MORE TROUBLE AHEAD FOR BIG THREE U.S. AUTOMAKERS?
ANALYSTS PREDICT HUGE JOB, EARNINGS CRASH ON NEXT OIL PRICE SPIKE

Joint NRDC – U of Mich. Report Says Fuel Economy is Crucial Competitive Issue

DETROIT (July 27, 2005) -- The Big Three U.S. automakers stand to lose billions more in profits and tens of thousands of jobs in the next oil price spike, according to a comprehensive new analysis released today in Detroit. Tight supplies and rising demand for oil mean that even a modest disruption could send crude prices soaring far beyond today's near-record levels, dealing a devastating blow to companies already reeling from the collapsing demand for their most profitable, least fuel-efficient vehicles.

The new report published jointly by the University of Michigan Transportation Research Institute's Office for the Study of Automotive Transportation (OSAT) and the Natural Resources Defense Council (NRDC) is an important warning to shareholders, management and policymakers that auto manufacturers -- especially General Motors, Ford and DaimlerChrysler -- must make fuel economy performance a top priority if they expect to compete in a world where cheap oil is a thing of the past.

"Our analysis clearly shows the significant vulnerability of the Big Three U.S. auto companies in the event of higher oil prices," said OSAT director Dr. Walter McManus. "In this new competitive environment, fuel economy performance is now a key indicator of corporate competency. The good news is that automakers can manage this risk using good technology and smart design to raise mileage across the board."

Grim Scenario for Auto States

Based on possible near-term oil shock scenarios and using highly detailed auto production forecasts, the study asks what would happen to the U.S. vehicle market if oil prices reached $80 or $100 a barrel -- the equivalent of $2.86 or $3.37 a gallon, respectively. The report demonstrates that such spikes are well within the range considered by mainstream petroleum experts.

The study authors conclude that rippling effects of such prices through the economy would reduce annual vehicle sales by as much as 3.0 million units, and that the Big Three U.S. manufacturers would absorb two-thirds of the lost sales due to their heavy dependence on gas-guzzling vehicle lines. Total pre-tax profits in the industry as a whole would drop by as much as $17.6 billion.

Such profound market changes would have grave impacts for autoworkers and their communities, with Michigan, Ohio and Indiana bearing the brunt. The report estimates that at $80 a barrel, 297,000 auto-related jobs would disappear nationwide, 110,000 of them in the three auto-belt states alone. At $100 a barrel, projected job losses rise to 465,000 nationwide, and 172,000 in the three-state region.

"We are talking about permanent loss of jobs and market share on top of the painful changes already happening at the Big Three," said Roland Hwang, vehicles policy director at NRDC. "Given the state of U.S. automaker finances, they simply cannot afford to make the mistake of ignoring fuel economy performance again. As a nation, we can't afford to let that happen."

The study identifies 14 U.S. factories and two Canadian plants at risk for closure or significant layoffs if oil prices take off again. Most vulnerable are facilities building mid- and full-size truck-based SUVs, large cars, 8-cylinder engines, and rear-wheel-drive transmissions, including plants in Arlington, Texas (GM); Janesville, Wis. (GM); Oklahoma City (GM); and Wayne, Mich. (Ford).

Other GM plants at risk include Moraine and Toledo in Ohio, and Romulus and Ypsilanti in Michigan. Other Ford plants at risk include Wixom, Mich.; St. Louis; and Sharonville, Ohio. DaimlerChrysler plants at risk include Detroit; Kokomo, Ind.; and Newark, Del. The report also says Ford facilities in St. Thomas and Essex, Ontario, are at risk.

Losing the Incentive War

To offset falling demand for the truck-based SUVs that have been their profit center for more than a decade, the Big Three have resorted to an escalating series of profit-sapping rebates and incentives. Although some industry leaders, notably GM's Bob Lutz, have said oil prices have nothing to do with the problem, the report shows that for most segments, rising incentives between 2001 and 2004 were equal to or greater than the additional gas bill a driver could expect over the first three years of ownership.

The giveaways are taking a steep toll: Last week, GM reported a $1.2 billion quarterly loss on North American automotive operations, compared with earnings of $355 million a year earlier. Ford posted a second-quarter pretax loss of $907 million on North American autos, compared with a $454 million profit at the same time last year.

Repeating Mistakes of the Past

There are painful precedents for the spikes modeled in the NRDC/OSAT report. In 1981, for example, oil prices hit $85 a barrel, nearly doubling the real price 1978 and sending U.S. pump prices up as much as a dollar a gallon (figures in 2005 dollars).

In that same period sales of autos built by the Big Three dropped by 40 percent, or about 5.2 million vehicles. Auto and auto-related manufacturing employment plunged 30 percent -- a loss of more than 300,000 jobs from 1978 to 1982 -- as the Big Three posted record financial losses that eventually led to the federal bailout of Chrysler Motors.

More importantly, for Detroit the price shock sent consumers racing to buy fuel-efficient models from Japan and Germany, prompting a permanent decline in domestic share. In fact, the three periods of sharpest growth in import market share (1973 to 1975; 1979 to 1981; and 2003 to present) coincide precisely with the largest increases in per gallon gasoline prices.

End of Cheap Oil?

Today, all signs suggest prices will remain high by historic standards for some time to come. Global oil demand has grown steadily since 2003 despite sharply rising prices, and there is little spare capacity left anywhere in the world. Even Saudi Arabia, atop the world's biggest oil reserves, is pumping so fast that some experts fear it is jeopardizing the long-term viability of the fields.

Indeed, the concern now is that politics, terrorism or even a simple accident could suddenly take enough production, transport or refining capacity off-line to send prices spiraling upward again. Using estimates of short-run supply and demand effects from the Oak Ridge National Laboratory, the authors estimate a supply disruption of 2.2 to 5.8 million barrels a day (mbd) would yield an average benchmark price of $80 a barrel that could be sustained for a year. Declines of 4.3 to 8.9 mbd would mean $100 a barrel.

This is consistent with the recent "Oil ShockWave" crisis simulation by the National Commission on Energy Policy and Securing America's Future Energy. The simulation, which included two former CIA directors and an ex-Marine Corps commandant, layered a series of modest oil supply disruptions atop one another. It revealed that removing only 3.5 mbd from a global market of more than 83 million barrels caused prices to reach $161/barrel, and $5.74 for a gallon of gas.

Inside the Analysis

The NRDC/OSAT analysis estimates the business risk to automakers in the event of sharply higher oil prices during the next five years using the following five steps:

1. Based on two oil price scenarios the authors predicted the change in total North American auto sales.

2. They forecast change in sales by vehicle segment and the sales mix within the segments using a sophisticated economic model that simulates decisions at the household level.
3. Then they projected changes in sales for every vehicle model for each manufacturer using a detailed proprietary forecast of vehicle sales in 2009.
4. They estimated change in pretax profits by manufacturer based on estimates of variable profits by segment and company.
5. Finally, the authors estimated change in auto-related employment nationwide and in three auto-intensive states using a well-respected regional-level economic model of the entire economy.

The OSAT side of the project was headed by director Walter S. McManus, a widely recognized expert on automotive forecasting. His career includes nine years at General Motors. Later he was in charge of forecasts and analytics at J.D. Power and Associates, where he developed sales models for markets worldwide. He is a member of the Society of Automotive Engineers and the Society of Automotive Analysts.

Co-author Roland Hwang is director of vehicles policy at NRDC, where he has authored numerous analyses of fuel economy performance and clean vehicle technologies. He has also worked in energy forecasts. Hwang previously headed the transportation program at Union of Concerned Scientists. He has also worked for the Lawrence Berkeley National Laboratory and the California Air Resources Board.