Auto

Break-even point for the US domestic auto industry

In April 2009, Ford stated that he would not need government help and stated that he had a plan to break even in two years. Ford has jumped ahead of its main rival, General Motors, by scaling back its business by selling Aston Martin, Land Rover and Jaguar in the past two years. Meanwhile, GM went through a massive reorganization after filing for Chapter 11 bankruptcy proceedings. GM is temporarily majority-owned by the US government after it invested $57.6 billion in the company.

Under the plan that GM executives presented at congressional hearings, the company would break even by 2011. In addition, they stated that they would cut costs by cutting 47,000 jobs, closing five more unprofitable factories and the reduction of at least $18 billion in debt from its balance. bed sheet. These cost cuts were expected to allow the company to break even when the US car market returned to selling between 11.5 and 12 million vehicles a year.

JD Power and Associates, a global marketing information services firm, announced its projections for the auto industry’s new break-even point. According to Gary Dilts, senior vice president of US automotive at JD Power and Associates, due to cost-cutting measures, such as renegotiating contracts with unions and suppliers, the break-even point for the domestic auto industry will drop by more than 2 million units. comparing current industry conditions to those forecast in 2010. Dilts explains the reason for this decline due to significant declines in the auto industry that resulted in lost sales volume of more than 7 million units between 2000 and 2009. This sales volume represents $175 billion in net income.

In the automotive industry, fixed costs make up a larger portion of total costs. Manufacturing plants, assembly lines, and the technology invested in building vehicles are some of the items that make up fixed costs. Compared to fixed costs, variable costs form a relatively smaller portion of total costs. This puts the automotive industry at risk due to high operating leverage.

The definition of operating leverage is the ratio of fixed costs to total costs. The higher a company’s fixed costs, the higher its operating leverage. In companies that have high operating leverage, small percentage changes in sales volumes result in large percentage changes in earnings. This variability or sensitivity of profits to changes in sales volume places the company in a risky position. According to the “Higher risk, higher return” rule, this also means more profit if the demand and thus the sales volume is high.

In the automotive industry, since fixed costs are relatively high, during times of recession, as demand and sales volume decrease, the probability of profits to cover fixed costs will decrease, that is, it will be more difficult for auto companies reach break-even point. Therefore, auto companies begin to cut costs, especially fixed costs, such as closing unprofitable facilities, cutting jobs. For example, GM sold its unprofitable Hummer to a Chinese company.

Car companies should increase the volume of profitable vehicles and effective advertising activities in order to sell them to customers. The increase in sales volume will help cover high fixed costs and break even. On August 6, 2009, Edward Whitacre Jr., the new president of General Motors, stated that GM needs to improve the number of vehicles sold. To do this, he said, the board may decide to bring forward the launch of several new vehicles.

Comparing the consolidated results of operations of Ford and General Motor from Form 10-K, these two companies filed with the Securities and Exchange Commission (SEC) in 2008:

Ford (millions)

Income: 146,277
Costs and Expenses: 160,949
Net Income/Loss: (14,672)
Sales Volume: 5,532

General Motors (millions)

Income: 148,979
Costs and Expenses: 179,839
Net Income/Loss: (30,860)
Sales Volume: 8,144

Break-even points for these businesses can be calculated using the Revenue, Cost, and Volume figures above.

Ford
Average Price: 146,277 / 5,532 = $26,441

GM
Average Price: 148,979 / 8,144 = $18,293

To cover its Costs and Expenses Ford had to sell: 160,949 / 26,441 = 6.08 million cars and trucks. To cover its Costs and Expenses General Motors had to sell: 179,839 / 18,293 = 9.83 million cars and trucks. The additional sales volume that GM and Ford had to generate to break even in 2008.

Ford: 6.08 – 5.532 = 0.554 million
GM: 9.83 – 8.144 = 1.686 million

Leave a Reply

Your email address will not be published. Required fields are marked *