Six superstars ponder the future of an 'irrational' auto industry

LUTZ: For the last 30 or 40 years, investors and analysts have been saying the automobile business is a great consumer of capital and does not return economic value to the shareholders.

What's new here? This is the first time somebody in the business — rather than being defensive and saying, “Wait until next year” and “We just went through a rough patch,” etc., etc. — is agreeing with the premise that the automobile business is a destroyer of capital. It really is.

ANALYST ARNDT ELLINGHORST: It's important to understand why Sergio makes that point. It's a very fair point, but he has an interest because he is running a company which is probably most challenged within the global industry.

LUTZ: The knowledge that one is to be hanged in the morning focuses the mind wonderfully.

TRUECAR PRESIDENT JOHN KRAFCIK: I think 50 percent could even be conservative. You're talking to a bunch of car guys, right?

We might notice, but 95 percent of the human car buyers around the globe really couldn't tell the difference, maybe even between — I don't know — a BMW and a Mercedes, or a BMW and a Chrysler.

LUTZ: How many people — other than by the unique styling and the brand on the truck — could really discern a meaningful difference between a Ford F-150, a Chevy Silverado, a GMC Sierra or a Ram?

KRAFCIK: That's a great example.

MANGANELLO: In the Volkswagen fam-ily, you would be surprised how many — from my powertrain background — how many parts in the engine and transmission are common between a Volkswagen, an Audi, a Seat.

LUTZ: Can you say Bentley? That is basically an Audi A8.

MANGANELLO: I won't speak about Bentley because some of the stuff we had to do was totally special for Bentley. Long story short, they created a different personality and a different feeling for the [VW group] vehicles based on their tuning rather than an engine and transmission.

PALMER: [At Nissan] it was always a point of huge debate. I completely agree with everybody, by the way, in terms of 50 percent of the value of the car is probably invisible to the customer, and maybe even higher than that. The key, from the experience I have had planning new cars for various brands, is making sure you pick the right 50 percent. You can have a debate about whether, for example, an engine is perceivable or imperceptible to a customer.

KRAFCIK: They're OK on the margin and they're small little victories, but it doesn't solve the whole problem. If you are not totally merged and working together on the same product plan, working three or four years out and taking those synergies for those massively expensive product programs ... you just don't get that consistent victory. You are making a lot of tactical deals that are just little Band-Aids that in the end don't fix the structure.

LUTZ: I agree fully. That's why General Motors rejected the overture at the time from [Renault-Nissan CEO] Carlos Ghosn of joining the alliance because somebody has got to be in charge and say, “No, we're not going to do your architecture. We're going to do this one over here.” Somebody has to have the capability to override the naysayers. Because in every company, everybody protects their turf and their jobs.

PALMER: There is a natural flaw to the concept of an alliance insofar as if you have two executive committees making their own decisions. You tend to take the easier route, which is to go your own direction. What you need is a strong leader that pulls it together.

Most of the profit pullout of the industry is in premium, luxury and entry. Almost nothing is made in the middle. That's where you need the real sledgehammer to get the economies of scale that one would get through full mergers where there is only one guy in charge, where you can demand those synergies. I think that's where Sergio is absolutely right.

PALMER: I agree about the technologies that are coming forward — shared [vehicles], the alternative fuels, the connected vehicles and the autonomous vehicles — but we're all doing them separately. As an industry, we can't even agree on a common plug for a plug-in electric hybrid or a plug-in electric vehicle. How stupid is that? What hope do we have of competing with those other industries if we can't get over the basics? I think in that sense, actually the industry is getting worse rather than better.

The debate that Sergio raises ... is a call to the industry that we need to start addressing. I don't know whether we have to sit down and have a discussion in terms of M&A. I'm not sure that M&A is necessarily going to suit when there are so many scattered scrapheaps around M&A. … We have to have some discussion of better standardization.

ELLINGHORST: We all know that very few mergers have survived or make sense. Nissan is probably the only global integration that has really worked out. It's incredibly difficult.

LUTZ: International mergers are very, very tough because it's so hard to consolidate. You have got a headquarters on one continent, a headquarters on another. You have legal requirements, tax requirements, human resources, legal, etc. and … you can't run European legal or European human resources or European procurement [from the U.S.]. What does work are mergers in the same geography if they're done well.

The problem with most mergers or acquisitions is that … when they put the plan together and show all the synergies, it looks great. Like BMW and Rover. It looked like a great thing on paper. Once they had the deal done, they never moved in and actually smashed the two companies together. That has to be a pretty brutal process where you move with uncommon haste, plan everything in advance and then do it.

When Chrysler bought American Motors in 1987, we had a plan. Within 90 days of the merger, the total fixed cost of the combined company was no higher than what Chrysler's was before because it was done with a great deal of energy and discipline.

General Motors twice tried to buy Chrysler in recent years. It made all the sense in the world … because with the headquarters right next door, man, you could just shut down one headquarters, you could have one rear-wheel-drive architecture, you could go to one truck architecture, consolidate your crossover architectures. GM still had Hummer back in those days. It could have been easily integrated with Jeep, etc., etc.

I was always in favor of GM acquiring Chrysler and I honestly think it would deserve a serious look now. You would get synergies ... which would be massive.

KRAFCIK: There does have to be some kind of pressure. I'm not sure if Darwinism is going to work because so many of these companies are big national champion players within their countries.

LUTZ: Look at Citroen. I mean, Citroen failed and it never went away.

LUTZ: One reason mergers fail is an absence of really powerful leadership. That's what caused BMW to fail with Rover. They went over there and they got a spiel from the Austin Rover guys saying, "We're perfectly all right. We just ran out of money. All we really need is a little capital infusion and here is our hockey stick."

The BMW guys thought, "Well, this is going to be easier than we thought." The thing became a huge cash drain. You can't do that. It takes guys like Lee Iacocca and Carlos Ghosn who say, "Here are the marching orders." Without the push from the top, they never get anywhere. Heard anything recently about the General Motors-Peugeot alliance?

PALMER: The common thread ... between partial success and complete and utter failure is one of leadership. It's leadership and it's focus and it's will to get it done.

ELLINGHORST: That is the absolutely crucial thing.

LUTZ: We look at DaimlerChrysler as having been a failed merger. Well, it wasn't failed for the Chrysler shareholders. At the time of the merger, the Chrysler shareholders realized an enormous gain.

The subsequent execution was flawed in that Daimler never stepped in. Everybody kept doing their own architecture, and you had the hubris as part of the Mercedes [side] that said, "We will never use a Chrysler engine." I have news for you: Our four-cam V-6 engine 3.2-liter was every bit as good as the equivalent Mercedes-Benz.

ANDERSSON: Being part of the Renault-Nissan Alliance, I would say it's working well. It's 15 years now and we really see the benefits of one engineering organization, one manufacturing organization … Carlos Ghosn is a very strong leader and very effective.

MANGANELLO: I don't see [mergers] happening right now. Everybody is moving along pretty well right now with their sales. Everybody is feeling comfortable with their profitability. I don't think any OEM — or any CEO of an OEM — wants to take the risk.

LUTZ: No CEO wants to lose his job.

MANGANELLO: Unless they're ready to retire. Then they can go out with a nice package. [Marchionne] may be desperate, but he is putting on a pretty good bluff. He is looking down the road and somebody has got to come up with all that cash if he wants to do all the projects he needs to do.

KRAFCIK: You could argue that some of these companies are distressed today.

MANGANELLO: They just don't know it.

KRAFCIK: I know times are good, but if you look at the market cap of car companies right now, Ford is worth about $60 billion, give or take, GM is worth about $53 billion, give or take. These are companies with $150 [billion], $200 billion top lines selling at a quarter of their revenue.

LUTZ: That's just pitiful.

MANGANELLO: They think, "We'll survive, but those other guys may not."

LUTZ: I agree with John. There may not be the pressure to do it now, but at some point we're not going to have this level of prosperity.

ELLINGHORST: There is probably no other industry where you can buy a huge r&d power at a cheaper price than the auto industry right now. Look, I do generally believe in the whole idea of consolidation. I just really think it's not going to happen at the peak of the cycle.

LUTZ: I would take exception to the comment that it makes no sense now. Taking a look at your strategic options at a time when you are not under pressure and when you still have options is the right time to consider strategic moves. If you are in deep trouble and hemorrhaging cash, it's kind of too late. One of the problems with GM in '07, '08 was we were running out of options.

PALMER: The rational time to be looking at consolidation is probably on the up cycle when the company has got money, but we're an irrational industry.

KRAFCIK: It's a really interesting hypothesis. Tesla is essentially open-sourcing all of their EV-related patents. Ford quickly followed suit with the same approach and Toyota took the same approach with hydrogen and fuel cells. So everyone is doing it now. That's an interesting play.

MANGANELLO: Remember the days of the beta and VHS? Maybe they want everyone to lock in on their path.

LUTZ: Their old stuff.

KRAFCIK: Right now there are just two paths on zero-emission vehicles.

LUTZ: I'm cynical. I think part of it is sleeves out of our vest. You know, "Let's make a big pronouncement. We don't need this stuff anyway." If you look at, for instance, Tesla's battery technology, everybody thinks there is a secret sauce in there someplace. There is no secret sauce. It's lithium ion. They just pack more of it into the car than anybody else.

My prognosis is everybody is going to do some fuel cell vehicles. Now, there would be an ideal architecture to share.

KRAFCIK: The skateboard.

LUTZ: Yeah. Just do one fuel cell vehicle and have about six companies each participate in the architecture so that at least they might attain a volume of maybe 100,000, so that everybody can have their 5,000 or 6,000, which they're going to need to comply with California.

I don't know if anybody noticed, but full-size sport-utilities used to be — just a few years ago used to be $42,000, all in, fully equipped. You can't touch a Chevy Tahoe for under about $65 [thousand] now. Yukons are in the $70 [thousands]. The Escalade comfortably hits $100 [thousand]. Three or four years ago they were about $60,000. What this is, is companies trying to recover what they're losing at the other end with what I call compliance vehicles, which are Chevy Volts, Bolts, plug-in Cadillacs and fuel cell vehicles.

KRAFCIK: The open-sourcing comment is a good one. It's an interesting way for the industry to share intellectual capital and to stop redundant waste in reinventing similar solutions to get around patent barriers. The reason the industry is a capital junkie is the industry is duplicating the same solutions over and over and over across companies, across suppliers. We're spending duplicative engineering effort, duplicative capital investment, duplicative tooling. Open-sourcing avoids that.

MANGANELLO: If you have more open sourcing, that means the car companies go more and more toward the assemblers … because they all have access to the same product. You can do something similar with supplier partnerships and still have some control.

KRAFCIK: The challenge then becomes: What are you going to do to differentiate your company?

LUTZ: Yeah.

MANGANELLO: A transmission is 80 percent common in terms of electronics, all the hardware, everything else. But then you sell it to various OEMs and they calibrate it completely differently.

LUTZ: If you are going to open-source your valuable intellectual property, why would you do that? I mean, why would you have your r&d people and your engineers work for the benefit of the industry and say, "Here, guys, we invented this new type of fuel injection that improves fuel economy by 25 percent. We'll open-source it."

KRAFCIK: In this case with EVs and hydrogen, I think it makes a whole lot of sense. If you have got something you cherish as part of your brand, it would be foolish to do that.

PALMER: You know, Sergio uses the word "junkie." I think it's an interesting analogy. Normally a junkie is needing some help to get off drugs. You can't do it by yourself. I think that's true in this industry. Maybe it comes from open sourcing. Maybe it comes from the likes of Tesla. To me, once you publish a patent I think it's all out there anyway. So I think it's all a little bit of an entertainment value.

I do wonder in the discussions that are starting to happen right now around free trade whether the likes of SAE, [the Japan Automobile Manufacturers Association and the European industry trade group] have a role, a very important role, to play and I come back to simple stuff like a plug. It's stupid that we have at least four or five standards of plugs around the world.

I think the industry does need help getting off the capital drug and I think it will need external help. It will need some form of destruction. Whether that's the Google cars of the world, I doubt. Whether it's the Teslas of the world, I doubt. I think it could come through good old capital discussions and Darwinism and the rest of it and through thinking about free trade.

LUTZ: Ultimately capitalism is going to talk. As long as the price-earnings ratios of automobile companies are where they are … the automobile industry is going to have a tough time generating new capital. At some point, there is going to be pressure from shareholders, shareholder activists, hedge funds or whatever, for mergers.

KRAFCIK: The global industry is huge — like $2 trillion, if you just looked at the transaction value of new-car purchases. Look at it another way: If you assume a dollar per mile traveled and look at all of the miles that humans are traveling, new and used cars, it's a $10 trillion addressable market, if you look at personal mobility as a service.

What's exciting about the industry now and maybe some of what's underlying Sergio's passion and urgency is that other nonincumbent companies, really interesting companies with big market caps who are used to earning much more on invested capital, are looking at this and saying, "Holy smokes! We could totally do something in this industry."

MANGANELLO: I know they're developing their own vehicles at Google and so forth. I think they're going to end up having to partner up with car people that can actually take the electronics and the mechanics or the mechatronics and make it all work together seamlessly, not just a bunch of electrical engineers.

LUTZ: That could be. But … the industry of multiple brands, multiple shapes, high-performance cars, minivans, sport-utilities and everything, that is … not the world as I see it 30 years from now.

KRAFCIK: I see two vectors ... the industry is really worried about. One is operating systems, all this stuff we're talking about on the road to autonomy, but also on the road to [vehicle] sharing. That's sort of operating system stuff, software system stuff.

The second vector is propulsion systems which will change radically over the next decade or two. Bob, you may disagree. I think a lot of internal-combustion solutions are going to decline with time. You are going to see more zero-emission vehicle solutions.

MANGANELLO: The problem is how much.

LUTZ: How much and how fast.