Is Trouble Ahead for Auto Industry Stocks?
Is Trouble Ahead for Auto Industry Stocks?
For the auto industry, some dark clouds are starting to appear on the horizon as concerns over several key foreign markets, like Europe, are intensifying. However, domestic sales have been pretty solid and emerging markets continue to have great growth prospects.
Still, even with a strong domestic market, there are plenty of reasons to be careful in the auto industry stock space in the near term. Below, we discuss some of these key reasons and what investors in the auto sector can look forward to seeing in the coming months and years:
Faltering Recovery in Europe
The European market, which had started to show recovery, albeit slow, has started to falter. In fact, the year-over-year increase in registrations in August was the lowest this year. Moreover, sales in Europe’s largest market, Germany, as well as in France and Italy declined.
According to the European Automobile Manufacturer’s Association, car sales in the European Union reached 11.85 million units in 2013, down 1.7% from 2012 and marking the lowest level since 1995. However, in the first 8 months of 2014, passenger car sales increased 6% to 8.3 million units in the region.
A large part of the increase in Europe’s auto sales in recent months can be attributed to high discounts offered by automakers. While Europe has started to recover from the sovereign debt crisis, employment levels and consumer confidence continue to remain weak and economic growth has not stabilized yet, as unemployment is still hovering above the 10.0% mark.
The Euro zone slump continues to impact the operations of many global automakers, especially General Motors and Ford, as they have resorted to job cuts and plant closures in recent years. GM is actually suffering from significant losses in its European business segment and hopes to achieve a break-even level next year. While Ford’s European operations recorded a small profit in the second quarter, the loss in the second half of 2014 is expected to be wider than that of the first half. The company expects to earn profits in 2015.
Low Popularity of Green Cars
Rising fuel prices and global warming have turned attention to cars that either rely less on traditional fossil fuels or use cheaper renewable sources of energy. However, despite the U.S. government’s continued efforts to promote green alternatives such as fuel-efficient electric vehicles (EVs) and hybrid vehicles, prospects for the environment-friendly cars look weak, at least for the near future. High car prices and improving fuel economy of non-hybrid cars are some factors that are hurting the sales of hybrids and EVs.
Globally, the hybrid market is ruled by Toyota (which includes Prius, Avalon, Camry and Highlander) and Honda (including Civic and Insight hybrids). Meanwhile, other automakers such as Ford, General Motors, Tesla, and Nissan are also aggressively trying to drive hybrid sales.
Currently, the U.S. and Japan are the largest hybrid car sellers in the world, while Europe is also emerging as a lucrative market. However, the industry has witnessed some adverse developments in the drive for green technology.
In Jan 2013, the DOE backed off from President Obama’s goal of putting 1 million electric cars on the road by 2015 due to weaker-than-expected demand for plug-ins/EVs. According to Hybridcars.com, plug-in vehicle sales constituted less than 1% of total passenger vehicle sales in the U.S. in 2013, down from 3.3% in 2012.
Frequent Strikes by Labor Unions
Frequent demands for wage hikes and strikes by labor unions are nagging concerns for automakers. The 4-week strike toward the end of 2013 by a labor union in South Africa resulted in significant losses for automobile manufacturers as well as the South African economy with some estimates coming in at a loss of almost 20 billion rand ($2 billion).
This was followed by a four-week long labor strike in the auto components industry. Again in July this year, a strike by 220,000 metal workers in South Africa led to supply chain problems, forcing car makers to rethink their investment strategies for the nation. In fact, in Oct 2013, BMW announced the cancellation of its plans to expand in South Africa as just one example of the shifting sentiment over the nation’s market.
However, South Africa is not the only country where automakers are facing labor problems. General Motors has been facing trouble with labor unions in South Korea. Meanwhile, in Mar 2014, Toyota had to stop production for a few days in two of its Indian assembly plants as demands for wage hike prompted disruption in production and labor unrest.
Market Share Concentration
Market share concentration makes the automobile sector highly competitive. The top 10 global automakers account for nearly 81% of the total vehicles sold, according to marketrealist.com.
Although automakers continue to focus on shifting their production facilities to new regions driven by cost and demand factors, developing a supplier network in these unfamiliar regions remains one of their greatest challenges, especially when existing suppliers lack the financial strength to expand capacity in new markets.
Moreover, high dependence on automakers makes auto market suppliers vulnerable to pricing pressure and production cuts. Pricing pressure from automakers constricts margins of parts suppliers. Simultaneously, frequent production cuts by automakers, driven by market adjustments, affect suppliers’ operations.
Auto industry suppliers that are highly dependent on a few automakers major automakers include Meritor Inc. (MTOR), Tenneco Inc. (TEN) and TRW Automotive Holdings Corp. (TRW) just to name a few, though the full list can be seen in this auto supplier page.
Record High Safety Recalls
Safety recalls and related costs have become a big problem for many major automakers in recent years. In 2013, automakers recalled 22 million vehicles in 632 recalls. These figures have already been surpassed by a huge margin this year as auto manufacturers have recalled nearly 46 million vehicles, a new record high, while multiple recalls are still being announced almost every week.
This year, General Motors is facing a hard time due to safety issues in its cars. The automaker is bearing the brunt of a delay in recalling vehicles with defective ignition switches. General Motors agreed to pay a fine of $35 million (the current maximum fine) to the U.S. safety regulators for the late recall, while it has also decided to compensate victims’ families for 21 death claims associated with the ignition switch defect,
In the wake of the problems arising from this delayed recall, the company has become extra cautious and has announced a series of recalls to avoid further issues. General Motors recalled more than 29.1 million vehicles in 65 recalls till this August and recorded a $2.5 billion charge for recall-related repairs in the first half of 2014.
Another big victim of this problem is Toyota, which recalled the highest number of vehicles (about 5.3 million) in both 2012 and 2013. Meanwhile, Chrysler led in terms of number of recalls, with a total of 36 recalls announced in 2013.
While Toyota has had its problems in the past, these have seemingly continued this year as well, as in Mar 2014, Toyota agreed to pay $1.2 billion to the U.S. Attorney’s Office for the Southern District of New York in relation to the criminal charges for problems in accelerator pedals and floor mats of its cars, which led to sudden acceleration and even crashes. This is the highest penalty imposed on any automaker.
Moreover, in Apr 2014, Toyota announced its second largest recall of 6.36 million vehicles globally. For 5 different issues, 27 Toyota models were recalled and some of the cars were recalled for multiple issues. If we double the count of such vehicles, the total number of recall increases to 6.76 million.
Following Toyota, recalls by other automakers such as Chrysler, Ford, General Motors, Honda, Volkswagen and Nissan grabbed attention. Volkswagen’s recall of 2.64 million vehicles in Nov 2013 is also among the larger global recalls.
Bottom Line
As you can see, there are plenty of reasons to be pessimistic about the auto industry. But what about investing in the space right now, are there opportunities for short term investors?
Check out our latest Auto Industry Outlook here for more on the current state of affairs in this market from an earnings perspective, and how the trend is looking for this important sector of the economy now.
Want the latest recommendations from Zacks Investment Research? Today, you can download 7 Best Stocks for the Next 30 Days. Click to get this free report >>
FORD MOTOR CO (F): Free Stock Analysis Report
GENERAL MOTORS (GM): Free Stock Analysis Report
HONDA MOTOR (HMC): Free Stock Analysis Report
MERITOR INC (MTOR): Free Stock Analysis Report
TENNECO INC (TEN): Free Stock Analysis Report
TOYOTA MOTOR CP (TM): Free Stock Analysis Report
TRW AUTOMTV HLD (TRW): Free Stock Analysis Report
Zacks Investment Research
