The Big 3 U.S. automakers need to shift gears to remain competitive in a rapidly changing industry, says investment analyst Kaitlyn Murphy.

 

 

Kaitlyn Murphy

Equity investment analyst

14 years of investment experience

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Matt Miller: How do you think about what the biggest challenges are for the U.S. automakers today, in your view?

Kaitlyn Murphy: It's multifold. GM CEO Mary Barra likes to say, over the next five years, 10 years, “There's going to be more change in the auto industry” over that time horizon “than there has been the last 50.”

Matt Miller: Wow.

Kaitlyn Murphy: And I think that quote kind of defines it. Even five years ago, the auto companies were still turning up their noses somewhat at Tesla. Tesla's made a lot of market share inroads, particularly in the luxury segments. And the market seems to like them, because they have a larger market cap than some of the traditional OEMs at far lower volumes. And so, you have OEMs like Volkswagen talking about 25% of their sales being electric vehicles. That's very costly now, if you think your average electric vehicle for the OEM loses the OEM between $10 and $15,000 —

Matt Miller: Wow.

Kaitlyn Murphy: — because of the cost associated with the battery. That will come down, and we'll get to a parity with the internal combustion engine — the cars we're used to driving right now — over time, maybe by mid-next decade. But until that period of time, they're going to be losing money.

Matt Miller: And so, that's interesting, because I never understood that on every electric vehicle today, they're losing a ton of money? 

Kaitlyn Murphy: Yeah.

Matt Miller: And that's because the technology is still at a level where the cost per car is just very high compared to what you can bring it to market for.

Kaitlyn Murphy: Yeah.

Matt Miller: Boy, if you're running these companies, how do you think about that? Very carefully, right.

Kaitlyn Murphy: Yeah. If you're thinking like a long-term owner of the business, you see the path to battery cost coming down, and you think about scaling a platform, and you say, “Yes, I'm going to lose money today, but as that platform scales, I'm going to lose less. And this is a market that I need to participate in; I need to be there. And if I can get my cost profile lower than others’, that's going to be an advantage.” And that's kind of what we've seen with Tesla to date.

Matt Miller: And at the same time, are they building their consumer brand as an electric vehicle for the other brands? Is that part of the calculation of management?

Kaitlyn Murphy: In terms of —?

Matt Miller: That it's a GM electric vehicle and a Ford electric vehicle, etc.

Kaitlyn Murphy: Yeah. I mean, GM's taking it in an interesting direction. You know, the Chevy Volt was one of the first electric vehicles offered in the U.S. And it was actually more of a hybrid, because it had the internal combustion back-up engine associated with it. But it was unprofitable. And so, as part of GM's transformation to not investing in businesses or products that lose money, they've canceled that vehicle, and they're relaunching an entire electric vehicle platform associated with Cadillac. So, why would you do that? What Tesla did really well — and we're kind of learning from that — is relative to all the other OEMs that had electric vehicle products, they came out with not only a lower cost path to the battery pack in the battery cell cost, which was important, but a product people really liked, such that they could sell it at a price point that offered profitability for Tesla. And so, I think the first wave that we'll seriously see over the next few years is going to be on the luxury vehicle segment. That's where we've seen the share loss to Tesla, and that's where the OEMs can offset the higher powertrain cost with higher price points.

Matt Miller: So, of the Big 3 U.S. automakers — GM, Ford and Fiat-Chrysler — which one in your view is best positioned for the future in a rapidly changing industry?

Kaitlyn Murphy: We just talked about EVs. But beyond that, there are massive things happening in product share shifts; designing cars for the emerging markets and how that's changing; autonomous vehicle investments, which are going to cost — if you're serious about it — $1 to $3 billion a year.

Matt Miller: Wow.

Kaitlyn Murphy: Again, these are companies that were barely profitable just a few years ago, so that's massive relative to underlying earnings power. So, when I think about what a company needs to really be successful, I would frame all the changes in autos as being, like, “Who will be the survivor?” almost. They're that big. The stakes are that high.

And I think, starting point, it's a strong balance sheet. I think you need to have a mercenary approach to any business that's losing money, any region that's losing money, and be willing to take action around that. And that's painful. But they really have to lower their break-evens and invest in higher return segments. I think over the next five, 10 years, we'll likely see consolidation in regions. We'll see OEMs exit regions. We'll see new partnerships emerge — and you need the strength of those partnerships, and you need them working really well.

You need a profit center: some kind of large-scale vehicle platform that, as you're investing in all of these changes, is going to fund it. So, it's like trucks for the D3, maybe some of the luxury vehicle markets. Some of the companies that do the scale platforms really well, like Toyota.

And a relentless focus on technology. I think, for so long, the auto industry has kind of, like, all looked around the room at each other and said, “Well, I'm better than the guy next to me.” That was particularly the case for the D3 over a number of years. Like, “Oh, I'm getting closer to the metrics I need to be in manufacturing relative to the Japanese” or ”our products are getting close to the metrics we need for the Europeans.” But you have to force yourself to look outside the traditional ecosystem.

And it's leadership. I mean, who's got the management team that's willing to make these investments, take the short-term pain — the headlines, the tweets associated with it — and really be able to have this relentless pursuit of this five-to-10-year focus?

Matt Miller: Really complex, these challenges.

Kaitlyn Murphy: It's incredibly complex.