Any analyst asserting that electrification will not play a major role in the automotive industry in coming years would look like King Canute attempting to turn back the tide. He was rewarded with a pair of wet feet for his trouble, and anyone downplaying the significance of vehicle electrification and its subsequent impact upon the automotive and broader mobility sectors would be left similarly damp and in a very small and lonely place.
We know electrification will change the shape of the truck industry. There’s no debate about that; what is less clear at present is quite how that change will manifest itself. And given that the disruptive potential here is very significant—it’s not unreasonable to draw parallels between the impact of electrification to automotive and that of mass internet adoption to retail—the ability to future proof strategy is of supreme importance to any and all industry stakeholders.
Truck makers face complex commercial and strategic challenges
While much analysis has focused understandably upon the technical challenges associated with electrification—vehicle range, charging infrastructure and the like—we argue that it is the impact upon the value chain that is both the more significant issue and the one that demands close attention today. While the technological challenges to widespread adoption of electrification are well-known, the strategic and commercial challenges to all participants within the value chain are complex.
While the technological challenges to widespread adoption of electrification are well-known, the strategic and commercial challenges to all participants within the value chain are complex
The two accompanying charts illustrate the problem. Both refer to the most recent (Q3 2019) earnings of Paccar Inc and Rush Enterprises. We use these two organisations by way of illustration as they are respectively a pure-play truck maker (Paccar) and a dealership organisation focused solely on HD trucks (Rush). While the former has global footprint, the latter restricts its operations to North America but this notwithstanding, comparing segment revenues and segment gross margins show a very clear challenge.
Not unsurprisingly, sales of new trucks account for by far the greatest percentage of revenue both for manufacturer and dealer. In the case of Paccar, 78.2% of its top line accrues from making trucks and, in the case of Rush, 67% come from selling them. Aftermarket revenues represent 28.4% of Rush revenues and 15.7% of Paccar top line—in both cases a significantly smaller contribution to overall sales.
But if we consider this data in terms of gross margin, it’s a different story. Truck sales return a gross margin of 6.8% for Rush and 12.3% for Paccar, whereas parts and aftermarket sales post 37.5% and 28% respectively. In simple dollar terms, Rush throws off 6.8 cents per dollar of trucks sold but 37.5c per dollar of parts sold, while Paccar gets 12.3c per dollar of truck sold and 28c per dollar of parts sold. In terms of absolute profitability, the parts and aftermarket segment is a clear winner and while verticalisation within the truck industry has been explained by many factors, the contribution to profit made by a captive parts and aftermarket revenue stream is arguably the most compelling driver.
What happens, then, if it goes away?
Demonstrably, a loss of parts and aftermarket margin would be a distinct negative both for truck maker and for dealer and, once again we should reiterate that neither Paccar nor Rush are unique here; this is an issue that, on the basis of current industry structure and revenue segmentation will apply to all stakeholders. Thus, the supplementary question here should be one that asks if this is a risk.
Here we find ourselves confronted by a combination of simple arithmetic and addressable markets. An electric truck—indeed, any electric vehicle—has fewer moving and wearing parts than one powered by a conventional internal combustion engine (ICE) driveline. Fewer parts wearing out means a concurrent reduction in demand for replacements which subsequently reduces organisational margin and, ultimately, profitability. With the industry structured as it is today—effectively vertically integrated—the revenue from parts and aftermarket is not merely a nice bonus, but a core contributor.
Electrification will change trucking – but how?
This loss of revenue and margin is problematic but, in isolation, it should not prove insurmountable. Unfortunately, it is not occurring in isolation. It is perhaps supremely ironic that the very issue which is creating this profitability issue—the drive towards electrification—is, at the same time, one that is already proving to be expensive in terms of its development. Recent announcements by Daimler and Audi have indicated the earnings impact likely as a result of this shift in emphasis, and it seems only reasonable to assume that these two automakers are not alone in confronting this challenge.
For the truck dealer network, the challenge is arguably more brutal; not only will a reduction in parts and aftermarket revenue and margin impact organisational financial health directly, the attendant additional costs inherent in readying the network to maintain electric trucks will place further stress on the books.
We know electrification will change the shape of the truck industry. There’s no debate about that; what is less clear at present is quite how that change will manifest itself
This is an issue that lies at the very heart of the challenges facing the automotive industry as we head into the next decade. With both regulatory and societal pressures now very much at the fore, it seems entirely probable that the adoption rate for electric vehicles will continue to grow. If the shift towards electrification continues apace, then the strategic challenge faced by vehicle manufacturers and their networks is a considerable one.
No-one is in the automotive industry as a result of a vocational calling—they are here to get paid and, while it is an oft-quoted strategic cliché, it may well be that electrification is a Blockbuster moment. The widest range of DVDs proved of little value in the Netflix era, and the best margins on parts for ICEs look similarly peripheral as we move away from the diesel pump and embrace the power outlet. The stakes are very high, and the need for truck makers and fleets to develop coherent strategies accommodating electrification has arguably never been greater.
About the author: Oliver Dixon is a Senior Advisor at Roland Berger
This article is taken from Automotive World’s December 2019 ‘Special report: The path to the electric truck – 2019 edition’, which is available now to download