Brazil’s auto sector skating on thin ice

The Rio Olympics has been keeping Brazil in the news. Beyond this, the grim reality is that the economy is going through a rough phase. Brazil’s GDP output fell by 3.8 per cent in 2015 and is forecast to slump 3.4 per cent this calendar.

Brazil’s political ecosystem is fragile with a transitory government in place while civil and social unrest continues. The severe recession has taken its toll on the automotive industry which was once a key growth engine in the global market.

New car registrations in the first half of 2016 were the lowest in the decade. In 2012, it was peaking at 3.6 million units, catapulting Brazil to the fifth spot in global auto sales. Since then, numbers have fallen by 1.5 per cent, 7.2 per cent and 25.3 per cent between 2013 and 2015 and a further 25.1 per cent in June 2016.

With sluggish consumer spending and high interest rates, new car registrations are not expected to exceed two million this year which will mark a new low. Will the market fall even further from here is the million dollar question. While there are some signs of hope, economic activity remains weak with Oxford Economics forecasting 3.4 per cent GDP contraction this year.

The silver lining in the cloud is on the assembly side thanks to Brazil’s top auto trading partner, Argentina, experiencing resurgence in demand.

Through the first half of the year, new car sales in the country have increased by 24.8 per cent and this is where exports from Brazil have helped meet demand.

Hence, even while total light vehicle assembly is down 20.9 per cent through June 2016, exports have grown by 15.4 per cent. Apart from Argentina, some shipments have headed out from Brazil to the US.

The sorry state of affairs in Brazil’s auto industry has paved the way for Mexico’s growing role in Latin America.

Between 2013 and 2015, its output was up 16.4 per cent when Brazil’s shrank by 33 per cent. Mexico’s assembly operations are expected to reach 4.95 million units by 2022 which will be way ahead of Brazil’s projected three million and thereabouts.

Mexico’s growth has been predominantly organic and based on market drivers like inexpensive (yet qualified) labour and favourable trade pacts with 45 countries. In contrast, most recent capacity investments in Brazil have been driven by State-sanctioned tax provisions through the Inovar-Auto incentive programme. Its focus has faded with increased scrutiny on public spending and limited funding between the 2014 Football World Cup and the Olympics.

Inovar offered tax breaks based on domestic investment in R&D and local production. While many OEMs have expanded local production to meet the requirements, their volume levels are a fraction of what was envisaged. Others have stalled plans and adopted a wait-and-watch attitude.

The priority for Brazil now is to focus on right-sizing capacity and improving manufacturing technology across its automotive supply chain to optimise investments. Improving on its position as an exporter beyond just Argentina will keep plants in the country optimally used. With some of these measures, Brazil can stem the rot and re-establish itself as an attractive emerging market.

The writer is partner, Price Waterhouse

COMMENT NOW