Dacia-level price discipline needed to end margin slump in Europe, expert says

Dacia could point the way out of the current margin slump that European automakers are suffering. That is one of the views that Bernstein's new head of automotive research, Arndt Ellinghorst, shared with Automotive News Europe in an interview. He cited Renault's budget brand as an example of the price discipline that automakers have long promised but, with a few exceptions, have failed to deliver. Ellinghorst, who joined Bernstein in May from Evercore ISI, where he was head of global automotive research, discussed this topic and more with Correspondent Nick Gibbs.

Automakers in Europe have long claimed they will reduce volume and concentrate on higher-margin sales instead. Daimler and Renault are the latest to make this promise. How likely is it that any manufacturer can keep it?
That brings us to the question of vehicle pricing and the push model used by most of the industry, including the premium brands. We are entering a phase where price realization, profitability and cash flows are becoming absolutely vital and the industry is being forced into a much more mindful price-volume setup. We have some brands chronically operating on 30 percent discounts. It's impossible to generate sustainable profits on this.

Who does well on price-volume discipline?
Toyota and Peugeot have really restored their pricing -- and Dacia offers the fewest discounts of any brand in Europe. Who would have thought that?

And the worst?
You have a lot of brands that offer a lot of tactical sales support, for example, in the premium space, Audi. It's possible for the industry to operate with a more profitable volume setup. Some volumes will have to be sacrificed, but I don't think it's critical. What is important is that companies need to adjust their break-even level, because that gives them space to sell fewer cars at a higher margin.
 
That would mean raising car prices. How will consumers react?
Some people will trade down a little bit, but I don't think the changes will leave too much of a mark. It has become a habit to welcome a consumer with a 20 percent discount the moment he steps into a showroom. Some of it is cutting irrational pricing and stopping old habits, but it won't impact sales too much. Restoring pricing by 500 basis points on a car that costs 20,000 to 30,000 euros, spread over a three-year leasing deal, ends up costing an extra 30 euros a month. It doesn't make a difference. Fixing price has far more to do with discipline and process than losing a lot of volume.

What do think will happen to Fiat Chrysler's European brands once its planned merger with PSA is completed? Can CEO Carlos Tavares apply the same model that has worked so well since PSA took over Opel/Vauxhall?
Europe is a pretty fragmented market with regional brands and tastes. In Europe, Tavares will be selling Peugeot technology to the Germans with an Opel badge, to the British with a Vauxhall badge and Italians with a Fiat badge. You still have very strong regional brand equity that he would struggle to cater for solely with the Peugeot brand. If that gets him to a volume level using one technology and one R&D facility that could make sense.

When will automakers make a profit on electric cars without help from subsidies?
Without government incentives it's impossible for premium products to get to comparable operating margins by 2025. I don't think battery costs are coming down fast enough. For a compact car it will take until the late 2020s.

Mercedes recently said its EQS flagship full-electric sedan will be profitable from the start after it arrives next year. Is that possible?
We can't use products that cost 100,000 euros and draw any conclusions for what happens to mass-market mobility.

What is the path to profitability?
The cost of the battery supply chain is not coming down at the speed some people hoped. The reasons are that everything in that supply chain needs to be certified for automotive grade, for ESG (environmental, social and governance) compliance, and the batteries need to be made with renewable energy because otherwise the well-to-wheel emissions are incredibly high. The qualification of the entire battery value chain is costing a lot of money, and that comes on top of the scarcity of some of the minerals.

If automakers can't count on battery prices coming down fast enough, where should the savings be made?
To a large degree they have to come out of existing manufacturing. That requires a much higher standardization of platforms and a much lower complexity of the engine portfolio. I see no reason why engines shouldn't see the same consolidation as transmissions. BMW doesn't make a single gearbox itself, for example. I could ask why some brands even need to make their own engines.

What is the longer term impact of the COVID-19 pandemic?
The pandemic is another experience that no one in the industry would ever have thought possible. Stopping production from one day to the next and then only slowly ramping up again has led to the biggest drop in volumes in the history of global auto industry. This was a complete shock to the system. But, then we learned it's actually doable, that the industry can deal with such an extreme situation, which I find remarkable.

Are there any upsides to the pandemic for automakers?
We have seen a much stronger recovery of demand in nearly all markets globally, which is equally remarkable. Consumers have expressed a much stronger desire for cars, which is why we called it the reincarnation of the car. People suddenly realized how important individual mobility is to them, whether that's a weekend trip or holiday or whatever. The car is a private area that offers you freedom. We have also observed deurbanization, with many people leaving big cities and moving to the suburbs or smaller towns. The moment they do that they need a car. At the moment, automakers have extremely low inventories, used car prices are going up, new car prices are going up and the outlook for demand looks extremely encouraging.

What does this do to pre-pandemic plans in the mobility area?
It sharpens everything. Before the pandemic all the talk was about CASE [Connected, Autonomous, Shared, Electric; some companies reconfigured the letters to make it ACES]. What's left is the E and C, electric and connected. That's all. No one wants to share a car. Pretty much every car-sharing business had huge issues before [the pandemic]; now many are almost out of business. Ride-hailing will come back but we have all learned that it's not disrupting vehicle ownership. God knows when autonomous robotaxis will come. Whether that will offer an attractive business model is highly questionable.

How do these changes help?
That's what we call sharpening your edges, focusing your mind on what is core and stopping the spray-and-pray investment mentality. That's just not happening any more. Some of that had become obvious even before COVID-19, but the pandemic is giving executives more reasons to spend less.