The credit quality of leveraged auto suppliers has further suffered during 2007. Operating performance continued to deteriorate, impacted by pricing pressure and high input prices, which caused significant negative deviations vis-a-vis overly ambitious business plans. At the same time, several players are dependent on recovery plans following deep operational and financial restructuring measures, which will persist in 2008.
"While Fitch expects that diversified and innovative suppliers, particularly those with a strong footprint in green technology, will show sound performance, the pressure on the industry remains high," says Markus Leitner, Director in Fitch's Industrials team. "Players with mature and low added-value products that do not command sufficient resources to compete globally will continue to face tough headwinds."
Unabated requirements for annual price discounts from car producers, high raw material costs, the strong euro, growing competition in combination with increasing content from low-cost countries as desired by original equipment manufacturers (OEMs) and the ongoing low-growth environment in mature developed markets are a mix that makes it challenging to defend profitability. Fitch expects virtually flat passenger car registrations in western Europe in 2008, unless a rebound in sales in Germany materialises after a poor 2007. However, emerging car markets, particularly China, India, central and eastern Europe, and Russia are expected to continue to grow rapidly. In that context, the low-price vehicles segment with prices of less than EUR7,000 will further gain in importance. While this segment is seen as a growth opportunity for European suppliers, many of them need to adapt to new technology, pricing challenges and competition from local players.
The ability to create innovative products and solutions will become ever more important for western European auto suppliers. As a result, strong but cost-intensive R&D resources are crucial to new product development, allowing for better margins. The European Commission's proposal that OEMs achieve fleet average CO2 emissions of 120g/km by 2012 and increasing US corporate average fuel economy standards for passenger cars serve as powerful drivers of innovation. European suppliers with leading technology to reduce fuel consumption are expected to benefit from this trend, including Robert Bosch GmbH (Bosch, 'F1+') and Continental AG ('BBB'/'F2'/Outlook Negative), along with Siemens VDO (VDO), the recently acquired automotive operations of Siemens AG ('A+'/'F1'/Outlook Stable). In addition, tyre makers such as Compagnie Generale des Etablissements Michelin (Michelin, 'BBB+'/'F2'/Outlook Negative) with state-of-the-art products can markedly contribute to better fuel efficiency via lower rolling resistance features.
While large scale deals such as the EUR11.4bn VDO purchase, which triggered a one notch downgrade of Continental's Long-term IDR (please refer to Fitch's announcement published 4 December 2007), will continue to be rare, consolidation remains an important topic in this fragmented industry sector with many small- and medium-sized companies. A smaller scale example is the recent acquisition of Valeo SA's car wiring unit by Leoni AG, which elevates the company to the leading European car cable manufacturer. Fitch continues to expect selective M&A activity to be driven by suppliers keen to expand their geographical scope or acquire complementary high-quality assets to extend their technological footprint.
Liquidity among Fitch's European publicly-rated universe is expected to remain solid, supported by long-term financings and moderate debt maturity profiles. Fitch also notes that players with considerable operations outside the automotive sector, including Bosch, GKN plc ('BBB'/'F2'/Outlook Stable) and Rheinmetall AG ('BBB'/'F2'/Outlook Stable), benefited from such diversity, as it helped mitigate margin pressure in their automotive divisions.
