Profitability Issue for Automotive Manufacturer Company
Problem Definition
Imagine you’re a business consultant, and on one fine morning, a CEO from an automotive industry needs your expert guidance with her declining profit as follows:
Hello. My name is Anna and I’m from Awesome Car Parts (ACP), a multi-national original equipment manufacturer (OEM) of car parts based in Korea. My company has recently seen a decline in profit. We’ve brought you in to understand how to address this issue of ours.
At first, she only gives us a brief teaser like that.
(( Pssstt… If this industry is new to you, you can always Google it. ))
Below is some basic information we can use:
OEM:
- Stands for “original equipment manufacturer”.
- These parts will be sold to the cars factory (B2B).
- So basically it’s “new parts for new shining cars”.
AM:
- Stands for “aftermarket”.
- These parts will be sold to distributors and car repair shops or workshops (end-user).
- It will be used for car maintenance. In other words, it’s “new parts for old broken cars”.
Others:
- Both OEM and AM are still the same products. They only differ in packaging.
- Despite its Korean-based company location, ACP’s products can be used not only for Korean cars (Hyundai, KIA, etc) but also for other cars (Toyota from Japan, Ford from US, and so forth.)
Hypothesis
It is okay to make some assumptions before we go through the data, as long as we can still maintain our objective.
For example, after our findings show that our first idea is not proven or feasible, we can accept that with a wider heart and mind, and still give the best consultation to our clients.
Our hypotheses can be like this (still not proven tho):
- ACP loses the competition because its competitors come with cheaper but better quality products (turns out their R&D and marketing strategy are really strong).
- Reduction in market share, because many clients do not renew their contracts with ACP (price war is inevitable, and it will cost the profit margin).
- There is something wrong with ACP Operation Management, so they cannot fulfill the demand and lose the business.
- The countries where ACP targeting its products are having a tight policy where there will be limited imported goods because that country wants to thrive the local OEM companies.
- Something happens with the exchange rate which eventually influences the total margin that ACP earns, and also the total cost to buy raw materials.
When making assumptions, remember that we need to have reasons behind it, far better if we use other supporting frameworks like PESTEL* analysis, VRIO** analysis, and so on.
*) PESTEL: Politic, Economy, Social, Technology, Environment, Legal.
**) VRIO: Value, Rareness, Imitability, Organization.
Analysis, Problem Identification, and Synthesis
Before determining the problem, we need to look at the available data. It’s like you’re a doctor who needs to ask more, search more, examine more, check more, discuss more, and collaborate more, when a patient comes to you with such complicated symptoms.
First of all, you can look internally. What is the type of business? What are the products? What is their market? How is the sales performance so far?
As we can see in the table below, ACP has five product lines that are being sold to the US and Japan markets.
This data also comes with this year’s sales and a year before. Pay attention that not all the product line has a declining year-on-year (YoY) profit.
As you can see, the declining profit only happens toward three product lines, which are Wheels, Airbags, and Seatbelts. Other products like Carburetors and A/C Units experience the other way around.
When talking about the “profitability issue”, what we need to do next is to look outside; find out whether the competitors also experience the same thing or not.
This is the data we successfully get about competitor profit:
How to read this graph?
First, we can see the blue line that refers to “Change in Profits (YoY)”. It shows that Company A and B has an increasing profit. However, for Company C and D, they have losses, about -25%, and -40% respectively.
What makes it interesting, Company C and Company D have been known to produce a great proportion of “Wheels, Seatbelts, Airbags” (we will call it “car’s accessories” next), about 60% and 80% respectively.
Doesn’t it ring a bell?
Yes. ACP also has a loss at the very same products.
And please see the Company A and B that successfully gain profit. They don’t even produce the car’s accessories. Their choice of “product mix” makes them thrive in the business.
What does it tell us?
Because the declining profit also happens to other competitors, it is most likely that the reason is in the market itself, not the ACP. Maybe there are not many demands these days? Maybe automotive factories in the US and Japan do not need too many accessories to assembly the car? And the list goes on.
Recommendation
From these findings, we can have at least 2 solutions we can offer to ACP.
However, what if we only have 2 minutes to talk to Anna?
What will we say?
Here, a “top-down” explanation is one of the best approaches.
Hi Anna. Regarding your company issue of declining profit, we recommend you to first, consider closing your business line of car accessories (wheels, seatbelts, airbags), and focus more to sell on Carburetor and A/C Units. Second, if you still want to maintain the accessories’ line, you can market it outside of US and Japan, e.g. countries that has big automotive industry like China, India, Thailand, or Malaysia.
Why? Because:
(1) According to your “Total Market Share” data, product lines that experience sales decline are only car’s accessories, which consists of Wheels, Seatbelts, and Airbags. Your other products, which is Carburetor and A/C Units, are having positive sales growth.
(2) This condition doesn’t only apply to ACP, but also to other competitors. We can assume that the problem is not coming from ACP’s internal side, but the market itself in US and Japan, which is not very lively recently.
Because of that reasons, we suggest you to cut loses by not producing car’s accessories for a while, or sell them to other market outside of US and Japan.
Please note that the formula basically consists of:
- The problem
- Our recommendation
- The reasoning
- Once again, our recommendation
This is far more effective rather than doing the opposite (down-top). When explaining something that we already work with wholeheartedly for months, some people are tempted to put the finding first before coming to the recommendation in the end. Remember, our client is a CEO and she might be very busy. Who knows she will have to go in the middle of our meeting? Make every single minute count.
Bonus:
If ACP also produces AM parts, we can explore wider possibilities.
All three products that decline in profit are made most likely by rubber as raw materials.
Maybe in the US and Japan, there are not many cars being broken, because of: (1) low frequency of using the cars, and (2) the weather that’s not as hot as in countries that passed by equator line, which then relate to the car part’s age.
As a solution for this problem, we can try to expand the market into Indonesia, Brazil, or other tropical countries.
Disclaimer
This case is taken from preplongue.com with some adjustments here and there. You may want to check it out. They have many cases to prepare someone who wants to have a career as a management consultant. I don’t own this case and only share it here for educational purposes.
Special thanks to Fian, Kidung, Dona, Arief, Victor, Osfred, Ovinda, Prahita, Selma, Bahtiar, and other friends from Ganesha Consulting Club who joining and discussing this interesting case at the meetup. You taught me a lot!
Feels like a student again :)
— Mutya Widyalestari
