How Mr. Marchionne Can Be So Right And Yet So Wrong about the State of the Auto Industry

I can only dream of being remotely close to the caliber of businessman and leader that Sergio Marchionne has been to FCA, but to me, I find his constant condemnation of the automotive industry’s state of affairs annoyingly obvious, and his solution more than a bit misdirected.

In short, Marchionne believes that there are too many companies producing too many similar-enough products for it to not make sense to consolidate, citing the industry’s poor average return on invested capital in relation to other industries.

“Consolidate!” he screams to anyone who will listen. The only way to achieve better margins is through combining more existing brands into conglomerates, like VW has done with their 13 brands. For each brand to have its own manufacturing and supply chain operation is wasteful and costly. Fair enough, and any business class would tell you that’s usually a safe bet in achieving better economies of scale and reducing manufacturing overhead and downtime. But we aren’t talking about what the class would tell you, we’re talking about an industry and a product that in many ways is as cultural and emotional as it is mechanical. And economies of scale and ROIC are merely two tools to assess an industry. Granted, they’re super important ones, but they still only tell a portion of the story.

Which brings me to my next point: people have agendas, and when you figure out why people are choosing to say the things they are, the picture is usually less opaque. Despite how right Marchionne is on the state of the industry, any business undergrad could have (and has) pointed out the same low ROIC of the industry as rationale for a lot of things, consolidation included. It’s not rocket science, and he’s not the first person to think something needs to change in the industry. Not to mention the similar industries also plagued by low ROIC – airlines and industrial equipment typically have lower returns on average than most carmakers.

While creating a splash in headlines, Marchionne’s intended audience is pretty much any carmaker willing to talk about consolidating with FCA, as well as any activist investor itching to get more out of their auto stock holdings. As background, Marchionne joined Fiat in the early 2000s, and returned Fiat to profitability while simultaneously completing the merger with Chrysler in the depths of the recession to emerge as a top ten global auto player. He’s technically a law graduate, but he’s a finance guy, and that’s the lens through which he views the industry. And he’s not done yet. He still sees his empire as not quite big enough (see Ferdinand Piech’s wiki page). To get to be bigger, he sees another mega-merger on the horizon. And time is running out – he gives up the CEO chair in 2018. Hence the immediacy in his tone.

“Why GM?” is the first question I will ask Marchionne if ever I get the chance. (Marchionne’s golden goose in his consolidation rant and search for a mega-merger partner is General Motors. He’s been courting them harder than a senior in high school who forgot that prom is tomorrow and there’s only one not-asked girl still available.) It doesn’t matter how many beautiful reports and facts you have about the gains and synergies that could be realized with the hypothetical merger of FCA and GM. God himself could bless the move and it still wouldn’t happen, for a reason more obvious than the blatant fact that the automotive industry has poor returns – GM is still healing from the last time someone thought it’d be a good idea to have a lot of brands under one roof.

While Mr. Marchionne was busy bailing out Chrysler, the U.S. government was busy bailing out GM. You know how GM got themselves back together again? They got rid of Pontiac and Oldsmobile and Hummer and Saab and Saturn. You know what Ford did? They sold Jaguar, Land Rover, Aston Martin, and Volvo. When crisis hit, the answer was to split brands up, not pull them together, except in Chrysler’s special case. Yes, economies of scale go down in some instances, but often times they’re more than made up for with a focused product line free of beareaucratic conglomerates trying to “create synergies” and “share knowledge capital” across brands. And if you look at the success of GM’s slimmer portfolio as well as Jaguar-Land Rover, Aston Martin and Volvo compared with Chrysler’s performance under the FCA umbrella, it’s not a stretch of an assertion.

Mr. Marchionne’s second point in his consolidation pitch is his view that customers no longer care about what platform and engine is in their car, and he believes that cars could all be built on shared platforms and engines as a result of consolidating carmakers. No one in the industry would argue, and guess what: it already happens on a fairly regular basis.

But the problem for GM back in 2008 was that they were so obsessed with synergies and sharing parts between the brands that customers forgot what differentiated the brands at all. This isn’t a big issue when the economy is running full-steam, except when it isn’t. When the economy contracts, customers put their money with the brands and products that deliver the most value to them, and if you are caught with a host a homogeneous cars within undifferentiated brands that are trying to be everything to everyone, customers will take their business to someone who understands them better. GM learned that the hard way. VW does the conglomerate thing much better – they share platforms and tech but the brands are wholly distinct and follow an obvious pecking order. This works for them. But that is by no means saying they’re a case study for why FCAGM should exist or any other amalgamation of acronyms.

Final point: saying everyone should consolidate is painting the brush way too broadly. Are there some OEMs that could use it? Sure. Could others be hindered by it? Of course. VW has done well with 13 brands, but so has Toyota and Ford and Subaru, who combined have fewer brands than FCA, but sell way more cars at a better margin. Subaru is the poster child for customer targeting, and it’s worth mentioning that Subaru has the highest margins of all the automotive companies.

So yes, Mr. Marchionne is right that the automotive industry could be allocating capital and resources better, but consolidation is just one way to go, and plenty of carmakers have already tried and gotten burned by it. And let’s not forget that although FCA has done well since the recession, many other global players are performing much better, leaving many to wonder why they would want a less-than-stellar company to tie up with. Jeep and Dodge have basically kept FCA afloat due to their intense focus on the specific traits of their customers, Chrysler and Fiat and Alfa Romeo have barely moved anywhere, and the only reason Maserati is doing well is because they made a cheaper version. Let’s check the log(s) in FCA’s eye before we start talking about the stick in everyone else’s.

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