Article Global trends in the automotive industry: Their likely impact on South African automotive assembly and component manufacturers Justin Barnes! Introduction Despite its sluggish performanceoverthe last two decades the automotive industryis critically important to South Africa, contributing 6.4 per cent of total manufacturing GDP, and employing just over 82,000 people. The industry’s stagnant performance overthe last two decades — production volumes in 1971 were the sameas in 1998 — is the result of many forces. These include, amongst others, weak domestic demand, vehicle prices increasing at higherlevels than the inflation rate, the various inappropriate local content programmes that were designed to stimulate automotive componentprocurementby the assemblers, the general uncompetitiveness of South African manufacturers, and the impact of sanctions. All of these issues, though important, pale into insignificance, however, when considering the present challenges facing the automotive industry in South Africa. Its lethargic performance led the South African governmentto launch the Motor Industry Development Programmein 1995. This programme was designed to bolster the competitiveness and hence growth of the industry by integratingit into the global automotive industry; thus signifying a decisive break from previous import substituting programmes. This occurred in the context of rapid trade liberalisation and a majorstructural shift in governmentpolicy and the trade regime (Padayachee 1997, Jenkins and Siwisa 1997). Governmentsignificantly reduced its major demand side support for industry (varioustariff and import control protective measures) TRANSFORMATION43 (2000) ISSN 0258-7696 Global trends in the automotive industry and introduced supply side measures aimedat assisting the manufacturing sector to become moreinternationally competitive so as to assist firms to cope with imports and allow them to export. Whilst the previous development programmefor the domestic automotive industry (Phase Six of the Local Content Programme) encouraged its outward orientation by counting exports as local content, high effective rates of tariff protection and local content provisions remained in place. The MIDP consequently ushered in a new, more open, operating environment for automotive firms in 1995, with the domestic industry no longer protected to the same degreethat it was underthe various local content programmesthat closeted it for over three decades.’ Understanding the challenges facing the South African automotive industry in the new millennium necessitates an understanding of the changes taking place within the international automotive industry. Given its historical trajectory and recent sluggish performance, integrating the South African automotive industry into a static global environmentwill be difficult enough. Significant and dynamic changesare, however, occurring in the automotive industry internationally and unless appropriate responses to these international changes are formulated, both the inherited and new difficulties facing the industry are likely to be compounded. In this article, the most striking trends within the international automotive industry are therefore outlined, as are their likely implications for the South African automotive industry. It is consequently divided into twoparts. In the first part the major trends shaping the global automotive industry are explored. In the second part the analysis of these trendsis taken further by exploring their implications for the international automotive industry, as well as both their likely positive and negative impacts on the South African automotive industry. A short conclusion drawing together the major arguments andanalyticalissues raised is then presented. Trendsin the international automotive industry The global automotive market can be differentiated into three broad segments. These are: 1. Original Equipment Manufacture (OEM), which is comprised of passenger and commercial vehicle sales, 2. Original Equipment Supply (OES), which is comprised of automotive parts and accessory sales through the OEMs, andfinally 3. The independent aftermarket, which is also comprised of automotive Justin Bames parts and accessory sales, but through independentretailers and repair shops, rather than the OEMs themselves. Whilst these different markets have their own specific dynamics, it is change in the OEM market which has the most profound change on the automotive industry more broadly. There may be a time lag in the impact across market segments, but OEM market dynamics ultimately play themselves out across all the other automotive markets. Understanding shifts in OEM market dynamicsallows one to extrapolate trends across the other market segments, rather than the converse. Much of the discussion presented in this paper consequently focuses on the mannerin whichshifts in the global OEM market, particularly the critically important passenger vehicle market, are likely to impact on the South African automotive industry. Where distinctive issues pertaining to other market segmentsare relevant, these are, however, also discussed. The most fundamental point one can make aboutthe automotive industry internationally is that it is undergoing rapid change. Theflurry of high profile mergers and acquisitions amongst both OEMs and automotive componentfirmshighlights the fact that the global operating environment has changed and that many previously successful firmsare struggling as a result. Global overcapacity Oneofthe principal reasons for the rapid changes that are taking place in the industry is global production overcapacity. As recently argued in an article on the future of the automotive industry: ‘The driving force behind the restructuring [of the industry] is not a dream ... [but] ... rather the nightmare of overcapacity’.’ In order to understand the prevalence of this overcapacity it is important to note that a number of OEMshaveinvested in new assemblyoperations, with Eastern Europe, the Mercosurregion andIndia,in particular, receiving significant amounts of new automotive investment (Humphreyet al 1998). This is highlighted in Table One, which quantifies the growth of passenger vehicle production in a number of developing regions.‘ Significant production growth was experienced in the majority of developing regions for the period 1991 to 1997, with production volumes then falling significantly between 1997 and 1998. For example, in the Mercosur and ASEANregionspassenger vehicle production grew by 150 per cent and 34 per cent respectively between 1991/3 and 1997, and yet annual production declined by 24 per cent and 43 per cent between 1997 and 1998. 54 Globaltrends in the automotive industry Table 1: Passenger vehicle production in selected developing countries (000s) 1991 1993 1995 1997 Growth(%)| 1998 |Growth (%) 91-97 97-98 Eastern Europe* 341 566 608 921 170.3] 1,166 266 India 209} 244 389] 486 132.2 470 -33 Mercosur** 819] 1,387} 1,529] 2,046 149.7] 1,558 - 238 China 81 222 321 482 494.2 507 53 ASEAN*** NWA 364 492| 487 (93) 33.6 280 - 425 Mexico 720; 835 699 855 18.7 919 75 South Africa 198 195 242 228 15.4 196 - 141 Total 2,368] 3,813] 4,280] 5,505 (93) 44.4} 5,096 -74 * Poland, Hungary, Czech Republic ** Brazil, Argentina *** Malaysia, Thailand, Philippines, Indonesia In summary, then, due to rapid economic growth in certain developing regions, vehicle production capacity was ramped up to unprecedented levels, before broader macro economic problemseroded the gains made, thus leaving the global market with significant underutilised automotive capacity.* Over-capacity problems are, moreover, not only restricted to developing regions. Both South Korea and Japan are also experiencing significant underutilisationoftheir existing automotive production capacity. For example, in April 1999 Japan experienced its twenty fifth consecutive fall in monthly (year on year) domestic vehicle sales® and forthefirst time in its recent vehicle production history, plant closures have become an unavoidablereality. In South Korea annualvehicle production declined by 29.6 per cent between 1997 and 1998.’ Production in Western Europe and North America has, on the other hand, remainedrelatively stagnant through the 1990s. The problemsassociated with global production overcapacityarefeltat both vehicle and automotive component manufacturers, and are compounded by the fact that most of’the developed world’s markets are relatively stagnant with only marginallevels of growth being experienced in even the best performing markets. As a result, and as highlighted in Figure One below, global passenger vehicle output amongst the world’s major vehicle manufacturers is expected to remain relatively stagnant for the period through to 2005. In 1997 the world’s top ten vehicle passenger manufacturers sold 30.2 million vehicles between them, and yet for 2005 they project sales of only 30.4 million units — an increase in units of only 0.7 per cent. 55 em Figure 1: Major passenger vehicle manufacturers Major passenger vehicle manufacturers: Units sold in 1997 vs. projected sales in 2005 ——— | 2005(projected) 1997 Source: The Guardian, Wednesday January 6, 1999. This global over-capacity, which analysts presently put at between ten and 20 million cars or 25 per cent to 50 per cent of global output, has resulted in the industry becoming increasingly competitive, with the world’s major OEMslookingat ways in which to cut costs and catapult new products to the marketsooner. Vehicle production life spans have, as a consequence, diminished significantly over the last decade. New models now only have production life spans of approximately two to four years, which is a stark contrast to modellife spans of up to eight years in the 1980s. In order to increase the scale ofproduction for models that have a shorter life span there has been a move towards platform rationalisation which can be defined as the building of a numberof seemingly distinct models from a commonplatform,® and the global sourcing of particular models from only one or two factories. BMW SAoffers us a local example ofthis trend. BMWin Rosslyn has been designatedas a supplier of right hand drive three series BMWsforthe global market. It is no longer manufacturing five and seven series models locally — these are now imported — instead all of the company’s production expertise is focussed on the three series, with production output of this model expected to increase significantly as a direct result. Global trends in the automotive industry Automotive component restructuring The net result of the pressures facing the OEMs is massive changein the automotive components industry. This is particularly true for those firms that are manufacturing principally for OEM supply rather than for the automotive aftermarket.® As a response, the world’s leading automotive component firms are consolidating their positions by acquiring their smaller competitors, whilst at thé same time moving towards source designing and modular production. Source designing refers to the process by which OEMs aretransferring responsibility for the design and developmentof certain parts of their vehicles to component manufacturers. The OEMs are doingthis in order to cut their new product development costs, lessen their design lead times and maximise the benefits of their global marketing and production presence. Johnson Controls, a large USA- based multinational, for example, designs, develops and manufacturesall of the seating requirements for a number of OEMs,as doestheir principal competitor, Lear Corporation. As a reward for their on-going research and developmentactivities for the OEMs these component manufacturers are assured of long-term global ‘lead sourcing’ supplier contracts. Modularproductionis related to lead sourcing, with automotive analysts viewing the development of modular manufacturers leading to a distinct tiering ofthe automotive industry. OEMsnolongersource their components from over 2000 suppliers. They now only have approximately 200firsttier suppliers, with these 200 being responsible for the production ofparticular modules (or sub-assemblies) that require the supply of components from a larger group of second tier componentsuppliers. The approximately 200 suppliers that supply direct to the OEMstake on the importantrole ofbeing systems integrators rather than simply component manufacturers. The direct result has been a decided shift in the powerrelations between the OEMsandlarge first tier component manufacturers. Given their design (in many cases they hold the patent for new developments) and modular production capabilities, these componentfirms havethe potential to become key long-term partners to their OEM customers. Ashighlighted in a recent Fortune magazinearticle: Encouragedby the automakers,the suppliers are not just movingin on technology. They are also becoming assemblers, building larger and more complex modules, consolidating scores,if not hundreds,ofparts that are then delivered just in time and in production sequence to the car companies’ assembly lines. (Fortune, January 11, 1999) 57 In summary then, the four dominantglobal trends being experienced in the automotive industry are: (1) High levels of competition due to vehicle production overcapacity in most market segments, with OEMs consequently looking at new ways in whichto capture market share and cutcosts. This has resulted in strong competitiveness pressures amongst OEMs and component suppliers, as well as the transfer of certain important design responsibilities from the OEMsto multinational automotive component firms; (2) Increased OEM and automotive component investmentin certain geographicallocalities, despite global overcapacity; (3) Consolidation of both OEMs andthe world’s largest component manufacturers through mergers and acquisitions; and (4) the tiering of the automotive components industry due to lead source and modularisation tendencies. Given the rapid integration of the domestic automotive assembly and componentsindustries into the global environment through the various mechanisms of the MIDP, these dominant global trends obviously have a significant impact on the nature and dynamics underpinning the South African automotive industry. This is of course not unique to South Africa, with many other developing economiesalso being similarly impacted on.'° Exploring in somedetail the manner in which each ofthese globaltrends are occurring and impacting on the South African automotive industry is important. International trends and the South African automotive industry Competitiveness demands As already highlighted, overproduction in the automotive industry internationally has reachedcritical proportions. Given future projections (see Figure 1) the situation is moreover unlikely to improve in the short to medium term. Dueto their excess production capacity, OEMs are subject to enormous pressure to improve the competitiveness (price, quality, reliability and innovative design) oftheir productsin orderto bolster sales, as well as generate profits. A numberof mechanismshave consequently been adopted by OEMsin order to bolster their performance. First, they have attempted to improve their own efficiencies through the adoption ofmore advanced manufacturing and organisational systems (such as lean or just-in-time production). Second, they have attemptedto bolster the competitiveness oftheir material inputs (which comprise up to two-thirds of the cost of a vehicle) by rationalising their vehicle platforms and by consolidating their supply 58 Global trends in the automotive industry chains into fewer but more competitive and technologically advanced firms. Third, they have transferred some of their own development responsibilities across to key suppliers who have distinct core competencies and whotheytherefore viewas strategically important long-term partners. And fourth, despite the advantages rendered by these changes, many OEMs are also now looking to mergetheir operations in order to generate greater economiesof scale in both production and new product development. The recent merger of Daimler and Chrysler and Daimler-Chrysler’s subsequent purchaseofa controlling stake in Mitsubishi, acquisitions such as Ford’s purchase ofVolvo’s passengervehicle division, General Motors’ acquisition of Saab, Hyundai’s purchase of 51 per cent ofKia and Renault’s acquisition of 37 per cent of Nissan, highlight this propensity."' All of these trends have significant ramifications for automotive industries, such as South Africa’s, that are being reintegrated into the global operating environmentandare too smallto either influence or buck international trends. This is illustrated in Table Two, which shows the dominantlocations of passenger car production globally. As highlighted in the table, South Africa is a very small player in terms of total global production output. Its contribution to total vehicle production in 1998 was in fact only 0.5 per cent. Table 2: Geographical location of global passenger vehicle production Region 1998 Production (000 units) North America* 7,879 Westem Europe* 15,152 Japan* 8,056 South Korea* 1,625 Developing regions** (excluding SA) 4,900 South Africa 196 * Source: Financial Times, September 16, 1999. ** As per Table One. Whatthis means on the competitiveness front, is that firms will not benefit from operating in a liberalised economyunless theyare truly world-class and capable of selling products into their domestic and global markets at the same quality, price, reliability and appealing design as other global players. Whilst the need for firm level competitiveness has always been present, the increasingly globalised nature and rapid forward momentum of the international automotive industry has shifted competitiveness 59 Justin Bames requirements enormously. This meansthat firms need to adoptnew methods of manufacture that improve overall competitiveness levels to that of their global competitors. There is an extensive literature on the new forms of production operations necessitated by this shift in the automotive as well as other manufacturing industries.’ The issue of competitiveness in manufacturingis of critical importance for both OEMs and component manufacturers, although it does needto be borne in mindthatit is a necessary butinsufficient condition for firm-level success. The reasons underpinning the success of an automotive firm are multifarious, with issues of global connectivity, the tiering of automotive supply chains and global consolidation of both OEMs and automotive componentfirmsall being critically important. However, numerous studies have shown that unless firms have world-class production/operations capabilities, they will have little chance of confronting any of the broader strategic issues confronting them.'? Someof the reasons why competitive- nessis only a necessary and nota sufficient condition for long-term growth relate to the critical changes that are taking place in the international automotive industry. For example, the consolidation of global supply chainsin the automotive industry has meant that certain componentfirms in countries such as South Africa have lost contracts with domestic OEMs. This has happened simply because their licensor or international parent companyhaslost the global contract with the OEM’s parent company, and not because the South African operation has performed poorly. By consolidating their suppliers at an international level, many ofthe OEMshaveprecluded smaller players from entering into first tier OEM supply. By working with only a few ‘lead source’ suppliers the OEMs have been able to generate significant economies of scale in their production processes. Importantly, and related to this, the OEMs havebeenable to use their purchasing leverage over these suppliers, thereby coercing them into follower-sourcing. Whatthis meansis that whenever OEMsset up operations in new economies, their core componentsuppliers are expected to follow them. Thenet result of this has been massive growth amongst the world’s largest automotive componentfirms with mosteithersetting up or acquiring existing operations in developing economies." Failing this, and depending on the risks associated with setting up greenfield operations, the lead-source suppliers may choose to enter into licensing agreements with firms operating in the developing economies. This has been the preferred route in the past in South Africa, but as borne 60 Global trends in the automotive industry out by interviews with key purchasing personnel at the South A frican- based OEMs," thefirst option is becoming increasingly favoured by the OEMs. As highlighted in Figure Two, the size of the largest global automotive componentsuppliers is staggering, especially if one contrasts their size with the two largest independent South African automotive componentfirms (Dorby] and Metair). Dorby]is, for example, less than 15 per cent the size ofMagnaInternational, the world’s tenth largest automotive component manufacturer, and only slightly more than 2.5 per centthe size of Delphi Automotive Systems, the world’s largest. Figure 2: Turnover figures of the world’s 10, and South Africa’s 2, largest automotive componentfirms (1997) Turnover figures of the worid's 10, and South Africa's 2, largest automotive component firms (1997) 3 2 3 H Z 2 wt cS se & ” of rs a of SF isg sf gf «9 Ss~ e 4 9e a ¥ we Company Notes: (1) South African firms’ turnover in US$ calculated at R6.00=US$1.00 (2) Internationa] firms’ turnover calculated on OEMpartssales only. (3) Dorbyl’s automotive turnover is significantly smaller than the figure presented, as it has extensive non-automotiveinterests (roughly two-thirds of total output). (4) Metair’s turnover includes aftermarket sales. Source for international firms: Financial Times, September 9, 1998. Source for South African firms: Barnes (1998) Justin Barnes Dueto this significantly closer interface with their core suppliers, OEMs are transferring someof their own design responsibilities to them. Thenet result has been the development of a group of first tier automotive componentsuppliersthat are not only key systems integratorsat the global level, but that are also important participants in vehicle design. All ofthe international firmslisted in Figure Two wouldfall into this category. The developmentofsuch relationships means that independent (ie non-MNC) suppliers in developing economiesare increasingly being precluded from operating as first tier OEM suppliers. Independent suppliers are increasingly forced to supply products to the first tier suppliers, who then integrate the component supplied into a modular system that is supplied on a just-in-time basis to the OEM. Significantly, this trend is particular to OEM supply (and also to an importantbut lesser extent, OES supply). Many independent suppliers are still successfully selling into the independent automotive aftermarket (both in their own economies and internationally). These firms are, however, operatingin relatively stable technology sectors, rather than those sectors that incorporate the cutting edge technology found in modern vehicles. Battery, gasket, and oil and air filter manufacturers would, as an example, fall into this category. The reasons underpinning the recent spate of mergers and acquisitions at the global level appears to have a direct impact on the South African automotive industry. Global consolidation means that the South African OEM and automotive component operations (whether subsidiaries or licensees of MNCs) are now linked into different global configurations, with both threats and opportunities consequently resulting. The rationale driving the merger and acquisition activity has moreover further concentrated the marketing and design capacity of the global industry within a few industrialised localities, namely North America, Western Europe, Japan, and to a lesser extent South Korea. OEMplants in countries such as South A frica maystill be very important, but as manufacturing rather than as potential innovation centres. Whilst there has been a significant amount of new OEM investmentin developing economies such as Brazil and India (see below), this investmenthaslargely been based onthe establishment and upgrading of manufacturingfacilities. The investmenthasnot beenfor the development of new innovation centres to serve global or even broad regional markets. The rapid expansion of automotive componentinvestment in these two countries further reflects Global trends in the automotive industry the tendencies outlined above, with the largefirst tier automotive component firms setting up subsidiary operations next to their OEM customersin order to secure the global supply of their products. Design capacity, however, remainsat the automotive componentsuppliers’ headquartersin oneof the key industrialised localities (Humphrey et al 1998), Whilst subsidiary automotive component manufacturers in developing economies supply products to subsidiary OEMs, the governanceofthe global value chainsis determined bythe relationship between the companies’ parentoperations." The multinational OEMs exerts control over subsidiary automotive component manufacturersnot only throughtheir own subsidiaries but also throughtheir relationship with the multinational automotive component manufacturers. The governancestructure ofthe automotive value chain has therefore shifted, although institutional control remains firmly located outside the developing economies. Three key trends are emerging out of these distinctive competitiveness issues, and are becomingincreasingly evident in the South African context: 1) South African based OEMsand automotive componentfirmsare being forced to improve their competitiveness rapidly in orderto sell into the domestic and international markets. The previous differentiation between domestic and international supply is therefore being eroded. 2) Multinational corporationsare increasing their presence in the domestic industry, with this being particularly evident for OEM,andalso to an important extent, OES, supply. 3) Independent componentfirms are being increasingly forced to operate as either second tier suppliers, or, where possible, as suppliers into the independentaftermarket. Certain highly competitive independent suppliers may be able to continue operating asfirst tier suppliers by securing licensing agreements with lead source MNCs, but this is only an ad hoc step, with OEMs increasingly demandingthattheir first tier suppliers have at least an equity relationship with lead source automotive component manufacturers. Investment Trends During the seven-year period 1992-98, the combined investments (for new capacity and for depreciation)of the South African based OEMsand major componentsfirms totalled around US$1.25 billion (Department of Trade and Industry 1997). This comparesrather poorly with the planned investment in new productionfacilities in the assembly sector alone of over US34 63 ustin Bames billion in India and US$9 billion in Brazil in the five years between 1996 and the year 2000 (Humphreyet al 1998). Comparing automotive investment in South Africa with these countriesis a little unfair given the size of their respective automotive markets. It does, however, indicate that the South African automotive industry has not received large amounts of investment in global automotive terms overthe last few years. In South African terms though, the industry has been one of the largest sectoral recipients of foreign direct investment (FDI), with BMW, Daimler-Chrysler and Volkswagenall making, or preparing to make, substantial investments in their local operations. In each case there has been,or will be, positive spin- offs for South African based component manufacturers, particularly given the fact that all three of these investments are for export-oriented projects. Given global production overcapacity, OEM investments in developed economies have tendedto be for the upgrading of sunk investments, with these investments operating as a mechanism for introducing new models, and improving efficiencies and hence competitiveness, rather than aggressive expansion. Given market shifts and increasing market segmentation,this is, of course, not alwaysa definite rule, as certain OEMs are struggling to meet market demandfor particular models. Volkswagen SA’s securing of its Golf IV United Kingdom export contractis an example of a South African firm benefiting from market demand for a particular modelthat its parent companyis incapable of meeting from its European plants. Muchofthe large investment that has been made in countries such as India and Brazil is moreover presently coming under some scrutiny. Investments in Brazil were made on the assumptionofa rapidly expanding automotive industry (and the country’s investment-based automotive incentive programme), and yet the opposite has occurred with the industry contracting by over 20 per cent in 1998. Given the new OEMplantsthat have opened recently (eg Renault’s significant new investmentin thestate of Parana)of that are to be openedshortly in that country, production over- capacity in Brazil totalled approximately 100 per cent of actual production output in 1999. . Giventhis fact, as well as the present poor performance of the ASEAN markets, one would consequently expect the OEMsto berather cautious of making new investments in developing economies over the next couple of years. This may seem to be a disadvantagefor the South African automotive industry, but given the extensive sunk investment that the OEMsalready Global trendsin the automotive industry havein this country recent international trends may work in the domesti c industry’s favour. Granting export contracts to well established subsidia ries that have excess capacity (such as that earned by Volkswagen SA) may be preferred by OEMsthatare increasingly sensitive to risk, thus giving the country an advantage over developing economies withless developed and less historically entrenched automotive industries.” Significantly, moreover,if one considers the global spread of automot ive production and activity,it is quite apparentthatall geographicalareas, with the exception of Sub-Saharan Africa (excluding South Africa), have received substantial automotive investments. The well-developed centres of automotive manufacture highlighted in Table Two, as well as the developing regions highlighted in Table One, are considerable distances from the Sub-Saharan African market. Apart from small and insignificant industries in Nigeria, Kenya, Zimbabwe, Botswana and Namibia, very little automotive investment has taken place in Sub-Saharan Africa. This potentially places the South African automotive industry in a very strong long-term strategic position . The South African automotive industry would therefore appearto be well placed to benefit from vehicle demand growth in Sub-Saharan Africa. This demandis presently at a very low level, even if one includes North African sales in the overall picture, as highlighted in Table Three below, butit should growsignificantly in line with promising future economic growth projections for the sub-continent.'® Table 3: A regional overview of new registrations of passenger vehicles Region Units purchased (1997) % global purchases Western Europe 13,341,000 36.2 Eastern Europe 1,893,000 5.1 North America Free Trade Area 9,317,000 25.3 Latin America 2,551,000 69 Asia 7,757,000 21.1 Middle East 835,000 23 Oceania 588,000 1.6 Africa 525,000 1.4 Total 36,807,000 100 Source: Financial Times, September3, 1998. 65 Ce Justin Bames Consolidation ofautomotive component manufacturers through mergers , and acquisitions The development of a tiered structure to the automotive components industry has led to a rush of mergers and acquisitions amongst large comporientfirms. Asoutlined above, the benefits of operatingasa first-tier component supplier are potentially enormous, but size is an important factor for the attainmentof such a position, as is strong R&D capability. Manyseeminglylarge automotive componentfirms havestruggled to meet these requirements and have consequently sold out or been aggressively taken over by yet larger component firms. Some of the largest global automotive component take-overs are listed in Table Four, and as is apparent, the firmsthat have been purchased werelarge firms in their own right. Source: Financial Times, February 23, 1998; June 12, 1997. These acquisitions have both a direct and indirect impact on South African componentfirms. The direct impactrelates to the changes in ownership of South African subsidiary operations. For example, T&N’s take-over by Federal Mogul, and Mannesmann’s take-over of Philips Car Systems has meant that T&N’s and Philips’ South African operations are nowpart of entirely different global networks. T&N SA’s heat transfer division was,in addition, viewed as non-core by Federal Mogul, and as such was sold to Behr, a German multinational, in May 1999. T&N SA, previously South Africa’s third largest automotive component grouping of companies, has consequently been replaced by two multinational groupings — Federal 66 Global trendsin the automotive industry Mogul and Behr — thus providing a new structure to the South African automotive component landscape. Indirectly, and given the small size of even the largest South African automotive componentfirms, the consolidation thatis taking place globally meansthereis little chance of South African firms operating as independent first tier componentfirms. As the automotive components industry globalises in line with OEM globalisation tendencies, South African firms that are largely OEM focused can therefore be increasingly expected to generate closer relationships with, or becomepart of, multinational corporations. Tiering of the components industry Theglobal consolidation of automotive componentsuppliersis inextricably tied to the tiering of the automotive components industry. Large multinational componentfirmsare extremely keen to maintaintheir presence asfirst tier players with a global presence and adequate systemsintegration and R&D capacity. As already highlighted, the rewards can be enormous, especially in terms of global supply contracts and the potential for owning new technologies and products that makes them indispensable to OEMs. It also means, however,an ability to integrate systems on just in time (JIT) basis for OEMs, and significant depth in terms of on-going product and process innovation capacity. Successfully covering these issues does not, however, guarantee success for the first tier automotive component suppliers; they are simply sufficient conditions for them to compete in an extremely competitive industry. The majority of automotive componentfirms in developing economies are highly unlikely to meetthese sufficient conditions, and are consequently likely to become second tier players. Depending on their own competitiveness one can expect these players to supply to the first tier component firm’s subsidiary in their own countryof operation, and to some extent to subsidiaries in other countries. The critical point here is that the independentoperation will not have the propensity to aggressively market or design components — these activities will lie with either the OEM orthe first tier component firm. The independent operation will simply build according to the specification requirements provided. The secondtier firm’s key competitive advantage will lie then with its ability to manufacture the products it is contracted to supplyas efficiently and competitively as possible. The tiering of the automotive components industry consequently robs many independent firms in developing economies from improving their design and marketing capacities, with 67 Justin Barnes these being increasingly controlled by thefirst tier players and the OEMs. Operating as a second tier automotive componentsupplier is not necessarily disadvantageous, however. Aslong asfirmsatthis level ofthe supply chain are competitive in terms of their production/operations capabilities they could benefit significantly from expanded business. This could take place with the first tier supply base into which they are connected, as well as with certain of the foreign-based OEMssupplied by the first-tier supplier. The potential benefits of such an arrangement are highlighted conceptually in Figure Three. Althoughthe supplier in Country 1 (a developing economy) is reliant on Supplier X for product design and marketing, its manufacturing competence mayprovide it with important supply opportunities as a result ofits links into a multi-national supplier network. Figure Three: The possibilities for global sourcing from competitive developing country automotive componentfirms Assembler A Assembler A AsemA Subsidiary Subsidiary Country 1 Country 2 Supplier X ~ Supplier network links Source: Adapted from Humphreyet al 1998. Importantly, whilst the tiering of the automotive componentsupply baseis distinctive, it is not all encompassing. There are certain aspects of vehicle production that allow for independentsupplier input, particularly whenthe independent supplier has close links to the dynamics ofthe local marketin which it competes. Each country has its own particular operating environment (ranging from weather conditions, environmental considerations, road infrastructure, personal tastes, etc). Therefore, and as highlighted during the course of numerous interviews with purchasing 68 Global trends in the automotive industry personnel at South African-based OEMs," certain types of components needto be eitheraltered or designed for South African conditions. These relate to suspension systems, vehicle security systems, seating, certain interior and exterior trim components, heat transfer systems and exhaust systems. Importantly, moreover,these alterations are more prominentin terms of component supply to commercial vehicles, many of which are specifically designed to meet the exacting demands of the African operating environment. Additionally, these issues pertain to OEM supply only. The automotiveaftermarketin SouthA fricais large, given both the long history of automotive production in the country andthe average age of vehicles on South African roads (in excess of ten years). The automotive aftermarket consequently provides enough scope and volume (especially for replacement parts) for the continued success of a numberof independent component manufacturers ofrelatively stable technology products (certain engine parts, batteries, glass, etc). These firms, certain of whom have strong brand namesin the replacement aftermarket, are buffered from the threats posed by the tiering of the automotive componentsindustry that leads back from the OEMs. The economiesofscale afforded by their markets, as well as the relatively stable technologicalnature ofthe productsthey produce, similarly protects them from the design and marketing strength ofthe multinational corporations. Whenconsidering the likely impact of international trends on the South African automotive componentsindustry,it is consequently essential that one bear in mindthe different nature of the markets into which automotive firms feed. Importantly, though, one must recognise that trends within the global OEM marketwill ultimately play themselves outin all automotive markets. The time scale and severity of the impact may be different, but there is an inevitability in the sequencing of change thatwill take place from the OEMinto the OES market, andthen finally into the independent aftermarket. Conclusion Whenthe windsof global automotive changeintensify, it is inevitable that they buffet the local automotive industry. The MIDP throughits various policy mechanisms that encourage outward orientation facilitates this. This does not, however, mean that the MIDP can control the mannerin which the powerful global winds impact on the health of the industry. By 69 Justin Bames rapidly liberalising the automotive industry the South African government has exposed the domestic industry to a rapid process of change, andyetit is this very process of changethat appearsto limit the government’s ability to intervene in its further development. This will become particularly apparentas the industry becomes increasingly linked into, and part of, the global value chainsthat dominatethe international automotive environment. The South African automotive industry is consequently being,and will continue to be, buffeted by the changes taking place in the international automotive arena. The independence of the automotive industry in this country is rapidly coming to an end, with trade liberalisation integratingit into a global automotive industry that is itself undergoing a number of profound changes. These changesrepresent both a threat and an opportunity to the South African automotive industry. Whilst the global trends outlined in this article (production overcapacity, global consolidation of OEMsand componentfirms, a tiering of the automotive components supply chain, lead andfollower sourcing, etc) will alter the structure of the South African industry, it is as yet unclear whether the overall impact will be positive or negative. Does the loss of design and marketing capabilities represent a death knell for the industry? Orwill the potential supply contracts secured by South African based OEMs and component manufacturers as part of their links into global value chainsfacilitate significant and sustainable growth in the automotive industry? The mannerin which the industry responds is not, moreover, cast in stone. It would appear to be contingent upon howthe international trends play themselves out and critically, the extent to which the South African automotive firms (whether subsidiaries of multinational corporations or independentoperations with licensing links to the global players) improve their competitiveness. Uncompetitive firms with poor international linkages will disappear from the industry, but those firms that improve their competitiveness and create appropriate linkages with international firms could benefit from burgeoning export sales, as highlighted conceptually in Figure Three. Similarly, multinational corporations that establish a presence in South Africaas part ofa follower sourcing strategy could use the country as an export base for supply to foreign OEMs, or for the small but potentially important Sub-Saharan African market. The threats and opportunities posed by South Africa’s integration do not, additionally, appearto be uniform. For example, automotive component firms that supply OEMswill be directly and almost immediately impacted Global trends in the automotive industry on by the changes. Aftermarket component manufacturers that manufacture stable technology replacementparts are, on the other hand, unlikely to be confronted by a sudden changein the configuration of the domestic market into which they feed, at least not in the short to medium term. Notes 1. Fundingfor this research was provided by the European Unionthroughtheir Policy Support Programmeto the Department of Trade and Industry. Special thanks need to be extended to Vishnu Padayachee, Imraan Valodia and Mike Morris for comments on previous drafts. The views expressed in this article are, however, those of the author alone. See Black (1993, 1995), Duncan (1997) and Julius (1986) for outlines of various phasesofthe local content programmethat governedthe industry from 1961 through to September 1995. For an explanation of the various facets of the MIDP see Barnes and Kaplinsky (1998). The Guardian, January 6, 1999. The 1991 to 1997 data for the regions/countries was supplied by John Humphrey ofthe Institute of DevelopmentStudies, University of Sussex, United Kingdom, with the South African production figures supplied by the National Association of Automotive Manufacturers of South Africa (NAAMSA). All 1998 figures are from the Financial Times, September 16, 1999. DRI/McGraw Hill estimated that capacityutilisation in the Asian automotive industry would drop to 57 per centin 2000, from levels of 67 per cent in 1995 (Financial Times, March 24, 1997) — with this estimate being made beforethe Asiancrisis. Natal Mercury, Business Report, May 7, 1999. Financial Times, September16, 1999. Various OEMs define platforms differently. What they all basically mean, however, is the commonisation of ‘under the body’ (or sub-structural) parts. Ford, for example, intends reducing its platforms from the present level of 32 to 16, with Nissan looking to reduce theirs from 30 to ten and Volkswagen theirs from 16 to fous. The obvious advantage is that whilst model variance proliferates in order to meet highly segmented market demands, by sharing a large range of components or modules between different models, economies of scale are still reaped in terms of production, new product development and materials sourcing. This does not mean that aftermarket suppliers will not be affected, it simply meansthat OEM supplierswill be most directly impacted upon in the immediate to short term. OEMpressures dofilter into the automotive aftermarket(especially the OES market), but notas directly. 71 J Justin Barnes 10. See Humphreyet al (1998) for an outline of the impact of trade liberalisation on the automotive industries of Brazil and India. Even those developing economiesthat are protecting their autormaotive industries behind high tariff barriers (eg Malaysia) are increasingly being impacted on bythesetrends. This is because their domestic markets are not large enough to sustain the technological development of their domestically based OEMs and component manufacturers. Their industries therefore also need to be outwardly oriented to generate the economiesof scale and scope needed for global competitiveness. The long-term developmentof these industries is, as a result, also contingent upontheir ability to compete in a global operating environment. As highlighted by Rajah Rasiah (1999:17), ‘Efforts to retain protection after 2003 may keep the [Malaysian] industry further, but only at the expense of severe deadweight losses in consumer benefits’. 11. The figures associated with these acquisitions are staggering. For example, Ford’s purchase of Volvo’s passenger vehicle division costit in the region of USS$6.5 billion, whilst Renault’s 36.75 per cent stake in Nissan cost it US$5 billion. Even Hyundai’s purchase of a 51 per cent stake in a bankrupt and small global player such as Kia cost it US$965 million. 12. See for instance Womack, Jones and Roos (1990), Lamming (1993), Hines (1994), Kaplinsky (1994), Humphrey et al (1998), Hoffman and Kaplinsky (1988), Brown (1996). 13. For an outlineof the challenges facing the automotive componentsindustry in South Africa in this regard, see Barnes (1997, 1998) and Barnes and Kaplinsky (1999). 14, Foran outline of MNC equity purchasesin the Brazilian and Indian automotive component industries see Humphrey et al (1998: 162-185). 15. See Barnes and Kaplinsky (1998, 2000). . 16. For a detailed outline of the various types of value (global commodity) chains that dominate international industries, such as automotive assembly and component manufacture, and the governance dynamics underpinning them, see Gereffi (1996). 17. Ford (1924) and General Motors (1926) established the first automobile assembly plants in South Africa. It is notable that this was a similar timing to the establishment of plants by these two companies in the United Kingdom, thus making South A frica an early developing economyentrantto the automobile assembly industry. 18. Real GDP growth in Sub-Saharan Africa (excluding South Africa) stoodat 5.3 per cent in 1996 and 4.6 per cent in 1997. Average growthrates of around the 5 per cent mark are moreover expected to continue over the next few years (Global Coalition for Africa, 1997/1998 Annual Report). . 19. 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