How to survive the OEM bloodbath and prosper

My heartfelt condolences to all who supply parts to the OEM market. It is a bloodbath. In the period from January 1 through March 22 2009, production of cars in  North America (USA, Mexico, Canada)  dropped to 1,548,971 units, down a whopping 53% from 3,284,009 units built in the same period in 2008. Everywhere in the world, new car production has been severely curtailed. Most drastically in the US, a market on which the Chinese autoparts industry still is far too dependent.

What little business there is is worried about getting paid. The American government gave Chrysler 30 days to get their house in order, or it will be bankruptcy. GM received a sixty day stay of execution. Bondholders in both companies think they will receive more after a court-administered break-up. Fritz Henderson, the new CEO of  General Motors said a few days ago that bankruptcy could "very well happen."  In an interview with the Financial Times, Henderson said: "If we have to resort to bankruptcy then we're going to do it fast." As days go by, a total bankruptcy of Chrysler looks like a certainty. A pre-packaged bankruptcy of GM has an increasing likelihood.  It will result in a much smaller company and a huge amount of unpaid bills.

According to Automotive News, the accounting and consulting firm Grant Thornton said it estimated 500 auto suppliers are at "high risk" of failure.

Says Automotive News: "The ongoing uncertainty continues to rattle suppliers because once a company files for bankruptcy, many vendors are considered "unsecured creditors" who may or may not be paid what they are owed. To protect them from such an event, some suppliers are rushing to protect themselves."  These steps risk revenge and repercussions, as outlined in my last column.

What's more, precautionary measures of suppliers could hasten the demise of auto makers, which are already on the brink of disaster.

"One supplier not wanting to continue shipping products that are mission critical, and with no alternative vendor stepping up, well, that one little supplier could shake everything," said Jerry Mozian, national segment leader of restructuring for executive services firm Tatum LLC.

Chrysler said on last week it was forced to idle its minivan plant in Windsor, Ontario, because of a parts shortage and warned that the issue, if unresolved, could disrupt production at its other North American plants.

The situation is a little better in Europe, but not by much. Overall new car production in Germany for instance was down by a third in the first three months of the year.

While the new car market gets smaller and smaller with no end in sight, there is a huge after sales market abroad  In North America and Europe alone are approximately 500 million cars on the road that all need service and parts. 500 million, that is ten times the current world production.

If the Chinese parts industry wants to survive, then it must quickly re-orient from the disastrous OEM business to the stable and growing aftermarket business. We have talked about this in previous columns. We have already discussed that breaking into the aftermarket business, which is controlled by thousands of wholesalers, is easier said than done.

As discussed before, buying parts directly from a Chinese supplier  is an exercise rarely undertaken by a European or American wholesaler. Only very few wholesalers have the patience, the money, and the technical expertise to commission and to supervise contract manufacture in China. When it is done properly, both the buyer and the seller report very positive results.

When parts are being ordered by price only, and with no technical input from the buyer, it usually ends in a disaster. A recent example is Russia. Russia bought a lot of parts from China. Specifications were loose, supervision was non-existent, and compliance with ECE rules was rarely checked. Several buyers had a bad experience, word is getting around, and suddenly Chinese parts are nearly unsalable in Russia.  Of course, the buyers will never admit that it was their fault. They blame "the inferior quality of Chinese products," and another market is lost for years. Instead, these buyers go back to buying expensive OEM parts, or parts offered by Bosch, ATE, Valeo, Teves, Textar etc. We all know where most of those are made. In China.

Bosch, ATE, Valeo, Teves, Textar etc. have the name recognition, the reputation, and the ability to deliver overnight what their customers want. However, Bosch, ATE, Valeo, Teves, Textar are exposed to the OEM business as well. Delphi went bankrupt many years ago. TMD friction, parent of  Textar, declared bankruptcy a few months ago, and was rescued by the  private equity firm Pamplona Capital Management a few days ago. ATE and Teves are part of Continental Teves, which is in severe financial trouble. Even healthy Bosch is in crisis mode.

So what is the solution? China is still the healthiest of all producing nations. China has the strength and the capability to benefit from the weakness abroad.  We have said it before: A number of Chinese manufacturers need to get together, produce the most important products in the most important product categories, and put them all in a central warehouse somewhere in Europe and the US. Accessible on-line. Overnight delivery. Knowing the Chinese ex-factory prices, and what wholesalers pay abroad, this central warehouse could offer parts at 50% below market, and still create many times the profits a Chinese parts maker currently realizes.

The recent acquisition of Delphi's worldwide brakes and suspension business  by a conglomerate formed by the Chinese Tempo Group, China's Capital Iron & Steel Co., and the Beijing government is a step in the right direction. It shows that such a move is not just a dream. However, the wholesalers want more than just brakes and suspensions, they want a single source with a wide spectrum of autoparts. A cooperative effort of a number of Tier 1 and Tier 2 Chinese manufacturers from diverse fields could deliver what the wholesalers want.

What stands in-between this sure-fire and profitable concept and success? The fierce competition between Chinese parts makers. This in-fighting is the worst enemy of success. What ever happened to good old Tuan Jie Jiu Shi Li Liang? As long as Chinese manufacturers are divided, their success will be limited. United, they are strong.

About the author: Bertel Schmitt, Gasgoo's columnist, is CEO of Hong Kong based parts sourcing company Sinamotive. Before founding Sinamotive, with the assistance of U.S. venture capital, Mr. Schmitt was a marketing consultant to Volkswagen AG.