EVs Are Changing the Car Business in More Ways Than You Think -- Barrons.com
It's a new era in the auto industry, not only because of vehicle electrification and self-driving technology. The way cars are being made is poised to change dramatically.
Many new companies are going asset-light, choosing not to spend billions of dollars on new plants and equipment. Instead, the upstarts are relying on others to manufacture their products. It is an idea that has worked well in other industries, but success using an asset-light model in the car business is far from assured.
To Henry Ford and his successors, the idea of car companies not making their own products on their own assembly lines would have been heresy. Auto companies never ceded manufacturing control of, say, engines. Engines were, and still are, a big source of differentiation for car makers.
And car companies wanted, and still seek, to maintain tight control over their suppliers so that they can keep close tabs on the quality of the parts they receive, and negotiate pricing from a position of strength. The idea of a contract manufacturer sitting in between a car company and a supplier just didn't fly.
But a new religion is arising. Apple (ticker: AAPL) is rumored to be considering producing a car, and the Wall Street consensus is that the company will design the vehicle and the software it uses, but won't build it.
The EV start-up Fisker (FSR) is using Magna International (MGA), an established auto-parts giant, to build its first product, the Fisker Ocean SUV. Fisker has also said that its second car will be built by the company that produces iPhones, Hon Hai Precision Industry (3217.Taiwan), better known as Foxconn. And Nikola (NKLA) has chosen Iveco, a maker of heavy-duty trucks, to make its first battery-powered vehicles.
Not everyone is a convert to the new paradigm. EV start-up Lucid Motors wants control of its manufacturing. "Manufacturing is too critical an activity to entrust with a third party," Lucid founder Peter Rawlinson told Barron's.
"Someone has to pay the piper," he said. That means someone has to own and operate the plants churning out cars. It's a valid point. For every asset-light business model, there has to be an asset-heavy counterpart.
"If you've got a third party....you have to give them a margin on that payment," Rawlinson said. "Asset-light third-party manufacturing is a fantasy."
Rawlinson acknowledged that third-party manufacturing works for phones, but cars are different. Regulations are stricter, as they should be, given that 16 year-olds can generally operate phones without any risk to others. The same isn't true of cars. Having a third party in the mix could slow down regulatory approvals.
What's more, a car costs tens of thousands of dollars and can last a decade. Phones are less expensive, and more frequently replaced. An individual car platform lasts a few years, at least, and the parts for a vehicle are picked years before the model goes into production.
All that raises the stakes if problems crop up.
Most of the value in phones is the software and operating systems that run them, rather than in the hardware. Cars are becoming more software-oriented, but for now, they are still, essentially, hardware purchases.
Fisker founder Henrik Fisker, however sees room for change and argues that it could benefit the industry.
"Does it really have to be the way it has been the last 100 years?," he said. He believes the auto industry has been slow to change partly due to all the capital that car companies pour into their own plants over time. Car companies of the future can innovate faster if they focus on design and share the risk of capital investment with others, he said.
He knows not anyone can build a car. Magna, for instance, is an established car assembler. The Fisker-Foxconn partnership is a little different, though. Foxconn has less experience than Magna with cars, but wanted to find a situation like the task of building the original iPhone "to create a revolution," Fisker said.
And revolution is what the pair is after. The design of the Fisker-Foxconn vehicle is set, and the unusually proportioned car "doesn't look like anything you've seen before," he said.
Car buyers might like the word revolution, but convincing suppliers to buy into one isn't easy. Parts makers have their own risks, with billions invested in tooling, but Fisker ended 2020 with almost $1 billion on its balance sheet. That should give suppliers confidence that it will be around to produce both the first vehicle, with Magna, and the second, with Foxconn.
Any suppliers concerned about the risk of working with Foxconn, a company that has never made a car, can remember it is worth more than $60 billion and generates billions in free cash flow each year. It is a stable partner.
Foxconn didn't immediately respond to a request for comment.
The impact of having ample cash shouldn't be understated when assessing partner risk. Financial stability helps on all fronts, Hyliion CEO Thomas Healy told Barron's. "It accelerates things, so suppliers, fleets, OEM relationships...having the financial backing is assisting things," he said.
OEM, or original equipment manufacturer, is the auto industry's term for companies such as General Motors (GM).
Still, it is far from clear that outsourcing will succeed. "There's only one of a super successful EV company out there," said Rawlinson. "What is its approach? Vertical integration, 100% in house."
That company, of course, is Tesla (TSLA). And Elon Musk, like Rawlinson, is a believer in vertical integration.
"I think manufacturing is underappreciated in general," said Musk at the company's annual shareholder meeting and battery technology day in September. "The difficulty of designing the machine that makes the machine is vastly harder than the machine itself....[the] making a prototype is really quite trivial compared to designing the factory that makes it."
Musk went so far as to say being the best manufacturing company on earth is the most important thing to Tesla's long-term success. "Eventually, every car company will have long-range electric cars," he said. "Eventually, every company will have autonomy, I think, but not every company will be great at manufacturing."
The debate about asset-light/asset-heavy businesses models isn't academic. Stocks' valuations will move, higher or lower, as it becomes clearer whether car companies can outsource the job of making cars.
For now, Lucid Motors is the most valuable EV start-up. There are many reasons for that, including Rawlinson himself. As the chief engineer of the Model S. Rawlinson helped Tesla get its first big hit on the roads.
Lucid Motors stock is worth about $42 billion based on the 1.6 billion shares that will be outstanding after it goes public via a merger with the special-purpose acquisition company Churchill Capital Acquisition Corp. IV (ticker: CCIV).
Fisker, for comparison, is worth about $6 billion based on its 294 million shares outstanding. Both share counts includes things such as warrants likely to be converted into stock.
Fisker stock fell 4.5% in Tuesday trading, while Churchill Capital dropped 8%. The S&P 500, for comparison, was down about 0.8%. The Dow Jones Industrial Average fell 0.9%.
The Fisker Ocean is due in 2022. The Lucid Air should ship in late 2021. Fisker's car with Foxconn is due in late 2023. As the cars come out, investors will get a better sense of whether outsourced auto manufacturing is here to stay.