It’s a seller’s market

The automotive, aerospace and automation industries are bellwethers of the U.S. economy. Today, the good news for companies in these industries is that customers want what they’re selling. In many cases, however, that’s a mixed blessing because of persistent problems that are keeping manufacturers from fully meeting customer demand.

Consider the automotive industry. Despite macroeconomic headwinds, such as high inflation and rising interest rates, the industry isn’t suffering from a lack of demand. Instead, the difficulties are factors that have been constraining production.

“It’s been one thing after another, from COVID in 2020 and then the semiconductor shortage beginning in 2021 and still lingering today,” said Eric Anderson, principal research analyst at S&P Global Mobility in Southfield, Michigan, the automotive division of New York City-based S&P Global Inc., a provider of financial information and analytics. “We believe that through 2023, semiconductor flow will still determine what vehicle production is throughout North America and globally.”

For now, he thinks that whatever number of vehicles manufacturers can produce will be sold due to pent-up demand on both the retail and fleet sides. For the past two years, he reports that North American production has been 13 million units, several million shy of normal output.

“Around the third quarter of last year was the most extreme amount of downtime and shutdowns we have seen for North America,” Anderson said. “But each quarter over quarter, the semiconductor flow tends to improve a bit.”

For 2022, he expects North American production to be about 14.6 million units, nearly a 12% increase over last year’s figure, with production in the back half of the year exceeding that in the first half. Next year, he estimates that production probably will increase to 15.5 million units despite continued constraints due to semiconductor flow.

The graph shows that a rapid recovery to a pre-pandemic level is not expected. Semiconductor constraints through 2023 limit forecast figures for North American production, though the situation has been improving. Image courtesy of S&P Global Mobility

With semiconductors in short supply, Anderson said original equipment manufacturers have been diverting them to full-size pickups and SUVs at the expense of sedans and other less popular and less profitable vehicles. He expects that trend to continue for the remainder of this year and likely into next year as well until semiconductor flow returns to normal levels.

Prior to the COVID-19 lockdowns, he noted, U.S. vehicle dealers generally carried roughly 3.5 to 4 million units of inventory, which translated to about 70 days of supply.

With lockdowns in place, however, “you couldn’t build vehicles,” Anderson said. “And (with) the semiconductor shortage, we basically wiped out 3 million units of inventory. So almost 75% of the inventory has been depleted and has not been replenished.”

Even when semiconductor supply normalizes, he doesn’t expect dealer inventory to get back to 4 million units.

“OEMs have changed their perspective,” Anderson said, “recognizing the higher profitability in carrying tighter inventories.”

Nevertheless, he believes that an overbuild of 1 million to 1.5 million units still is needed to adequately replenish dealers, which he doesn’t expect before 2024.

Significant Developments

In the meantime, Anderson reports that vehicle sellers and buyers are benefiting from a trend toward digital retailing in which, for example, sellers tell buyers that they don’t have a desired vehicle today but that they can order it for delivery in two or three months. Sellers like this arrangement, he said, because they can acquire a customer even if the vehicle that the customer wants isn’t available right away. In addition, he pointed out that OEMs selling this way usually don’t need to incentivize as heavily as in the past. As for customers, he said they can order vehicles with the exact specifications they want, which is probably a reason for early indications that customer satisfaction with digital retailing is increasing.

Another significant development in the automotive industry is increasing demand for battery-powered electric vehicles. He said battery EV sales were only 1% of the total a couple of years ago but now are approaching 6%. Continued growth is expected over the next two years, he said, due in part to the United States’ passage of the Inflation Reduction Act, which among other things seeks to incentivize the adoption of EVs.

On the supply side, Anderson continues to see heavy investment in battery EVs.

“OEMs are gearing up for their long-term electrification plans and how those products are going to fit in their portfolios,” he said.