Decorated lead automotive analyst John Murphy at Bank of America Merrill Lynch recently unveiled the 2020 edition of his much anticipated "Car Wars" report. The premise of Car Wars is simple: for automakers, a faster product replacement rate leads to a fresher overall showroom age which drives market share, profitability and ultimately share price. Murphy shared 20 years of historical data that support this thesis. That is, auto companies that can execute (well) on a higher new product cadence will "win" the Car Wars. If you overlay a global pandemic on top of this thesis, you get the 2020 edition of his report of the automotive world we are living in!
Murphy began with a review of the demand side of the equation, noting that a healthy 1.14 million shoppers showed up in auto dealerships in May. His 2020 SAAR (Seasonally Adjusted Annual Rate) sales forecast for the U.S. is 12.7 million units, which includes 10 million in Q2, 11 million in Q3 and 14 million in Q4. Murphy believes these numbers are achievable (and potentially conservative) even with our current high unemployment rates and persistence of CV-19 - while noting a "second wave" if it occurs in the Fall poses some risk to the Q4 forecast. Looking out, he is projecting a 14.5 million U.S. SAAR in 2021 and an eventual return by 2023 closer to pre-pandemic levels in the U.S., with the global market returning to 90 million units by 2025.
Inventory levels will be a big pressure point on sales as the summer unfolds, which may not work itself out until production catches up with demand in the September/October/November timeframe according to Murphy. He noted that used vehicle pricing has "snapped back" as consumers seek substitutes for mass transit or more content at the higher end of the market. Despite his overall optimism that the industry will fight through this, he noted multiple tail risks that produce an overall negative bias on the forecast, including CV-19, the U.S. elections, global macroeconomic volatility, trade, regulatory uncertainty and other factors.
OK - back to the Car Wars.. Over the 2021-2024 forecast period, Murphy predicts an average of 63 new models, up from 40 during the 2020-2021 period. This equates to an annual Replacement Rate of 18% and 16% over those periods, higher than the historical average. Crossovers and light trucks will lead the way, with 113 new CUVs hitting the market over the four years - creating a very crowded space with challenging profitability. "The heyday on crossover (profitability) will be over at that point," he noted. Overall, the total industry Replacement Rate during the forecast period is 74%, with Honda leading the way at 91%, Hyundai/Kia at 90% and Ford at 83%. VW and GM will lag the average at 66% and 65%, respectively, in part driven by their intentional shifts to EV (more on that later), with Toyota at 59% and FCA at 57% trailing the pack. Accordingly, he noted that a "gap is opening" among the OEMs on Replacement Rates.
In terms of powertrains, Murphy predicts a 50-50 split between ICEs and alternative powertrains during the forecast period, including 26% electric, 23% hybrid and 1% fuel cell vehicles. As to Electrification, Murphy reviewed the Bill of Materials for ICE platforms vs. Electric, noting a base cost difference of more than $10,000 currently. In the short term he believes this will lead OEMs to focus on higher end product with a price point above $50,000 (example: GM strategy of leading its EV plans with Cadillac) including new entrants like Byton, Lucid, new Fisker and Rivian in addition to Tesla with the largest current market share. He described the overall U.S. EV strategy as "getting the flywheel going" to drive adoption at profitable levels until the cost curve on EVs comes down and price points are closer to the high $30's.
Regarding Autonomy, Murphy sees a continued focus on Levels 1, 2 and 3 for the moment, with emphasis on the commercial side, with more adoption of Level 4 and 5 by "mid-decade." This greater adoption of ADAS will have a real impact on safety overall and making a mile easier to drive will eventually boost demand for driving miles. Creating a "smart network" on the roads would accelerate AVs adoption as automakers struggle with achieving "the last 1-2% of perfection" according to Murphy.
In conclusion, Murphy noted that while the global automotive value chain faces a challenging macro environment, product activity remains robust ("hot and heavy"), while a replacement gap is emerging and significant technology challenges remain (which pose both issues and opportunities). Again, overall Murphy struck a positive note: "the industry is looking at brighter days ahead.after we fight through the rough near term crisis."
During the Q&A session, Murphy made a number of interesting observations, predicting a "huge round of consolidation" in the supplier market as suppliers with strong balance sheets seek to extend their global reach and vehicle content and customer penetration. In terms of the recent auto industry debt issuances to raise dry powder, Murphy was fairly sanguine that the OEMs will not convert most of that debt to "permanent capital" while noting that some of the larger Tier 1s have borrowed at very attractive rates. Murphy also predicted that some of the current cost cutting will stick, which combined with strong margins, a good mix and good pricing will further drive profitability over the forecast period. Murphy also compared and contrasted the impacts of a Trump re-election vs. a Biden election, noting that while there are "lots of puts and takes" on a net basis a second Trump Administration with a continuation of current emissions policies may result in a better product mix and more profitable industry.
Julie Dauterman, Competitive Intelligence Analyst at Foley, is a contributing author on this post.
Originally published 30 June 2020.
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