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08/02/2013by EOS Intelligence EOS Intelligence No Comments

Mexico – The Next Automotive Production Powerhouse?

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As the first of our five part automotive market assessment of the MIST countries – Mexico, Indonesia, South Korea and Turkey, we discuss the strengths and weaknesses of Mexico as an emerging automotive hub, and the underlying potential in this strategically located gateway to both North and South America.

Emergence of Mexico as a major automotive production hub is the result of a series of events and transformations over the past decade. The most important of which is the growing trend among automotive OEMs and auto part producers to have production bases in emerging economies. And the earthquake in Japan in 2011 tilted the tide in favour of Mexico just as ‘near-shoring’ was already becoming a key automotive strategy in 2011.

Automotive production in Mexico increased by 80% from 1.5 million in 1999 to 2.7 million units per year in 2011, largely thanks to a significant boost in investment in the sector.

Between 2005 and 2011, cumulative foreign direct investment (FDI) in the automotive sector amounted to USD10.3 billion. In the last year, several automotive OEMs have initiated large scale projects in Mexico; some of these projects include

Nissan – building a USD2 billion plant in Aguascalientes; this was the single largest investment in the country in 2012 and should help secure the country’s position as the eighth largest car manufacturer and sixth largest car exporter in the world
Ford – investing USD1.3 billion in a new stamping and assembly plant in Hermosillo, New Mexico
Honda – investing USD800 million in a new production plant in Celaya, Guanajuato
GM – investing USD420 million at plants in Guanajuato and San Luis Potosi
Daimler Trucks – investing USD300 million in a new plant to manufacture new heavy trucks’ transmissions
Audi – has decided to set-up its first production facility across the Atlantic in Mexico; with planned investment outlay of about USD2 billion, this move by Audi represents a significant show of trust by one of the world’s leading premium car brands
Mazda – building a USD500 million plant in Guanajuato; it has reached an agreement to build a Toyota-branded sub-compact car at this facility and will supply Toyota with 50,000 units of the vehicle annually once production begins in mid-2015

Bolstered by this new wave of investment, Mexico’s vehicle production capacity is expected to rise to 3.83 million units by 2017, at an impressive CAGR of 6% during 2011-2017.

Why is Mexico attracting such large levels of investment from global automotive OEMs? Which factors have positively influenced these decisions and what concerns other OEMs have in investing in this North American country?

So, What Makes Mexico A Favourable Destination?

Trade Agreements – Mexico has Free Trade Agreements (FTAs) with about 44 countries that provide preferential access to markets across three continents, covering North America and parts of South America and Europe. Mexico has more FTAs than the US. The FTA with the EU, for instance, saves Mexico a 10% tariff that’s applied to US-built vehicles, thereby providing OEMs with an incentive to shift production from the US to Mexico.
Geographic Access – Mexico provides easy geographical access to the US and Latin American markets, thereby providing savings through reduced inventory as well as lower transportation and logistics costs. This is evident from the fact that auto exports grew by 12% in the first ten months of 2012 to a record 1.98 million units; the US accounted for 63% of these exports, while Latin America and Europe accounted for 16% and 9%, respectively (Source – Mexican Automobile Industry Association).
Established Manufacturing Hub – 19 of the world’s major manufacturing companies, such as Siemens, GE, Samsung, LG and Whirlpool, have assembly plants in Mexico; additionally, over 300 major Tier-1 global suppliers have presence in the country, with a well-structured value chain organized in dynamic and competitive clusters.

The Challenges

Heavy Dependence on USA – While it is good that Mexico has established strong relations with American OEMs, it cannot ignore the fact that with more than 60% share of its exports, the country is heavily dependent on the US. The country needs to grow its export markets to other countries and geographies to hedge against a downturn in the American economy. For instance, during the downturn in the US economy in 2008 and 2009, due to decline in sales in the US, automotive production in Mexico declined by 20% from 2.17 million in 2008 to 1.56 million in 2009. Mexico has trade agreements with 44 countries (more than the USA and double that of China) and it needs to leverage these better to promote itself as an attractive export platform for automotives.
Regional Politics – Mexico is walking a tight rope when it comes to protecting the interests of OEMs producing vehicles in the country. In 2011, Mexican automotive exports caused widespread damage to the automotive industries in Brazil and Argentina and in a bid to save their domestic markets, both the countries briefly banned Mexican auto imports altogether in 2012. Although, later in the year, Mexico thrashed out a deal that restricts automotive imports (without tariffs) to its two South American neighbours rather than completely banning them, it does not augur well for the future prospects of automotive production in Mexico. One of the reasons automotive OEMs were expanding their capacity in the country was to be able to cater to the important markets in Latin America, particularly Brazil and Argentina. Now the Mexican government has the challenge of trying to keep everyone happy – its neighbours, the automotive OEMs and most importantly its own people for whom it might mean loss of jobs and income.
Stringent Regulatory Environment – The Mexican government, the Mexican Auto Industry Association and International Automotive OEMs are locked in a tussle over the government’s attempts to implement fuel efficiency rules to curb carbon emissions. Mexico has an ambitious target of cutting greenhouse gas emissions by 30% by 2020, and 50% by 2050. The regulations are similar to the ones being implemented in the USA and Canada, however, the association has complained that the proposal is stricter than the US version. Toyota went as far as filing a legal appeal against the government protesting the proposed fuel economy standard. Although the government eased the regulations to appease the automotive OEMs in January 2013, the controversy highlights resistance by the country’s manufacturing sector to the low-carbon regulations the government has been trying to introduce over the past few years. Such issues send out wrong signals to potential investors.

So, does Mexico provide an attractive platform for automotive OEMs? From the spate of investments in the country so far, it seems so – over the past few years, the country has finally begun to fulfil that potential and is now a key driver in the ‘spreading production across emerging economies’ strategy of companies looking to make it big in the global automotive market. However, there are still a few concerns that need to be addressed in order for Mexico to become ‘the’ automotive manufacturing hub in the Americas.

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In our next discussion, we will assess the opportunities and challenges faced by both established and emerging automotive OEMs in Indonesia. Does Indonesia continue to be one of the key emerging markets of interest for automotive OEMs or do the challenges outweigh the opportunities?

30/01/2013by EOS Intelligence EOS Intelligence No Comments

Australia – Stepping on to the Mine Field

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While most developing countries have been negatively impacted by the significantly deteriorated economic conditions in the US and European markets, Australian economy appeared to be largely shielded from the impact of the global economic slowdown thanks to its mining industry. Following the onset of the 2008 crisis, when most developed economies slowed down, China continued on its path of infrastructure development and investment. This boosted its demand for minerals and resources, large part of which continue to be imported from mines across Australia.

Thanks to the Chinese economy growth sprint, Australian mining industry has been in a boom mode since 2006, and consequently witnessed soaring levels of capital investment in mining and related logistic infrastructure. The industry growth was significant enough to have resulted in higher dependency of Australian economy on this sector, with the mining and mining-related service industries accounting for about 20% of GDP in 2011-12, compared with only 10% a decade earlier.

The industry is still on a roll, yet the situation might change soon. With the Chinese economy showing signs of slowing down in 2011 and 2012, the Australian government and business executives can no longer be certain of the continuous inflow of Chinese orders for Australian mining output. But the decline in orders is just part of their worries, as mining companies operating across Australia are faced with other challenges as well, which question their ability to remain competitive in the global market.

The Challenges

While currently it is estimated that the strong performance of the Australian mining sector will continue till at least 2014, there are already growing challenges in the industry. Slackening demand, particularly from the Chinese infrastructure sector, has lead to a global drop in commodity prices of coal and iron. This decline in prices, coupled with higher operating costs due to rise in employee wages and energy costs, makes it less economical for Australian ore extractors to trade in global markets.

Skills shortage and union pressures further drive the operational costs upwards. A shortfall in skilled personnel is likely to result in employees being available only at a premium, leading to further increase in costs. A shortage of truck drivers in mining sector has seen employees of large companies, such as Rio Tinto and Xstrata, receive as much as three times their base salary. The insufficient talent is also witnessed in more skilled and experienced jobs, including mine planning engineers, geologists, metallurgists and mineral processing engineers. This skill shortage also gives employee unions an upper-hand when it comes to negotiating perks.

The rise in costs is further multiplied by the introduction of additional taxes, including the Carbon Tax and the Mineral Resource Rent Tax, all of which contribute to the rising cost burden of the Australian mining companies.

At the same time, mining productivity has resurfaced as an increasingly relevant issue. According to 2012 estimates by the Mineral Council of Australia, productivity in mining industry has reduced by about 30% since 2003.

These challenges are a visible sign that Australia’s mining sector is likely to have an increasingly harder job to compete with mining companies in other emerging resource-rich countries, such as Indonesia, whose proximity to important Asian customers results in lower shipping costs to the client. This could result in a considerable decline in Australian mineral exports, and thereby, have a negative impact on the Australian economy as such.

The Way Out

Both the government and mining companies are devising ways to overcome the challenges posed by these increasingly pressing issues.

Expecting that the current peak in mining investment boom will soon be followed by the sector’s decline, the Reserve Bank of Australia (RBA) announced cuts of cash and lending rates in December 2012. Concerned by the fact that the non-mining industries in Australia continue to struggle, RBA has introduced these cuts to support the underperforming non-mining sectors, such as housing, construction, and retail. While the short-term outlook for non-resources investment is likely to remain subdued, these cuts are expected to provide impetus for investment in these sectors over a long term.

Mining companies face a tougher task to remain competitive in the global market. In the short-term, several Australian mining companies are looking at temporary shelving of investment projects to deal with the deteriorating demand and decline in commodity prices. For instance, BHP Billiton, the world’s largest mining company, shelved its Olympic Dam and Bowel Basin projects after witnessing a decline in profits.

However, putting investment projects on hold is not enough and mining companies will have to continue to undertake initiatives to tackle the problem of increase in cost per ton of output.

Initiatives to raise employee productivity are being put in place. In 2012, a contracting company overseeing work on Chevron’s $52 billion Gorgon gas project banned sitting during working hours to improve operational productivity.
Companies are trying to explore alternatives to tackle skill shortage. Rio Tinto has started employing driverless trains and trucks to cart iron ore from its mines in order to tackle the premium wage demands, caused by the shortage of drivers in mining operations.
Companies are cutting employee perks to lower wage costs and offset lower returns. In 2012, Fortescue Metals Group scrapped weekly staff barbecues, and removed free coffee and ketchup from the canteens.

While these initiatives might attract negative publicity, particularly with labour unions, these steps have become increasingly necessary for mining companies to get back on the path of competitiveness and profitability over a long run. But will this be enough? Will cutting weekly employee get-togethers, and making workers stand at work take care of 30% productivity decline witnessed over the past decade? These measures definitely appear disproportionate to the problem’s weight. Or do the Australian mining executives have some more tricks up their sleeves that will actually matter in prolonging the mining sector golden years?

06/12/2012by EOS Intelligence EOS Intelligence No Comments

Apple Vs Samsung: The Battle of the Wrong Contenders

On August 24, 2012, a jury in San Jose, California drew curtains (for the time being at least) on the long-drawn saga between Apple and Samsung. The court delivered a verdict largely favorable to Apple, validating most of Apple’s claims and ordering Samsung to pay Apple $1.05 billion in damages.

The verdict followed months of bitter battle between the two companies, which together sell more than half of the world’s smartphones and tablets. Although Apple’s charges against Samsung are more about design and features, it is actually an attack on Google and its Android software, which drives Samsung’s devices and has become the most widely used mobile software.

Since Apple, Google and Microsoft belong to the operating platform universe, their patent strategies differ vividly from the old mobile telecommunications world of essential patents. The mobile telecommunications industry is not new to IP litigations. However, current litigations concern the operating software used in smartphones, whereas earlier litigations were targeted at mobile telecommunications standards. This situation has arisen as Google did not have ex ante licenses from Apple and Microsoft.

There are two IP regimes, ‘essential patents’ (radio, transmission and telephony) and ‘platform patents’ (operating system software). In the Apple vs. Samsung case, the charges filed against Samsung relate both to essential patents (related to design of Samsung phones and tablets) and to platform patents (related to certain features allegedly copied by Android from iOS). However, when it comes to mobile internet, there is no overlap between the two patent regimes. The current IP litigation game (between Apple, Google and Microsoft) is only about platform patents (operating system software) and not about ‘essential patents’ (radio, transmission and telephony).

The mobile telecommunications market is currently undergoing upheaval as mobile internet is becoming the dominant application and phones are practically turning into mobile internet devices. For mobile telecommunication incumbents (such as Ericsson, Motorola, Nokia, Sony and Samsung), competition remains heated with direct threat from the likes of Apple and indirect competition from Google and Microsoft.

Apple and Microsoft are expected to be the winners in the current IP litigation scenario, since their IP is considered to have value in smartphones, while as Google’s IP, in comparison, is considerably lower, the Android operating system and its alliance network seem to be losing. The role of mobile telecommunication incumbents, with respect to patent portfolios is still important but limited to essential patents.

The unique position of Google as merely the provider of Android has also protected it from any direct IP litigation. However, to fight with Google, both Apple and Microsoft have filed IP litigation against the adopters of Google’s platform ecosystem, which includes original equipment manufacturers (e.g., HTC, Motorola Mobility, and Samsung) and application developers (Lodsys sues Rovio).

These attacks are global and are spread across four continents; specifically, Apple has sued the largest producer of Android-based devices, Samsung, in the USA and the rest of the world, except for China. It will be interesting to see the outcome of these litigations, as it might change the way the global mobile sector currently functions – if Samsung were to lose, it will shake-up Google’s ambitions of becoming the global leader in mobile telephony software; if the outcome comes out in favor of Samsung, both Samsung and Google will lead the market, and perhaps give rise to smaller hardware manufacturers which could use the Android platform to enter the market.

Whatever the outcome of these lawsuits, it sure is expected to spur innovation among relevant industry participants. Android (Google) has been found to be vulnerable/susceptible to litigation and unless they significantly strengthen their patent portfolio, hardware manufacturers would be wary of adopting android and will look for alternatives (such as MS Windows Mobile or develop their own operating systems). And if Apple wins, then OEMs will still have to look for alternative operating platforms. So the path is not as rosy for the Android system as it seems at the outset.

Thus, two key observations from the Apple vs. Samsung patent disputes can be noted:

Apple’s patents are only valid and enforceable in the USA and the company will have difficulty in leveraging these outside the USA, for example in Europe and Asia.
Apple’s patent portfolio outside the USA is minimal and the company will therefore struggle to protect its products in Europe and Asia. Moreover, the company would be forced to sign cross-licensing agreements with old mobile phone incumbents (Apple and Google Subsidiary – Motorola Mobility Consider Arbitration).

The current IP litigation scenario in mobile telecommunications shows how the industry is transitioning from an industry dominated by standards and essential patents in the late 1990s to an industry increasingly dominated by platform patents.

What’s next in this battle? Where might this lead the industry to?

Courts in different jurisdictions, such as in the UK, Korea, Japan, Australia and Germany have all given varied verdicts and the litigation battles are expected to continue (Samsung has already challenged the San Jose verdict). However, if Apple is able to enforce its patents outside the USA as well, mobile phone incumbents would feel hesitant to use Android and may opt for competing operating systems such as the Windows Phone.

Even then, it is unlikely to represent the demise of Android. Some of the features in contention have already been removed, while other features are given significantly lesser protection outside the USA.

The story, clearly, is far from over.

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