MHA | How will the Recession affect the UK Automotive Sector?

How will the Recession affect the UK Automotive Sector?

Alastair Cassels · August 9th 2022 · read

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The latest SMMT Quarterly Update coincided with the Bank of England’s decision to raise interest rates by 50 basis points (the biggest rise in 27 years) and offered little comfort to the Automotive sector as we move towards the end of 2022.

The BoE is now predicting the UK economy will enter a recessionary period by the end of the year and inflation looks set to rise to 13%. GDP is forecast to fall to 0.6% in 2023 with bigger falls in private consumption.

The good news is that unemployment is being forecast to remain at the low levels of 3.9%. The automotive sector has enjoyed a strangely prosperous period over the pandemic period and as we exit the worst of COVID-19, once again it has shown great resilience and an ability to face headwinds however, there is little room for complacency as we enter this next economic phase.

SMMT’s forecast for 2022 has been revised down again. They are seeing the market at 1.6m units in passenger cars and c357k LCVs. That now cements a volume loss over the three-year period (2020-2022) of c2m passenger cars or the equivalent of a full year of registrations lost.

The fact that this has coincided with such robust profitability for both retailers and OEMs leads you to be cautious with any predictions on how the next period will develop.

However, I consider the challenges of the next 12 months to be more serious than those posed by the pandemic for the following reasons:

  1. Retail customers will face the biggest squeeze on disposable income for six decades. Our spiralling housing market means 50 basis point movements in interest rates is seldom inconsequential. Energy markets show no sign of stabilisation with the only comfort being the UKs level of reliance on Russian gas –this however will not insulate us (pun intended) from the rising price of gas in 2022/3.
  2. The impact of the low market volumes in passenger cars will put intense pressure on aftersales business. Coupled with the consumer behaviour we typically see in recession where vehicle servicing can be considered a deferrable expense, especially at perceived franchised network costs then a relentless focus on retention will be required to keep workshops full and absorption above 50%.
  3. The scope for OEMs to improve affordability looks challenging. Their cost of funds increases like everyone is, the costs of producing BEVs is not reducing and therefore the ability to trim monthly payments will be limited. The good news is that RVs still look robust and the under supply will surely continue to support these.
  4. Inflationary pressure is driving operational costs higher across the board and businesses will not be receiving relief from the government in the same way households are.

There is good news though

  1. If you can continue to source used cars the opportunity to make strong margins looks relatively undiminished. 2m less 1–3-year-old vehicles in the parc should support RVs and there is no indication of any oversupply of new cars which could compete on monthly payment terms.
  2. Forward order banks on new vehicles are strong which helps offset stock holding costs and supports stronger margins.
  3. Lead generation capability in both sales and aftersales is significantly ahead of where the industry was during the last recession. Therefore, the ability of dealers to drive greater loyalty levels without increasing media spend should be increased.
  4. SMMT is forecasting a market increase in 2023 to 1.9m units, which, while short of the “normal” 2.2m, would represent a welcome signal that the vehicle parc is growing and more customer orders can be fulfilled.
  5. The last two years have strengthened balance sheets and allowed the reduction of term debt which clearly has more importance in the wake of the increase in the base rate.

There is no doubt that the UK economy is in for a challenging period and the automotive sector will be negatively affected but, there is proven resilience and many of the pre-conditions that led to a more painful adjustment the last time the UK experienced a similar economic downturn are not present. Of course, there will be casualties, but I am confident the industry will emerge in good health.

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