American tariffs, a Chinese slowdown and a hard Brexit could hammer an industry vital to the country's economy just as tens of billions are needed for electric and self-driving cars.
Send water wings.
If you believe the story it tells about itself, the German car industry is marching confidently into the future, developing exciting new all-electric vehicles, leaving the dirty days of diesel behind.
In reality, the industry is facing its biggest crisis in decades. A Chinese slowdown, a hard Brexit, possible US tariffs, and massive technological challenges could become a perfect storm engulfing Volkswagen, BMW and Daimler, the maker of Mercedes-Benz luxury cars. Since car manufacturing is crucial to the economy, this could be very bad news for the country as a whole.
The car industry was thumped hard by Dieselgate, which first came to light in September 2015. The scandal, which centered on Volkswagen, revealed wholesale falsification of emissions data. Ultimately, it would lead to billions of euros in fines and compensation, criminal trials for senior executives, and massive reputational damage, but act as little more than a hiccup. The story continued to be one of record sales, record margins and record profits, driven above all by robust Chinese demand.
And Volkswagen, BMW and Daimler have been turning a blind eye to the changing realities of the industry, not least the impending demise of diesel.
Things changed rapidly in mid-2018. The German industry was hit by slump in sales in the third and fourth quarters of last year.
Worse, these clouds are gathering just when the industry must find huge sums to invest in new technology, if it is not to be overrun by competition from Silicon Valley and upstart Chinese manufacturers.
Daimler has already cut dividends, BMW has issued profit warnings for the first time in many years, while Audi is cutting production and firing 10 percent of managerial staff. The shares of all three big German carmakers now trade below book value, meaning markets expect them to burn through capital in the coming years.
The most immediate threat comes in the form of growing protectionism. In the last decades, Germany’s car industry has gone global, in terms of production as well as sales. BMW now has some three dozen factories on four continents. The company doubled its revenues in the last 10 years, but at the price of increased vulnerability.
Donald Trump’s arrival in the White House turned the tide of free trade: He cancelled negotiations on new trade agreements and threatened to launch trade wars with both China and Europe. For a firm like BMW, which makes SUVs in the US to sell in China and in Europe, this could disrupt their entire business model. China’s 40 percent retaliatory tariffs on US car imports has already cost the Bavarian company €300 million ($340 million).
The US president now has 90 days to decide whether to impose 25 percent tariffs – up from 2.5 percent – on automotive imports to the United States. No one knows if Trump’s threats are just a ploy to force trade concessions from the European Union. But they have the potential to cost carmakers billions of dollars.
Add to this the increasing possibility of Britain crashing out of the EU without a trade deal. Overnight, a hard Brexit could impose trade barriers with Germany’s fourth-largest market for cars. Automakers also have important investments in Britain: BMW owns both Mini and Rolls Royce.
Just as worrying is the slowdown in the Chinese market: new car sales shrank there by 2.8 percent last year. Volkswagen predicted 4 percent growth in Chinese sales in 2018; it ultimately managed 0.5 percent. With overall Chinese economic growth lower than it has been in decades, 2019 is unlikely to see much recovery.
This is very serious for an industry – and the entire German economy – which has grown fat on exports to China. Herbert Diess, VW CEO, was not exaggerating when he said recently that “the fate of the Volkswagen Group depends on China.” With this in mind, VW is doubling down on its involvement in China, investing heavily in R&D and in local technology partnerships.
Technology may prove another stumbling block in China. Last year, the country imposed quotas on carmakers, requiring them to sell a percentage of hybrid and all-electric vehicles, or face heavy fines. Domestic manufacturers may be in a better position to fulfil the huge Chinese demand for all-electric cars.
This is perhaps the most daunting challenge of all for the industry. Germany’s car giants bet so heavily on diesel – helped in part by falsified emissions data – that they failed to grasp the changes on the horizon. Now manufacturers are rushing to convert their fleets to hybrid and all-electric models.
But the promised all-new electric models – among them the Audi E-Tron and Daimler's EQ series – will not reach showrooms for months, if not years. Even then, most new offerings will be hybrid models, combining electric and combustion engines. There will no newly-designed, all-electric Mercedes on sale until late 2021. BMW is pinning its hopes on the all-electric i4 sedan, but this too will not enter production until 2021.
For the moment, Germany has been soundly beaten in technology. Experts say Tesla is two or three years ahead of its German rivals in engineering innovation. Sales reflect this difference: in the United States, the California firm is outselling all its rivals combined in electric cars. In the luxury class, Tesla even outsells combustion-engine series like the BMW 7-series, the Mercedes S-class and the Porsche Cayenne.
Tesla is not the only threat to come out of California. Tech giants like Uber, Apple and Google are investing massively in the development of self-driving cars. Google subsidiary Waymo alone may have as much as $40 billion to invest in autonomous vehicle technology.
Now realizing the danger, Germany’s automotive giants are gearing up to invest huge sums in developing electric and self-driving cars, probably around €40 billion in the next three years. Volkswagen’s four-year budget for electric vehicles amounts to around €30 billion. VW CEO Diess says the transformation of the industry could cost German firms around €100 billion.
The sums involved are so enormous that carmakers – even diehard rivals – have been forced into new forms of cooperation. Volkswagen sources say the company has even contemplated a partnership with its great Japanese rival Toyota. The company already has a wide-ranging alliance with Ford to develop electric and self-driving technologies, which could ultimately see Ford e-cars using a Volkswagen platform.
The urgency of the situation has even led BMW and Daimler into close collaboration. On Friday, the two firms are expected to announce a new joint venture in mobility services. They already have already merged their car-sharing subsidiaries.
The German giants are also changing their corporate structures, trying to become leaner, less hierarchical and more flexible. Volkswagen will soon float its bus and truck division, possibly raising as much as €20 billion. Daimler will convert to a holding company structure, with the possibility of demergers in the years to come.
Germany’s car industry has at last awoken to the urgency of the situation, placing its bets on new products, new structures and enormous technological investment. But with economic and geopolitical risks increasing, this may not be enough to save it from a perfect storm.
Markus Fasse covers the automotive and aviation industry's from Handelsblatt's Munich office. Other Handelsblatt staff contributed to this article, which was adapted by Brían Hanrahan into English for Handelsblatt Today. To contact the authors: [email protected]
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