Why the Most Profitable Cars Made in the U.S.A. Are Japanese and German

If you want to solve one of the central mysteries of today's auto business, consider this tale of two cars: the Ford Taurus, built at plants in Atlanta and Chicago, and the Nissan Altima, made in Smyrna, Tenn. Neither vehicle is fancy; they're mainstream sedans for buyers on a budget. Both sell well. But when you talk about profit, the Taurus wobbles off the road. Ford must entice Taurus buyers with rebate offers and financing deals that slice 13%, or roughly $3,000, off the sticker price. After allowing for dealer profits, that leaves a negative return for Ford. The Altima, meanwhile, earns Nissan an estimated $1,500 (beyond the dealer's profit), contributing to the company's fat overall operating margin of 10.8%. You know the joke about the merchant who loses a little money on each sale but says, "I'll make it up on volume"? Don't tell that joke in Detroit.

So here's the mystery: if foreign-based companies like Nissan along with BMW, Honda and Toyota are building more vehicles in American factories, using American workers and American suppliers, and selling the vehicles to Americans for a good profit, why aren't DaimlerChrysler, Ford and General Motors doing the same? Last year the Big Three collectively lost money on car sales in North America (and earned a mere 1.8% profit on overall sales). Honda and Nissan earned higher margins and record profits, and Toyota is expected to post similar results.

The stock explanation for this situation is that the foreign makers pay their U.S. workers less in wages and benefits than do the Big Three. But that answer is wrong; the compensation is roughly equivalent. The real reasons for the transplants' success are much more interesting and instructive: more efficient manufacturing systems, better labor relations, more collaborative relationships with suppliers, lower "legacy" costs for retirees' pensions and health benefits, and hard-earned reputations for quality.

These advantages have been accruing since 1983, when the first transplant factories, built by Honda and Nissan, began producing sedans in Marysville, Ohio, and Smyrna, Tenn., respectively. But if the stakes were high then, they're even higher now. The Big Three's overall North American market share slipped to 61.7% last year, an all-time low, and it has declined an additional 1.6 points in the first quarter of 2003. Toyota is just a couple of market-share points from passing Chrysler, the smallest of the Big Three. Though it is narrowing the quality gap, Detroit today squeezes almost all its earnings out of "light trucks," an industry category that includes SUVs and pickups. But the transplants are attacking that bastion. Toyota is adding capacity for its full-size pickup, the Tundra, with a new plant set to open in 2006 in San Antonio, Texas. And later this month, Nissan will inaugurate a new plant (now in test mode) in Canton, Miss., where it will build the Armada full-size SUV and the Titan full-size pickup.

Nissan's strategy, championed by turnaround CEO Carlos Ghosn, exemplifies the latest transplant wave: a direct assault on Detroit's most profitable models. The Titan was designed by a California-based team of mostly Americans, who Nissan thought could best understand the U.S. truck crowd's preferences. About 85% of the Titan's components come from U.S. suppliers. And it will be built in the pickup-loving South, which Nissan hopes will add credibility. Says Ghosn (pronounced Goan): "The market is sensitive to the fact that this product is assembled in the U.S."

The rewards could be as king-size as the vehicles' cabs. Ford earns an estimated $2,000 profit on each of its F-Series pickups, providing one of its fattest margins for a high-volume vehicle. The North American market for pickups is about 3 million a year. And while Ford will launch a redesigned F-150 this summer, Ghosn is confident that Nissan's investment in the Titan (whose platform will be used by other vehicles) will pay off. "Each time competitors enter a segment, profits have a tendency to go down," he acknowledges. "But the truck segment will remain one of the most profitable."

All told, North American vehicle sales are expected to grow to 18.4 million a year by 2008, an increase of 1.6 million vehicles since 2002. The transplants alone are adding enough capacity for an additional 1 million vehicles. Hyundai is building a plant in Montgomery, Ala.--the first Korean auto-assembly factory in the U.S.--to make Sonata sedans and Santa Fe SUVs. Mercedes-Benz (owned by DaimlerChrysler, based in Stuttgart, Germany) is doubling capacity at its SUV facility in Tuscaloosa, Ala. And BMW recently expanded its plant in Spartanburg, S.C., where lines run overtime to produce Z4 roadsters and X5 SUVs. Detroit's automakers are by no means sitting still, as we'll see, but the additional transplant capacity can only make their challenge harder. "The Big Three are less in denial than they used to be, but I can't see anything causing import market-share gains to take a downturn," says Bear Stearns analyst Domenic Martilotti. "A fifty-fifty share split is certainly within reason." Here's what Detroit is up against.