Some welcome news for the aftermarket
February 11, 2009
Filed under Uncategorized
By Steve Bauer
As a sputtering world economy stifles demand for raw materials, commodity prices have plummeted more than 30 percent in the past 12 months, and experts believe they could fall another 10-15 percent before hitting bottom. Some analysts believe prices might fall as far as 40 percent on average next year because of rapidly slowing demand in China, the world’s biggest buyer of base metals, including copper, aluminum and nickel.
The falling prices have been a welcome change for powersports manufacturers, which now have more power in negotiating contracts with suppliers, and in turn has allowed many to ease up on the price increases they were passing to consumers.
“That has been a pleasant development for us,” Mark Blackwell, vice president of Victory Motorcycles and International Operations, said in late 2008. “Suppliers are being forced to cut prices because there’s a surplus of material now, and the competition for business has become much tougher than it was even six months ago.”
Oil, rubber’s big fall
Crude oil, one of the most widely used raw materials by tire manufacturers and OEMs, has plunged 69 percent since reaching a record $147.27 in July. At press time, it was selling for around $46 a barrel. Total U.S. oil product demand fell more than 6 percent in 2008, the largest nine-month drop ever recorded by the U.S. Commerce Department since records were kept in the early 1940s.
The sudden turnaround in the oil market has been a significant one for tire manufacturers in particular, which rely heavily on the commodity to produce their products.
“We are pleasantly surprised by the drop in oil prices, and it has allowed us more stability in our negotiations with suppliers,” said Lisa Guest, communications manager with Michelin. “Instead of having to renegotiate on a monthly basis, suppliers are much more willing to agree to six- or even nine-month contracts.”
Guest says the decline in oil prices also has helped buffer some of the losses incurred by declining sales during the economic downturn.
“Ideally low costs and high sales demand would go hand-in-hand, but unfortunately it’s no secret that consumer spending has dropped, which is the driving factor behind the decreased costs of raw materials,” she said.
Rubber futures plunged 56 percent in 2008 amid declining demand and slumping car sales.
“I cannot expect any positive news from the auto industry,” Shuji Sugata, research manager at Mitsubishi Corp. Futures & Securities Ltd., said in an interview with the Los Angeles Times in November. “Rubber prices will fall further as demand is weakening at unprecedented levels.”
Prices of rubber futures for May delivery reached a six-year low of $1.12 per kilogram on Dec. 5 after touching a 28-year high of $4 on June 30, according to a report by Bloomberg. So far in 2009, rubber futures have gained back about 10 percent.
Other commodities vital to powersports manufacturing — base metals, which include lead, aluminum and copper — also are sliding on a historic level. As with oil, base metals have been downgraded by several global investment firms to reflect slowing demand in China and other major economies.
Lead prices have been hit the hardest, falling 61 percent in the past year. Meanwhile, aluminum prices have fallen 38 percent in 2008, while copper sank 55 percent.
Freeport McMoRan, the world’s second-largest copper producer, recently announced in a press release that it is cutting 2009 production 5 percent, followed by an 11 percent reduction in 2010 because of falling prices.
“We are responding aggressively to the current market conditions, which have weakened dramatically in recent weeks,” Richard Adkerson, Freeport’s CEO, stated in the release. As part of his statement, Adkerson also stressed his concern for the “historic uncertain economic outlook” facing the metals sector.
Steel’s bold move
Steel prices also were hit hard in the second half of 2008, dropping by about half since summer. However many steel manufacturers have begun the bold move of completely halting production to stabilize market conditions, which analysts say could lead to higher prices in the future.
“A lot of steel manufacturers are going to extremes and stopping all production, said Jason Price, an analyst with Citi Investment Group. “The problem with that is you can’t just start steel production back up in a day like you could with an assembly line product. They have to shut down the hearths, and when they do decide to start them back up, the process can take up to eight weeks to warm them back up again.”
Price says not only will those production cuts push coking coal into deep and persisting surpluses, but the delays that will occur in shipping steel once production resumes could backfire on steel producers.
“We’re expecting coking coal prices to fall 50 percent to $150 next year,” he said. “Coal production isn’t being halted, so prices for that will continue to fall as more surplus builds. The steel industry is taking a very risky approach to try and jump-start prices again. The reality is that it could be a domino effect for them in the wrong direction.”
In a report issued by the U.S. Commerce department in September, the agency warned steel that, “A sharp deterioration in steel demand has accelerated a normal seasonal destocking cycle. Steel production cuts do not happen overnight, particularly if cold shutdowns become more pronounced. It is likely that price recovery will be delayed because of this action into late 2010.”
Cory Johnson, aftermarket sales and marketing manager for brake manufacturer Sunstar, says his company is seeing significant shifts in pricing from suppliers, and that the steady decline in prices wasn’t a surprise.
“It certainly benefits us, because our production orders are solid, so having to pay less for high-quality steel is a win for us and our customers,” he said.
Johnson says his company doesn’t expect to experience any noticeable delays from its suppliers because of the shutdown of steel facilities.
“We’ve talked with our suppliers about it and we don’t see that as a problem at all,” he said.
There’s no question that powersports companies view current pricing conditions as a welcome relief from what was a cost-draining area only recently. But how long will the price relief last, and will it stay in time for companies to enjoy low costs coupled with increased sales?
Price of Michelin believes the answer is yes, because most governments of countries being hit by the economic crisis will not be in a position for several years to demand higher taxes and royalties.
“The truth is that for most of these countries, the priority now is simply to persuade foreign firms to stay engaged,” he said. “At some point, markets will recover and prices will pick up, some countries that were taking advantage of the price boom won’t be able to compete with countries like China or India, which will have an overabundance of materials they’ll want to sell on the cheap.”
Another important development from the price drop has been the adverse effect on overseas suppliers, especially those from China, which in the past have been able to compete on price points alone. Price believes China will struggle in the future to compete, as higher-quality materials will be able to be found closer to manufacturers at comparable costs.
“The threat of increased Chinese exports is nowhere near as severe for most markets as it was a year ago,” Price said. “Not only are Chinese suppliers not able to compete with traditional manufacturers in Canada or the U.S., but they’re having trouble selling product in their own country because of the economic slowdown there as well.”
Price also cautioned companies that “when renegotiating the commercial terms of projects with governments in the light of commodity price falls, companies may do well to pay at least some attention to public and political perceptions of what constitutes a fair deal for the host country.
“Firms that focus solely on extracting short-term concessions may end up with agreements that prove politically unstable over the long term,” Price said. “Put another way, a little strategic effort on their part to demonstrate consideration for stakeholders’ interests may pay off when the tables again turn, as they surely will.”