Gerardo San Román
Head of Latin America at JATO Dynamics
JATO Dynamics
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View from the Top

Deceleration Does Not Equal Stagnation

Sat, 09/01/2018 - 12:10

Q: What is JATO Dynamics’ perspective regarding the development of the domestic market?
A: Domestic sales are not falling, they are just decelerating. Moreover, Mexico is not the only market going through this process. Our forecast is that by the end of 2018, we will see a contraction in sales of 4-5 percent compared to 2017, reaching total sales of between 1.4 million and 1.42 million. All markets have a defined size and we cannot force them to grow artificially just by implementing more incentives. Mexico has the potential to reach yearly sales of 2 million units but not in the short term. We think the market will start growing again until 2022 and by 2025 we might be near the 2-million mark.
The industry plays with the elasticity of the market and in Mexico there was a huge promotion of financing alternatives that led to years of aggressive growth. This, combined with a flawed public-transportation system, fostered an environment that sped up sales. Clients pushed their sales ahead, supported by longer credit plans established by OEMs and financing arms that went from 24-month terms to 36, 48, 52 and even 72 months.
Almost 70 percent of all new vehicle sales are financed and each year more and more clients choose plans lasting 48 to 72 months. By enabling this, companies are extending repurchase terms and disrupting the sales cycle. We are finally noticing the effects of this strategy; the market cannot sustain such growth levels indefinitely and that is completely natural.
Q: How can distributors strengthen their position in the market under these uncertain conditions?
A: Distributors must refocus their strategies toward selling less but with better margins. Meanwhile, OEMs must keep demand in sight so they do not overwhelm distributors with inventories that will stay static. Sales strategies must change, focusing not on volume but on the experience the client has when buying a car. This will be the only way companies will reactivate the purchase and repurchase cycle. At the same time, clients must learn they cannot keep purchasing vehicles under conditions as attractive as they have enjoyed so far.
Prices have gone up as have interest rates and companies have offered lower down payments and longer financing terms as a way to counter this. However, what this reflects is that people have lower purchasing power and need more time to finalize their investment. This dynamic is not sustainable in the long term. Particularly in an election year such as 2018, it is even more difficult for companies to convince clients to push their purchases ahead.
Q: What advice would you give to the industry regarding the domestic market’s deceleration?
A: We have to be more realistic and more pragmatic in the way we approach business. As a culture, Latins have a problem understanding growth, business sustainability and competition. Markets like Mexico and Brazil are strong and they have yielded good results. Yet, the industry sees the current stabilization as something negative. We are still not mature enough to recognize the cycles under which the industry operates. We are coming from a peak in the cycle and now we are entering a stabilization stage. Now is the time to prepare for when the industry starts moving up again for another four or five years.
The used-vehicle segment is a perfect example of a new business opportunity for the market. For as long as new-vehicle sales go down, distributors should give a much stronger push to the used-vehicle segment to attract new clients while the market recovers its momentum. Financing companies should also see this as a greenfield area, considering they can take advantage of the same vehicle for two or even three cycles.
Q: How do you think changes in international demand will impact Mexico’s production operations?
A: Production will move according to international demand and we will most likely see a reduction in our vehicle output. OEMs are making decisions on their product lineups based on the profitability of each product segment. This is a pragmatic view, especially considering that competition in the compact and subcompact segment is becoming fiercer. Korean companies, for example, have aggressive plans and for some competitors, facing this challenge means sacrificing profit margins in favor of volume. Instead, companies should focus on segments where they can be the most competitive and optimize their earnings.
OEMs, however, are also facing disruptive changes in their business models. Users no longer seek vehicle ownership but mobility solutions. In 2016, then-CEO of Ford Motor Company Mark Fields said the company should no longer focus on selling cars but on providing mobility alternatives for users. This makes perfect sense, particularly when noticing that production costs of certain models are increasing without generating sizeable returns. There is nothing political behind these decisions, just business projections.
Q: Regarding NAFTA, what impact do you see for Mexico’s future?
A: Negotiations are moving at a pace that makes no sense in an effort to strike a deal under any circumstances. However, we will not see a final agreement before the end of 2018, which creates a new layer of uncertainty for the industry. Investments are on hold in many clusters because of the negotiation regarding rules of origin. Having said that, I do not think there will be a disruptive impact in the industry since it is in all participants’ interest to operate under the best possible trade conditions. The region is solid enough to endure these challenges, especially after years of building an integrated supply chain among all three countries.
Mexico is trying to avoid the implementation of an absurd rule in regional content. Meanwhile, the US is betting on a really aggressive negotiation strategy in an effort to incentivize more investment to go its way, supported by changes to its fiscal environment. Mexico has not been clear regarding its position or what it tries to bring to the negotiation table and so far, my perception is that those in charge just want to maintain things as they were. There is not a clear view toward modernization and the government will probably use its position in other industries to gain leverage on automotive matters.
Q: What opportunity do Chinese brands have to grow their position in the domestic market after FAW's failed attempt?
A: They will definitely grow but maybe not at the rhythm they do in China. So far, these brands have made very timid efforts to grow in the Mexican market due to previous bad experiences. The model they are using of finding a partner to gradually enter the market will not take Chinese OEMs very far. Korean brands, in comparison, invested heavily on marketing their vehicles and letting the country know they were here to stay. Chinese brands are also here to stay but their advance will be more measured. Once they figure out the market, I have no doubt they will implement extremely aggressive strategies supported by resources from their home country.
Q: How ready is the Mexican market to ditch its stigma regarding these vehicles?
A: This is a cross that Chinese brands will have to bear and shake. Mexican consumers have already proven they are no fools and they are demanding, at least with the brands already established in the country. Some clients might have had bad experiences with Chinese vehicles but the future of new brands will depend on how they present themselves to the public. If these companies decide to invest and participate as actively as any other brand in the market, the result will be positive. It will definitely take time to eradicate previous ideas regarding image and quality but Mexicans are willing to invest in good cars regardless of their origin.
Q: How important will digitalization be for distributors and what risks might companies face should they not embrace these technologies?
A: Consumers are now part of the digital world, which means the risk for companies that choose to not play by these rules will be considerable. Purchasing processes are completely different nowadays and even though sales do not end online, they certainly start there and 60 percent of the time through a smartphone. As an emerging economy, Mexico has adopted the latest technology trends much faster than developed countries and now, connectivity and Internet solutions are as equally advanced as in the US or Europe.