US auto sales decline hits chemical producers

Impact assessment

04 September 2008 00:00  [Source: ICB]

As US auto manufacturers have increasingly incorporated chemicals into their products, chemical producers feel the brunt of the auto market's downturn. But will geographic diversity mitigate the blow?

Ed Zwirn/New York

BY THE pound, or in terms of dollars and cents, the typical automobile is using more chemistry than ever before.

Every light vehicle manufactured in the US contained an average of $2,441 (€1,658) worth of chemistry as of 2006, an increase of 10% over the previous year and the second consecutive double-digit increase, reports the American Chemistry Council (ACC), citing the most recent statistics it has compiled.

Included within this chemistry is everything from antifreeze and other fluids, catalysts, plastic dashboards and other components, rubber tires and hoses, upholstery fibers, coatings and adhesives, as well as basic and specialty chemistry associated with processing.

More specifically, the automotive market is important for plastic resins such as polypropylene (PP), polyurethane (PU), nylon, other engineering polymers and thermoplastic polyesters, with light vehicle applications accounting for over 30% of the demand for each of these resins.

Other resins used by the industry include acrylonitrile-butadiene-styrene (ABS) and polyvinyl butyral (PVB), the latter of which is used in safety glass.

While the favorable properties of these polymers and composites are manifold, the overriding consideration is weight - especially as fuel prices spike.

The average light vehicle contained 338lbs (153kg) of plastics and composites as of 2006, 8.4% by weight, up from 286lbs in 2000 and 194lbs in 1994, says the ACC.

With each pound of plastics and composites replacing two to three pounds of other, heavier materials, polymers have helped reduce vehicle weight, improving fuel efficiency and reducing greenhousegas emissions.

For every 10lbs of plastic substitutes, a vehicle's fuel efficiency is improved by 0.11-0.14%, according to the ACC.

AND NOW FOR THE BAD NEWS

And now for the bad news. As the crises in the housing and financial sectors of the US economy continue to grab headlines, the woes of the US auto sector are quietly deepening, hurting the auto companies, along with the industries that supply them with materials and parts.

The "ailing Big Three" (US automakers) is almost a cliche when it comes to economic headlines, but the disturbing reality is that the illness affecting US auto companies has worsened, with soaring fuel costs pushing vehicle sales down in the industry by 19% in July.

Overall, Ford sales were down by 14%, General Motors (GM) down by 26%, and Chrysler down by 29%. For GM, pickup truck sales plummeted by 41%.

Other manufacturers, such as Japan's Honda and Toyota are also seeing disappointing results, hurt by the weak US auto market.

And a look at the July figures shows that this decline is accelerating. During the month, domestic manufacturers sold vehicles at an annualized rate of 9.1m units, the lowest total in 17 years, and a steep decline from the 9.9m figure posted in June.

Even factoring in imports, the figure falls to 12.5m units, down from 13.6m in June and a far cry from the 16m-plus vehicle sales level seen in late 2007 and early 2008.

And lest anyone think that this decline is just a blip on the screen, both analysts and industry executives think the North American auto sector is likely to be in for a long slog. In the meantime, even the most diversified chemical companies are facing a double threat, as many are dependent upon the housing and construction sectors as well.

While ACC chief economist Kevin Swift's estimates call for an overall 14.5m light vehicle sales this year, down from 16.1m in 2007, he expects the figure to remain basically flat at 14.6m in 2009.

"Gasoline prices have increased, eroding discretionary income," he says. "The drop this year is going to be pretty significant in terms of sales. The auto sector is suffering - that much is clear."

"The bad news," according to Kyle Loughlin, chemical analyst at US-based credit ratings agency Standard & Poor's (S&P), is "that the North American chemical industry does face the auto industry as one of the key end markets."

With US chemical giant DuPont deriving some 20-25% of its revenues from the automotive sector, marketing coatings and plastic parts direct to original equipment manufacturers (OEMs) and resins and inner layers for safety glass coatings direct to auto manufacturers, it behooves Anthony Coletta, the company's vice president for the Americas, to keep his finger on the pulse.

DIVERSIFICATION HELPS

"We're linked very closely to our customers," he says. "In general, we're experiencing that decline, along with these customers, with the most severe impact particularly in trucks and SUV [sport utility vehicle] sales."

David Fischer, DuPont's director of global marketing, OEM Auto, admits that while results from North America are "going to stay low for the next 18-24 months," the picture is more favorable if one takes a global view.

"Automotive globally is seeing steady growth, but growth is not uniform across all markets," he says. "We have our resources deployed where the growth is. [China, India, Eastern Europe, Latin America, Mexico are all] growing at a much more rapid rate than North America and Western Europe."

Dow Automotive accounts for $1.8bn of US-based Dow Chemical's $54bn in annual revenues, supplying plastics, brake fluids and other fluids, adhesives, parts, filters, foams and energy management technology to "virtually every auto maker around the world, in every continent," according to Steven Henderson, Dow's Americas president.

"It's true that the Big Three are losing ground and it's a very challenging market in the short term," he says. "But when you do a vehicle switch from an SUV to a car, you don't want to give up the adhesives that bind the car together."

Henderson also refutes the perception that his Midland, Michigan, US-based company is at a geographical disadvantage, given the decline of the US auto industry relative to foreign competitors. He points out that companies like Toyota and Nissan, which is also Japanese, as well as South Korea's Hyundai are eager to get closer to their North American customer bases and have plants in Michigan. Honda is setting up shop in relatively nearby Marysville, Ohio.

"We've been doing business with these companies for a long time," he maintains. "The industry's become much more global [but] there's no doubt that the market is down, year on year, and that goes pretty much across the OEMs."

Despite Dow's profile as a diverse company, which, "in the broad context, as a company with an A rating, is still tracking pretty well," Loughlin notes that the company is not alone in being exposed to "a period of economic uncertainty in which raw materials are very erratic."

"You are going to face a certain amount of headwind in this environment," he says, adding that the company's efforts to restructure have proven largely successful so far.

In December 2007, Dow announced it would be shutting down a number of facilities, eliminating about 1,000 jobs and exiting auto-related businesses such as its sealer operations in North America, Asia-Pacific and Latin America within nine to 18 months.

THE PRICE IS RIGHT

Loughlin also observes that, despite a relatively weak second quarter, the company was able to successfully impose across-the-board price increases that were announced at the beginning of the summer, in the face of spikes in commodity and energy markets.

"It's clear there is margin compression," he says. "But overall, results have held up very well. They indicated that volumes have held up, with double-digit increases in Europe and Asia-Pacific."

Analyst Cynthia Werneth, who covers DuPont at S&P, says there is a "very similar story" to tell there. The company, which derives in the "low 20% area of total sales" from the auto sector, is diversified geographically as well, scoring almost 60% of its sales outside North America.

Like other companies, volatility in commodity markets has also posed a challenge, with raw material costs equaling 15% of earnings in the second quarter of 2008, up from 5% for all of 2007, she says, adding that, as is the case with Dow, pricing power has not proven to be a problem, so far. "They've said they've been very successful with price increases, although that's been more visible with Dow."

VIEW FROM EUROPE

Germany's BASF is an example of a global chemical company that is even more diversified, away from the US in particular, and the auto industry in general, with the auto sector accounting for 13% of total sales last year, according to S&P analyst Tobias Mock.

First-half sales increased at BASF by 11% in 2008, despite a decline of 2% registered in the US. Profitability was up by 15% overall, despite a drop of 19% in the US.

Although the AA-rated company has significant exposure to the US, particularly with its acquisition of specialty chemical firm Engelhard two years ago, Mock rates the downturn in construction as a greater threat to the company than the woes of the auto sector. "While you clearly see weakness in the US, the biggest automotive exposure is in the sale of catalysts, along with coatings and specialty plastics," he says, noting that at €2.6bn, the largest of these, the catalysts, "are small in contrast to the €60bn in revenues booked by the company last year."

THE MILLION-DOLLAR QUESTION

Although the auto sector has contributed to chemistry's woes, all agree that it is not the biggest worry faced by those companies in the sector. "We don't really expect autos to be a key driver," at least as far as credit ratings are concerned, this year, says Loughlin.

"There is a broad-based economic downturn, but more important is the construction downturn," which has prompted credit downgrades outpacing upgrades by a margin of two to one so far this year, he adds.

The 12 US companies downgraded by the agency so far have included chemical firms like Georgia Gulf, as well as Tronox and other titanium dioxide pigment manufacturers, which have the dubious distinctions of being "highly leveraged, narrowly focused, pinched by raw materials and pinched by the credit crisis," Loughlin notes.

The majors have the advantage "to the extent that there's diversity across numerous industries." That being said, he notes the inescapable conclusion that "all of the companies that face the [US automotive] end market are feeling the pinch."

In the meantime, whether the pinch is painful or just an annoyance, the US downturn, with the attendant danger it could spread to stronger markets, particularly in Europe, is forcing companies to cut back, particularly those with leverage, in the not-too-distant future.

"We're getting ourselves right-sized for this number of vehicles," says Henderson, noting that beyond the cutbacks already announced in the auto sector, the company is looking hard at the number of product offerings and the facilities in which they are to be produced.

This would include the possible "exiting" from some products in the body sealers area, including polyvinyl chloride (PVC).

"We continue to see volatility in energy and feedstocks," and the company is prepared to deal with this, says Henderson.

"It's a challenging market in North America to say the least," he says. "And trying to speculate how it is going to wind up is the million-dollar question."

Zero interest - and the financing's free, too!

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