The Impacts of Canadian Dollar Appreciation on the Canadian Automotive Industry

Submission to the Standing Committee on Finance The Impacts of Canadian Dollar Appreciation on the Canadian Automotive Industry By the Association of International Automobile Manufacturers of Canada November 2007 David Adams, President Association of International Automobile Manufacturers of Canada 2 Bloor Street West, Suite 1804 , Box 5 Toronto ON M4W 3E2 Phone: 416-595-8251 x22 Fax: 416-595-2864 Email: [email protected] Introduction: The Association of International Automobile Manufacturers of Canada (AIAMC) is the national trade association that represents the Canadian interests of thirteen international automobile manufacturers (BMW, Honda. Hyundai, Kia, Mazda, Mercedes–Benz, Mitsubishi, Nissan, Porsche, Subaru, Suzuki, Toyota and Volkswagen/Audi) that distribute, market and manufacture vehicles in Canada. In 2006, AIAMC members sold over 733,000 new vehicles in Canada, representing 45.5% of Canada’s new vehicle market. Additionally, our members sold 61% of all passenger cars and fully 50% of all vehicles purchased by consumers1. Additionally, 50% of the vehicles sold by our members in Canada were produced in North America. While our members’ sales have grown, so has their Canadian investment. AIAMC members have invested over $6 billion in manufacturing facilities alone. Annual production from AIAMC member companies reached a record 900,839 new vehicles in 2006 out of the 2.54 million vehicles produced, with over 697,026 (or 77%) of these being exported out of the country. Member companies with production facilities in Canada include Honda, Toyota and Suzuki (CAMI 50/50 joint venture in Ingersoll, Ontario with General Motors). Recent investments announcements from member companies have included the $1.2 Billion investment by Toyota in a new assembly facility in Woodstock, Ontario that will be operational in 2008 along with a $154 million investment by Honda in a new plant to produce up to 200,000 four cylinder engines in 2008. Impact of the Appreciation of the Canadian Dollar on the Automotive Industry The 20% appreciation of the Canadian dollar against the U.S. dollar since the beginning of the year has presented serious challenges for the automotive industry in Canada, affecting some components of the industry more severely than others. Vehicle Manufacturers AIAMC member manufacturers are more vertically integrated with their own stamping facilities, plastics shops and engine lines. Additionally key suppliers have been brought to Canada to ensure the local sourcing of key parts. Therefore, our members are less able to take advantage of a bit of a built-in hedge arising for other manufacturers that import up to 85% of their parts from the United States. Nonetheless, the cost of the finished vehicle assembled in Canada has become more expensive in export markets, mainly the United States, to which about 80% of production is exported. Given the reliance of Canadian vehicle manufacturers on the U.S. market as a final destination for the vast majority of their production, there are a number of other 1 Vehicles purchased by consumers = total vehicle sales – fleet sales significant factors that are affecting Canadian assemblers over and above the appreciating dollar, namely: • Higher energy costs – Higher energy costs are shifting consumer demand in the U.S. towards more fuel efficient vehicles. Apart from Honda and Toyota, the majority of the vehicles produced in Canada are larger cars and light duty trucks that Americans have traditionally favoured. • Fall out from the reset of adjustable rate mortgages - According to Carlos Gomes, Senior Economist, Industry and Commodity Market Research with Scotiabank2, approximately 32% of all mortgages taken out in the 2004-2006 timeframe in the U.S. were adjustable rate mortgages. These mortgages have sub-prime interest rates for the first two years that “reset” at a higher rate after that. Gomes estimates that there are 4 million mortgages that will “reset” at higher rates in 2008. The impact of these resets will be varied. In less severe cases the higher interest rates will serve to reduce disposable household income, thus limiting funds available for vehicle purchases. In more severe cases, the higher interest rates will push some owners over the edge making their homes unaffordable and contributing to the significant decrease in housing prices in the U.S. Consumers in the U.S. had been using equity loans from rising housing prices over the past number of years to purchase new vehicles. With decreasing housing prices this financing option for new vehicles is undermined. Further, with a glut of existing homes on the market in the U.S., new housing developments have tailed off and with it the need for light duty trucks from the development and construction industries. This has been a significant contributing factor – as opposed t the increased value of the Canadian dollar - to GM’s announcement earlier in the year that it is cutting one shift and laying off 1000 employees at its Oshawa truck plant early in 2008. • Tighter lending standards – In the wake of the sub-prime mortgage crisis lending standards have been significantly tightened reducing the availability of vehicle loans for many consumers and increasing the cost of those loans for others. This has an obvious negative impact on U.S. vehicle sales. All of the above-noted factors have contributed to a 2.4% drop in U.S. light vehicle sales through October, and a 2.7% reduction in North American production through mid November. The softening of the U.S. demand for new vehicles will continue to have a negative impact on the vehicle manufacturing sector Parts Manufacturers: The Automotive Parts Manufacturers Association will no doubt make their own representations with respect to the impact of the rising Canadian dollar, however it is apparent that the following factors are negatively impacting parts manufacturing in Canada. Indeed a recently released report by the Conference Board of Canada3 2 See Scotiabank Group “Global Automotive Report” October 4th, 2007 3 See Canadian Industrial Outlook: Canada’s Motor Vehicle Parts Manufacturing Industry – Autumn 2007. Released on November 7th by the Conference Board of Canada suggests that the parts manufacturing industry will lose 11,000 jobs this year, the equivalent of 10% of its workforce, and that both profits and production will be down 41% and 4.5% respectively. There are a number of converging reasons for these results. • U.S. Competition – The strengthening value of the loonie versus the greenback has made American parts much less expensive than similar Canadian parts • Higher Energy and Commodity Costs – In some cases, parts manufacturers may have been able to take advantage of the appreciation of the dollar to purchase raw materials and sub-components at lower relative prices, however in many instances commodity prices and energy costs have increased faster than the appreciation of the dollar, negatively impacting parts makers. • Decreased Production from Primary Customers – As traditional North American manufacturers rationalize their production in the face of excess capacity and decreased market share, business for Canadian parts makers is subsequently reduced. Again, a generally negative environment in the United States for new vehicle sales is also negatively impacting parts sales. • Lack of Adequate Capital Investment - According to industry analyst, Dennis DesRosiers, while Canadian parts makers have grown through the 1990’s largely on the basis of the low Canadian dollar, many parts makers did not invest in the latest technology and equipment leaving them very vulnerable to a strengthening dollar and better capitalized and more sophisticated American parts makers4. That said, the appreciation of the dollar has made equipment and machinery more affordable for parts makers that have the capital resources to invest in new machinery to make them more productive in the long run. • Globalized Sourcing From OEM’s – Globalized parts sourcing has been increasingly undertaken by all manufacturers and in particular by the traditional North American manufacturers as a means of increasing their competitiveness by reducing the overall cost structures. Globalization efforts can mean less business for Canadian parts makers. There are numerous other challenges being faced by the Canadian parts manufacturers arising from the appreciation of the Canadian dollar but I will leave it for the APMA to enumerate those additional challenges. Vehicle Sales As alluded to earlier, much of the current angst in the automotive sector is occurring as a result of the significant softening of vehicle sales in the U.S. market which is home to about 80% of Canadian production. Despite the situation in the U.S., Canadian vehicle sales are moving ahead at near record levels. Through October 2007, Canadian light duty vehicle sales were up 3.8% year to date (1,416,304 vs. 1,364,895) over last year, which was the second 4 See Dennis DesRosiers - “State of the Canadian Automotive Sector” Observations Vol. 21, Issue 19, October 15th, 2007 best vehicle sales year in history. Even in October when the dollar strengthened considerably sales still advanced 2.1% over October 2006, in part because of very aggressive incentives that have been offered to offset the increasing Canadian dollar. As the Canadian currency moved to par, and ultimately advancing to greater than par against the U.S. dollar Canadian consumers have been able to transparently compare the prices of merchandise in both markets and have been understandably

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