Brexit and BMW: Disintegration of European supply chains?
BMW’s operations in the UK face severe challenges due to Brexit – Does the German carmaker’s supply chain disintegrate because of a protectionist vote?
“Brexit means Brexit”[1] – What Theresa May once considered a major punchline is now infamous for its unclarity. This unclarity is symptomatic for the overall Brexit negotiations. 16 months have passed since the referendum, but there is no new trade treaty in sight for March 2019, the date the UK exits the EU.
Britain’s auto industry is highly exposed to risks from Brexit. Think tank Civitas estimated that car and components makers could face tariff duties of up to £ 5.2 billion[2]. BMW’s subsidiary in Britain, the MINI[3], serves as an illustration of how Brexit could severely affect BMW’s supply chain operations. The MINI’s crankshaft exemplifies the problem. The steel casting of the crankshaft is currently made in France, then shipped to the UK for further processing, from where it is send back to Munich in order to unite it with the car engine. The engine with the crankshaft is finally send across the Channel and the motor is “married” with the MINI in Oxford[4]. Border crossings of three to four times for auto parts are thus no exception, and the majority of MINIs is sold outside of the UK[5].
If no new trade deal between the UK and the EU is reached by the deadline, inquiries by the British Parliament suggest that tariffs of 2.5 to 4.5% for car components could be applied each time a component crosses the border. In addition, a final tariff of 10% for finished cars could be applied[6]. As BMW is aiming for a target margin of 8-10%[7], multiple applications of tariffs threaten the competitiveness of its British operations.
Besides pressure on margins, BMW could also face operational consequences. Car manufacturers have adopted Just-in-time (JIT) supply chains with minimized inventory. Competitor Jaguar Land Rover only holds 2 hours of inventory, for example[8]. Tim Lawrence, Partner at PA Consulting Group, fears that customs inspections could take up to a couple of days in a post-Brexit world[9]. BMW could thus be facing a breakdown of its JIT supply chain.
Despite these distinct risks, BMW’s reaction has not shown any signs of urgency so far. One month before the referendum, BMW’s chairman Harald Krueger has publicly stated that BMW has no contingency plan for its UK operations[10]. He further explained that the company would use the 2-year negotiation period to assess its situation if the leave campaign would win. This reserved approach might reflect a larger sentiment across business about Brexit chances before the referendum. Surprisingly, BMW doubled down on the importance of its MINI plant post Brexit. Recently, the German car maker announced that it will build the electronic version of the MINI in its British plant[11].
Nevertheless, BMW’s CEO hinted to shareholders at the last general meeting, that BMW was able to shift production of the MINI away from the UK and increase the production of MINIs at an existing facility in the Netherlands, if Brexit delivers trade barriers[12]. In addition, negotiations about a joint venture between BMW and Chinese auto manufacturer Great Wall Motors have become public. The alleged aim of this partnership is to produce an electronic version of the MINI outside of Europe[13].
But electronic cars do not just demand decisions about production locations. The dawning age of electronic cars might be a chance for BMW to decrease the risk of supply chain disintegration due to protectionist movements. Reverse engineering of electronic cars shows that far fewer individual components are needed, and that the complexity of components is reduced in electric cars. For instance, a study by UBS shows that a Chevrolet Bolt (electronic) only needs 35 moving parts in its engine and gearbox, which is contrasted by 167 parts for a comparable combustion engine car[14]. BMW could push for electrification of its entire fleet and thus drastically reduce component needs and complexity.
In addition, BMW could then also try to nationalize supply chains again. British components in cars produced in England have risen from 36% to 41% in the last 6 years[15]. Tariffs and uncertainty might force the German carmaker to increase this ratio even more for its MINI production.
The question remains though, how many other countries might follow Britain’s lead? And how could BMW ensure the transfer of knowledge and able employees in an environment of a rising backlash against globalization and free movement of goods and people?
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[1] BBC. No second EU referendum if Theresa May becomes PM. July 11, 2016. http://www.bbc.com/news/av/uk-politics-36764525/no-second-eu-referendum-if-theresa-may-becomes-pm (accessed November 13, 2017).
[2] Protts, Justin. Potential post-Brexit tariff costs for EU-UK trade. Briefing Note, London: Civitas, 2016.
[3] BMW. Brands and Services. 2017. https://www.bmwgroup.com/en/brands-and-services.html (accessed 11 12, 2017).
[4] Ruddick, Graham, and Philip Oltermann. The Guardian. March 3, 2017. https://www.theguardian.com/business/2017/mar/03/brexit-uk-car-industry-mini-britain-eu (accessed 11 12, 2017).
[5] SMMT. Five big facts about MINI. September 26, 2014. https://www.smmt.co.uk/2014/09/five-big-facts-mini/ (accessed 11 10, 2017).
[6] House of Lords – European Union Committee. “Brexit: trade in goods.” House of Lords Paper 129, London, 2017.
[7] BMW Group. Investor Presentation. Munich: BMW Group, 2017.
[8] Campbell, Peter. Financial Times. October 16, 2016. https://www.ft.com/content/c397f174-9205-11e6-a72e-b428cb934b78 (accessed 11 12, 2017).
[9] Ruddick, Graham, and Philip Oltermann. The Guardian. March 3, 2017. https://www.theguardian.com/business/2017/mar/03/brexit-uk-car-industry-mini-britain-eu (accessed 11 12, 2017).
[10] —. Reuters. May 12, 2016. http://uk.reuters.com/article/uk-britain-eu-bmw/bmws-ceo-says-too-early-for-a-brexit-contingency-plan-idUKKCN0Y31ZY (accessed 11 8, 2017).
[11] Reuters. BMW says electric version of Mini to be built in Oxford . July 25, 2017. https://www.reuters.com/article/us-britain-eu-bmw-mini/bmw-says-electric-version-of-mini-to-be-built-in-oxford-idUSKBN1AA1IJ (accessed 11 13, 2017).
[12] Krüger, Harald. “BMW Group.” Statement Harald Krüger, Chairman of the Board of Management of BMW AG, 97th Annual General Meeting of BMW AG at Olympiahalle in Munich on 11th May 2017. May 11, 2017. https://www.press.bmwgroup.com/global/article/detail/T0270684EN/statement-harald-krueger-chairman-of-the-board-of-management-of-bmw-ag-97th-annual-general-meeting-of-bmw-ag-at-olympiahalle-in-munich-on-11th-may-2017 (accessed 11 11, 2017).
[13] McGee, Patrick, and Charles Clover. Financial Times. October 12, 2017. https://www.ft.com/content/b4aa06ea-af4e-11e7-aab9-abaa44b1e130 (accessed November 12, 2017).
[14] UBS Global Reserach. UBS Evidence Lab: Electric Car Teardown –Disruption Ahead? Zurich: UBS , 2017.
[15] Protts, Justin. Supporting Industry Post-Brexit: Supply chains and the automotive industry. Briefing Note, London: Civitas, 2017.
On the flip side, foreign automakers such as Toyota will need to tackle the supply chain overhang to remain competitive in the UK and Europe. Two possibilities for automakers:
Buy Local: First, they would need to consolidate as much of its supply chain as possible, to minimize production costs after Brexit. Only about 40% of components within a UK assembled car are sourced locally. That number will need to increase.
Seek concessions: Second, specifically for Toyota, as a low-margin manufacturer that caters to the mass market, Toyota should seek to get concrete guarantees on a transitional deal from the government as soon as possible. Nissan, for example, was able to secure concessions as a requirement to keep production of its Qashqai and XTrail models at its Sunderland plant.
Contrary to your statement above, I actually don’t find it surprising that BMW has doubled down on MINI production in the UK post-Brexit. What this post fails to take into account is the effect of foreign exchange rates on these dynamics and manufacturers making short term decisions accordingly (while preserving/strengthening long-term alternatives such as shifting production to other EU nations as mentioned above). As indicated by the Wall Street Journal in November 2016, one effect of Brexit has been devaluation of the pound, thus making UK-based production increasingly competitive (i.e. increasing margins). With this in mind, it seems quite logical that BMW would have increased MINI production in the UK to leverage this advantage, and will continue to do so in the long-run as well to the extent that unintended consequences of Brexit on foreign exchange rates counter the effect of isolationist tariffs.
https://www.wsj.com/articles/making-america-spend-again-versus-isolationism-1478800249
Harald Krueger’s initial blase stance on Brexit was warranted. All pundits and polls pointed towards a Remain vote. Post Brexit, open-door policies have been reaffirmed on the European continent, with Macron’s ascent in France, Geert Wilders loss in the Netherlands, and Merkel’s stubborn grasp on power (assuming that she can form a government in the coming weeks). Abandoning the U.K. might be the best option for BMW.
Other companies are already moving across the channel en masse. One in ten German companies intend to scale back investments in the U.K. (1). Large banks, including Goldman Sachs, have already begun to expand offices in Frankfurt and Paris. Key government agencies are also moving back to the continent, including the European Banking Authority and the European Medicines Agency, redirecting high paying jobs and research funding to Paris and Amsterdam, respectively (2).
While currency declines might partially offset the risk of remaining in the country, the clock is ticking and minimal progress has been made towards an agreement. Businesses do not have the time to wait for slow moving and ineffectual administrations. BMW is clearly trying to pressure the U.K. to negotiate a deal, while pursuing a back-channel backup option in China. Deploying capital in the U.K. for factories that might not be economical for decades to come if Brexit takes a “hard” turn makes no sense. The U.K. was one of the fastest growing economies in the EU prior to Brexit. Following Brexit, interest rates are rising (3), inflation is rising, and the economy is stagnating. Hopefully this disastrous outcome will be a signal to the rest of the world: politicians frame isolationism as a panacea, it is nothing of the sort.
(1) https://www.politico.eu/article/german-businesses-to-leave-uk-after-brexit-report/
(2) https://www.nytimes.com/2017/11/20/business/uk-eu-ema-brexit.html?_r=0
(3) http://www.bbc.com/news/business-41846330
The author raises a very contemporary problem around isolationism and the risks for economic growth. Specifically within the Brexit context, I believe 2 key topics should be discussed further.
First, considering the political challenges both in the UK and within the broader EU Brexit negotiations, will Brexit actually happen? Recent political losses resulted in a very difficult negotiating position for the British conservative government, who will likely lose the next general election to Labour. Furthermore, as the author raises, a “good deal” will not be in the interest of the EU mainland. If a deal is struck, it will likely hurt the UK economy badly and no others will want to follow. This expectation is emphasized by the fact that nationalistic parties campaigning for a EU exit have been losing across the EU over the past 12 months.
Second, global supply chains move around on a regular basis and they will continue to do so. Creating flexibility within an uncertain geopolitical stage will be high on the agenda across global corporations. Key solution dimensions will be global demand (driven by regional growth), capital expenditure (driven by government incentives), talent deployment (matching supply and demand), and flexible production (driven by the cost to establish facilities and cost to leave).
The success of BMW following Brexit may hinge on how expeditiously new trade rules are drafted. As Dr. Ian Robertson, BMW Director¸ states: “The one thing we desire is clarity. Tell us what the objective is to 2025 and we’ll get on with it.”[1] The longer the uncertainty lasts, the greater the potential damage.
Prior to the referendum, Britain was already experiencing a shortage of automotive engineers.[3] Addressing the transfer of knowledge, Torsten Muller-Otvos, CEO of Rolls-Royce, expressed concern over the ability of the firm to attract employees from outside the UK: “we get a significant benefit from the easy movement of our people between the UK and Europe. This allows the rapid transfer of expert knowledge throughout Rolls-Royce Motor Cars and BMW Group networks, building the skill level of our UK workforce.”[2] As the brain drain is expected to continue with uncertainty, the question may not be how to ensure a transfer of knowledge but, rather, whether there will be knowledge to transfer.
Answering the question of where to build may be catastrophic if the trade issue is not resolved quickly and decisions are made in absence of such information. According to Harald Krüger, CEO and Chairman of BMW, “other companies are taking decisions the results of which you will not see for three, four, five years. Then it’s too late.”[4] The future impact of tariffs on vehicles made in the UK that are sold abroad is unknown, as is the question of whether parts can move quickly and affordably within the EU. The uncertainty extends beyond EU trade negations; there is also the question of whether the UK would be granted free trade with Europe from outside the EU. Can EU-sourced components be classed as local content? Will UK manufacturers succeed in attempting to build up the supply chain in Britain by encouraging suppliers to open plants in the UK? Without expediency in resolving issues, it is too early to decide whether BMW should close its UK plants. So, BMW sits in limbo.
[1] http://www.dailymail.co.uk/news/article-5041329/BMW-boss-s-vote-confidence-Britain.html
[2] http://www.bbc.com/news/business-35712537
[3] http://www.ibtimes.com/brexit-will-impact-automotive-industry-british-drivers-who-love-bmw-2386792
[4] https://www.thetimes.co.uk/article/play-hard-on-brexit-and-we-all-lose-warns-bmw-boss-harald-krueger-27rrnmthp
I really appreciate this article and can understand the dilemma faced not only by BMW/MINI, but also employees in the UK, and partners across the EU in the supply chain. The lack of urgency that is noted in the CEO’s reaction to Brexit, in my opinion, simply reinforces that it’s a most likely scenario to move operations to the Netherlands (or other production facilities) in the event of a punitive border tax. To address your question on the transfer of knowledge and talent, I suspect that there is no shortage of skilled labor in any of BMW Group’s production locations. The unfortunate side-effect of such isolationist measures is that there will always be a severe cause-and-effect relationship; in this case, the UK factory workers are most impacted in the process.
Over the past few decades as the world has become more globalized, supply chains optimized for lowest costs. A garment, for example, might source cotton from one country, textile manufacturing from another, and tailoring from a third, each step located where the cost is lowest. We consumers have become addicted to fast fashion and other similarly low-priced, mass produced products. Brexit and similar nationalist movements in the US have been cast as ways to regain jobs from overseas and to boost economic growth for the home country. It’s interesting to see that British cars are sourcing an increasing percentage of their parts from England. Will prices be forced up as global supply chains become riskier, and as some companies re-nationalize their supply chains in response? How will consumers react?
I also found it interesting that MINI is pursuing an electric car with fewer and simpler components overall. While this certainly provides other advantages – cost savings, ease and efficiency of assembly, and possibly less maintenance required – it might also present a solution for companies trying to simplify their supply chains and minimize their exposure to tariffs.