The Great Compression: The coronavirus pandemic could drive a long-overdue consolidation of the global auto industry


Sergio Marchionne was many things, besides CEO of both Fiat Chrysler Automobiles and Ferrari: dry wit, loose cannon, financial engineer, Sphinx to journalists – and, often, an auto-industry scourge. Before his death, following complications from surgery in 2018, Marchionne had been planning his retirement after decades in the car business, but not without frequent excoriations over what he believed was the industry’s single biggest problem.

Too many carmakers.

Marchionne infamously consolidated his thoughts in a widely discussed, debated, and circulated 2015 presentation self-loathingly titled “Confessions of a Capital Junkie.” I never got to ask Marchionne if he was making a reference to the essayist Thomas De Quincey’s “Confessions of an English Opium-Eater,” from 1822, a work considered by many to be the first addiction memoir, but even if he wasn’t, addiction was his subject.

Specifically, the “capital junkie” was Marchionne himself, and the addiction was to the cash that flows through the seemingly stable yet actually quite ragged and fragile veins of the global car business. The global auto industry is a multitrillion-dollar colossus, and it needs to be, because in Marchionne’s estimation, the destiny of much of that money was to be wasted.

Big carmakers, he argued, “spend vast amounts of capital to develop proprietary components, many not really discernible to customers.” Lurking over the horizon was an even more disturbing nightmare of waste, with companies pouring research-and-development into equally undifferentiated but extremely expensive electric powertrains, advanced safety features, infotainment systems, and autonomous technologies. The sins of the past would simply become the pricier sins of the future.

Getting the capital monkey off the auto industry’s back

Marchionne’s conclusion was that the “capital consumption rate by [automakers] is unacceptable-it is duplicative, does not deliver real value to consumers and is pure economic waste.” His solution was consolidation: fewer carmakers working with a smaller range of components and getting the capital monkey off their backs.

Marchionne put his company – Fiat Chrysler Automobiles, formed from the shotgun marriage of Fiat and bankrupt Chrysler during the 2008-09 financial crisis – where his mouth was. First, he borrowed a theme from the Chapter 11 struggles of General Motors and Chrysler and in 2015 courted GM CEO Mary Barra for a merger. Rebuffed, he kept the idea alive, and in 2019, after his death, FCA attempted to join with Renault, but the deal collapsed. Later, it found success in combining with the PSA Group, although in 2020 the tie-up still hadn’t been completed.

In context, an FCA-PSA combination represented at least four carmakers becoming one: Fiat mated to Chrysler, PSA buying Opel-Vauxhall from GM in 2017. A Marchionnian dream, enriched by his successful spinoff of Ferrari from FCA in 2015, unlocking what by 2020 had become a $US33 billion company.

VW and Ford announcement re: ArgoAI and electric vehicles
Volkswagen CEO Herbert Diess and Ford CEO Jim Hackett. REUTERS/Mike Segar

Meanwhile, the gigantic VW Group, reeling from its dieselgate scandal, was staring down an enormous level of new investment in electrification to satisfy tighter European regulatory requirements in a post-diesel world. It allied with Ford, immediately setting off merger speculation – or at least speculation of another version of the Renault-Nissan-Mitsubishi alliance. GM cozied up to Honda to develop electric platforms for Cruise, GM’s stand-alone autonomous ride-hailing startup, acquired for $US1 billion in 2016 but worth $US20 billion in 2020 after subsequent investment rounds.

Marchionne was gone, but the lessons of the capital junkie were being applied it seemed, all over the globe. What could be next? A Daimler-BMW combo? Would Toyota absorb Mazda and Subaru? Would the Renault-Nissan-Mitsubishi arrangement, the industry’s oldest, collapse after the arrest of chairman Carlos Ghosn in Japan, leaving Nissan and Mitsubishi as new targets for Toyota and sending Renault back to FCA-PSA?

The black swan: Coronavirus shuts everything down

Ford factory
Workers build Ford F-150 trucks at one of the automaker’s assembly plants. Associated Press

The car business seemed to be preparing itself for Marchionne to get his wish from the great beyond when, in early 2020, the coronavirus pandemic crashed head on into the auto industry and shut it down – almost worldwide – for two months. In the US, a market that had boomed for five straight years, with automakers selling vehicles at a record or near-record pace, the monthly numbers plunged from levels that would have matched 2019 – about 17 million vehicles in total – to a pace of 8.5 million at the pandemic’s peak in April, a nadir not seen since 1975.

Although most market observers expected operations to bounce back, and despite most carmakers having amassed huge war chests of cash after years of SUV and pickup-truck sales, an unprecedented new hurdle had emerged for an already challenged industry.

An M&A surge wouldn’t necessarily make all those challenges manageable. The history of mergers in the car business is exceptionally fraught; Chrysler’s bankruptcy, in many ways, was a direct result of the takeover in 1998 by Daimler (the German giant eventually unloaded most of its stake to the private-equity firm Cerberus Capital Management, before the financial crisis and the 2009 bailout).

FILE PHOTO: Mike Manley, CEO of Fiat Chrysler Automobiles (FCA), and FCA Chairman John Elkann (R) speak next to a 2019 Ram Heavy Duty Power Wagon pickup truck at the North American International Auto Show in Detroit, Michigan, U.S., January 14, 2019. REUTERS/Rebecca Cook/File Photo
FCA CEO Mike Manley and FCA Chairman John Elkann. Reuters

Before the 2017 sale, GM had lost money on Opel for decades. Few in the industry thought the Renault-Nissan alliance would succeed, and with Ghosn’s arrest in 2018 the internecine rivalries between the Japanese and French partners were laid bare. When Alan Mulally came from Boeing to a tumultuous Ford Motor Co. before the financial crisis he immediately set about shedding prestigious brands such as Aston Martin, Jaguar, and Land Rover, which were consuming inordinate resources.

But while the 20th century held the story of the auto industry’s birth and triumphant rise to become the jewel of American business, the 21st has been shaping up to tell a different tale, with the old guard frantically trying to sustain its still-lucrative legacy while avoiding a distracted slide into irrelevance as younger and nimbler upstarts work to do what automobiles in the early 1900s did to the horse business of the 18th century.

The coronavirus pandemic dramatically revealed the traditional industry’s core vulnerability: a total shutdown of the manufacturing machine – vast, sprawling, and multinational, employing hundreds of thousands of workers in close quarters – literally cost a fortune. The major automakers have spent tens of billions since March to sustain an apparatus that has been almost completely idle.

As Marchionne argued, a large part of that apparatus makes a redundant contribution. The industry, in 2015, would have to choose “between mediocrity or fundamentally changing the paradigm for the industry.”

Removing the problem of ‘too much choice’ from the market

The numbers were on his side. The aerospace industry, for example, takes almost 20 years to consume the capital that the car business does in four. The largest sector in the entire economy, consumer and retail, takes 36 years. The problem for the auto industry, as Marchionne saw it, was then compounded by cyclicality, with companies swinging from robust profits to substantial losses. Ford went from having so much cash on hand – $US20 billion – by the standards of the 1990s that analysts were worried that it had too much and wouldn’t invest it correctly to losing almost $US15 billion in 2009 and having to borrow $US24 billion to avoid the same fate as bailed-out and bankrupt GM and Chrysler.

Capital Junkie slide
A slide from ‘Confessions of a Capital Junkie.’ FCA

For its part, GM had become such a capital-gobbling and inefficient enterprise by the early 2000s that it considered a strategic airlines-style bankruptcy as a preemptive strike against the debt load that would cripple it in the Great Recession. (The company’s struggle to finance a bankruptcy at its former parts division, Delphi – among the largest and longest in US history at four years – killed that idea.)

Industry-specific cost-saving measures, from reducing the number of vehicle platforms to partnering to share expenses, hadn’t solved the core financial problem, according to Marchionne. A more drastic reduction was called for. Effectively, the industry needed to remove choice from the market, because much of that choice, especially at lower price levels and higher production scale, was an illusion. A $US200,000 Porsche 911 is quite different from a $US200,000 Ferrari Portofino, but a $US25,000 Toyota RAV4 and a $US25,000 Honda CR-V are basically the same car. At an extreme level, the industrial logic dictates that both vehicles could be produced at exactly the same scale but with no engineering differentiation, and a substantial gain in unspent capital by both Toyota and Honda.

Consumers would still make buying choices based on brand values, loyalty, and relationship with dealers, but automakers would be able to curtail their capital addictions and invest in future technologies that would actually make a difference: electrified platforms, connectivity, data services, and automated factories.

Elon Musk
Tesla CEO Elon Musk. Jae C. Hong/Associated Press

The coronavirus pandemic has provided a glimpse into how these reforms could function. The Detroit automakers have moved first to restart their most important operations, building full-size pickups, because these are high-margin vehicles that represent a good return on capital as they offer so much differentiation to buyers. They have been less quick to resume manufacturing anything that has less differentiation, including sedans and crossovers.

The situation in the US is less open to consolidation than Europe, where Marchionne proved his mettle as the saviour CEO of Fiat. In the US, manufacturing capacity is more rational, and plants that haven’t performed have been closed. Famously, the GM-Toyota joint-venture in California, called NUMMI, is now Tesla’s main factory. And more recently there was GM’s plant in Lordstown, Ohio, which had been making a slow-selling compact sedan, the Chevy Cruze.

In Europe, there are too many factories for market demand. With limited future growth – electric cars would simply replace internal-combustion market share, not expand it – those factories should be in China, the market that has the greatest potential to rise in the next decade (it’s already larger than the US market and could be more than twice as large by 2030, with as many as 40 million vehicles sold annually).

A postponed reckoning with recovery

Mary barra donald trump Sergio marchionne
GM CEO Mary Barra and Marchionne meeting with President Trump in 2017. Getty Images

The car industry encourages stasis. Although it is cyclical, over 100 years of history have taught executives that business as usual will return after recessions. Even amid the unprecedented pandemic collapse, industry observers and insiders expect a relatively strong recovery. In the US, if Congress undertakes a massive incentive effort to spur demand – a COVID-19 version of 2009’s $US3 billion “cash for clunkers” program – the 2020 sales tally could match or exceed 2019.

Marchionne, the quintessential opportunist, would call that a missed opportunity.

“It is ultimately a matter of leadership style and capability,” he said of his cure for the capital junkie. The implication was that his leadership style and capability was the model, and that was his closing wink in the presentation – an indictment of the industry’s ingrained cowardice, the endless excuses of the addict.

Marchionne, by the way, knew addiction well, as a committed chain-smoker and sleepless espresso fiend who quit puffing only a few years before his death. The uncured addict also continues to assert an influence, even if it’s posthumous. When I interviewed a Detroit executive a few years ago, after Marchionne’s passing, I shared that I had found my final notes from a Sergio press conference in a notebook that I’d brought with me. The exec and I agreed that it was eerie. And my notes were full of capital-junkie follow-ups.

Post-pandemic, the overwhelming urge initially will be to restore normality: factories back to full production, furloughed workers back on the job, cars and trucks selling briskly at dealerships, rock-bottom interest rates encouraging a fresh boom, automakers raking in a round of record profits.

But the capital addiction could remain, encouraged by borrowing backstopped by governments eager to avoid mass unemployment and Great Depression-level deflation. This was the critical flaw in Marchionne’s otherwise compelling take: Despite his workaholic crustiness and cosmopolitan affection for sarcasm, he was a constitutional optimist. If he weren’t Chrysler would no longer exist. His outlook simply wasn’t grim enough to consider the worst-case scenario: a euphoric comeback from the pandemic means that the capital junkie has once again postponed his reckoning with the hard road to recovery.