The Automotive Big Three: What Really Went Wrong?

It is no mystery that America’s Big 3 automakers are in critical condition right now, they have clearly entered uncharted waters. Foreign automakers, particularly from Japan, have weighed down on the Big 3’s former stronghold on the global auto industry and are now posing serious threats to become the new leaders. Since 2005, net losses have totaled in the tens of billions for Ford (F), GM (GM), and DaimlerChrysler (DCX), while Toyota (TM) has crept up to being the world’s #2 automaker and should soon overtake GM as the largest. The city of Detroit, once a proud blue collar city built on sweat and steel, has also felt the ill effects of the restructuring of its three largest employers.

Photo: jacromer , Creative Commons, Flickr

So how did this come to be? In a previous note, we indicated that the Big 3 got swept up in the short-lived SUV craze and overextended its resources on that segment of the automobile industry. When gasoline prices shot up, potential SUV buyers headed for the exits as these gas-guzzling machines were no longer en vogue. All the money spent on new R&D and infrastructure for the SUV segment had suddenly run its course and a market correction was forthcoming. At face value, that seems to be a palpable explanation.

Still, we can dig deeper to try and uncover the recent mistakes of the American automobile sector. To illustrate this, we can look back to the dot-com cycle at the turn of the century. The Internet was coming of age, and technology stocks soared and then flopped in the same breath. Remember Wall Street front-liners such as CMGI (CMGI) and i2 Technologies (ITWO)? No? It seems like lifetimes ago. Money managers who overweighted their portfolios to the frenzy of the moment ended up getting burned days later. GM, Ford, and DaimlerChrysler all made the same mistake – they overweighted their "portfolios" to the frenzy of the moment and got burned.

Toyota and Honda (HMC), conversely, went with the more diverse portfolio. They already had their best selling Camry and Accord models, respectively, but focused their spare resources on the next-generation vehicle, the hybrid, to hedge against a rise in gas prices, while their American competitors seemed to turn a blind eye. Now, the Toyota Prius and the Honda Civic Hybrid are the leading models in this next generation of the automobile, and are rapidly gaining US market share.

This is not to say that you shouldn’t overweight your portfolio to what’s hot at the moment. In fact, that is generally what you should do. But it is essential to be cognizant of the opportunities and risks of your investments. What is working today may not work tomorrow, so allocate your portfolio accordingly – whether you’re talking about a portfolio of stocks or a portfolio of automobile brands. The Big 3 took a gamble, lost, and had little to work with afterwards as their competitors gained momentum and stole the brand equity needed in this new era.

Fortunately for money managers, stocks are a highly liquid asset and losses can easily be cut. Unfortunately for auto manufacturers, automobile brands are not liquid, and massive restructuring plans are usually necessary in order for a recovery process to take place. And the problems for the Big 3 do not stop there – in this new era of the more sustainability-conscious consumer, they are the group ranked last in terms of the environmental impact of their vehicles.

To the Big 3’s credit, it is now well represented on the lists of current hybrid and E85 flex-fuel vehicles. Its portfolio is diversifying. So let’s hope that the group re-brands itself properly as it undergoes its current transformation.

CMGI and i2 Technologies have become mere footnotes in today’s market. Detroit doesn’t have to become one as well.

Disclaimer: I do not give investment advice. Do your own research. Do not rely on anything in this weblog to make investment decisions. I only talk about investment opportunities that I think are interesting and worth looking at. Consult an investment professional familiar with your specific financial situation before buying or selling any security.

Disclosure: I do not own any of the stocks above but may consider buying Toyota or Honda in the future. With DCX having found a suitor for one-half of the company, I would not buy their stock at this point as I believe its best buying opportunity has already passed. It will be a long time before I will consider buying shares of F or GM.