The End is Near – Time for a New Beginning?

An analysis of Continental Tire North America

The problems Continental faces in the US are more or less ‘homemade’. The problem is there doesn’t appear to be any solution available unless you call a total tactical retreat from the biggest market in the world a solution. In the event that this happens, it is more than likely that the company would call such a decision to cease selling tyres in the US a “strategic withdrawl.”

In 1987 the Continental group did not have the financial resources (and was later unwilling) to spend the amount of money necessary to build up the company’s Continental and General brands. Now the current management has to pay for all the shortfalls left behind by its forbears. Meanwhile, in the midst of all this the US-arm of the group’s tyre division is again going to the dogs with a loss of more than 100 million euros. Nobody believes that a turnaround will take place this year, even though CEO Manfred Wennemer and his colleague Martien de Louw have suggested time and again that it would.

For two years now the executives have promised that Continental Tire North America (CTNA) would achieve a profitable fourth quarter in 2005, leaving their loss making times behind them. But that does not look likely and the company’s turnaround days seem far away. Today not much of the General Tire business that Continental took over in 1987 is left. The Germans predicted that there would be belt-tightening over the years and pinched and scraped General Tire smaller and smaller. Recent unforeseen events, including the sudden departure of Martien de Louw, show that the situation is becoming urgent, perhaps even hectic. Time is running out bit by bit.

In the first years of this new millennium, Continental Tire went through three managers in the driver’s seat – Bernd Frangenberg, Dr Wellen and Martien de Louw – each of whom unsuccessfully tried to limit the damage that had been inflicted on the business. Instead the North American company has made losses in the hundreds of millions. The sudden departure of Martien de Louw in May 2005 marked a new degree of collapse and observers and analysts doubt whether or not CTNA had been able to make any progress at all. But this is difficult to demonstrate, due to the fact that the company has not published any North American figures for several years. Nowadays Continental only publishes figures from the PC-Tyre Division and the Truck Tyre Division.

One explanation could be that the company doesn’t want to publicise its bad performance in US. Operating losses are said to exceed 10 per cent of turnover. But now Mr Wennemer (59) and the group’s chief financial officer, Dr Hippe (38), are fighting on the front line, something that is not necessarily good news for American employees. Nobody can solve these problems overnight and make the business profitable at the click of their fingers, but in Charlotte the people are hoping for a miracle. However, the clock is still ticking and everything that is being done has to be done extremely quickly. The question is – is the management just trying to salvage what is already lost?

Even analysts in favour of Continental have their doubts and are watching what’s going on very closely. When they talk shop, the executives talk about improvements and lofty targets, but none seem to have materialised, and instead deterioration has taken place. Either way, the time when analysts might have taken everything they hear about Continental’s North American situation at face value has passed, and instead they have become very wary about commenting on the subject.

The lemming’s tale – from the dream to the nightmare

These small animals love to roam, as much the big shots of large groups love to go on corporate shopping trips buying more or less everything money can buy. They defend this behaviour with words like globalisation, global player, world car, world tyre, multi-brands and so on. But these sayings prove everything and nothing at the same time because they are just relatively empty words and flowery phrases. Whoever might be responsible for inventing these nice neologisms can look back with satisfaction and see how many walking tours have been initiated because of them.

One manager after another has embarked on his own tour, wanting to be a visionary and not an office bore. And straight afterwards others followed him. But if they had sat back a bit, they would have seen all the others returning from the fray with bleeding noses. And this would have helped them to avoid making all the same mistakes others made. Consequently they would have avoided all the trouble in both the purchasing company and the company that was taken over.

It is not always a disadvantage to act slower than your competitors, as long as it is also more carefully – over the years the public has changed its collective mind. At times like this the words of famous leaders spring to mind: “He who has a vision should see a doctor.” Or, to quote a Harvard professor, “many managers believe they are visionaries and charismatic, but in reality they are overestimating themselves and rather have ‘overreaching’ egos, do not listen to others, are unable to ask for consultation or follow good advice.” Instead they think they know everything better. The professor calls these characters “whisks.”

Lemmings cannot read. Likewise over ambitious managers cannot read the writing on the wall. In the end they both face disaster. When many lemmings start to race in certain direction they have to pass small gullies and deep valleys, creating problems and panic. In the end the whole crowd of lemmings jump (or are pushed) off cliffs, driven by fear and panic. Is the tyre industry any different?

Many managers have had to look into the abyss. Michelin bought Uniroyal Goodrich in the early 90s, an acquisition which caused a disaster. It was only good luck and the fact that Carlos Ghosn, who later saved Nissan and is now boss of Renault-Nissan, started his catalogue of turnaround stories with Michelin. Otherwise the Michelin family might have lost its grip on the group that they control to this day.

Earlier, in 1987, Bridgestone took over Firestone. Observers recorded their surprise that Firestone boss, Nevin, could foist Firestone off onto Bridgestone at such a remarkable price. At this stage Firestone had not invested as much as perhaps would have been necessary over the whole decade and was therefore in bad shape. But despite this, Bridgestone was too financially sound to come into difficulties. However the company did pay a second fortune in restructuring costs.

And let’s not forget Pirelli. The Italian’s unsuccessfully bid for Firestone and took over Armstrong, a relatively small tyre manufacturer. Then they experienced their own Waterloo. After having turned Armstrong upside down Pirelli boss, Tronchetti Provera, realised that it would be impossible to restructure the North American tyre arm of the Pirelli group and he shut it down as fast as he could. As everybody can see: It is not always necessary to go after a global footprint. Pirelli has been very successful in recent years without being a ‘global’ player.

And Continental? The drama started in 1987 when the Germans took over General Tire. Since then the only thing that has been constant has been the huge losses, first in German marks, then in dollars and now in euros. The losses have, seldom if ever, been below 100 million.

And it’s only thanks to their excellent European Tyre Division, especially the PC-Tyre Division that the Germans have been able to write their cheques relatively trouble free. In effect, the European Tyre Business is ironing out the US’s losses.

Nothing new

People talk about how things tick. But what makes Continental tick? When Continental took the decision to go for the General Tire takeover in 1987, then CEO Helmut Werner had enough problems in Germany for example with the equity Vergölst which made losses in double digit millions. However, during one annual meeting, a very optimistic Werner told shareholders as well as the members of his supervisory board that under his guidance the loss would be halved in the first year with breakeven being reached a year later.

And it must have been more than a just a good decision to employ Wilhelm Winterstein who came from Dunlop to Vergölst. Mr Winterstein was previously a controller who did not know anything about customers and end consumers. Instead numbers were his best friends during his management career. It is not surprising that Werner and Winterstein acted according to expectations. The boss of the biggest supplier had promised to make the turnaround for his biggest customer happen and pull the equity out of its mess.

And the man who could calculate everything exactly was as an ideal crewmember in this lifeboat. Winterstein calculated everything so exactly, that only one year later Werner promoted him to the position of CFO for the whole Continental group. But, what had it got to do with the restructuring of Vergölst? Nothing. Restructuring takes time, years even. And therefore it wasn’t a surprise that some of Winterstein’s successors burnt their fingers again.

So should we expect a recurrence of this scenario along general lines? If the combined team of Wennemer and Hippe thinks or feels they are forced to be in the black by the end of this year, then they will be, without any doubt. Will Wennmer leave a definite mark?
For many months there have been rumours that the European unit is subsidising the US activities heavily in order to be able to show better results in Charlotte and to dispel doubts about whether or not the group has been able to improve the bad situation. And although the German tax authorities have been watching carefully, there is enough elbowroom for “creative accounting methods.”

In the end it is as much a question of weighing and valuation as anything. In the same way that Werner and Winterstein, the current CEO and the CFO, now work together as closely as ever before – sitting in the same boat means success or failure goes for both of them. It will be very interesting to see whether or not the duo will be able to achieve what has passed all their predecessors by.

One thing is for sure, a company which suffers annual losses of 100 million euros or more year after year will at some point get into difficulties. And therefore its logical that the board of directors would ask the leading figures of the group to make some kind of a solution – and from their point of view the CFO must have been a logical partner. But, observers point to the fact that General Tire and Continental Tire North America respectively do not have a controlling problem, the company is not burdened with mountains of debts and should not have other disadvantages in financial terms. The real problem is the market, problem with brands and product problems. So why should a CFO be able to solve these problems single-handed and faster than the experts that went before?

There is no other way that Dr Hippe will be able to acknowledge these real problems. He will fail necessarily like all those before him. In Martien de Louw the group had sought a manager that would take the driver’s seat with not much experience in the tyre business. He had the unenviable task of not only guarantying that the turnaround would happen in the US, but also managing the group’s cash cow in Europe at the same time. Despite the fact that Continental managed excellent figures with tyres in Europe, de Louw failed in the US. He tried his best, was more or less permanently in Charlotte but obviously he failed to find access to the world of tyres. The US is a really highly competitive market and the management has to know all the unwritten rules exactly, not to mention learn what the end consumers and dealers really like.

Look at the last CEOs, look at what they could and couldn’t achieve. Bernd Frangenberg, who spent around eight years in charge in Charlotte had to manage one round of restructuring after another. He had to save and to save all the time, whilst not being able to invest as much as would be necessary due to the fact that the group did not have the financial power to make the step by step, year after year improvements that were required. He had to live with what he had available and this was somewhat like plugging holes in the hope that the company could report a “not too high loss,” particularly against the backdrop of a booming economy.

Dr Ulrich Wellens time, a man who has called himself the fix-it guy of the Continental group in magazine interviews, came to an end after one year. As insiders are saying, Wellen preferred “management by fear” and was always willing to show how tough and strict he was. His message was: what others failed to achieve over years should not cause him a problem. He was even quoted as saying that the breakeven point would be reached immediately, independent from the economy as a whole, adding that within two years time nobody would even remember that there were losses.

We know now that the reality was different and in the next two years the company lost another 300 million euros in the US. Wellen had no international experience but he told many people in Germany that he would be a member of the board of directors before he turned 40, otherwise a man like him would have done something wrong. Despite the lack of international experience Wellen possesed a lot of knowledge when it came to tyre technology, and he had some more highly visible professional skills. However the intelligent and technically excellent manager suffered from inflated expectations and his unending belief in his superior abilities. It became obvious that Wellen lacked leadership excellence.

Was Martien de Louw, the man who failed and remained without success, a leader? At least he acted as one. He was responsible for everything, and was without doubt the boss in Charlotte. His behaviour seemed very much American. He probably tried to be more American than the Americans. But, as far as outside observers could see, he was serious, solid and authentic, not a “star” but ambitious and hard working like a craftsman, willing to take the long, difficult and risky ways. The fact that parts of the press now call him “the flying Dutchman” might be unavoidable, but it is disrespectful.

Bad luck for General Tire

At a time when hostile takeovers were ‘en-vogue’ in the US, they found their way to General Tire relatively quickly. Raiders attacked the mother company Gencorp, which opened the door for Continental. Two years earlier the Germans began a technical agreement with the US tyre company and with Japanese manufacturer, Toyo. Using the argument that they were forced to protect Continental’s technical know-how, and therefore didn’t want to work too closely with another company, the German’s started their bid for General Tire. Gencorp took the money and fought off the raiders. But some were already sneering and saying that never before had a company paid out so much money for paper alone. To start off with, the Americans were quite happy with the Germans; they believed that Continental would spend enough to make it a success. However, over a period of time, they have come to be disappointed in every respect. Again, Continental did not and could not invest as much as was necessary and so also in the following years initiated further rounds of restructuring. Perhaps even saving the company to death.

People may well ask the following questions:

  1. Why was it necessary for Continental to become a global player in the tyre industry?
  2. What came along with the General Tire purchase?
  3. What did the Germans do with the factories?
  4. How much did they spend on R&D?
  5. What did they do with the General and Continental brands?
  6. How much did the Germans invest in people – in education making sure they had enough expertise and experts? Of course, without this no company can remain successful.

Answer 1: Goodyear-boss Bob Mercer announced in the eighties that only the “Big Five” in the tyre industry would be able to survive. All the others had to die, “as prescribed,” so to speak. But then the name of Charles Zub came to the fore, claiming to be a tyre industry expert, even though nobody had heard of his name before or since.

Mr Zub made a presentation with the headline “the eighties belong to Continental.” Anybody interested in more slogans and catchphrases? Or should we say – while we are on the subject of high-ranking managers – anyone interested in more hype and publicising companies’ statements of intention?

Managers said they were interested in their company becoming a global player because, due to diversification of the business, Continental was no longer so dependent on one market. Of course this would be expensive, but these executives claimed to have laid the foundation for a better future. The drop in EBIT, cash flow and profits should be only for a year or so and later they could make a return in a dramatic manner, they said. Other managers saw the future in focussing on core businesses. And they sold everything that did not warrant the title ‘core business’ – also hot air in many cases. They sold businesses because they needed the money urgently to pay down the debt mountain. In other words they were forced to sell and could not use the money for core business improvements.

While some managers may have done a good job in terms of short-term share prices by using these phrases, these tactics seldom last any longer. The same is true for managers who like to use expressions like globalisation and global players. These guys tell stories about how they are forced to follow big customers, for example. In the case of Continental it is a fact that neither BMW nor Mercedes Benz had their own production (in America) when German tyre manufacturer bought General Tire in 1987. And VW had already headed south from the US in the direction of Mexico. The German car manufacturer had difficulties competing after having a great time with the old Beetle. In this respect the managers were much better at talking than executing their ideas. For example, long-time board member Wilhelm Schäfer said with the benefit of hindsight: “We stood with both feet hard and fast in the clouds.”

Answer 2: When Continental bought General they got some old factories with old equipment. It seems that not many people had fully realised the extent to which General Tire had failed to invest over the years. Schäfer saw it like this: The Americans bled the company dry. And the predecessor of Helmut Werner, Horst W Urban, came to a similar conclusion. A well-known German newspaper quoted him as saying that the General tyre brand was totally unknown outside of the state of Ohio and as far as the factories were concerned, many machines would have been better off in a museum than a production process.

Therefore, to cut a long story short, Continental had paid for a tyre manufacturer and in exchange had got: no brand, no modern products, less than outstanding product quality, zero innovation, zero distribution, no dealer network and the bulk of the turnover was made through two mass merchandisers which sold General and other house brands from General. That was it.
Answer 3: Continental did not have the financial resources necessary to undertake the thorough restructuring as Bridgestone did with Firestone. That was true in the 80s and moreso in the 90s when Pirelli raided Continental – the Germans had their hands full fighting off this hostile takeover attempt and it cost a lot of money.

That was one of the reasons why Bernd Frangenberg, who took the driving seat at General Tires in the 90s, had no choice other than to save money wherever he could instead of going on the offensive. This situation never changed. Frangenberg shut down the Akron factory and moved headquarters from Akron to Charlotte. He also sold the Mexican tyre activities to the Euzkadi group (Continental bought this part back from Euzkadi a few years later).

Martien de Louw shut down the Mayfield factory and for weeks now it has been clear that the company’s Bryan OTR plant is up for sale and might already have found a buyer in German company, Rösler. This small company, an earthmover tyre retreader with a turnover of about 10 million euros, employs about 100 people. Continental had only experienced losses in this factory. That might have changed due to present shortage of EM-tyres, but either way the deal had to be done and Rösler might take over the factory in the next two months.

At the moment most EM-tyre suppliers are working with EBIT margins exceeding 20 per cent due to the product drought, and this situation is not likely to change in a short space of time. Despite this, it is hard to believe that the retreader would pay more than a dollar for the Bryan factory, instead the contrary should be true. In the same way British Airways paid 90 million euros to get rid of its German airline (dba), Continental is likely to pay a significant amount of money to Rösler to get rid off this factory. Right now, nobody knows exactly how much Continental will pay Rösler. Continental is taking steps to focus on its core business and the EM and OTR tyres simply do not count as core business. In Europe this division has already been sold to a Czech company.

Now Dr Hippe is at the helm what will be next? The interim-boss of General made his first decision after only having been in charge for a week or so. And that was to reduce production at the Charlotte factory by about 30 per cent. The reason for this, according to Continental, was that the OEMs did not produce as many cars as they had planned. But there was also some positive news at the same time. The truck tyre business is doing quite well and producing profits. The main reason for this fact may be, that the Mount Vernon factory is very modern and cost effective. But that is no great surprise because this factory is a joint venture with Yokohama and Toyo.

Answer 4: Not too much research and development has taken place in America. The US arm is more or less totally relying on what they can get from Continental’s central R&D Center in Hanover. CTNA does not have its own R&D department any more and this could be the reason for the disaster described by Dr Wellen. He claimed that the management has done a very bad job in the US when it comes to products, product quality and development of new products.

All the products Wellen found when he began his US job were at least 6 or 7 years old. Martien de Louw at least indirectly came to the same conclusion, but the last time he spoke to Tyres & Accessories he told of the new and good products the company now has, begging the question – what did the company have before? With comments like this it is difficult for observers to overlook the finger pointing. Didn’t the Americans ask enough questions? Didn’t they challenge the German R&D Center enough? If you ask these questions in the US you get answers like: I don’t want to be impolite, but it is better not to answer these questions…”

If the factories are not state of the art, if the results of R&D reach the market years after their competitors and if CTNA was unable to offer the products requested by dealers and end-consumers – if all this is the case, then you can see why the company might run into the heaviest difficulties you can imagine. This is nothing new for Continental. The management for example has often claimed during their annual shareholding meeting that they could and cannot afford a ‘follower strategy’ because they want to be partners -developing partners, strategic partners – with the OEMs. But this is all talk, in reality they have not developed or executed as good a following strategy as Cooper has.

Answer 5: As we have already mentioned, General is a relatively unknown and weak tyre brand, without much substance. Dealers can probably only get a dollar or two more than they would for a totally un-known house or private brand. This is firstly due to the fact that the USA is a huge market and advertising and marketing campaigns are extremely expensive. You need to have reached a certain size and you have to exceed ‘critical mass.’

Deutsche Banks analysts speculate that CTNA loses 10 million of each 100 million it produces in turnover due to the business’ lack of efficiency and the lack of real brand equity. If this is only partly true then the management has reason enough not to want to publish figures, and would probably rather treat numbers like that as if they were state secrets and not contemplate the possibility that they might have sufficient marketing power and marketing budgets in the near future.

Martien de Louw took the decision to focus on the group’s premium Continental brand, which is still relatively unknown in America but is strong in Europe, relatively early on. De Louw pushed Continental in the OE-market and tried to reinforce the business with Ford, GM Chrysler and other garages. The idea was and is that a customer who is satisfied with his tyres would decide to replace them with the same products that were fitted as OE. Nobody can say exactly in how many cases this strategy works according to plan, but it definitely helps. The first step therefore was to bring more and more Continental tyres on the road in order to stimulate more replacement business later.

However, focussing on the OE-business in order to improve the situation in the replacement market sounds very much like investment. And if nobody makes any money with OE tyres, why should Continental or General? Things are different in the replacement market. The present problem with CTNA is that the company sells many more tyres to OEMs than to tyre dealers when it should be the other way around. A company that sells 30 per cent of its production capacity to OEMs and 70 per cent to tyre dealers has achieved a good ratio, however as long as the contrary is true it is inevitable that the tyre company will experience losses, with little chance of getting back into the black. How fast and how well such a situation can be turned around depends to a great extent on the brand itself. Customers ask for well-known brands and if they do so they are prepared to pay more for those tyres than for unknown brands. The leading premium brands are still dreaming and waiting for the “flight to quality.” The is no alternative other than to travel the difficult path back from OE to replacement, as de Louw decided to do – but it will take many more years before this decision pays off.

Past mistakes always come back to haunt you

In 1996 the unions went on strike against Bridgestone, but in the end the Japanese could claim what the needed – a competitive contract. In allowing this to happen, the rubber workers showed that they were not strong enough to survive and that’s why the steelworkers now represent tyre manufacturing workers in US tyre and rubber plants. In contrast to Bridgestone, Goodyear’s management decided to fulfil the requirements put to it by the unions. The plan was to give them what they asked for and then try and produce and sell more tyres than before in order to compensate for the higher costs. While Goodyear’s management might have believed that they were cleverer than their opposite numbers at Bridgestone, they would later face the reality of the situation.

First Sam Gibara, who knew how to deal with they guys on Wall Street, brought the message to the market resulting in climbing share prices. Later the analysts called Gibara a man who makes promise after promise, but fails to deliver results. His successors are still dealing with the situation that temporarily brought Goodyear to the brink of collapse. When Gibara’s successor, Bob Keegan, spoke of a critical situation he was in fact dealing with all the problems he has inherited from the previous boss. And the result is now, many years after Gibara, Goodyear still has difficulties earning enough money, if anything, in the US despite the fact that this is the company’s most important home market. Problems include an under-funded pension fund and a huge debt mountain. Nobody believes that this situation will be easily solved or overcome.

It is possible to learn from your own mistakes and the mistakes of others. While Bridgestone Firestone struggled to overcome the terrible tyre recall in the US, Ford looked to other producers and asked Cooper to supply its tyres. Cooper, however, rejected the request, telling Ford that the company was not and is not interested in supplying tyres that it cannot earn anything from. Continental did something different. Under the management of Dr Kessel, Wennemer’s predecessor, the company saw a big opportunity to become a first class supplier for Ford, in fact the biggest supplier, in the US.

The catch was that the prices the company charged for its tyres were described as “only moderate,” which roughly translates into extremely bad in reality. However, Continental was hoping to sell millions of new tyres more and reduce costs at the same, expecting the equation to pay off in the end. But that showed to be untrue. Even today the company is losing millions due to this contract. But, what can you do? Pacta sunt servanda!

Even now, some managers are arguing that the Ford-supply contract has to be seen as an investment which will pay off. You have to look at the whole picture, but nobody wants to show you the whole picture. The whole picture would be a good picture if CTNA had a strong market share in the US – not just with its house and private brands but with its premium brand.

The problem is, in the US, the Continental brand is as well known as Hankook or Kumho are in Western Europe. These brands have limited influence in this area. The may sell large quantities of tyres, but not at the same prices that premium brand manufacturers can. Therefore it is very hard to imagine that the Ford investment will ever pay off.

Answer 6: When the Continental group officially opened its Detroit Technical Center in the summer of 2001 (this is of course the brake business’ technical centre rather than the tyre business’) T&A unexpectedly met with Bernd Frangenberg asked to visit the company’s marketing department in Charlotte, in order to describe the operation to our readers.

Immediately Frangenberg answered asking us not to scoff. The reason? This department didn’t actually exist at the time, having been a victim of one of the previous rounds of restructuring. Not a lot is different now. The suggestion that there are more salesmen on the road selling Continental and Barum tyres in Switzerland than there is in the US is probably not far from the truth. All of the business’ marketing programmes are developed in-house and are sent over from Hanover – and this includes pricing. The reason is Continental simply doesn’t have anyone to do this job there anymore, and this shows just how difficult the situation really is.

In spite of all these obstacles de Louw’s departure was totally unexpected, at least from the outside. Up till then, observers had the impression that de Louw had set the company on the right track. De Louw must be given a lot of credit in view of the quite remarkable improvement of product quality, distribution and logistics, not to mention the broadening of the whole product range itself that occurred under his leadership.

Due to the fact that CTNA is not based on a strong dealer network, de Louw had strengthened ties with garages, which seems to have been an effective alternative. But it is also obvious that CTNA cannot live off the business drummed up by the garages alone.

The company has to sign up more dealerships in the face of strong competition from players like Michelin, Goodyear and Bridgestone, not to mention Cooper.
During the previously mentioned dialogue with de Louw and Wennemer, the executives gave the impression that the company in the US was on track as far as costs were concerned, not least because CTNA started sourcing tyres from group factories in Malaysia, the Czech Republic, Romania, Mexico and as soon as the new and big Brazilian factory goes on stream CTNA is likely to source many tyres from Brazil as well. T&A also got the impression that the company was expanding and modernising the Charlotte factory, taking much equipment from the closed Mayfield factory with it.

In Charlotte there is a strong feeling of competitiveness, so it was surprising to hear that Dr Hippe had decided to cut production by 30 per cent. It’s hard to see and harder to explain why things developed as they did. Insiders are saying that Wennemer lost confidence and patience under pressure from a board of directors that is not well known for patience. But insiders were also convinced that in the end it was Wennemers decision alone.

It will be very interesting to see whether anything changes or not. It is like following a red thread and therefore easy to see why all the managers at the helm focussed on cost reductions. But they could have salvaged the company to death. Will the CFO (Hippe) put money into investing in the brands and marketing and not only cutting production?

When Bryan is sold, there will only be one factory left (excluding the joint venture truck tyre company) and that will be in Charlotte. All the other products will come from low cost countries and that again raises questions – Bearing this in mind, why is CTNA unable to make a profit in the world’s largest single tyre market?

The world has changed. When Continental was urged into the big world in 1987, it went with the intention of delivering “domestic production” to the market. At that time no-one could imagine that a tyre manufacturer could be successful shipping goods from low-cost countries for sale in the US. And that was definitely the case for tyre companies with the desire of becoming strategic development partners of OEMs. Has all that really changed or is it still necessary to manufacture close to the partner, to do research and development in the market for that market and to communicate with consumers?

If you look at results, there are either no results or poor results. Continental has not been competitive when it comes to bringing General Tire to the market and still is far away from it. In contrast Continental is strong in Europe and some other parts of the world and is very well respected there; all this is not true for the USA.

This is all the result of not investing as much as should have been invested, and was badly needed, in Charlotte. This could in theory change now. The group as a whole is reporting excellent results, making plenty of money with very low debts and would therefore have more money than is needed. The most interesting point will be whether or not Continental will now invest, or again focus on cost cutting. If the latter is the case, there isn’t too much reason to have confidence in CTNA anymore.

Companies have to respect what famous German Professor, Erhard Kanzenbach wrote in the 70s when he was head of the German monopolies commission. That is -“the integrity or operability of competition.” Kanzenbach’s point was that optimal competition lies with narrow oligopolies. These oligopolies force companies to focus on technology, research and development, because competitors can, in many cases, follow from one minute to the next copying prices and doing what the competitors already do.

If, and as soon as, a company has worked out a head start with a modern product it is on the right track. Competitors can seldom follow at once, that needs time. And in these times the icing on the cake is that the leader can sell for higher prices than all the others. Therefore all other competitors in narrow oligopolies focus on R&D – always keen to leapfrog their competitors by getting the next big break. It is hard to make a profit when all the followers have caught up. You could look at it this way. No competitor can run the risk of not being state of the art when it comes to products and production methods, otherwise the competitors are forced to settle for skimmed milk while the leader can grin like the cat that got the cream.

To summarize: New production facilities in low cost countries could provide some relief but this alone is not the real solution. What is the situation in respect to a dealer network? Is CTNA in a position to offer the really demanding products instead of offering bread and butter tyres only? What is the plan with respect to the branding, and specifically the premium brands? Do Conti’s brands have any market influence and how has Continental been positioned within the last 17 to 18 years?

The answers Wennemer and de Louw gave are now obsolete since de Louw’s rapid exit. However, it is worth looking at general problems which could provide the chance to “guess right” about the direction in which the new Wennemer and Hippe partnership is driving.

Continental Tire’s current standing

For the time being at least, the Continental group only actually runs a passenger car tyre factory in Charlotte and a truck tyre plant in Mount Vernon (a partnership with Toyo and Yokohama) in terms of production – the Akron factory was demolished and Mayfield does not produce tyres any more. This just leaves some other bits and pieces including compound mixing facilities and the Bryan factory that is due to be sold, or else closed, in the next few weeks. Needless to say, this is a sad state of affairs.
The distribution base is as small and as fragile as it have ever been, General tyre is even weaker as a brand than it was 20 years ago and if you mention the name Continental, people think you are talking about the airline. If you insist, saying Continental tyres, “Continental who?” is the response. Nobody recognises Continental as a famous brand tyre manufacturer in the US.

In addition to a number of unknown “premium brands,” CTNA offers other house and private brands that have to be sold cheap. Such a situation does not install great confidence for the future. Therefore the only thing that is certain is that the company will remain in the red for years to come. Which super-executives could achieve a turnaround within weeks? Where is all the expertise in the highly competitive tyre market? Where is the long-term strategy? No one has seen it up till now.

On the other hand, the potential signs of hope should not be forgotten, due to the fact that CTNA is receiving an increasing number of tyres from low cost countries like Malaysia, Romania, Mexico, Czech Republic and Brazil. Some factories are not on stream yet and some other factories are still in the process of enlarging product capacity for use in the USA. The question is: will it be possible to reach for the CTNA to reach the goals and ambitious profit margins it is seeking by reverting to production in low-cost countries alone? Furthermore, how is the market situation developing, does CTNA have any kind of influence or position in the market, does it have strong relationships with dealers? Or is it true that the group until today has done more or less nothing in respect to investments in the market itself?

Continental’s position in Europe is the complete antithesis of the US situation. The Continental group has done an excellent job in Europe. The factories are state of the art, which is due in no small part to the car industry. The OEMs continue to drive innovation and quality. It has been said that the Europeans are not as good as the Japanese, for example, when it comes to the optimisation of production processes, but this is no longer true. However, these advantages are not present in the US, at least not within CTNA. In general the Americans build cars that focus on comfort. The car has to be big and can be angular – for many Americans the knowledge that a car has a powerful engine alone means it is a sporty vehicle. The fact that the Americans build cars with engines nobody needs, that drink fuel at between 15 and 20 litres per 100 kilometres, is proof enough of their abilities. When it comes to marketing they are unrivalled. But how does CTNA fair in terms of marketing? Does it have a proven record?

The main advantage of the Continental group in Europe is the fact that the company built up its production network much earlier than its competitors. Here Continental is a commanding force in huge mature markets like Germany and the whole German speaking area of Europe, as well as Benelux and Scandinavia and they are producing in low cost countries. But, step-by-step, they are facing pressure from competitors that are also building more factories in countries like Poland, Russia and the Nordic nations, where the jobless rates are extremely high and the wages are extremely low. Goodyear for example already produces about 40 per cent of its whole European production in Eastern Europe and Turkey, which is as cheap as Eastern Europe. Others are building new factories in Hungary, Slovakia and Romania. It is to be expected that Continental will lose its head start in the coming years, perhaps faster than the group thought. But again, we have to accept and to respect that Continental has been able to develop its tyre brands into real premium brands. That is definitely true for Continental and Uniroyal, Semperit is a medium brand and Barum is the cheapest brand the group offers. But even this brand is very well known and has the potential for price improvements. To summarise: In Europe, Continental is as good at marketing as it is at producing tyres, making it one of the best tyre manufacturers.

But let’s cross the Atlantic again. What can the CTNA people expect from the Wennemer/Hippe duo? If the two leaders’ actions are in line with statements they have made in the past then everybody will have to fasten their seat belt. Thunderstorms could be on the horizon. Both have already said in newspaper and magazine interviews that they would sell the business off if they didn’t think it had a role to play amongst the other leading suppliers or if improvement didn’t look likely within a short space of time. Wennemer has already presented the example of the truck division. This division is far, far behind Michelin, and so far also behind Bridgestone and is therefore not among the leaders and doesn’t have much chance of catching up Michelin, Bridgestone and Goodyear. Continental cannot, as long as you look at the market realistically, measure up with Michelin, not even in the next decade.

During a discussion with analysts, CFO Hippe pointed the finger again at the truck division and said that the group could and would sell it even earlier than expected if the division did not improve its EBIT-margins. The clock is ticking and the board member responsible for the truck division, Dr Nikolin, hasn’t said a word. At the same time he would have had reason enough to disagree with Hippe. On the one hand it might be good to tell stories the analysts like to hear, but on the other hand, Conti truck tyre customers are realising that Continental might leave the heavy truck tyre scene. Why should they put their faith in Continental while they are offered other tyre brands at the same time – not to mention the signals it could be sending to the staff. What can they believe, who can they believe and would it be better to look for another opportunity? This effect goes further than just the customers, why should good managers be interested in taking over a new job in the truck tyre division? Wouldn’t they just insist on staying in the passenger car division?

The same problems occur when the board makes its thoughts about selling the US arm of the group public. It destroys the confidence of the employees and it is a disastrous sign for current and potential customers. What is worth discussing is the timeframe in which something has to happen and the consequences of not meeting these targets. This might also be good for analysts. A good management doesn’t just announce things it does things. There is no need to announce everything – indeed it is often counterproductive to let people know what will happen when.

On a global scale Continental has experienced two flops. The group has ultimately given up on its deal with the Moscow Tyre Plant and has announced that its plans for a joint venture with a Chinese partner (Qingdao Doublestar Tire Industrial Company Ltd) will not go-ahead.

Neither of these “flops” need be seen as too negative. As everybody knows, the Chinese markets is somewhat “overheated” at the moment, making it extremely difficult for European or American companies to build their own businesses and make them successful within a short space of time. And in Russia much water has to flow down the Volga before investors will trust the economic environment. Now that the law is changing, and specifically tax laws are changing, confidence in the law as a whole is in danger of plummeting. The long arm of the Kremlin is everywhere and it seems that politicians are able to dictate judgements. Therefore Continental had to be very strict. The company realised that it would not achieve what it planned to achieve and so consequently decided to close the books. An end is better than a weak compromise.

Do over-inflated profit expectations mean the end is near for North America?

According to company statements, the group has been aiming for EBIT-margins of more then 10 per cent. But statements like this have become somewhat monotonous. They are just words. Even the Goodyear group with its many impressive years has never achieved those ambitious goals. And a look at the whole car industry – the likes of GM, Ford, BMW and DaimlerChrysler and others – shows that many of them would be happy with half as much. With 10 per cent all their dreams will have come true!

And let’s not forget that CFO Hippe told analysts recently that it would be extremely difficult if not impossible to achieve EBIT of 10 per cent doing business with the automotive industry, breaching 10 per cent would be like breaking the sound barrier. If that is the case, this would be another reason to focus on tyre replacement markets, where the group is earning a lot more (up to 20 per cent more in some cases) with winter tyres and a broad field of high performance tyres. As far as doing business with the automobile industry is concerned you can be sure that price and margin pressure will only increase. The large industrial groups will always try to solve their problems at the expense of their suppliers.

As mentioned earlier, Continental is obviously considering selling its truck tyre division which, according to Hippe & Co, is not making as much money as the other divisions do with margins in the region of 8, 9 and 10 per cent. But, if it is true that 10 per cent is something like a sound barrier it would not be a bad decision to stick to the truck tyre division and develop this business. As anyone can see Michelin makes EBIT of 15 per cent or more with truck tyres. And this did not come by chance, but was rather the result of a good strategy and the consequence of bringing product, retreading and the necessary services together.

Michelin has proven how much money a tyre manufacturer can earn with these tyres while others are losing money or having difficulties in reaching adequate earnings. But whether or not a business is a good one does not depend on the product itself but rather on whether or not there is an intelligent sales policy/strategy. Everybody has to invest before they can reap a harvest. That is also true for the truck tyre business. As far as Michelin for example is concerned the tyre manufacturer sells so many truck tyres in the replacement market that it can actually turn down offers from certain OEMs due to the fact that they are not willing to pay a price which would give the French the profit margins they require.

Despite this, Michelin still dominates the OE-market as well as the replacement markets in Europe and probably in most of the key markets worldwide. Why should Continental wish to leave a market where success is possible as long as managers are acting professionally, efficiently and with ambition, not letting everybody criticise and not allowing colleagues to interfere? Finally, it is nice to say, the company would give up or sell truck tyres. Could it really do so, or is it too complicated? And what would it mean for the market, and for the customers?
Isn’t it all only chitchat, when somebody is threatening to leave the markets with certain products when they are not in a leading position, when they are not number one, two or three? And even CFO Hippe has to accept that there is life below 10 per cent EBIT margins!

Anyway, everybody looks after and works according to their own profile. Jürgen Schrempp, the DaimlerChrysler CEO, who is expected to leave at the end of the year always said: speed, speed, speed – focussing on shareholder value. But the results are more than a little poor. Under his guidance this great company has almost been driven into the ground. It is not worth acting too nervously, focusing too much on figures and asking for too much in too short a time.

You can be sure that these short-term priorities will prevail in the end at the expense of others.
Continental needs to be profitable. Yes its nice to have 800 million euros in EBIT, but its nicer to have more than billion euros in EBIT. Even so, recording 400 million euros will not kill the company, there are always good and bad times and some years might even be excellent.

Outlook

What is going to happen with CTNA in the future? All the group CEOs up till now have insisted that the group has to stay in the world’s largest single market for strategic reasons. But what strategic reasons? For observers these reasons are not clear to see. Do you have to have Ford as a customer in the US to hold Ford as a customer in Europe? Why? Wouldn’t Continental be accepted as a strategic partner in Europe if they had no ties with Ford in the USA? Would the Stock Exchange punish the group if it gave up the US-tyre arm? Why would that happen? On the contrary, it would rather be relatively easy for Dr Hippe to convince the analysts that this is an advantage.

The example of what happened with Siemens is case and point. This large group sold its mobile phone division to a Chinese group for “zero tariff” and also paid the Chinese a three digit million amount extra. As a result Siemens is now claiming that the Chinese will keep the German headquarters open, offering the division and its employees a great future. There has been no word as to why Siemens was unable to make the turnaround happen. Furthermore, and perhaps surprisingly, certain sections of the press called the Siemens boss “man of the week” for having made a good decision possible. And the analysts are referring to this as a good decision for Siemens, giving shares more potential. Doesn’t this all sound a little bit crazy? Perhaps a little bit perverse? It’s not the best execution, but rather the best catchphrases that help the share price. Everybody can complain about the situation, but it is a fact.

Going back to Continental. It could be that the cut of production capacity is a plus for the share price and it could be that more cuts will follow as the Germans try to replicate what made them successful in Europe. They may well switch their focus from domestic production in the US to factories in low cost countries. As has already been mentioned, competitors are catching up with the company’s progression in Europe and as a result the Germans are losing their excellent position step by step.

While this may be true Continental holds a strong position in Europe. This is not the case in the US where other manufacturers are also relying on imports from low cost countries. Pirelli for example gets its US-bound tyres from Brazil and only produces ultra high performance tyres in its MIRS factory in Rome/Georgia. Cooper is sourcing more and more tyres from China and other parts while its production base remains in the USA. Even if the Germans were able to replicate their European success in the USA exactly, it wouldn’t have the same effect. In this market it is too late for the group as it has no market position at all.

So what other opportunities are left for CTNA and the group? Will the unions give CTNA the leeway that they gave other companies? Continental is facing requirements, which the company calls totally unacceptable and that will ultimately drive them out of the country as far as production is concerned.

Since the unions finalised a contract with the biggest supplier, Goodyear, life has become difficult for the others. The Steelworkers ‘laid down the law’ and said that Goodyear is only allowed to import tyres from low cost countries when there is not enough production capacity in the US-factories. The Steelworkers instructed which factories to invest in and also hold a seat on the board of directors. With this in mind it is clear, that the unions cannot give what Continental is asking for without compromising with Goodyear. The unions are bound to be very strict when it comes to the application of this contract with other companies or else they would bring Goodyear into an even more difficult situation than it is presently in. With high healthcare costs eating into profits, something has to change. Even General Motors is on the brink of collapse not, really knowing how to pay for all these costs and not knowing how to improve the under funded pension fund.

Continental boss Wennemer knows he cannot have it all at once, therefore he was asking for a first step, a first access, but up till now the unions did not give in. And this is exactly what could be used by the Continental group as an explanation why the group cannot see a future for its factories within the country, making it impossible to reduce the costs as needed within the necessary timeframe.

It could be that the Germans will shut down even more than they already have and totally rely on production coming from other countries in order to supply the US. But, let’s not forget that closing a factory is an expensive procedure in itself. Continental however, can easily afford to do this if it is seen as being in the best interests of the company for the future. Other competitors cannot.

Cutting a long story short, the biggest mistake is to ask – which came first, the chicken or the egg? Was it the production base? What else can you do when you have tried everything and still remain unsuccessful. Or if the market comes first – the marketing, brand development, growth of a distribution base – all this has to be financed by imports from low cost countries.

And you know that only a few years later discussion will start over again with respect to “local contents” etc. Isn’t it then early enough to built a brand-new, green-field, automated factory? In the US marketing definitely comes before production quality. The market has more tyres than demand for it and the rest is all down to marketing! Just consider what would happen if Continental closed all the factories and gave up on the market completely? Nobody cares two hoots about it. Who needs General tyres anyway?

We have seen it all before. But we can all learn from the mistakes of others. Michelin for example became more successful when the French management made the American organisation more or less independent, giving up on the idea that the “best product in technical aspects” – and that is exactly how the Michelin people see their products – will automatically become successful. This didn’t happen over night but after some time. Instead of focussing mainly on the product, the French group altered its approach by focussing more and more on marketing. The result is, that nowadays many new concepts are coming from the US-market to Michelin’s European markets, a strategy that is proving to be successful.

With Continental it’s still the other way round. The European side of the group sends its marketing concepts across the Atlantic from Europe – and its not much more than exporting blueprints. In doing so Continental and CTNA have been unsuccessful in the US-market for 18 years, and a change is long overdue. We have to wait and see exactly what Dr Hippe will do. First of all he has the difficult task of finding ways to stop all the bleeding. But either way it is a painful time for the Continental group as well as CTNA.

Comments

Leave a Reply

Your email address will not be published. Required fields are marked *