Looming Consolidations — Automotive Sector
Stellantis CEO, Carlos Tavares recently made a wild claim that in 10 years there will only be 5 automakers. A lot of current players will not survive the unfolding competitive environment. A new wave of consolidations, forced by the transition to EVs, will slash the number of auto manufacturers. He said, boldly, that Stellantis would be among the last 5, though his company is not currently looking for mergers.
The auto sector is ripe and ready for consolidation.
In October 2023, both Ford and GM said they are now pushing back spending on EV production, citing slowing demand. This strategic decision is informed by the demand curve, costs, and the current state of the companies in the EV race. Of course, it is a strategic mistake, but one that nonetheless passes the reasonable man’s test.
These two (Ford & GM) are faced with circumstances that will eventually push them toward consolidation.
In 2011, Elon Musk was laughing out loud at the Warren Buffet-backed BYD, because of how poor their electric vehicle was. He did not consider BYD as serious competition. “have you seen their car”, laugh laugh laugh.
Fast forward to 2024, Elon Musk says the Chinese automakers are so competitive (making good cars for low prices) that without trade restrictions they will demolish rivals across the world. He is basically calling for protection measures in North America.
In China, early 2024, BYD started shipping the BYD Yuan crossover SUV with a price of 100,000 yuan (roughly USD14,000). This is a pure price play. The ultimate weapon for fighting a price war.
At this price, they can demolish competitors. BYD in 2024 is on pace to sell more EVs than Tesla. Of course, the Chinese automakers have managed to bring down costs, but the presence of massive state subsidies is undeniable.
Europe, on the other hand, is probing into the use of subsidies by China automakers in their quest for global expansion. The probe was launched in October 2023. It is a pointless probe for something so obvious.
China has an Industrial Policy that directs investments and dishes out subsidies. The government's policy propped up a lot of players in this sector. Now that the industry has grown, there is serious overcapacity in the sector. This is not bad at all, as this was the goal, to first create overcapacity, identify winners, and then start pruning. Beijing is now in the process of tightening the belt to reduce the number of automakers from 300 to a few. They have dealt with similar issues in other industries before.
This brings us to the issue of consolidations.
Why is this industry ripe for a new wave of consolidations?
- The electrification thing — this looming and eventually forced migration requires a specific minimum scale. Autos are mass-produced. If demand is below the minimum scale then it doesn’t make sense to continue producing.
- Price points — connected to the above, customers want lower-priced vehicles. The pricing has to be reasonable. It has to ensure cost-parity with Internal Combustion Engine (ICE) vehicles. The price factor is also true for ICEs, which have had high prices for a while and consumers are now demanding reasonable quality lower-priced vehicles. The pricing pressure is real.
- Winner-take-most dynamics — if you are going to buy an EV, you are probably going to want to buy from a reputable manufacturer with decent quality. The winning automakers take most of the demand (just like the Olympics where the top 3 walk away with the prizes and no prizes for everyone else).
The transition is hard for many players because they have to bear with a wide product range, which scatters demand across way too many products, making it a hard challenge to operate at a profitable scale in each of those product lines. This is the theory.
The reality is that, currently, automakers are very profitable, raking in huge profits due to high prices and pent-up demand from the pandemic era. Automakers, especially in the USA have managed to raise prices and shrink product lines, meaning less choice for consumers. This state of affairs is not permanent. Things will normalize. One remarkable thing to note for the US is that the pent-up demand was not sky-high. In fact, auto sales were falling but profits surged in the US. Globally, volumes are back to pre-pandemic levels.
Within global sales, the share of EVs and Hybrids has been increasing, and that is where the heart of the consolidation issue lies. As this proportion increases, the demand split increases making it harder for smaller players to operate above the minimum required scale.
For the big North American players, the problem is hiding behind current bumper profits, but the strategic decision to halt EV expansion exposes the tip of the problem. Demand for EVs and hybrids is still growing, albeit slower than previously predicted. That demand is accruing to a few winners in the EV space (Tesla & BYD) and whatever is left over for everyone else is not that much.
The higher the proportion of EVs and Hybrids in the global sales mix, the greater the “minimum scale” problems posed by fragmentation.
The greater the concentration of demand for EVs and hybrids in a few winners, the higher the “minimum scale” problems faced by other players.
A slower (or slowing) EV adoption rate is actually a good thing for the industry as a whole because it delays consolidations. A faster adoption rate brings the day of reckoning closer.
It is in this context that the Stellantis CEO talks of 5 remaining automakers. There will simply be not enough space for more than 5. Only Big 5 at a global level. The transition is a process that is akin to climbing Littlefinger's proverbial ladder called Chaos in Game of Thrones.
“Chaos isn't a pit. Chaos is a ladder, Many who try to climb it fail and never get to try again. The fall breaks them” — Petyr ‘Littlefinger’ Baelish.
What breaks players is not the difficulty of the climb. It's the fall. The fall prevents them from going up the ladder again. The fall breaks them.
These winners-take-most dynamics are not new, they have played out in several industries at a global level.
Who will be the Surviving Five?
We can indulge ourselves in the thrill that comes along with speculating.
In all fairness, there will be 4 default slots, two Asian slots, One European slot, and One American slot, and no slot for Africa and Latin America.
- China slot
- Japan slot
- German slot
- American slot
These are steady-state necessary preconditions. These have to be guaranteed for minimum global stability. Europe will not be happy without an automaker, and the same applies to the Americans and the Chinese.
Japan Slot — Toyota: For the Japanese, it is obvious that Toyota will not easily be elbowed out at a global level. Japan intends to support Toyota through it all. The Japanese government has committed to giving Toyota close to a billion in subsidies for EV battery output.
The Chinese Slot- BYD: There is a clear winner in the internal games within China. Its BYD. It's now going global, with the backing of the state. BYD is opening a factory in Hungary, right in the German automaker's backyard. Sooner or later BYD will open a factory in Mexico, to establish a presence in America’s backyard. It's not an if or a maybe. Subsidies are a game of chess at the nation-state level. China plays with these very well.
The European Slot- Volkswagen or Benz or BMW: It goes without saying that the slot is for the Germans. The British, the French, and the Italians are only worth mentioning on the side of makers that will be consolidated or will fall off the ladder. Europeans are a little bit confused. They are placing idealism embedded in neoliberal economics ahead of practicalities. If the Europeans don't think they need to subsidize a German automaker to grab or retain market share in the unfolding order, they are either naive or reckless (reckless abandon of their affairs). Europeans will eventually wake up to the reality of subsidies, in whichever name they come in.
The American Slot — Tesla: These are the benefits of being a first mover. For the 1st American slot, Tesla is uncontested. It is still the global leader, though under threat from BYD. Tesla has core competencies that allow it to survive and thrive with or without government subsidies. However, America has always subsidized its automakers, directly and indirectly, upfront via grants and in retrospect via bailouts.
5th Slot: The final global slot will highly likely go to an American automaker. This boils down to “who is willing and able” to subsidize an automaker for the period required to ensure they survive the chaos and remain relevant after the transition. America is miles ahead in terms of both willingness and ability. China has reasonable ability but not much willingness to push two giants into the world. It has a “high” willingness for one, not two. Europe has no willingness, for now. I don't know much about Japan.
Which group takes the 2nd American slot? This is a very critical question. Stellantis claims this is their spot. But what about Ford and GM?
Can the government afford to save both Ford and GM? Yes, it can. Will there be enough political willingness to save both? Yes, for whichever administration comes next, Biden or Trump. Will it be optimal to save both as separate entities? Hell No! GM and Ford need to combine their demand curves to be competitive (domestically and globally). Subsidizing these as separate entities will be a futile endeavor, which will only lead to one solution, merging the two. Alternatively, the administration could choose to save one and let one die, and some demand will naturally flow to the survivor.
Neither a Biden nor a Trump administration has the willingness to subsidize Tesla because of Elon Musk. They might have to do it nonetheless. However, a stubborn Pres could choose to subsidize Stellantis instead. In this scenario, Stellantis stands a chance. Could this be the scenario that the CEO is pinning his hopes on?
There is not enough room for everyone. Maybe there could be enough room for 6 players globally.
However, the other big factor on the ten-year horizon is the advancement of autonomous vehicles, which will slash car ownership rates significantly. In this environment, six global players will be a lot. Serious overcapacity issues will emerge. There could be room for 4 or 5 at most.
If the cost of an Unlimited Mobility-as-a-Service (MAAS) Plan goes down to $100 bucks a month within a 20-mile radius of your home, with instant access (Zero wait time) to an omnipresent fleet, car ownership will look expensive at any cost of purchase above USD15,000. Of course, there is a long way to go between now and cheap Unlimited MAAS plans, but the general direction of change is set.
Automakers will eventually transition to the “end-to-end” mobility business. This will be similar in some ways to Ride-hailing but there are some fundamental differences regarding who offers the service, driverless fleets, near-zero wait times, omnipresent fleets, cheap energy etc. It will be a new era of abundance dictated by a remarkably high level of “minimum scale”. Within the US, more than 2 players will be a lot (kinda like now where you have Uber and Lyft). These latter two are not likely to survive simply because they don’t make cars, seriously. They will highly likely be acquired by automakers if they don't acquire serious automakers.
The gist of the matter is that there is a timeline of things to come. There is a ticking clock. The consolidations start now, well, not really 2024 but 2025 and beyond. These will happen.
The “conspiracy theory” type of Youtubers below think that Ford-GM will merge in 2026 and Ford will be the one that absorbs the GM brands.
Well, the other guy thinks it will happen in 2024 under Biden’s watch. He is obviously overly excited. Macro events don't play out that quickly. But, he is right on the money regarding the state of the industry and pointing out that consolidation will happen, it's just the timing that is off, in my opinion.
If you are going to make a “consolidation trade” in the markets, be aware that this is not a short-term trade, it's a medium to long-term trade.
But what does this mean for the economy overall; it means economic power will be in the hands of fewer players.
Ciao!
