Sub Tier Automotive Suppliers Feel The Big Squeeze

June 5, 2002
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GRAND RAPIDS — It’s a difficult time to be a link in the automotive supply chain. 

As the large Tier-1 suppliers to the auto industry continue to be squeezed by the auto manufacturers’ demands for cost reductions, they, in turn, are pressuring their smaller, sub-tier suppliers to assume similar cost-cutting measures.  

The pressure started some 15 years ago and has been unrelenting since. The most recent heavy hitter is DaimlerChrysler, with a 5 percent cost down demand. 

Everyone’s getting squeezed, and it’s becoming more and more difficult for the small and even mid-size suppliers to remain profitable, according to Dennis Virag, president of Automotive Consulting Group Inc., an automotive research and consulting firm based in Ann Arbor.

Some smaller suppliers are already beginning to roll over because they just can’t meet the cost cuts.

“In talking with some of the first-tier suppliers, they’re telling us they’re encountering more problems in terms of their sub-suppliers’ financial health and viability,” Virag said, adding that his firm has already heard some sub-suppliers are filing for bankruptcy or are concerned that they will be on the brink of it in the very near future.

Their pain is intensified with the double whammy of a weakened economy and the uncertainty of economic conditions six months from now.

For suppliers, the first three months of this year may mark the lowest point because manufacturers got hit hard in November and December, said Dave Cole, director of the nonprofit Center for Automotive Research, an arm of the Environmental Research Institute of Michigan in Ann Arbor.

Nobody in the industry is making a ton of money right now, he added.

In an industry that Cole describes as “extraordinarily unstable,” the name of the game is survival of the fittest. Suppliers are surviving with great difficulty, but not everybody is going to “come out of the tunnel,” he said.

“I’d also have to say it’s unstable in the sense that there’s not really enough profitability down through the supply base in many cases to justify their continued investment in the auto industry.”

In the case of smaller suppliers, some are dropping out of the industry because they’re literally trapped, Cole said.

Even some large companies are looking at the industry in a different light. United Technologies and IT&T, for example, jettisoned their auto businesses because they didn’t meet performance requirements.

The Tier-1 suppliers have made a lot of cuts and given back in terms of price concessions. But there’s only so much they can give, Virag noted.

Since purchased parts or components are a significant portion of the total cost of goods sold, if Tier-1 suppliers need to reduce prices and cost of goods sold, and have already done everything possible internally, they have nowhere else to turn but to their sub-suppliers.

It’s tougher for some, such as the plastic components suppliers for whom the price of plastic resin is a significant part of the total component, Cole pointed out.

     Those suppliers are not only getting hammered by the upper-tier suppliers with the price down request, but also by the resin supplier on the other end due to the increased cost of petroleum, a base ingredient of resin.   

For some, consolidation may be an answer, but many sub-tier suppliers aren’t financial titans to begin with and simply can’t afford to buy out another company, Virag observed.

It’s possible larger suppliers may eventually have to buy some of the smaller suppliers just to keep a supply of parts, he added.

Cole expects to see more suppliers going out of business, as well as more suppliers consolidating through acquisitions and mergers to build volume, achieve higher levels of economies of scale and reduce overhead.

He sits on the boards of five different supplier companies, and he said every one of them “are in very major thoughts with other companies” on acquisitions and mergers.

It’s just the way the game is played today, Cole said, and it’s also true of the manufacturers. Not all the manufacturers now in the game are going to be in the game a few years from now, he added.

Could automakers push to the point where costs simply can’t be cut anymore?

That’s a very real possibility, Virag said, and one of the potential risks in that is jeopardizing product quality.

Another risk is the possibility of bankrupting one’s own suppliers, which will eventually catch up with a company if it can’t get the systems and components it needs on a timely basis.

The decline in auto sales has not been drastic but the pricing pressure on suppliers will continue, Virag predicted. The outlook is more belt tightening.

“It will continue to the point where people will have to look at other means of cost savings, and really those means are through collaborative rather than antagonistic relations,” Virag emphasized.

OEMs and first-tier suppliers need to work with their sub-suppliers on such things as lean manufacturing, higher performance, organizational structure, business management and e-tool implementation. 

“What a healthy, strong industry requires is not just profitable manufacturers but strong profitability throughout the entire supply structure,” Cole explained. “If you have one part of the industry that is profitable and the other part that is not, that’s not sustainable.

“With the increasing dependence of manufacturers on suppliers, it’s an absolute requirement that you have successful suppliers. That’s the hallmark of the instability. We have to figure out how to make this all work. We haven’t figured it out yet, but it’s in process.”

He predicts that in two or three years there will be fewer suppliers and perhaps fewer manufacturers, but that profitability will likely be improved for those who survive this period of uncertainty. 

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