend towards diesel is forcing Maruti to launch diesel and petrol variant of Splash hatchback.  Whereas more than 75 % of Tata Motors’ Indica and Indigo sell the diesel versions, more than 65 % of Hyundai’s Verna and Sonata’s sales comes from the diesel counterpart.  Also on the diesel track are  Mahindra’s Logan and GM’s Optra.

 

M&M to speed up e-vehicles, launches CNG variant of Bolero :

M&M plans to launch an array of alternative fuel variants including CNG and hybrid versions of its flagship SUV Scorpio and that of its one tonner pick-up vehicle Bolero.

 

Tata Nano to crank out 30 % more fuel-efficient CRDi diesel engine :

Tata Nano will sport the world’s first 800 cc, turbo charged CRDi diesel engine. The small diesel engine will have fuel injection systems developed by Bosch.  Rest of the diesel engine platform will be developed by Tata Motors and German powertrain maker FEV.  Tata Nano will be the world’s first 800 cc, turbo charged, CRDi diesel engine.  While Bosch is working on the CRDi system for the Nano, Honeywell Turbo India is working on the turbo charger, thus providing a unique fuel-efficient buying proposition.  The 1.3 liter Fiat multijet CRDi engine that Suzuki has used on its Swift is the smallest diesel engine in India thus far.

Tata Nano is beefing up the low-cost car with fitments such as air bags, better designed interiors and engine options to make the Nano export-quality. Tata Nano’s unique fuel-efficient engine and ‘bottom-of-the-pyramid’ pricing of $ 2200 makes it a unique customer-centric proposition and a disruptive technology which when replicated across engine classes, has the capability to transform the way we move, the way we go to work, and basically the way we live our lives.  After making its mark on the domestic scene, Tata Nano has its eyes on the world small car market.  Tata Motors, which plans to deliver its first electric car by the end of this fiscal, has tested Indica platform for the vehicle.  The company is working on five prototypes of electric vehicles.

During September 2008, Tata Motors has launched three new fully loaded variants on its popular Tata Indigo CS range.  The new variants are the petrol GLX model and two diesel LX models—in the Turbo-charged diesel with intercooler and direct injection common rail engine options. Bajaj launched the new Platina 125 cc with the Digital Twin Spark-Swirl Induction or DTS-Si engine during September 2008.  TVS Motor broadened the horizons of its TVS Scooty with the launch of Balancing Wheels, a unique and innovative product that can be effectively fitted on to the Scooty. This indicates how automobile manufacturers are resorting to disruptive innovations to keep their revenue stream flowing.

 

The car industry is leanly managed with high fixed costs and relatively less flab.  This is the sign of the industry’s competitiveness since carmakers have steadily improved their vehicles’ quality in recent years while barely increasing their prices.  For example, despite large improvements in performance, Porsche’s flagship 911 model has been priced virtually the same in real terms since 1992, according to EurotaxGlass, the publisher of Glass’s Guide, the UK car buyer’s handbook. 

 

Disruptive technologies possible in China and India

Most of the developed nations have their past legacy.  They also have their interests and resources to protect.  For example, most have inflexible assembly lines and labour contracts which they cannot terminate except at a steep cost. Thus, they keep defending their gas-guzzling vehicles, and are not customer-centric.

 

On the other hand, China and India, have the advantage of being in virgin territory with not much of past legacy to haunt them.  They have the advantage of being able to experiment with disruptive technologies, especially in an era of high crude prices.

 

Amazingly, unlike the developed nations, most of the focus in China and India is on the high input costs, high interest rates and falling demand.  Commodity prices and interest rates have begun to retreat of late.  Yet, there is little appreciation of how disruptive technologies can bring about a revolution in the way we travel to work and do things.

 

The real disruptive innovations are more likely to take place in Silicon Valley, Bangalore and Chennai rather than in Detroit where car-makers have their legacies and interests to nourish and defend.  High oil prices, although temporarily acted as a dampener for the automobile industry, has come as a blessing in disguise for India in its endeavors to become the “small car hub of the world”.  While the rest of the automobile world is scaling down capacities, Hyundai, for example, has started in India third shift operations in mid-September 2008 as compared to the originally planned October 2008 to meet soaring demand for i10 in domestic as well as overseas markets.  The rest of the world has already benefited by bringing out fuel-efficient innovations to transform the landscape of the world automobile industry.

 

Thus, disruptive technologies seem to be the need of the hour.  Supply-side management rather than overly focusing on the demand side, seem to be the key factors that will reverse the gloom that has descended on the world automobile industry and usher in an era of growth and prosperity in the commuting world.

 

 

Sunil Kewalramani is a Wharton Business School MBA and CEO, Global Capital Advisors. 

About the Author

Mr Sunil Kewalramani is a Wharton Business School MBA, a CPA, CA and a leading consultant for multinational companies on global asset management, strategic planning and cross-border mergers and acquisitions