Marchionne’s uncomfortable truths

FCA's Sergio Marchionne thinks the car industry is slowing destroying itself. Is he right?

A couple of months ago, Fiat Chrysler boss Sergio Marchionne unveiled a presentation to analysts that made for uncomfortable reading.

The short version was that the automotive industry was living - and investing - in cloud cuckoo land. In fact, at the end of the presentation was a drawing from the ‘Alice in Wonderland’ fairy tale.

Pictures from children’s books are extremely rare in financial presentations, but its inclusion was designed to press home just how far from reality, in Marchionne’s opinion, the current business model of the automotive industry has become.

Sergio Marchionne might like to play on being the auto industry’s outsider, but his takeover of Chrysler and creation of FCA is the hugely impressive result of his ability to pull off a deal and a turnaround that would have escaped virtually all other auto bosses.

News: Fiat boss calls for widespread component sharing

With this presentation - titled ‘Confessions of a Capital Junkie’ - Marchionne decided to give the car industry both barrels. He said that industry was slowly destroying itself with massive product development costs. Indeed, he claimed that car companies are, on average, spending their entire market value on product development every four years.

Trouble is, the result of these big investments are not translating into decent profit margins. The presentation compared the average profit margins of auto makers with industries raging from oil and gas production, to packing, aerospace and retailing.

You’ve already guessed that automotive sits squarely at the bottom of the pile, with margins averaging 7.8 percent, which is behind the tricky oil and gas industry (10 percent) and pharmaceuticals (19 percent).

Why? Marchionne says it’s because car makers are spending vast amounts engineering and tooling up for the same components and sub-assemblies. The engine strategies of nine automotive manufacturers were compared in the report and four of them, it claimed, had 90 percent commonality across their engine line ups.

The report also says that the ‘top’ car makers spent a massive £733m in a year on product development and tooling. There’s no sense in this massive and hugely costly duplication of effort, according to Marchionne. And, it’s hard to argue with him.

Can buyers really tell the difference between rival three-cylinder turbo petrol engines or mainstream platforms, which have the same technical layout and very similar dimensions?

In Marchionne’s brave new world, the answer to this is a massive mergers across the various brands. The way he sees it, this could be achieved without significant loss of employment and without the merging of dealer networks.

For mainstream car makers - which are being pushed into producing very similar products through legislation and customer tastes - the question has to be why not merge operations?

A few weeks after the presentation, and having crunched the numbers and examined the industrial capacity in detail, Marchionne says that the ideal mega-merger is between FCA and General Motors. In true Romeo and Juliet style, Marchionne is now publicly serenading GM.

GM’s response has been a bemused refusal to engage its suitor.

While surely Marchionne is right, the auto industry is run - mostly - by engineers. They want to do things their way. If mainstream cars became mechanical clones, differentiated sole by the exterior and interior, car making could become a soulless exercise in cynical brand management .

But car companies are a little like football teams: they have long histories and characters of their own. Merging the brands that live within FCA and GM would be a little bit like trying to merge rival British football teams and expecting the players, management and fans to get along nicely.

There’s no logic to the way the car industry spends money on research and development, but Marchionne’s dream of a logical, rational joined-up international car industry will probably remain a fairytale itself.

Source: Autocar RSS Feed http://bit.ly/1N4RN6x