Main Causes of the US Automobile Industry Crisis Essay

Recent happenings in the US automobile industry point to an industry that is steeped in a crisis of monumental proportions, one that it has never had the misfortune of staring at since the advent of the automobile as we know it today. Sales at the Big Three motor companies (Ford, GM, and Chrysler) have touched historic lows, not only pushing industry profitability levels down with them, but also triggering off a rare spectacle characterised by all the largest American carmakers bleeding in red ink.

Writing for one of the premier automotive media, Krebbs and Visnic (2009) adduce data fresh from the oven that point to as much.

According to Krebbs and Visnic (2009), the American industry posted the lowest levels of sales in sixteen years in the year just past. While GM witnessed a drop in sales of 23%, Ford saw its sales revenues shrink by a massive 20%, and Chrysler posted sales that were 30% lower than the previous year. Other automakers in the country such as Hyundai, Toyota, and Nissan did not fare any better.

On average, the industry shed off some 3 million units in lost sales, which translates into a contraction of 18%.

With such massive declines in sales, the Big Three have become deeply steeped in debt, and are staring bankruptcy right in the face in spite of the massive bailout packages tailored for the industry by the Obama administration. As a matter of fact, GM (which is the largest of the Big Three) and Chrysler have already filed for Chapter 11 bankruptcy protection. As the Wall Street Journal (2009, p.A1) points out, GM went under in June under a massive debt of $172 billion (against assets of only $82 billion) in what has been described as the second largest industrial bankruptcy filing in the US. After 84 years, the icon of American industry had its name struck off the Dow Jones, hot in the heels of Chrysler which had filed for bankruptcy just months earlier.

It is not just dwindling sales and profitability that have afflicted the three largest American carmakers, they have also been steadily losing market shares and particularly to their more fleet-footed Asian rivals who include Toyota, Nissan Honda, and Hyundai. For example, GM, Chrysler and Ford had market shares of 23.8%, 12.9% and 15.5% respectively in 2007, which fell to 22.6%, 11% and 15.1% respectively in 2008.

In contrast, the market shares of Honda, Nissan and Toyota increased from 9.7%, 6.6% and 16.3% respectively to 10.8%, 7.2% and 16.8% respectively over the same period. This is an indication that the US carmakers are losing out to other foreign carmakers (Krebbs and Visnic, 2009).

Various factors have been cited as being behind the poor performance of the US automobile industry, but there are three main reasons that stand out. These include the meltdown in the US economy that was largely triggered off by the sub prime mortgage crisis, the failure by American carmakers to respond adaptively to the dictates of the external environment, and a poor business model characterized by factors such as huge legacy costs.

Economic meltdown:
One of the major causes of the declining fortunes of the US auto industry is the meltdown of the US economy which is mainly attributed to the sub prime mortgage crisis. The sub prime mortgage crisis occurred when banks and other financial institutions made out loans for the purchase of homes to a segment of the market that is considered risky due to its poor credit history and low ability to repay given their low income levels (this segment of the market is what is referred to as the sub prime segment).

These loans were made out at the height of the boom in the real estate industry with expectations being that the boom in the industry would continue and that the buyers of the homes given the mortgages would be able to refinance their homes and pay back the loans. With the unexpected and sudden burst of the real estate bubble however, the sub prime borrowers were unable to refinance their homes due to plummeting values of real estate, leading to huge defaults that triggered off massive foreclosures never before witnessed in US history (Zeese, 2008; Rasmus, 2008).

This caused banks and financial institutions to write off billions of dollars in bad debts, leading to a huge liquidity crisis and credit crunch that hit the economy and caused the current recessionary conditions being witnessed in the US and in much of the world. It also brought about a sharp and dramatic spike in unemployment rates which have affected demand for cars.

The economic crisis has had the effect of drying up credit, which has made many potential car buyers unable to access car loans, a factor that has in turn triggered a massive decline in the demand for cars. Additionally, car makers have been unable to access debt finance for investment and working capital requirements, which has also impacted them negatively (Zeese, 2008; Rasmus, 2008; Borade, 2009).

Failure to adapt to the external environment:

Firms operate in an external environment in which its operations are affected either positively or negatively by political-legal, economic, socio-cultural, and technological forces. The role of the company therefore is to scan the external environment for opportunities or threats which these forces may present, and to implement strategies that will help the organization to either capitalize on the opportunities or avoid the threats (Saloner, Shepard, and Podolny, 2008). The troubles afflicting the US automobile stem in part on the failure of the US carmakers to assess changes in their external environment and to respond adaptively.

Over much of 2008, oil prices soared at one tine time touching all-time highs of $147 per barrel. The rise in oil prices triggered a corresponding rise in gasoline prices (to a high of $4 a gallon), which pushed the commodity out of reach for many Americans, and especially those with large fuel guzzling vehicles such as trucks (e.g. GM’s hugely popular Hummer) (Krebbs and Visnic, 2009; Zeese, 2008).

Concomitant with the rise in the price of oil and gasoline has been an increasing consciousness towards the need for environmental protection, which has caused the rising popularity of cars that have higher fuel efficiency. These two factors contributed a great deal in shifting consumers’ tastes and preferences away from large fuel-guzzling cars such as trucks towards smaller more fuel efficient models. Unlike Asian car makers which recognized these trends and moved towards the manufacture of small models and green vehicles, all the Big Three firms continues producing large fuel guzzling cars such as SUV’s (Zeese, 2008).

The result of this is that SUV and truck sales plummeted, hitting hard the revenues and bottom lines of the American firms, as consumers shifted their purchases to the smaller models manufactured by the Asian carmakers. Krebbs and Visnic (2009) write that as a result of these trends, car sales surpassed those of trucks in 2008, the first time that has ever happened since 2000. An example of  how hard SUV and large vehicle sales were affected as a result of these trends is given by the case of GM and its Hummer brand, which Hummer, which “suffered the biggest decline of all GM’s brands with sales plummeting 51 percent — its lowest sales level since 2002” (Krebbs and Visnic, 2009, p.2).

Poor business model:
The third factor that has contributed to the dramatic decline of the US auto industry’s fortunes is the fact that the industry has a poor business model. The US automobile industry is unique among all car industries worldwide due to the fact that it is saddled with huge and unbearable healthcare costs which produces one of the highest cost structures that makes American made cars uncompetitive against Asian made cars, for example (Zeese, 2008).

According to Zeese (2008), failure by successive US administrations to reform the country’s healthcare system has resulted in car manufacturers paying healthcare costs for their employees to the tune of billions of dollars. Zeese (2008, p.1) writes that “It would not be unfair to describe General Motors as a health insurance provider who happens to make cars. GM spends $5 billion annually on health care for 1.2 million people – only 150,000 of whom work for the company. GM, Ford and Chrysler have a combined unfunded retiree health care obligation of more than $90 billion. Health care adds $1,500 to the cost of each vehicle.”

With the American carmakers saddled by such huge costs, it is little wonder that their products are uncompetitive when compared to cars made by foreign manufacturers such as Toyota (which has one of the most admired lean manufacturing systems that keeps costs very low).

Conclusion:
The US automobile industry is in a big crisis. Other than declining sales and profitability, the industry is losing out to foreign car makers and particularly Asian rivals such as Toyota, Honda and Nissan. This has been brought about by three main reasons, which include the meltdown in the US economy triggered off by the sub prime mortgage crisis, a poor business model adopted by the industry, and failure by the US car industry to respond adaptively to changing environmental conditions.

References:

Borade, G. 2009. US economic crisis: impact on automobile industry. Retrieved on 11 July 2009 from http://www.buzzle.com/articles/us-economic-crisis-impact-on-automobile-industry.html

King, N and Terlep, S. 2009, June 2. “GM Collapses into Government’s Arms.” Wall Street Journal. Retrieved on 11 July 2009 from  http://online.wsj.com/article/SB124385428627671889.html