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Nissan's Conventional Auto Tech Issues Threaten Its Ability To Compete In Growing EV Segment

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About: Nissan Motor Co., Ltd. (NSANY), NSANF, Includes: F, TSLA, VLKAF
by: Zoltan Ban
Zoltan Ban
Commodities, macro, gold & precious metals, long/short equity
Summary

Nissan was off to a good start in regards to establishing a presence in the EV market with the Leaf, but then it failed to keep the momentum going.

New EV crossover called the Nissan Ariya with a 300 mile range is set to enter the market soon.  The concept shows that Nissan understands EV market trends.

While its EV strategy is good, Nissan's efforts to compete in the EV market next decade will be hampered by, its CVT transmission problems.  Its destroying its financial health.

Given the fast-growing EV niche market within the global auto industry, automakers can no longer ignore the need to establish a solid presence in it. I wrote a series of articles exploring the strategy employed by various car makers, in regards to what extent their strategies reflect the realities of the EV market as I see it. One of the aspects I focused on was the ability of car makers to draw on strength they have from their mostly profitable conventional car lineups. Nissan (OTCPK:NSANY) is a special case in this regard, because we are seeing a steady deterioration in its financial results, therefore it may not have the stamina needed to compete for EV market share next decade.

At the root of the problem is a classic example of a technical issue faced by a company, being made worse by poor handling of the problem. I am talking about Nissan's CVT transmission problems, which is steadily eroding its customer base, as well as pushing away new potential Nissan customers. Nissan's lack of ability to deal with the fallout and fix the problem is currently causing it significant financial damage, not to mention long-term damage to the brand. Lack of progress on this issue, combined with the need to invest billions of dollars, or perhaps even tens of billions of dollars into establishing a stronger EV presence may prove to be too much for Nissan in the next decade.

Nissan had a promising start in the EV market with the Nissan Leaf, but it squandered its leading position.

The concept of the Nissan Leaf was to offer mostly upper middle class customers a relatively affordable city car, bought by households which have multiple vehicles. It was a good starting point in my view, given that the EV trend was still in its infancy when the Leaf came out. It offered a range of 85 miles under ideal conditions back in 2013, which was an improvement on the previous 73 mile range offered initially. It first came out in 2011, when it was considered quite a novelty to own an all-electric car.

The Leaf was a decent early EV concept, but Nissan failed to upgrade it in a timely and wise manner. Just recently the Leaf was upgraded to 150 miles as rated by the EPA, or 226 miles for the premium version. Problem with the upgrade is that it still falls just slightly short of offering full consumer utility that one would derive from a conventional car. Because of this, it still remains just an upgraded spare city car that most Leaf customers buy, while they continue to rely on other conventional cars within the household for full utility. The price for the 225 mile version starts at $42,000. They would have been better off increasing the price about 25% and offering a range of 300 miles. At $42,000 it will be mostly premium car buyers who can afford to buy, and based on the evolution of the EV market so far, it seems more people would be willing to pay more for a car they can depend on for all driving needs, than there are customers for a still pricey car, which does not meet the needs of the customers in all circumstances.

Aside from the Leaf, Nissan did not bother to offer any new EV options since 2011. It is now said that a new crossover, the Nissan Ariya with a 300 mile range is set to hit the market as a 2021 model. It is the right concept in my view, which is something that others such as Ford (F) realized lately. It is also offering a 300 mile range crossover, called the Mustang Mach-E. Tesla (TSLA) will join them with its Model Y. There are other car makers looking to make similar offers. As I have been saying for some months now, the EV market is clearly evolving into a premium-priced vehicle market, given that it is the only price range in which EVs can offer the kind of range that most customers will find that it fully replaces the utility of their conventional cars. The low range EV market will always remain a niche market, with those EVs fulfilling the same role as the Leaf, namely being a city car.

The CVT transmission issue is affecting financial performance and arguably negatively affecting the Nissan brand.

I already covered a number of car makers within the context of looking at the effectiveness of their longer term EV strategies. One of the companies I covered was Volkswagen (OTCPK:VLKAF), which I feel that it is prematurely planning to start neglecting its conventional car development in favor of an aggressive EV development and marketing program. There are many problems I found with their plan, including the fact that it may not necessarily match its brand reputation and thus the needs of its main customer base. The other problem I see with it, is the fact that it is prematurely gutting its profitable conventional car business, thus denying itself the very funds it may need to compete in the growing EV market. It is no secret that many car makers are losing money on their EV sales. This will probably continue being the case with most EV projects in the next decade, especially given the tough competitive climate ahead. What this means is that those companies which can continue to sell conventional cars at a profit next decade will have a strategic advantage, because they will be able to discount their EVs in order to gain a market foothold. Car makers with a profitable conventional car business will also be able to spend some of the windfall from the conventional side of the business on further EV development.

Nissan is by no means doing anything remotely similar to what Volkswagen is planning, yet it is suffering from the same potential problem. In fact, while Volkswagen's problems with profitability from its conventional segment may be some years away, it seems Nissan's profitability issues are current and probably will continue to get worse.

Nissan profits 2015-2019Source: Nissan.

As we can see, Nissan's profit margins are shrinking fast. The CVT issue is perhaps the biggest culprit in this regard, and there is very little evidence that Nissan is getting on top of the problem. Its handling of the problem in regards to its customers is also lacking in my view. I should note here in the interest of full disclosure that I was one of the customers who felt that they did not handle things in a constructive manner. I owned a 2014 Nissan Rogue, which did develop the CVT overheating problem, which in turn caused damage to the transmission.

Nissan does recognize the problem, and it extended the power train warranty on its transmission, but curiously not on all the cars that are affected by the problem. Mine was not covered by the extension. For those who are not covered by the extended warranty, or they passed the 10 year, 120,000 mile threshold of the extended warranty, the transmission fix or replacement comes with a cooling kit installation recommendation from Nissan, which adds significantly to the repair costs, but is supposed to alleviate the problem from reoccurring. It goes without saying that it is awkward to be asked as a customer to pay for a fix to a problem that is in effect a Nissan design flaw.

Nissan's decision to cover some of the CVT breakdown occurrences is causing it financial pain, because it announced in the spring that they are setting aside $590 million to deal with the costs of the extended warranty for those cars which they chose to extend the warranty. At the same time, it leaves plenty of people who receive no support even though they are affected by the same problem. As a result, this is leading to financial pain for the company, as well as arguably long term brand damage, since there are still plenty of people left to deal with the consequences of Nissan's design flaw by themselves.

In the first half of this year, Nissan reported net income of 65.4 billion yen, which is $600 million. In the first half of 2018, it had net earnings of 246.3 billion yen, or $2.23 billion. Its forecast for the year is now 110 billion yen. There are of course other factors affecting Nissan aside from its transmission issue. In places where Nissan sells mostly manual transmission cars, the CVT is not as much of an issue. The North American market however is important because it is among other things more profitable, as automakers can sell more SUVs and trucks. The continuing deterioration in Nissan's overall profitability is leading to a deteriorating trend in its overall financial health situation. Its debt, in the form of bonds is now 1.7 trillion yen ($15.7 billion), which is up from 1.36 trillion from same time last year. Long term borrowings are up to 2.54 trillion yen ($23.5 billion), from 2.4 trillion yen same time last year. Nissan's debt levels are on the rise, at a time when the entire auto industry is faced with perhaps the biggest challenge yet, in the form of having to deal with the rise of EV demand in the next decade.

If I am to rate Nissan's EV strategy, going from recent past to present and then the future, I'd say they were off to a great start with the Leaf. Nissan did squander its early advantage by not upgrading the Leaf fast enough and by not building on the early success with new offers. Nissan's long range crossover EV seems like the right concept for the future, therefore it shows that its leadership understands the EV market. Problem is, as I said that Nissan may not necessarily posses the financial strength needed to invest in the development of new EVs, as well as marketing and possibly discounting them bellow break-even price levels, as most other car makers are likely to do in the next decade. I foresee Nissan being a relatively minor player in the growing EV market in the next decade, because of the lack of funds needed to compete. Alternatively Nissan can try to stay relevant in the EV business and end up overextending its already scarce financial resources and lose out on both the EV end and the conventional end of the fast-changing global car market. Either way, It looks like a tough decade ahead for this company.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.