Comment: Ford’s costly exit

THE announcement that Ford was no longer capable of profitably making cars in Australia after 90 years is really no shock revelation – the writing was on the wall for years as Ford Australia became progressively isolated from the global ‘One Ford’ strategy.

But the real shock will come in 2016 and 2017 when they add up the true cost to the company, and to the retail network, of closing down Falcon and Territory production.

It will run into billions.

No doubt the number crunchers have already done the calculations on what it costs to close down two car plants in Australia and have added up the employment liabilities that will entail.

But, based on the cost of closure of Nissan manufacturing and the money Mitsubishi Motors in Japan had to put up to close its engine plant and then its assembly plant in Adelaide, there is so much more damage to Ford’s bottom line to come.

Based on industry knowledge at the time, Nissan paid out more than $1 billion in today’s dollars before it put the closure behind them. The company continued to make losses for five years after the plant closed and, in spite of a $200 million injection from head office in 1995, it did not clear accumulated losses from the books for a decade.

Mitsubishi Motors in Japan poured more than $1 billion into its Australian operations in the decade leading up to the closure of its Tonsley Park factory and then faced a further bill totalling around $800 million (including the earlier closure of the Lonsdale engine plant) to close the operation down and clear the decks of liabilities.

Clearly Ford faces employee entitlements and these will make up a significant percentage of costs. Since the longest-standing employees tend to be the last to go, redundancies based on years of service will be significantly higher than in normal cutbacks because no-one will remain.

One great unknown cost will be the clean-up and remediation of the sites in Geelong and Broadmeadows which will have to be complete before the land can be sold. These can run to tens of millions of dollars, but will eventually be recovered in the sale of the land.

Given the Geelong plant has been making engines and other “messy” parts for nearly a century before we became conscious of ethical disposal of waste, there is a high chance of a very expensive environmental remediation of the Geelong site.

The cost will vary according to the extent of toxic damage which has to be dug out and removed, and particularly the depth of contamination.

Broadmeadows was started more recently and was mostly assembly so the chances of expensive remediation works are less likely.

There are also significant wind-down costs involved in the process where in the lead up to closure, various production equipment has to be decommissioned and made safe – independent of power sources etc.

The plants then have to be stripped of production equipment (hopefully to be sold) and the building made good for other uses.

Before that happens the company has to pay for one-off production of all the spare parts that are going to be required for both Territory and Falcon.

They will need to build and pay for enough parts to be available until 2026. This will be another very large item to cover in the closure accounts although that is one item that will return to the bottom line as parts are supplied to owners over time.

The contracts with part suppliers will have to be settled and, given that Ford has two vehicle lines instead of Nissan and Mitsubishi’s one model, Ford will probably need to put aside something north of $50 million, which would be twice what those two companies would have allocated.

There is also a potential for Ford dealers to make loss-of-profit claims against the company – especially as dealers have spent collectively hundreds of millions of dollars on refurbishing their dealerships in the past couple of years (see below) on certain sales expectations that may now be in doubt.

A major drain on the books comes from Ford’s decision to keep producing cars for three more years.

On Ford’s own accounts we already know that making cars locally has drained $600 million out of the bottom line over the past five years – that’s a drain of $120 million a year.

By keeping the plants open for another three years with sales of local product that will inevitably be falling, Ford will be maintaining the same overheads for another three years that will be progressively throwing up less and less cash.

This concept of lingering production, unless they can find a way of changing history and getting people to buy cars that are going out of production, is going to cost the company another estimated $180 million to $200 million a year, or $600 million for the next three years.

Then there is a potential for an erosion of revenue as market share falls.

History shows that when Nissan closed its Clayton plant back in 1992, its market share fell from 12 per cent to four per cent. Only about a quarter of Nissan’s volume mix at the time was imported so a large decline in market share was inevitable.

The company budgeted for a fall to eight per cent but quickly dropped past that number only to have the wags suggesting that head office was asking them how come they met and exceeded their target so quickly.

When Mitsubishi closed its car-making operations in Adelaide in 2008 it had a six per cent market share, with most of its line-up already imported.

Then MMAL president and CEO Robert McEniry had set up a strategy of making the Australian business far less reliant on local product by building up the product range and value of cars from Japan and elsewhere. When the plant was closed the hapless 380 represented less than 10 per cent of the total model mix.

But, in spite of this strategy, while it held six per cent for a year or so later there was still a legacy from the closure in the public mind and Mitsubishi also fell to four per cent in a market that was not as competitive as it is today.

Ford is taking a different approach. It is going to keep making local cars while at the same time attempting to turn the company into a full importer, presumably to make the transition in an orderly manner and hoping to hold on to its present eight per cent market share.

Ford says that it is going to increase the number of imported entries by 30 per cent in the wind-down period, which will be the EcoSport crossover, Ranger-based SUV (dubbed ‘Everest’) and perhaps one other model line.

But by continuing to build out to recover its investment in the Falcon and Territory, the company is providing the fodder for ongoing monthly commentary on the decline of the orphaned Falcon and Territory which are certain to require palliative care sooner rather than later.

This will drag down the brand. History tells us four per cent appears likely.

That has serious implications for revenue. If sales halve we are talking a drop in revenue of $1.5 billion a year. A 30 per cent drop would see $1 billion in revenue disappear.

Finally, the prospect of a Ford market share of four per cent will be alarming to Ford dealers.

If history repeats itself, if Ford falls to four per cent of the market, its dealers will struggle to make enough to cover the costs of their recent multi-million-dollar upgrades because they would have made their investment decisions on twice that level of sales.

There are many people who think that Ford is pulling out altogether. That sort of misunderstanding just happens in these circumstances.

So now that they have stored the Ford brand as a “do not buy” in their memory banks, it will be very hard for Ford to dislodge that negative – especially as there are so many other capable brands to choose from these days.