Our analysis suggests that the current version (v1.0) of Mobility on Demand (MOD) is more concentrated than investors think—8 cities account for more than 50% of all US revenue. Expanding beyond these areas requires the cost of MOD to become much more competitive (with private vehicle ownership) than it is today. We illustrate how difficult this will be… at least under the current, human operated model.
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U.S. sales have gotten off to a slow start—with 16.6 MM SAARs in both Jan and Feb (Note: 2018 was 17.2 MM). While this is consistent with our forecast (16.7 MM SAAR for this year), this prompted a flurry of calls regarding the state of industry inventories (which ended Feb at 77 days, 7% above “normal”), and potential risks to production (impacting OEMs/suppliers) and/or pricing (incentives from OEMs). We revisited our production assumptions and concluded that inventories can easily be brought back in-line with historical levels based on a normal seasonal uptick in sales, and very modest (100k) adjustments to production.
In April 2015 Fiat Chrysler’s then CEO Sergio Marchionne surprised the Street with an impromptu presentation calling for Auto Industry consolidation. The presentation focused on 2 points: 1) The Auto Industry had not earned its cost of capital over a cycle, and; 2) Consolidation is the key to remedying the problem. At the time Marchionne argued that achieving greater scale and eliminating duplicative investment could have meaningful benefits. Clearly, this call did not pan out.
We expect the US Dept of Commerce to release a report this weekend asserting that automotive-related imports are a national security threat, thus authorizing the Executive branch to enact tariffs without Congressional approval under the Section 232 statute. We think actual tariff enaction is unlikely given widespread opposition from U.S. constituencies (Auto Dealers are politically powerful; even the UAW has not offered its endorsement). Nevertheless, general uncertainty during the 90-day post-report evaluation period could have stock implications: Slightly negative for U.S. Suppliers, negative for U.S. Dealers and Aftermarket Retailers, negative for non-U.S. OEMs, and neutral for U.S. OEMs.
Fiat Chrysler’s 4Q and 2019 outlook underscored this company’s challenges. 4Q NA margins fell short of expectations (margin of 8.7% vs. expectations of 10%+) in part because net price/mix was overwhelmed by industrial cost inflation. And the outlook for 2019 was also disappointing… Free Cash Flow was projected at >€1.5 bn in 2019, down from €4.4 bn in 2018, largely due to significantly higher capex (up €3 bn vs 2018).
Most major U. S. OEMs and Suppliers will provide 2019 guidance in mid- to late-January… at our Detroit Auto Show Conference (Jan 15-16), or when they deliver Q4 earnings late January/early February. Management teams are pulling these forecasts together now. And they are doing so amid an unusually large number of market uncertainties (i.e. China, Europe, and NA production; company specific concerns for Ford (China, UK), JLR (China, UK), GM (discontinuing models), and local Chinese OEMs (declining at a double-digit rate in their domestic market). Based on our discussions with Industry Management teams we suspect that most will incorporate an extra dose of conservatism into their 2019 Guides. We are fine-tuning our estimates for Lear, Visteon, and Autoliv as we intend to take the same tack (e.g. today, we are fine-tuning our 2019 net new business backlog estimates, initially provided in early 2018, to reflect updated market and FX assumptions). See pages 3-6 for more details.
The current auto sales run rate in China, if sustained, would imply a 10% sales/production decline in 2019. Europe won’t be easy either, as production headwinds spill into 1H19. The U.S. has been relatively strong, but we remain concerned about affordability headwinds. Given these uncertainties, we question why OEM/Supplier margin expectations are up from 2nd half 2018 levels.
Late Sunday night (12/02/18), President Trump tweeted that China had agreed to reduce the tariff on vehicles produced in the U.S. and exported to China (China had increased this tariff from 15% to 40% in August). In addition, the U.S. will refrain from ratcheting up tariffs (would have gone from 10% to 25%) on $10.4 bn of Chinese made Auto Parts that are imported to the U.S. Although we have no detail as of yet, and these actions are contingent on the U.S. and China making progress towards a permanent trade agreement over the next 90 days, this development could have meaningful positive implications for U.S. Automakers and Suppliers:
Fiat Chrysler posted an in-line quarter Tuesday morning (10/30/18), with adjusted EBIT of €1.955 vs. WRe €1.933 bn. Once again, the results were exceptionally strong in North America (€1.937 bn/10.2% margin—this is where all of the money is made), but weak in APAC (losses), EMEA (losses), and Maserati (very slight profit). 2018 EBIT guidance was maintained at €7.5-8.0 bn (exp. low end), but free cash flow guidance came down (now €3.8 bn due to a drag from working capital and a pension contribution, offset by deferral of capex).
Bloomberg reported overnight that China’s National Development and Reform Commission is considering reducing the Vehicle Purchase Tax to 5% from 10% on vehicles with <1.6 liter engines (approx. 70% of market). While we don’t believe China’s Central Government wants to do this (as we’ve noted before, we believe automaker consolidation is desired and broad-based stimulus helps the entire market), the consumer may have painted the government into a corner with September retail sales down 13% and first 3 weeks October down 25%. Today’s story probably makes consumers even more reluctant to buy in front of a tax cut, adding more pressure to act; therefore we believe the stimulus is likely to happen.
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