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Q2 to be very difficult in tire industry

March 16th, 2020 | by Latin Tire News Team
Q2 to be very difficult in tire industry

It is going to be very serious. The experience in China (see box below) was a collapse of the industrial chain for a month in areas that were only lightly affected, and at least two months for the most seriously affected areas. Demand for car tires and truck tires collapsed in both the original equipment and replacement markets during February, leading a string of tire wholesalers and small retail tire shops to go bankrupt during February and March.

Limited government response

I expect that the impact in Europe and North America will be at the most serious end of the Chinese experience, as there appears to be little coordination of reactions at a government level, and much less strict enforcement of isolation, social distancing and quarantine measures at a local level.

This suggests that the experience in most of Europe and the United States’ will be closer to that of Wuhan, than that of Shandong province, for example.

Democracies unlikely to impose similar measures to China

One could argue that the strict enforcement of these measures in China was draconian and over-the-top. I doubt, for example, that many Europeans, let alone Americans, would have accepted the welding closed of doors to apartment blocks; the forcible abduction of people to take them into unhealthy quarantine zones, or the enforced social distancing measures imposed on residents in Shanghai, Beijing and many other cities across China.

Economic factors may dominate over health

Where China prioritised control of the virus over short-term economic disruption, the suspicion is that in Europe and especially in North America, the likely short-term economic impacts will be given priority over the spread of the virus. Inevitably, this will lead to less control over the illness and drive the development toward the more serious end of the Chinese experience. Ultimately, the economic impact will be greater, due to delays in making difficult decisions.

This, too, suggests that the experience of the new centres of infection will be at the more serious end of the spectrum.

Limited testing and tracking

Finally, Korea and Japan both had experience of managing the SARS virus in 2003. That illness barely spread to Europe or North America.

Korea and Japan learned that widespread testing and tracking were the most effective measures to manage such outbreaks. Rates of disease spread in Japan and Korea have been much slower than was seen initially in Wuhan, and subsequently in northern Italy, and the rates of spread now being seen in Spain, France, the UK and probably in Seattle, New York and other parts of the United States.

Covid-19 testing in North America is almost non-existent, while the disease now has too much of a grip in Italy, France, Spain, Iran and some other countries. The UK has the option to test many people, but it deliberately refusing to do so.

Again, the experience suggests that both Europe and North America will see major disruption in line with Wuhan, rather than limited disruption in line with other Chinese Provinces.

The evidence, then suggests that both Europe and North America are both set to experience something similar to the nightmare in Wuhan over the coming weeks.

If that really is the case, it will be a nightmare from which we will not wake for at least two months.

Demand to plunge

China’s vehicle manufacturing industry stopped (see box, below). That meant demand for OE tires also stopped. Europe’s automotive industry is less geographically concentrated than that of China, so it may be that OE demand for tires (both truck and car) will not drop as drastically as we saw in China. On the other hand, the supply chain for vehicle manufacture in Europe and North America is much more sensitive to small disruptions than the Chinese industry.

We know that car makers and sub-component makers have been investigating alternative suppliers of components. However, if the systems suppliers such as Bosch, Continental, Valeo and others are forced to restrict output, then the auto industry is going to find it very difficult to continue in production.

Travel restrictions will impact replacement demand

Replacement demand is a different matter. Italy has asked people not to travel, unless there is a good reason. It is very likely that other governments across Europe and different parts of the United States will impose similar restrictions within the next few days and weeks, and that those restrictions will become more tightly enforced as the disease spreads.

Meanwhile many countries across Europe have imposed border restrictions. Australia has banned inter-State and intra-State travel.

Border restrictions to affect long-distance trucking

It is not clear how the long-haul logistics industry will respond to increasingly restrictive border controls.

On the one hand, modern industrial and food and medical supply chains rely on long-distance trucking. On the other, border controls and travel restrictions will limit the use of trucks. In particular, quarantine requirements will affect drivers.

In China, truckers were asked to remain in quarantine for two weeks whenever they arrived in a new city. Inevitably, that stopped long-distance logistics industry until the precautions were lifted, leading to the collapse of the logistics chain and a consequent collapse in domestic demand for truck tires.

As Germany, France, Italy, Poland and others impose border restrictions, with quarantine for foreign nationals, that is likely to lead to a very rapid drop in long-distance trucking in Europe.

The Italian government has strongly advised against personal travel without good reason. It is likely that other governments will impose similar restrictions, and that those restrictions will become increasingly strongly enforced.

That will lead to reduced use of cars, leading to lower demand for tires in the short term. Add that to the lack of Winter in Europe this year. Some drivers are still running on Summer tires, or switched to All-seasons, meaning that the traditional sales rush in April is unlikely to take place.

As personal travel declines, and people choose to delay switching back to Summer tires. footfall and business at tires stores will rapidly drop, leading to cashflow problems in paying rent and employees. This – leaving aside the seasonal switch – is what happened in China, even outside the worst-affected areas in Hubei province.

In the short term, local delivery vans have seen an increase in demand, as more people request home delivery of food, goods and other products. That is likely to continue, though it is not clear whether government restrictions will limit such deliveries in the future.

Two to three months of shut-downs will drive business failures

The picture sounds bad, but if it lasted only a week or two, then many businesses could survive. The experience in Wuhan has been around two months of shut-down, but that was in a country where the spread outside the affected region was largely controlled. If that spread is not controlled in either Europe or North America, then restrictions on travel will have to be both more widespread and last longer.

I think we could be looking at three months’-worth of severe restrictions across Europe. Q1 is getting difficult, but Q2 is likely to be much worse.

As demand for tires falls, that is going to affect the whole upstream supply chain, as well as the downstream distribution and retail businesses.

Furthermore, in a bid to produce respectable results for shareholders, tire makers are going to slash Capex budgets and delay capex spending. This is always the case when tire companies see their profits under pressure.

The tire wholesale business in Europe and North America is more robust than in China, but the whole supply chain is going to be under very severe pressure over the coming three months. It’s not a pretty picture, but I would appreciate anyone who can offer an alternative view.

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