State Farm Verdict To Have Major Impact on Collision Market

The previous two issues of Taiwan Transportation Guide published interviews with key experts in Taiwan's aftermarket (AM) auto parts industry about the new Automotive Block Exemption Regulation (BER) 1400/2002/EC promulgated by the European Union (EU), and the regulation's possible effects on sales of Taiwan's AM parts in the European market. In this issue, the focus turns to the State Farm case, one of the biggest factors that will affect sales of AM collision parts (including sheet-metal and plastic body parts, as well as auto lamps) over the next few years in the U.S. market.

On Aug. 18, 2005, the Illinois Supreme Court reversed a US$1 billion judgment against State Farm Insurance Co. stemming from a national class-action lawsuit. In rendering its decision, the high court held that the trial court erred in giving the suit class-action status.

Parkson Jong, vice president of Auto Parts Industrial Ltd. (Api), one of Taiwan's two biggest AM auto-parts companies, said in a recent interview that the verdict has major implications for Taiwan's collision parts makers, though the impact may not be fully felt for some time.

Major Implications

"The State Farm final judgment has some major implications, which are expected to gradually boost the sales of Taiwan collision-parts suppliers in the U.S. market over the next few years to a high level. We have a lot of reasons to be optimistic about sales gains in the future."

The first major implication, according to Jong, is that most American auto-insurance companies have placed a very low priority on using AM collision parts to repair insured vehicles. According to Jong, the plaintiffs of the State Farm case might appeal again, but their chances of succeeding will be minor. Therefore, barring any change in the case, the insurance companies' attitudes are expected to become more aggressive as to AM parts.

In 1999, when the State Farm case first went to court, Jong points out, the overall sales of Taiwan-made collision parts in the U.S. aftermarket suffered a sudden drop of around 30%. The effects continued for the following two to three years. However, the impact was lessened in 2002, as a group of auto-insurance firms, not including State Farm, started adopting AM parts again. Over the past three years or so, U.S. collision-parts demand has recovered to a normal-or even higher-level than before 1999. State Farm, which accounts for only about 20% to 25% of the U.S. insurance repair market, has not been part of the rebound because of the class-action suit.

The recovery in demand over the past two to three years, according to Jong's analysis, was caused mainly by the continuously expanding AM parts market. The growing sales of AM parts are in turn attributed to increasing automobile ownership around the world, to the extended lifetime of cars (which also generates more repair demands for AM parts) due to improved vehicle-product quality, and to the increasing demands from new and emerging markets such as Eastern European nations and Russia.

"With a more solid global sales base than in 1999," Jong explains, "Taiwan's collision-parts sector is expected to see obvious sales gains in the future as the major sales barrier in the world's largest market, I.e. the insurance companies' attitudes in the U.S., turns favorable toward AM products."

In addition, the vice president states, if the verdict in the State Farm case goes on to form a legal precedent in the U.S. and Europe, similar class-action lawsuits are expected to be very rare in the future-another indirect and positive sign for the AM parts market.

The second major impact of the case is, Jong continues, that auto-insurance companies in the U.S. are expected to adjust their attitudes and maintain a more harmonious relationship with contract auto repair shops by providing higher margins to the body shops that adopt AM parts.

In the past, Jong explains, insurance companies often required repair shops to use more costly original equipment (OE) parts. Thus, the body shops could not generate additional profits by the use of lower-priced AM collision parts. Auto insurance firms provided the same profit margins for OE and AM parts to repair shops, but the unit prices of OE, or OES (original equipment service) parts are much higher than AM counterparts. This payment policy by the insurance companies deterred more active adoption of AM parts.

"If major auto insurers adjust their attitudes and provide higher margins to body shops that adopt AM parts," Jong says, "that will be a win-win-win situation for U.S. auto insurance firms, repair shops there, and for Taiwan collision-parts suppliers."

For auto insurance companies, Jong explains, increasing the rate of AM parts adoption at contract repair shops is expected to cut costs and make their insurance policies more price-competitive. For contracted repair shops, the adoption of more AM parts, if allowed at a similar profit margin as OE or OES parts, is expected to lead to business gains, because the more affordable repair costs are expected to prevent many drivers from "totaling" their damaged vehicles. In turn, drivers will be more willing to restore their damaged cars for daily use or for selling them on the used-car market.

Jong says that he knows some major American insurance companies have negotiated, or are planning to negotiate, better payment terms with contract repair shops, and such moves are expected to elevate the adoption ratio of AM parts by body shops.

"In the past few years," Jong points out, "we saw an obvious overall upgrade in the quality of Taiwan-made collision parts, which can be represented in the increasing number of Certified Automotive Parts Association (CAPA)-certified items from Taiwan suppliers. "Quality is no longer a problem with locally made collision parts," Jong adds, "and this is now fully recognized by buyers in the U.S. and around the world."

Absolute Optimism

"We absolutely have reason for high optimism toward the AM collision-parts market in the future," Jong claims, "because the global car ownership volume never stops growing. The more cars on the road, the more demand for AM parts."

Jong attributes the rapidly expanding AM parts market to several reasons. The first is that vehicles' product lifetimes have been greatly extended due to higher overall quality and performance advancements. In addition, in the extremely competitive global automobile market, automakers have been increasing the number of new models and shortening the period of new-car development. More models means more different kinds of parts, though it simultaneously increases the investment needed for molds and dies for body-parts suppliers.

Favorable Factors

In the U.S. AM collision-parts market, which now accounts for about 50% of Api's business, some favorable new factors are expected to upgrade the company's sales.

The first, according to Jong, is the effect of Hurricane Katrina, which is expected to place insurance firms under financial pressure as they pay out large numbers of compensation claims. A reasonable inferrence is that insurance firms will adopt more AM parts to repair claimants' vehicles so as to cut costs and help themselves survive such a big challenge.

The second factor is that "We have heard some market information about the trend, I.e. that AM parts will be increasingly adopted in the insurance repair market," Jong says. "The demand is expected to further enlarge in the coming few months and, if all goes well, it will continue for years in the future."

A third positive factor is the high price of oil, Jong says, which is expected to generate both positive and negative effects on the AM parts market. The negative side is that the decreased use of vehicles might lower the number of collisions. The positive side is that consumers might be deterred from buying new cars and opt to keep their current ones, which they will choose to repair with AM parts when necessary.

"Making AM parts is a very interesting business," Jong states with a smile, "because both an economy that is too good and one that is too bad are bad for sales."

Api is expected to register annual revenues of NT$4.7 billion to NT$4.8 billion (US$141.56 million to US$144.58 million at US$1: NT$33.2) this year, up about 10% from last year.

In addition to the U.S. market, Jong is also very optimistic that his company's sales will grow in Europe in next few years due to the new Automotive Block Exemption Regulation (BER) 1400/2002/EC.

According to the vice president, the new BER will benefit all aftermarket parts makers around the world that sell their products in Europe, if they are competitive enough. The rate of AM parts use is only about 2-3% in Europe, compared to about 15% in the U.S. "We're very optimistic about a rapid expansion of sales of our AM parts in Europe in the next few years, since the average age of cars in Europe is higher than in the U.S., and that means more business opportunities for us," he notes.

For the expanding global AM parts market, Jong claims, the ability to provide one-stop-shopping services for customers from around the world will be a deciding factor for the final winners in the field. Api, he stresses, has the world's strongest logistics and container-consolidation ability. Api is also actively developing its overseas business deployment. According to Jong, his company's recent investment has gained Api a 40% stake in a second-tier parts stamping plant in Thailand, one of the rising automobile producing nations in Asia.