The Automotive Industry In the United States - Essay Example

The Automotive Industry In the United s: An Economic Standpoint Contents Page Introduction 3 2. Market Concentration 4 3. Contribution of Automotive Industry to US Economy 5 4. Competitive Challenges 6 4.1 Static Competition 6 4.2 Dynamic Competition 7 5. Outsourcing 10 6. Structure of the Industry 14 7. Barriers to Entry 16 8. Conclusion 17 9. References 18 10.Appendix 20 Introduction The automotive industry, now a hundred years old, is often regarded as the main engine of the industrial growth of the 20th century. The automotive industry in the United States is the largest automotive industry in the world. No other single industry contributes as much to the retail business and employment. The industry owes its importance and size merely to the popular use of its product, the motor vehicle (McAlinden, Hill, Swiecki, 2003). Cars have become the most important form of transport since their widespread use after the Second World War. In the last century, they were considered to be the most important invention since they have affected more lives and have changed the world in more ways than any other invention such as computers, the internet, mobile phones or any other piece of technology. They have become a part of our daily lives and help us continue our existence and provide us with the services which are required for civilisation. However, it must be noted that automotives do not exist in a vacuum and there is an extensive and expansive global industry which supports this essential method of transport. Therefore an understanding of this industry is very important for any student of business, politics and even sociology. Along with an understanding of the relevant issues of the automotive industry, it is also important to understand what can be done and what is being done by the players in the market to overcome these issues. Fundamentally, the automotive industry is a textbook example of an industry where economies of scale pay a very important role. While there may be dozens of players around the world who produce, support and work with the industry, there are only a few producers who can claim to have a significant share of the market. Similarly, even though cars are produced in almost every developing and developed nation, only a few countries contribute in a significant manner to the global car production and consumption statistics. Market Concentration In the automotive industry the big three (Ford Motor Company, General Motor Corporation, Chrysler) dominate the market. Ford motor Company (Ford) and General Motor (GM) are the two world’s largest car producers with a joint market share between 21% and 25% (Guerzoni, 2001). Market concentration of Ford and GM can be measured using a precise concentration measuring tool called Herfindahl (H) Index. The H Index is obtained by squaring the market-share of the players, and then adding up those squares. The H index for Ford and GM is 1066. This figure is a sign of moderate market concentration of the two major producers. Rivalry in the industry is measured by Concentration Ratio. Like H index, this is another measure and is expressed in the terms CRx, which stands for the percentage of the market sector controlled by the biggest x firms. For example, CR2= 46% for Ford and GM. As a rule of thumb, CR4 of over 50% is considered a tight oligopoly which means four large firms dominate market share in a particular industry (Oligopoly Watch, 2003). The case of US automotive industry can be considered as a tight oligopolistic market since two large firms control 46% of market concentration. Contribution of Automotive Industry to US Economy The automotive industry produces a higher level of output in the US than any other single industry, with the rate consistently growing. Chart 1 in appendix is a graphical depiction of this fact. Employment is a major factor in measuring the significance of economic activity. The unemployment rate is a strong indicator of national well-being. The unemployment rate for those who report employment in the US automotive industry has consistently been lower than the aggregate US rate of unemployment since 1993. For example, in 1999 the unemployment rate for US was 4.2 percent compared with only 2.9 percent in the automotive industry (McAlinden, Hill, Swiecki, 2003). The productivity of the automotive industry can be compared with other US industries in terms of value added per employee. It is the measure of actual value produced by an industry. In 2000, motor vehicle company employees produced exactly four times as much value as the average US employee (McAlinden, Hill, Sweicki, 2003). The automotive industry also enjoys a high rank in terms of research and development spending as well as compensation paid to its employees. Moreover, automotive industry has downstream impacts on other industries. For example, automotive-related companies spend a huge amount of money advertising and differentiating their products from their competitors’ products. This resulted in the creation of 47,144 jobs in advertising in 1999 (McAlinden, Hill, Sweicki, 2003). Automotive industry also has positive repercussions on employment in the rail industry in the US. This is because there is a need to transport assembled motor vehicles and automotive parts to different parts of the country. In fact, according to the Association of American Railroads, 70 percent of all US produced motor vehicles are shipped by rail. An estimated 18,400 people are employed by all US railroads as a result of automotive freight (McAlinden, Hill, Sweicki, 2003). Competitive Challenges For the present companies in the automotive industry, there are several different challenges which must be addressed. The first and most important challenge is the continued profitability of the company in an environment where competition from equally advanced and competitive players is always a threat. In addition to that, smaller players from countries like China and Malaysia e.g. Proton are working hard to become big players by resisting takeovers and competing in similar segments of the market (Baki et. al., 2004). Static Competition Worldwide, competition has also driven consumer’s expectations about performance, styling, technological innovation, comfort levels as well as reliability upwards while the expectations of costs have been going downward. Earlier competition used to be static, i.e. profit was the main motive. Static efficiency looks at a firm’s productive and allocative efficiency. This concept is used by economists to determine if more resources can be produced by changing the way resources are allocated. This concept could also be used to determine whether industries dominated by monopoly producer might produce at lower cost if competition were introduced into the industry. Static efficiency side-steps the fact that the economy is constantly changing, with new technologies, methods of production and final goods being developed and economic growth taking place. The automotive companies did not look into allocative efficiency, i.e. being more efficient with re-allocation of resources. Static competition in the automotive industry did not pay heed to changing technology, or methods of production. Dynamic Competition In today’s competitive environment, competition has become more dynamic. It is not just about reaping profits from the business, but also maintaining a staying power in the industry. This is achieved by catering to the changing customer tastes and preferences. For instance, the latest trend influencing the automotive industry is consumer preference for certain features. Consumers are choosing safety (e.g. airbags, antilock brake systems) with amenities (e.g. air conditioners, CD players, power steering, central lock systems) over vehicles whose primary appeal is size and interior space (Fine, et al. 1996). Due to competition being more dynamic, resources are being utilized for research & development to produce a differentiated product. For example, Ford, GM and Chrysler have placed increasing emphasis on research collaborations with one another, with their suppliers, and with the federal government. In 1992, they created the United States Council for Automotive Research (USCAR) to facilitate, monitor, and promote cooperative research. Through this cooperative effort, resources are coordinated more effectively to conduct research and evaluate alternative technologies with the ultimate objective of improving the automobile (Fine, et al., 1996). Dynamic competition has led to major technical improvements in the US auto industry to build the next generation vehicles which operate with higher energy efficiencies, lower emissions, and high safety levels. International agreements like the WTO and local trade associations mean that giant car manufacturers can produce cars in one country where labour and services are cheap and sell them in another where labour may be more expensive. In fact, the process of global sourcing and international business is directly and most visibly connected to the automotive industry (Baki et. al., 2004). For example, BMW is a global brand and it has to position itself according to the global market requirements for high end cars. In many places, the demand for luxury cars may not be as significant as others and since BMW is primarily a manufacturer of luxury cars, it should consider making inroads into areas like China and the Asia Pacific region where market growth is expected to boom in the coming years. Moreover, economic competition for BMW is rather difficult since it competes more on the idea of luxury and style which is often much better than the other producers in the market. However, for markets where the buyers are seeking to economise on their cars, the MINI brand can work quite well if the market segmentation is handled effectively (Harbour, 2001). Additionally, cars running on alternative fuels such as hydrogen and cars running with hybrid engines can also be created for markets where there is an adequate support network for both. This means that current producers are continually challenged to find ways in which they can lower costs while increasing the attractiveness of their products for various market segments. Even in the current scenario, industry experts expect that there will be few car manufacturers left in the world in a few decades (Raisch and Zimmerman, 2006). The rest will either close down, be absorbed by other companies or simply cease production due to losses. It must be noted that car manufacturing and the industry itself affects millions of people around the world therefore the closing of a production plant or even the change of the location of a production plant can have serious political and economic consequences which are also a significant public relations challenge for the current players (Baki et. al., 2004). Perhaps the most structural challenge for the automotive industry and the larger players in the industry is getting to grips with new technology. The challenge does not come from automotive technology but from other areas of technology like digital communications. For example, J.D Power and Associates studied nearly 30,000 car buyers in 2002 to discover that more than half the buyers look at the internet before making a buying decision about a car. Additionally nearly 90% of car buyers visit the car manufacturer’s website to get a better idea about the look and feel of the car. Therefore, the use of technology in this area is an essential requirement for car manufactures of today (Baki et. al., 2004). The current players would do well to learn the lessons taught by retailers like Wal-Mart and other industrial giants who have learnt to optimise their supply chains with the use of technology. This use of technology is more important for car manufacturers since increased efficiency of the supply chain would mean reduced costs, increased productivity and improved cost figures. These things would in turn lead to greater profitability. Of course they might not directly connect with political or social challenges but they might help in improving the solutions which can be given. This is because the automotive industry as a whole has come under a lot of pressure from environmentalists, governments as well as special interest groups to reduce carbon emissions and the creation of greenhouse gasses which result from the use of their product. At the same time, vehicles form the basis of our civilisations since ambulances, fire engines and even the engines for air planes would not function without the products made by car manufacturers. There is a very delicate balance between the requirements of the economy and the requirements of the environment and things like hybrid engines and alternative fuel cars can help this balance from a technological standpoint (Stein, 2004). Outsourcing It seems that the most important factor for success in the automotive industry is the profitability of a company which can be maintained by taking a manifold approach to both the production and the sales process. The first step for any company in the automotive industry would be to set their own houses in order by establishing their production facilities in low cost countries. Locations like China, India and even Pakistan can offer facilities for production where the labour costs are comparatively low and the end product quality remains high (RBSC, 2006). In fact, the opportunity for obtaining the low costs comes with the threat that a company would also experience the negative effects of outsourced production. In many cases, proper training, established manufacturing procedures and company guidelines can tackle these problems but for some situations i.e. the design and evaluation of the product itself, it might be better to conduct these exercises in the home office (RBSC, 2006). Similarly, the future successful motor company will have a global supply network for parts and other equipment to get the most benefit in terms of cost and production efficiencies. At the same time, this brings the threat of failing suppliers and individuals who may not be able to produce a quality product. In these cases, a company would do well to look into multiple suppliers with excess capacities to handle the requirements of the company (RBSC, 2006). Successful companies would also realise that technology is a friend of the car manufacturer and not something which should be taken out of lower end cars. In fact, it is perhaps more advantageous to put some technological innovations available in high end cars in low end cars since it adds a lot of value for the person who is seeking a small car but still looking for creature comforts and amenities (Harbour, 2001). Additionally, by producing and sourcing more of the same technology a company would also gain economies of scale that reduce costs of the technology. Moreover, carrying the same DNA in terms of technology would bring some form of standardisation to the entire production line-up which would be extremely beneficial to both the buyers and sellers of the car (Harbour, 2001). Not to mention, maintenance of the mechanical object would be simplified if repairpersons and service providers at all locations of the company understood that certain parts and components have been standardised across the production line (RBSC, 2006). Any company who is currently in the automotive industry or plans to enter into the automotive industry must understand that good business practices in relation to outsourcing and continued customer support/services for all locations where the company operates are very important in ensuring that a relationship can be established with the customer base. Without having such an established, loyal and comfortable base of customers no company can hope to continue for long in this competitive business. Outsourcing can also be done with the setup and launch of a new production facility which always requires careful planning and a complete analysis of the given situation before any move is made towards the establishment of an automotive production plant. The external environment in some cases can be slightly hostile since some localities may be opposed to the pollution levels or tax breaks given to such plants. Additionally, HR related problems may also be faced by the company due to the lack of local availability of key players or highly skilled labour which is needed for automotive production today. Despite these problems, a company can handle all of their issues if they plan the new plant carefully and HR from other locations within the same country or from other countries as outside consultants. Similarly, local partnerships and strategic alliances can also help improve relationships with local communities which would eventually be beneficial for all parties rather than create an air of hostility. Additionally, automotive producers can also be advised to keep a continual check on the progress of the situation for their outsourcing needs at least during the early stages of the development and operations of the plant. Since a new plant requires key decisions to be made on a daily basis, it is highly recommended that one or more of the board members with top decision making powers be delegated to work onsite until the plant is stable enough to be managed as a day to day operations by delegated individuals. This would be a temporary move and would only be necessary until the board itself decided that a delegated authority could now handle the operations of the automotive production plant. The strongest recommendation goes for a board member who has had a certain level of experience in operations management, PR, or recruitment in relation to outsourcing since all of these departments would need a heavy presence at the new plant during the time it is being setup and while it is operating with a skeleton crew. As more members are added to the plant as layered middle managers, senior managers or higher executives, the requirement for the presence of a board member is diminished as duties can be delegated and passed on to those individuals (Maurer, 2005). Outsourcing can also be a considered politically as a socio-cultural factor which can hurt or help the position of a company. However, with effective placement of their production plants a company can acquire a global image instead of being considered a German car maker, a French producer or an American car manufacturer. Effective use of outsourcing can help companies such as BMW to use the repute for German car making as a given in the car industry (Wikipedia, 2006). With outsourcing a company can gain the advantage of being a global brand while maintaining the image associated with the home country. The Structure of the Industry The automotive industry is not an easy one to enter. First of all, it is a prime example of how economies of scale and costs to entry act as a barrier to entry for new manufacturers and it is unlikely that too many companies in the world would have the finances to take on the giants in the industry. However, I think that entering into the market as a niche producer of super luxury, super utility or super cars for that matter might be possible. This is because establishing a niche in the market where everyone else is factory producing their cars could be one of the only ways in which brand differentiation can be established. Even then, a company would need to establish itself as a brand over time and custom produce cars until they could get to a point where mass production is possible. Companies like Porsche, Ferrari, and Lamborghini are all ancient names but they do not sell as many cars as Honda, Toyota or Ford. On the other hand, a company could position itself as a regional or local car manufacturer and limit itself to a particular country or region. In both cases, the investment would probably be a lot less than the required amount of money to compete with a global player like General Motors. The structure of the industry can also be affected by legal implications since the laws concerning automotives are certainly putting pressure on the industry to produce cars which run cleaner, are more fuel efficient and follow other requirements as per the laws laid down in the country. Internationally, some countries are more car manufacturer friendly than others but for the most part, in the coming future the legal environment will get tighter for the entire car industry. All manufacturers have to watch out for such laws coming into place and comply with them to the maximum extent in order to prevent fines or lawsuits from the government or civil unions. Again, even if the company positions itself as a player in the niche market, it must stand out from amongst the crowd by giving some innovation, technological marvel or another unique selling point which makes it better than the rest. There are plenty of fast cars in the world, but manufacturers like Ferrari and Lamborghini dominate the scene for super cars. Similarly, Maybach, Rolls Royce and Bentley are names which are synonymous with luxury and opulence. Therefore, for any new entrant into the market, the situation can quickly become very bleak if they do not offer something which is tremendously better than what the established companies are already offering to the public. It is not likely that the structure of the automotive industry will change significantly in the coming years since over the last fifty years the industry has shown a trend of mergers, acquisitions and expansion of the same players towards new markets. Smaller players will likely be taken over in time by others and as the industry develops, the automotive industry itself may move towards being transportation services providers when alternative fuels and modern technology becomes more economical than petrol or other fuels which are currently being used by the majority of cars. Barriers to Entry Barriers to entry are unique industry characteristics that define the industry. Barriers reduce the rate of entry of new firms, thus maintaining the level of profits for those already in the industry (Caves, 1996). The main barriers to entry that define the automotive industry are: Economies of Scale: The most cost-efficient level of production is termed Minimum Efficient Scale (MES). This is the point at which unit costs for production are at a minimum (Caves, 1996). The greater the difference between industry MES and entry unit costs, the greater the barrier to entry. Patents and proprietary knowledge: Ideas and knowledge that provide competitive advantages are treated as private property when patented. This prevents others from using the knowledge, thereby creating a barrier to entry (Caves, 1996). Automotive industry demands high level of knowledge and innovative ideas to stay competitive. Asset Specificity: It is the extent to which the firm’s assets can be utilised for the production of a unique product (Caves, 1996). High capital costs are incurred in acquiring such highly specialized plant and equipment. High costs serve as a barrier to entry in the automotive industry. Conclusion In conclusion, I feel that the automotive is quite an interesting one to watch because of the nature of the industry and the historical background associated with the rivalries between various companies. However, I believe that the future of the industry leads towards cooperation and sharing of information as more companies realise how they can benefit collectively rather than be in constant negative competition against each other. References Baki, M. et. al. 2004, Automotive Industry Analysis - GM, DaimlerChrysler, Toyota, Ford, Honda. AcademicMind.com, [Online] Available at: http://www.academicmind.com/scholarlypapers/business/management/2004-11-000aaa-automotive-industry-analysis.html Caves, R.E. (1996). Multinational Enterprise and Economic Analysis Cambridge University Press, New York Fine, C.H., St. Clair, R., Lafrance, J.C., and Hillebrand, D. (1996). Meeting The Challenge: US Industry Faces the 21st Century U.S. Department of Commerce, Office of Technology Policy, December, 1996. Harbour, R. 2001. Small-Car profit strategies. Automotive Industries, vol. 181. no. 1, pp 13-15 Maurer, R. 2005, ‘Taking Stock of Change Management’, Journal for Quality & Participation, vol. 28, no. 3, pp. 19-20. McAlinden, S.P., Hill, K. & Sweicki, B. (2003)Economic Contribution of the Automotive Industry to the US Economy – An Update Centre for Automotive Research, Fall 2003 Oligopoly Watch, 2003. Measures of Concentration http://www.oligopolywatch.com/2003/08/15.html Raisch, S. and Zimmerman, A. 2006. Changing Fortunes. University of St. Gallen. RBSC (Roland Berger Strategy Consultants). 2006, Six Key Purchasing Trends in the Global Automotive Industry. RolandBerger.com [Online] Available at: http://www.rolandberger.com/expertise/en/html/publications/2006-01-11-Six_key_purchasing_trends.html Stein, J. 2004. GM plans to launch 2 hybrids in China, Automotive News, vol. 79, no. 6116, pp. 16-17. Watanabe, T. 2006, Toyota seeks 15 percent of global car market. MSNBC.com [Online] Available at: http://www.msnbc.msn.com/id/15698006/ Wikipedia. 2006, Automaker. Wikipedia.org, [Online] Available at: http://en.wikipedia.org/wiki/Automaker APPENDIX CHART 1 Read More