Fitch dissects tariff implications on OEM credit profiles

NEW YORK and WASHINGTON, D.C. - 

As nine automotive industry associations representing vehicle and parts manufacturers in the U.S., Canada and Mexico urged a renewed focus on trade negotiations with the U.S., Canada and Mexico to modernize NAFTA, Fitch Ratings took a deeper dive into the potential financial ramifications of President Donald Trump's actions. 

Fitch explained that U.S. tariffs of up to 25 percent on all imported automobiles and parts would have a negative effect on the cash flow and credit profiles of the global auto manufacturers. But analysts think financial implications would vary significantly.

“We believe the auto tariff threat supersedes other trade-related concerns and raises credit risk for the entire automotive sector but do not expect increased tariffs to necessarily result in widespread ratings downgrades, given the credit profile of the industry is much stronger today than it was during the global auto crisis of 2008-2009,” Fitch analysts said.

Fitch indicated the mix of domestic-to-foreign production for vehicles sold in the U.S. and the ability to flex production lines varies across manufacturers so the impact of U.S. import tariffs and any retaliatory response would differ. The firm pointed out that manufacturers importing a high percentage of U.S. sales, including Jaguar Land Rover (JLR), Mazda and Volvo, are more vulnerable.

Conversely, automakers that domestically produce most of the vehicles they sell in the U.S., such as Tesla, Ford, General Motors and Honda are more insulated, according to Fitch.

The ratings agency estimated the aggregate financial impact of a 25-percent tariff on imported vehicles, assuming all else equal, would be as much as $47 billion annually, based on the Alliance of Automobile Manufacturers' estimate of an average $5,800 price increase per imported vehicle and Fitch’s forecast of 16.8 million sales in 2018, of which about 48 percent would likely be imported.

This estimate is based on tariffs on vehicle sales and does not include imported auto parts used in the assembly of vehicles in the U.S., which could further raise the cost of the tariffs significantly.

Fitch noted that potential financial offsets for manufacturers could include raising prices to pass along the incremental tariffs to customers, absorbing the tariff and offsetting the impact with cost reductions in other areas, or shifting production to the U.S. to avoid the tax.

“However, higher prices could hurt sales, and shifting production would be challenging, as many plants in the U.S. continue to run at capacity, and building new plants would take time and is expensive,” analysts said.

Fitch went on to mention a key component of its credit work is stress testing for an industry downturn.

Analysts contend that many global auto manufacturers' credit profiles are stronger today than they were at the beginning of the last industry decline. Median leverage and interest coverage metrics for Fitch's universe were 5.5 times and 4.7 times, respectively, in 2007, versus 1.2 times and 21.6 times in 2017.

“Ford and GM have strong liquidity positions and relatively low leverage, providing them significant financial flexibility if a significant decline in volumes occurred. Fiat Chrysler also has headroom in its financial ratios; therefore, negative rating action coming solely from the consequence of higher tariffs is unlikely,” Fitch said.

“Most European manufacturers have significant headroom in their ratings, with strong financial profiles. BMW, Daimler and Volkswagen's operating margins are solid for their respective ratings, and the companies could sustain moderate pressure on profitability and cash flows without impairing their credit profiles,” the firm continued.

“JLR's profitability is solid for the rating, but its cash generation is weaker than German peers. JLR is also pressured by the investments it needs to make to face the industry's other long-term trends and the major challenges to manage Brexit,” Fitch went on to say.

“Toyota, Honda and Nissan have strong financial profiles, with low leverage and sound liquidity, and well diversified global operations. However, increased tariffs would pressure margins at a time when Japanese car makers are struggling with lower sales in the U.S., and may therefore negatively impact credit metrics,” the ratings agency added.

“The U.S. tariffs are unlikely to have a meaningful impact on the revenue of Chinese automakers, given their small exposure to the U.S.”

No matter what the Fitch analysis might indicated, OEM representatives are wary of what the White House might do.

The Alliance of Automobile Manufacturers, American Automotive Policy Council, Association of Global Automakers, Asociacion Mexicana de la Industria Automotriz, Canadian Vehicle Manufacturers' Association, Global Automakers of Canada, Motor & Equipment Manufacturers Association, Canadian Automotive Parts Manufacturers' Association, and Industria Nacional de Autopartes A.C. issued the following joint statement.

“As a new government forms in Mexico on December 1st, 2018, we believe now is the time for all parties to return to the negotiating table with a renewed commitment to the modernization of a cohesive three-country NAFTA agreement,” the organizations said.

“We have a great opportunity to update this trade agreement and it is in the best interest of all three countries to refocus on establishing a new NAFTA agreement that will allow the North American auto industry to remain globally competitive,” they added.

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