The Future of the Canadian Automotive Industry

The Canadian automotive industry was born at the turn of the 20th century. Some may not realize it, but Canada is the birthplace of the North American automotive sector. Southern Ontario’s close proximity to the heart of American auto operations in Detroit, allowed the area to become a major force in the production of automobiles and automotive parts. In 1904, the first large scale production lines of Fords were built in Walkerville, now a suburb of Windsor Ontario.[i] The onset of the First World War further expanded the Canadian automotive sector, and it quickly became the second largest in the world, only behind the United States. After the Second World War, the industry further expanded, but at the same time, inefficiencies started to creep in.[ii]

By 1965 the Automotive Products Trade Agreement or “Auto Pact” was signed between the United States and Canada. This agreement was a key factor into turning the Canadian auto industry into what it is today. Some of the key features of the Auto Pact were the Canadian value added requirements, as well as the one to one production to sales ratio. The industry experienced several periods of prosperity and growth, as well as some downturn during the oil crisis of the early and late 70’s. Also during this time, Japan had emerged as a major worldwide competitor in the automotive industry. During the late 80’s the removal of several trade tariffs as well as the start of the North American Free Trade Agreement (NAFTA) in 1994, allowed for the industry to have a sustained period of prosperity.[iii]

Canada’s economy has a vested interest in the manufacturing of the automobile, and even more so in automotive parts. According to studies, approximately one in seven Canadian jobs are tied directly or indirectly to the automotive sector, and there are over 900,000 direct jobs in the automotive sector. The majority of these jobs are in the automotive parts & manufacturing sectors, an industry that accounts for over 2/3 of all jobs in the Canadian automotive industry. Many other areas of the Canadian economy are dependent on the automotive sector, such us the petroleum, agricultural, bank, insurance, and raw material industries. The industry is a truly national one, with thousands of jobs in every province tied to it.[iv] The key domestic players in the industry GM, Ford and Chrysler have been a cornerstone in the Canadian automobile market and a historical driving force, but as of late, they have had structural excess problems that have been causing them eroding profit margins and falling returns on investments.

Automotive Industry Downturn

The recent near-collapse of the North American auto industry specifically when dealing with the domestic players was caused by a multitude of factors, a sort of perfect storm that many saw coming, but no one really did anything about. It was a mix of poor product offerings, labour concessions and competition from foreign auto makers that have eroded the bottom line of the big three domestic auto makers.

The final nail in the coffin was the financial crisis of 2007. The Canadian economy as a whole was less affected by the economic downturn, and even though the American auto industry was in the red over the past few years, their Canadian counterparts did relatively well according to a Stanford University study.[v] In order for the automotive sector to have a future in Canada, there are several factors on which the future of the industry needs to depend on. First off, the industry needs to adapt to the new changing marketplace and worldwide economic realities.  Secondly, the automotive suppliers, one of the key driving forces of the Canadian auto industry need to continuously re-invest in new technologies, as well as become lean and efficient in their operations. Canada needs to become a leader, in emerging vehicle technologies, such as hybrids and battery fuel cells, and hopefully with this investment it will be able to become a leader in the production of state of the art automotive parts.

Industry Needs To Adapt To a Changing Marketplace

In order for the industry to stay competitive, it has to adapt to change, a changing marketplace and new worldwide economic realities, by embracing new green technologies and constantly re-inventing itself in order to stay competitive with foreign competition. The internal combustion engine, which revolutionized the 20th century, is on death row in the 21st century. Some companies realize this, and are changing their focus towards green technologies, which are becoming increasingly popular with Canadian consumers.

During the latter half of the 1990’s, the worldwide automotive industry was prospering.[vi] The North American economy was at full throttle, and in the automotive world, it signaled the start of the Sports Utility Vehicles (SUV’s) and Large Truck phenomenon. Consumers pent up demand for these large gas guzzling vehicles, that offered them a sense of greater security on the road, and increased cargo space not only for themselves, but possibly for their egos as well. In page out of the luxury vs. necessity debate, consumers were more driven by the luxury of the SUV, rather than driving in something that just would get them around from point A to point B.

The big three American auto makers seized up on this opportunity, and started to produce these SUV’s in increasingly greater numbers. While their Japanese and European counterparts also made some inroads in the SUV market, their focus was mainly on the small and mid-size vehicles, that were much more fuel efficient. American manufactures soon found out that the profit margins on these larger SUV’s were very large, and it would take the sale of many smaller vehicles to get the same amount of profit as on a sale of a single SUV. At a time when fuel was inexpensive, the sales of SUV’s have soared. As the price of gasoline steadily rose, and the demand for it dropped (price elasticity of demand) – the SUV’s and Light Trucks suddenly became less attractive to consumers as a mode of transportation. The start of the 21st century signaled another concern for the automotive industry – the impact of their vehicles on the environment.

Environmental Concerns

As environmental concerns have become forefront during the past decade, consumers are looking to alternate technologies such as hybrid vehicles. In 2004, only 1,000[vii] hybrid vehicles were sold in Canada. In 2007, after only 3 years, this figure skyrocketed to 13,971. This phenomenal rise in the sale of hybrids could be attributed to several factors. The first is the high price of gasoline. Hybrid vehicles have better fuel consumption than their gasoline only counterparts. The second is the perception that driving a hybrid is environmentally friendly. The third is the increase in production of hybrid vehicles by auto manufacturers. Even though Hybrids still have a relatively high sales price, consumers can’t get enough of them, as witnesses in the sales numbers.

The sales of hybrids will only continue to rise, as the price of gas increases and consumers shift away from all gas vehicles. Electric vehicles also pose an opportunity for the Canadian automotive industry to re-invent itself in an environmentally conscious world. The up and coming launch of the Chevrolet Volt in 2011, will be a major milestone in the automotive industry, as the first full scale hybrid vehicle that can run purely on batteries for a certain distance, and can be recharged at home, is introduced. The price of hybrid vehicles is expected to come down as the price of Li-Ion battery technology comes down due the economies of scale. Manufacturers of automobiles will need to invest in these new technologies in order to stay competitive not only in the North American Market but worldwide as well.

Automotive Suppliers Need To Re-Invest

Automotive suppliers will need to continuously re-invest in their industry in order to survive, as well as become more efficient. Throughout the 1990’s, strong players such as Magna International emerged in the automotive parts sector. The sector grew to nearly 100,000 workers by the turn of the century. Smaller suppliers existed and grew because of a very weak Canadian dollar, which hovered around the low 60-cent range. Their mistake was not investing in the latest technologies and equipment. If we compare the capital expenditures of 5 to 8 percent in the Canadian parts sector, to over 20 percent in the assembly sector, we can see how much the industry missed opportunities in re-investment. When the economics turned against the automotive sector, the non-investment became apparent. The recent resurgence of the Canadian dollar in a relatively short period of time has exposed the suppliers of the automotive industry to a rapidly appreciating currency, making it very difficult for them to compete in this new economic climate.

Traditional suppliers of the big three will need to rethink their focus. They will need to shift it to the “New Domestics” such as Toyota and Honda, and not be too over reliant on General Motors, Ford or Chrysler. Suppliers will also need to understand Globalization, and identify the opportunities and the new domestic manufacturers in North America. Canadians have taken advantage of the anti-Japanese and protectionist sentiments of the American automotive industry and the public. Canadian assembly section has always been foreign owned (Either American, Japanese or European) hence we have always valued foreign investment. Canadian OEM parts sector has always found it easy to work with overseas based suppliers.

Foreign Investment

The Japanese have sunk billions of dollars into their automotive operations in Canada. Toyota has invested heavily into its Cambridge, Ontario operations, as well as recently opened another plant in Woodstock. Honda has been in Alliston, Ontario since 1986, and has recently increased capacity by opening a new engine plant in 2008. Canada has attracted over one hundred overseas suppliers who are following their OEM customers into the North American Market. [viii] Margin erosion during the past decade has been evident in virtually all automotive parts sectors, as the price of the supply chain increases, and the revenue per parts decrease. Traditional suppliers of automotive parts are finding it increasingly difficult to create efficient production methods in older facilities. They have older workers and old work rules which hamper their abilities to be competitive. The big three automakers as well as some suppliers are faced with very large legacy costs. In GM’s example, there is 5:1 ratio in the current to former employees when it comes to subsidizing legacy costs such as pensions and health benefits.[ix]

This obviously erodes profitability, and is something that the foreign manufacturers are not faced with. New North American suppliers of parts have newer facilities, lower legacy costs and utilize new technologies. They also have younger well trained workers that are usually non-unionized. As of 2008, nearly 68% of Canada’s total employment in the automotive sector is in parts and components.

What suppliers and automobile manufacturers need to do is be very efficient and lean in their operations. There is very little room for increasing the costs of parts. Suppliers also need to focus on improving efficiency, Investing is the key to gaining back the margins required to become profitable. Suppliers need to also move up in the value added curve, as OEM’s are willing to absorb the costs of research and development, as well as testing and the production of high value added parts. Globalization of the North American parts supply base will continue, especially in Canada, where we will see a greater influx of foreign investment in the Canadian automotive industry. There has to be a demand by the consumers for the products the automotive industry produces. By producing leading edge, and innovating vehicles that consumers demand, the industry faces a bright future.

Conclusion

Yes, there is a future for the Canadian automotive industry as long as several key changes occur. The industry as we knew it can no longer exist at it did. It has to change and re-invent in itself in order to stay competitive in a changing global economic marketplace. The automotive sector needs to embrace a new way of thinking, and invest in new research and development in technologies that will help it to become a global leader in the worldwide automotive industry. Canada has a chance to make inroads with these new technologies in emerging economies such as China and India, and to become a global leader in their development, distribution and production.

References

  1. [i] The Automotive Industry In Canada. (2009). Retrieved from http://www.cvma.ca/eng/industry/history.asp
  2. [ii] Anastakis, D. (2004). Between Nationalism and Continentalism: State auto industry policy and the Canadian UAW, 1960-1970. Labour / Le Travail, 53, 89-126.
  3. [iii] Regional and bilateral initiatives. (2009, September 1). Retrieved from http://www.international.gc.ca/trade-agreements-accords-commerciaux/agr-acc/korea-coree/cam.aspx?lang=en
  4. [iv] DesRosiers, D. (2007, October 15). State of the Canadian automotive sector. Observations, 21(19), Retrieved from http://www.desrosiers.ca/2007%20Update/Documents%20and%20Reports/2007%20OBS/Obs%202007- 10%20State%20of%20the%20Canadian%20Automotive%20Sector.pdf
  5. [v] The Canadian automotive industry. (2010, January 1). Retrieved from http://www.ic.gc.ca/eic/site/auto-auto.nsf/eng/Home
  6. [vi] Thomas, K. (1997). Capital mobility and trade policy: the case of the Canada-US auto pact. Review of International Political Economy, 4(1), 127-153.
  7. [vii] Van Alphen, T. (2008, January 12). Hybrid vehicle sales in rapid ascent. The Toronto Star, A1.
  8. [viii] Laxer, J. (2009, April 17). Canada’s vital auto industry: past, present and future. Retrieved from http://www.jameslaxer.com/2009/04/canadas-vital-auto-industry-past.html
  9. [ix] Hawthorne, K. (Producer). (2009). The Road ahead’ for Canada’s auto sector. [Web]. Retrieved from http://network.nationalpost.com/np/blogs/posted/archive/2009/05/01/posted-podcast-the-road-ahead-for-canada-s-auto-sector.aspx