A Global Automotive Industry
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Vehicles are classified as an import based solely on where the car is built. Volkswagen will not pay any US import taxes on a car that is built in the US, while GM (NYSE: GM) can be stuck with a tax bill on a Buick that is sold in the US but produced in Germany. Investors would be wise to look at who will get hit hardest and benefit the most from a trade deal between the US and the EU.
What can free trade do for you?
President Obama announced that the proposed Transatlantic Trade and Investment Partnership will extend to the automotive industry, to abolish tariffs on imported cars. This may lead to more automotive manufacturing jobs here in the US where the cost of labor is cheaper than in the EU.
GM and Ford (NYSE: F) will be the obvious winners in Europe with this legislation. The deal calls for the repeal of the 10% import tax on all vehicles that the EU imposes, making GM and Ford vehicles more appealing in Europe.
A 2.5% price reduction on a $30,000 vehicle is $750. That is not necessarily going to tip the scales, but that does give Volkswagen more wiggle room for price negotiations or added features. On the other hand, a 25% reduction for commercial vans and pickup trucks will stiffen competition for GM and Toyota, as Europeans are now able to enter the market at much lower price points.
All of the discounts that would soon go to consumers for imported European cars does have one company worried, Toyota Motor (NYSE: TM). Toyota has been battling GM for years to become the largest automotive manufacturer, and reclaimed the top spot last year. Toyota is known for practical cars like the Camry, which sold 36,000 units in June. This places Toyota at number three for most sold car in the US, behind Ford’s F-150 and GM’s Silverado, which both have substantially higher margins.
The one thing Toyota does have going for it is the weak Japanese yen. With record low interest rates, Japan's currency has decreased against the dollar. This has added to Toyota’s bottom line and given it a cost advantage over the competition. However, at a PE of 21, Toyota is priced very aggressively against GM and Ford, with PEs of 12.2 and 11.5, respectively. Toyota does pay a dividend yielding 1.6%, however, it is lower than Ford's 2.4%.
America does have several advantages over Europe when it comes to cost structures. GM and Ford have reduced the number of union workers at both companies. In addition to labor costs, new reserves of natural gas have bottomed out energy prices in the US, giving the US a structural cost advantage too. This would give both GM and Ford use for their spare capacity in the US.
Ford and GM have ruled the truck market and most European brands have not broken into that market, yet. With the 25% tariff removed, GM will have a hard time maintaining margins if a major European manufacturer enters the truck space.
Don’t ignore China
Both Ford & GM saw sales rise in China last year by 6% and 3.5%, respectively. Both automakers are planning on investing billions in new production capacity. Ford is looking to spend $4.9 billion through 2015, doubling its production capacity to approximately 1.6 million vehicles. GM is planning on outlaying over $11 billion on four new plants. Manufacturers are racing to establish market share and return customers in this market, and brand loyalty is something that neither manufacturer can afford to lose.
Ford has been able to increase its net profit margin to 4.6% while producing smaller cars that consumers want. GM on the other hand has a net profit margin of 2.8%. GM has had to deal with the stigma of the government bail out, as well as working on playing catch-up to Ford when rolling out new models. As an investor, Ford only has a payout ratio of 16%, while sporting a dividend of 2.4%. Both GM and Ford have similar sales growth perspectives, but Ford is in a better financial position with seemingly better operating efficiencies.
Foolish bottom line
The auto-industry competition has been heating up recently, but if there is another global slowdown in growth, we will see the weaker manufacturers stumble again -- potentially for the last time. Ford continues to steal market share with its Fusion and Focus in the small vehicle segment and has the highest dividend and best valuation of the US manufacturers. I plan on using a pullback in Ford's stock price to start a position as soon as I can.
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Wes Patoka has no position in any stocks mentioned. The Motley Fool recommends Ford and General Motors. The Motley Fool owns shares of Ford. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!