As the United Auto Workers labor strikes widen and drag on, concerns have grown around the health of suppliers to the major automakers — for good reason.
Companies in the auto supply chain were financially vulnerable before the strikes began. Now with labor disruptions, the risks of layoffs, financial defaults and underinvestment in critical operations could increase, according to data and insight from financial analysis firm RapidRatings.
“We can see the supply chains of the major auto manufacturers and how they have been transitioning for a number of years,” said James Gellert, executive chair of RapidRatings. “Particularly right now, there's more weakness in that group than there has been in a very long time.”
Gellert's firm measures default risk in several industries as part of its Financial Health Rating, which is compiled based on dozens of financial metrics and health indicators. As of Aug. 28, private companies in the auto industry — which largely comprise the upstream supply chain — had collectively scored a 42.8 out of 100 — a decline of 11.3% year over year and lower than any other industry measured.
During the same period, a separate rating, the Core Health Score, which measures medium-term corporate strength and efficiency in the medium-term, fell 10.7% to 35.4 among private companies in the auto sector, showing the sector's underlying weakness.
The financial state of the auto industry before the strikes
How long can suppliers act as an industry ‘shock absorber’?
The scores from RapidRatings are a snapshot of the companies’ financial health prior to the UAW walkouts.
That means any shock from the strikes, such as a drop-off in ordering from the big auto companies, will hit an already financially weakened supply chain.
Gellert points to the inflationary impact of higher labor cost, higher parts costs and higher capital costs as having added pressure to auto suppliers, which he says act as a “shock absorber” for those costs in the industry.
“These are not things that they can just pass through to the OEMs,” Gellert said. “You can't, as a supplier, turn to GM and say, ‘Hey, things have been really tough for me. We'd like you to pay 10% more.’”
If they can’t raise prices on their buyers, suppliers have to take a hit to their margins and profits. And indeed, that has happened: RapidRatings analysis shows average EBITDA fell 23.8% in 2023 for private companies after falling last year as well.
Meanwhile, EBITDA for public companies in the auto industry — primarily made up of the large OEMs — have improved over the past two years.
Tight finances, weakened operations
A supplier defaulting or even shutting down is only one in a range of possible outcomes. Companies’ financial and operational lives are intertwined. A weak company can underperform operationally, which can still hurt downstream buyers and their own operations.
“You take a company that is weak, or weakening from a financial health perspective, and they will be underinvesting in R&D, in products and plants and equipment, in health and safety, in cybersecurity, and in ESG before they get to a point where they fail,” Gellert said.
What’s more, suppliers with weaker profits and cash flows may have to reduce staff — something auto suppliers have already begun doing as they brace for lengthening strikes — and shipment frequency, which can cause further issues downstream.
Some of RapidRatings’ manufacturing clients have found that those suppliers with high-risk ratings are twice as likely to deliver a product with a quality problem. They are also more than two and a half times more likely to deliver off-schedule — a big problem for a just-in-time manufacturer, Gellert said.
While they can’t afford to bail out their entire supply chain, OEMs have a tool box to help their suppliers in need, especially those most critical to their operations.
As Gellert noted, manufacturers can help struggling suppliers by:
- Improving payment terms and paying on a shorter timeline.
- Giving vendors access to a supply chain finance program.
- Allowing them to make purchases through discounted commodity deals that the manufacturer uses.
- Buying parts or raw materials directly from Tier 2 or Tier 3 suppliers on a Tier 1 supplier’s behalf.
- Making cash investments in weakened suppliers essential to their operations, acquiring them outright, or encouraging suppliers to merge with each other.
Just how many suppliers will need help depends largely on the ultimate duration of the strikes.
“The longer it extends, the more we expect to see problems emerging and affecting companies for a longer period of time,” Gellert said.