The auto industry is one of the most globally integrated manufacturing sectors, so hiccups in the supply chain — such as the recent shortage of microchips used throughout vehicles — echo around the world.

From supply chain challenges to the seismic shift away from internal combustion engines to the industry’s ability to find capital to support the auto tech revolution, Alvarez & Marsal’s Chuck Moore and Rick Kozole discuss the greatest period of change in the automotive industry in the past 100 years on a podcast hosted by Reshmi Basu of Debtwire.

Together they cover these topics and more as they size up an industry’s short and long-term challenges. Listen to the podcast and enjoy select highlights from the material below.

Chip Shortage Is Changing How OEMs Assess Risk in the Supply Chain

It is no longer enough for original equipment manufacturers (OEMs) to have high visibility into their direct suppliers. The chip shortage and challenges being confronted with significant growth in certain materials, such as lithium, are forcing OEMs and large Tier 1 suppliers to assess risks all the way through the supply chain, down to its lowest levels. In addition, ESG goals set by OEMs and Tier 1 suppliers require high visibility into manufacturing methods and policies employed at OEMs may not previously have had visibility into.

The Move to Electric Propulsion Is Accelerating but Technologies for Getting There Vary

OEMs are pursuing different technologies to support electrification of their fleets. The Tier 1 suppliers in the industry may be facing the highest stakes, however, since they’re having to place their bets on the customers and technology they think will be most successful while continuing to supply parts based on old technology. Choosing correctly could be the determining factor in whether a company becomes a major player in the future or falls away. As Tier 1 suppliers take significant action to adopt technology, the industry can expect a tremendous amount of M&A activity, as some suppliers get out of certain parts segments and seek to concentrate on areas where they can win long term.

The mammoth shift in technology will also disrupt the cost structure for manufacturers. Since electric vehicle power trains contain only about 10 percent of the parts when compared to internal combustion engines, those parts tend to be more expensive. Similarly, manufacturing labor costs can be reduced, but automakers will now need to find technology workers to write code and update more complicated systems within the vehicles.

The bottom line is that automakers must sell vehicles at a price where they can make a profit, so they must find ways to reduce cost over time. Fortunately, OEMs are beginning to see a path to profitability on electric vehicles as prices for costs per KWh continue to come down.

Expect to see non-traditional players such as Amazon, Google and Apple entering the industry in substantial ways. They have enormous resources, and they’re spending it on automated delivery and other vehicle technology. That pressure may force M&A activity at the OEM level as automakers try to keep pace with capital investments from tech companies.

The Industry is Getting Access to Capital but Struggles with Operational Distress

Historically companies in the auto industry have not been attractive to investors. The sector’s capital-intensive nature, low margins and volatility led to low valuations that have traditionally chased away investors and prevented manufacturers from accessing capital markets the way other industrial companies have. However, in the last 12 months there’s been a big change. Companies went into the pandemic with liquidity preservation and maximization in mind, and the market responded to help during the pandemic. While the stock price of Tesla and the numerous auto tech companies going public through SPACs in 2020 garnered most of the attention, some legacy companies’ valuations have risen demonstrably in 2021, indicating that investors have taken a hard look and like what they’ve seen and heard as OEMs and suppliers make the case for their technology investments.

Going forward, auto manufacturers will still face challenges to raise the capital they need, contend with operational challenges, and invest in strategic initiatives to ensure they are a player in the future.

And while there is very little financial distress across the industry, many companies are dealing with operational distress. Costs for raw materials to produce component parts have risen significantly. Supply chain disruption is limiting the flow of materials in different areas of the world. OEMs have been forced to shut down plants, and in so doing, forced suppliers to immediately reduce cost while ensuring they’re in position to quickly ramp back up.

Despite immediate challenges, companies would do well to sharpen their 10-year business plan and focus on the strategic moves necessary to ensure relevance in the future of the automotive industry. There are many viable paths, including a continued focus on legacy component part systems, but each path requires a solid business plan with an appropriate cost structure and sufficient capital to carry it out. All assumptions must be challenged, and no stone should be left unturned.