The Wall Street Journal - 06.03.2020

THE WALL STREET JOURNAL. Friday, March 6, 2020 |B11

Car Industry Has New Pain

This year is shaping up to be the toughest for manufacturers since 2009

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ON

THE

STREET

FINANCIAL ANALYSIS & COMMENTARY

OPEC: From Russia

Without Love

A cut from the cartel may be too little to stave off

further oil-price collapse

Russia is playing its cards close

to its vest as oil exporters meet in

Vienna to deal with the fallout

from the spreading coronavirus

epidemic. Its decision may not

matter much anyway.

Saudi Arabia and two regional

allies, Kuwait and the United Arab

Emirates, have borne the brunt of

recent efforts by the Organization

of the Petroleum Exporting Coun-

tries to prop up prices. The group

is pushing for the expanded OPEC+

group, which notably includes Rus-

sia, to chop an additional 1.5 mil-

lion barrels a day from global sup-

ply. Libya, because of violence that

has crippled exports, is an involun-

tary contributor to recent cuts

that have seen OPEC output fall to

a decade low.

Whatever Russia decides—it is

less desperate than those petro-

states—the cuts may not be suffi-

cient even if Libyan turmoil con-

tinues. Analysts from IHS Markit

estimate that global demand will

fall 3.8 million barrels a day in the

first quarter compared with a year

earlier. If the collapse in trade and

personal travel seen in Asia and

now beginning to emerge in Eu-

rope spreads to the U.S., which

seems increasingly likely, even

sharper declines could extend

through at least the second quar-

ter.

There hasn’t been an annual

drop in crude demand since the fi-

nancial crisis, when it fell by

840,000 barrels a day in 2009, ac-

cordingtodatafromBP.

OPEC, without the “plus,” cut

output by a more robust 2.2 mil-

lionbarrelsaday,or2.5%of

global output at the time—more

than the 1.5% further cut it is now

seeking. Yet U.S. benchmark crude

plunged from $147 a barrel in

mid-2008 to $34.

Unlike stocks, hopes for future

stimulus or recoveries can’t prop

up spot commodity prices. Oil

must be either stored or con-

sumed. Or it can stay in the

ground.

The fallout from coronavirus is

already sharper than from Leh-

man’s collapse. In December, pre-

coronavirus, the International En-

ergy Agency already was expecting

global inventories to rise this

quarter. If demand slumps further

then there is a distinct possibility

that some cargoes will have no-

where to go.

Saudi Arabia is playing a weak

hand in Vienna. The danger is that

all the players may soon need to

fold. —Spencer Jakab

Much of the contents of your

medicine cabinet can be traced back

to Chinese ingredients processed

into pills in India. Thanks to the

coronavirus, much of Chinese indus-

try remains shut down. The poten-

tial ramifications of that for phar-

maceuticals are becoming clear.

India, which supplies around 40%

of U.S. generic drugs, announced

this week that it was restricting ex-

ports of 26 drug ingredients and

medicines that use them, including

several common antibiotics and the

active ingredient in Tylenol. The

news follows an announcement

from the Food and Drug Adminis-

tration warning that the coronavi-

rus epidemic had already resulted

in a shortage of a drug that it didn’t

name. The FDA said that other al-

ternatives for the unnamed drug

are available.

All of this highlights a worrying

development for U.S. consumers

and businesses bracing for a poten-

tial coronavirus pandemic. The

health of the U.S. workforce de-

pends partly on how quickly stalled

Chinese pharmaceutical factories

can get up and running again. The

complexity of global drug-supply

chains, with even major manufac-

turers acknowledging that they

can’t always trace the ultimate ori-

gin of all the raw materials they

use, makes it difficult to say exactly

how large the vulnerability is. But

the balance of evidence suggests

that if Chinese factory shutdowns

persist into late spring, drug manu-

facturers could begin encountering

serious problems for a range of

products.

For some specific drugs, the

problem is already here. Prices of

ingredients needed to make some

common drugs such as statins, used

to control cholesterol levels, have

risen 40% or more for some drug-

makers, according to Bernstein Re-

search. The Financial Times re-

ported last month that Indian

drugmakers were struggling to

source a raw material needed for

paracetamol. That active ingredient

in Tylenol, known to Americans as

acetaminophen, was among the

drugs restricted for export this

week.

Antibiotics are a particularly wor-

rying area of vulnerability. China is

by far the largest exporter of basic

antibiotic chemicals, with shipments

valued at $3.4 billion in 2018, ac-

cording to United Nations data. India

was the largest importer, buying $1.4

billion. Nearly 80% of that came

from China. India then ships much

of this abroad as packaged antibiotic

drugs for retail: $1.5 billion in 2018,

putting it roughly on par with other

major exporters including Italy,

Switzerland and Belgium.

The good news is that large

global pharmaceutical makers tend

to hold substantial inventory. So if

disruptions in China ease over the

next two months, serious shortages

may well be averted. Industry ex-

perts interviewed by Bernstein Re-

search in late February said inven-

tories were mostly sufficient for

several months. Many of the ex-

perts said substantial shortages

were unlikely before the late second

or early third quarter.

Even the threat of a shortage dur-

ing a global health scare casts glob-

alization in a poor light, and perhaps

with good reason in this case.

—Nathaniel Taplin

and Charley Grant

Net exports of antibiotic

products in 2018, in billions

Source: United Nations

U.S.

China

India

–$0.3

3.0

–0.6

–$1.8

–1.3

1.4

Antibiotic

chemicals

Packaged

antibiotic drugs

Regardless of how long the eco-

nomic disruption caused by the

Covid-19 outbreak turns out to last,

it has already tipped at least one

troubled company over the edge.

On Thursday, British regional

airlineFlybefell into administra-

tion. It said the coronavirus was

the final nail in its coffin after it

narrowly avoided bankruptcy in

January. It is the epidemic’s first

victim in the airline sector, which

is under pressure not just because

of route cancellations to regions

under quarantine, but also expecta-

tions of a sharp slowdown in eco-

nomic growth.

Revenue losses for global carri-

ers will amount to $63 billion this

year even if the outbreak is con-

tained and could rise to $113 bil-

lion if it spreads further, the Inter-

national Air Transport Association

estimated in a report Thursday.

The latter “would be on a scale

equivalent to what the industry ex-

perienced in the Global Financial

Crisis,” the industry trade body

said.

If actions by health authorities,

central banks and regular citizens

manage to cushion the blow, such

worst-case scenarios could be

avoided. And given that airline

stocks are close to their cheapest

ever relative to the broader equity

market, optimists may judge some

carriers worth a longer-term bet—

particularly in the U.S., where IATA

expects the impact of the outbreak

to be lower and most carriers are

financially healthy.

Even benign scenarios, though,

pose problems for airlines that

have too much debt or shaky busi-

ness models.

Flybe was a quintessential ex-

ample of both. Its network of

point-to-point routes involving

small airports in the U.K. may have

played a useful social role in keep-

ing regions connected—which is

why the British government sought

to save it in January. But it could

never work without feeding an in-

ternational hub, as regional U.S.

airlines do on behalf of bigger

players. Virgin Atlantic invested in

Flybe in 2019 with that strategy in

mind, but it came too late.

Investors may run out of pa-

tience with other turnaround sto-

ries. Shares inNorwegian Air

Shuttlehave fallen 55% this year.

The company has tried to bring the

low-cost proposition of Southwest

and Ryanair to long-haul flights,

but the model remains unproven—

and the company has taken on

massive debts in the process. New

management was doing a good job,

which may now go unrewarded.

Likewise, stock markets have

been very unkind toAmerican Air-

lines, which is still struggling to

digest its complex acquisition of

US Airways in 2015.

The airline industry is unusually

volatile and has direct exposure to

the outbreak. But there may be a

lesson in Flybe’s demise for com-

panies in other sectors too, espe-

cially those relying on the junk-

bond market: In periods of total

uncertainty, not even those inves-

tors willing to buy the dip will res-

cue the laggards.

—Jon Sindreu

Airline’s Bankruptcy Offers Lessons

Car sales are showing early

symptoms of the coronavirus. They

could get a whole lot worse if—as

seems increasingly likely—more big

economies go the way of China,

Japan and Italy.

China, where the epidemic origi-

nated, has seen by far the biggest

impact. Vehicle sales were down an

extraordinary 80% in February com-

pared with the same month of 2019.

The country imposed draconian so-

cial-distancing measures that make

it an extreme template for the rest

of the world. Car sales were slightly

better in the final week of February

as the health situation in the coun-

try appeared to stabilize.

In South Korea—the country

worst affected by the crisis outside

China—car sales dropped roughly

20% year over year in February to

their lowest monthly level since

2009. In Japan they fell 10.7% and
      in Italy 8.8%. That is despite the
      leap year, giving February an extra
      day relative to last year, and an un-
      usual concentration of five week-
      ends in the month.
      It isn’t all about the health crisis:
      Auto sales were already falling
      globally. The downturn has been led
      by China, where subsidy changes
      and the slowing economy have hit

mainstream brands hard over the

past two years.

Europe also has been very weak

this year as the European Union

rolls out significant new emissions

regulations, forcing companies to

sell more electric or hybrid cars.

Manufacturers rushed gas guzzlers

out ahead of the year-end deadline

and have been correspondingly re-

strained this year. Sales in Ger-

many, the region’s largest economy,

were down 10.8% in February even

though just 57 cases of coronavirus

had been recorded by March 1. That

number had risen to 196 by

Wednesday.

Even a flat U.S. market has

looked strong by comparison. Sales

last month were up 8.5% year over

year, thanks at least in part to the

leap-year effects.

Car manufacturers are already

grappling with their supply chains

following production shutdowns at

many Chinese plants. French car

maker Peugeot said this week that,

although just 300 of its 8,000 or so

suppliers came from China, it had

resorted to airfreighting some parts

to keep plants running. Many have

reported similar contingency plan-

ning, which will likely add to costs.

The threat to sales is potentially

much more serious. Goldman Sachs

on Thursday downgraded its fore-

cast for 2020 global auto sales to a

decline of 3.5% from 0.3%. That

would make the total effect of 2019

and 2020 similar to that experi-

enced by the industry during the fi-

nancial crisis in 2008 and 2009,

which tipped some players into

bankruptcy.

In contrast to the financial crisis,

China’s seat at the heart of the cur-

rent problems—for now—is a boon

to global auto makers. They were

never allowed to fully participate in

the market’s growth and haven’t

shared fully in its troubles.

If the epidemic really does hit

auto makers’ profit centers, above

all the U.S., the only certainty in-

vestors can cling onto is that bet-

ter-capitalized players will fare

best. This is a time for fortress bal-

ance sheets and proven manage-

ment, not promises of corporate re-

vival. That favors General Motors

over Ford, Toyota over Nissan,

BMW over Daimler and Peugeot

over Renault. most dependent on

China.

Which car makers learned the

lessons of the financial crisis? This

year investors may find out.

—Stephen Wilmot

WTI crude-oil prices, past two years

Source: FactSet

$75

40

45

50

55

60

65

70

a barrel

2018 ’19 ’20

OVERHEARD

Markets move. Bankers email.

Monday’s huge stock-price

surge apparently produced an

even bigger leap in email sent by

Wall Street salespeople and trad-

ers to their clients.

The Dow Jones Industrial Aver-

age gained 5.1% on Monday. But

Street Contxt, a platform that

banks use to manage and track

their outbound messages to cli-

ents, reported a 25% jump in

email messages over a typical day,

to more than 500,000 from about

400,000. That makes for a record

level for the electronic messages.

Bad news is at least as interest-

ing as good news, it seems: Email

traffic maintained that pace on

Tuesday as the Dow gave up most

of those gains in a plunge.

Wall Street faces many problems

connecting with its clients these

days as active investors seek to

slash costs, trade electronically

and even set up their own road-

show meetings with managers of

the companies they own.

But one consequence of inves-

tors possibly being quarantined at

home during a market meltdown

is that they may be more inclined

to email with their actual human

brokers. Never say Wall Street

doesn’t know how to find the up-

side in things.

If China Can’t Export

Drugs, It’s a Big Problem

The downturn has been led by China, where subsidy changes and the slowing economy have hit brands hard.

SUN YILEI/REUTERS

GEOFF CADDICK/AGENCE FRANCE-PRESSE/GETTY IMAGES