Hyundai Consultant Report

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Decision Issue

Our group conducted an analysis of Hyundai Motor Company to determine whether or not the company should continue to sell their luxury cars under the Hyundai brand, to sell them under a different brand name, or to discontinue certain car lines. After an examination of the US automotive industry and of the Hyundai Motor Company itself, our group focused on three different analysis tools to help answer the strategic decision issue: an RBV analysis, a Value Stick analysis, and Game Theory analysis. Ultimately, we conducted an exhaustive study of the pros and cons of the possible options Hyundai has and made our recommendation.

Industry Analysis

We are researching Hyundai Motor Company, which operates in the automobile industry. Hyundai’s operations are set in Korea and have been around for 44 years. The automobile industry is dynamic and undergoing multiple changes throughout its landscape, including the bailout of major brands in the US and abroad. By revenue, it is one of the most important economic sectors in the world. The top five car manufacturers are Toyota, GM, Volkswagen, Ford and Hyundai-Kia. The automobile industry has a moderately high threat of substitutes and a low threat of new entrants. Suppliers maintain a low bargaining power, but buyers hold a high bargaining power and the intensity of rivalry among firms is incredibly high.

Threat of Substitutes

The threat of substitutes for the automobile industry is moderately high. Customers will switch to substitutes in response to price increases and their usage needs for the product. The substitutes for cars are public transportation, motorcycles, bicycles, airplanes, and walking. Public transportation has limited usage opportunities as the stops on a bus or train route are the only places one can arrive. Furthermore, motorcycles are just as expensive as cars, if not more. They are limited in the sense that they cannot carry more than two passengers and you must have a different type of license to drive them. Bicycles are inexpensive compared to cars, however they do not provide the speed that comes with autos. It will take more than double the time of a car to get to your destination. Airplanes are capable of traveling overseas, however it is more expensive and the routes are limited. Also, one needs a means to get to and from the airport, which complicates this form of transportation. Walking is great for short distances but not useful for long ones. Although there are many pros and cons for each substitute, there are many different transportation methods to choose from which makes the threat of substitutes high for the automobile industry. That being said, these substitutes have been options for many decades and the automobile industry has not suffered because of them. Therefore, the threat of substitutes is moderately high.

Threat of New Entrants

Due to high barriers of entry, the threat of new entrants is low for the automobile industry. The industry utilizes a large economy of scale due to maturity, which deters entry. Product differentiation is high due to the competition within the industry. Large capital investments are required to enter this industry, specifically start up costs. One must have access to distribution channels, which is difficult without knowledge and relationships with suppliers. Switching costs are high due to the amount of investment it takes to switch from one project to another. There are a many government policies regarding the industry such as pollution and emission guidelines on each automobile, carbon credits to companies with eco friendly operations, and mileage requirements. The retaliation is high due to the high competitive nature of the industry.

Threat of Suppliers

Suppliers of the automobile industry maintain a relatively low bargaining power. This being said, steel has a high impact on the industry since it is the major raw material used. Relations between manufacturers and suppliers are strong, and a high switching cost within these relationships has been built in to the industry. There are many different steel suppliers and many different suppliers to make a car in general. This lowers suppliers’ bargaining power and gives manufacturers many different options to obtain their parts. However, the top suppliers in terms of quality produce for Honda and Toyota because they have built those relationships and value quality. These quality suppliers are able to charge more for their products, but this gap is closing as suppliers are continuously improving their materials.

Threat of Buyers

While the suppliers hold very little bargaining power, the buyers maintain a very tight grip on the industry. Just recently the economy was in a downturn and the automobile industry was one of the hardest hit industries. Consumers started having less money to spend on cars and manufacturers saw their profits crash. Because this industry is highly saturated with manufacturers consumers have multiple options when it comes to purchasing a car. With so many different manufacturers offering similar products, consumers force the manufacturers to fight over their business. Dealerships also have a minor pull; they just want to sell the companies that will earn them the most profit and they want to sell multiple brands, not just one.

Intensity of Existing Rivalry

The intensity of rivalry among existing firms is high. The automobile industry is quite concentrated. There are several companies and brands to choose from, as well as various styles and lines of cars. When a market is growing, the intensity strengthens. This is currently occurring in the automobile industry. Specifically, many companies including Jaguar, SAAB, and Lincoln/Cadillac/Buick are making improvements to remain competitive. In addition, a company based out of India has purchased Volvo, extending the industry to one of the most populated nations. The industry is capital intensive which also strengthens the rivalry among firms. There are high fixed costs and companies must produce capacity to attain the lowest unit costs. It is such a mature industry that differentiation between competitors has a small impact on sales. Although there is high differentiation, there is only so much that companies can do to distinguish themselves from one another. Therefore, the competition to be different and stand out is fierce.

Firm Analysis

Financials

Financial analysis is critical in determining whether Hyundai should enter the luxury car market. As one can see from their financial statements from 2006-2010, their company is in a stable, healthy position (See Appendix – Figure 1). Their assets have grown 15.86% in 2010, compared to a -.87% growth in 2006. Hyundai’s net income had a soaring 77.85% increase due to rising sales. They are taking on less debt in 2010 compared to other years, their debt to equity ratio only being 7.86% in 2010 compared to 9.61% in the previous year. This is due to them financing more through their equity. Another important ratio to note is their return on sales (Net Income before Interest and Taxes/Sales). In 2010, this figure increased to 14.32%. This is a result from increasing operating income. This ratio lets us see how Hyundai is growing more efficiently. Lastly, Hyundai’s earnings per share have increased from 10,890 KRW (in millions) to 19,409 KRW. This increase portrays how Hyundai is becoming a more profitable company, and is also the result of increasing net income.

Hyundai engages in more overseas sales compared to their domestic sales (See Appendix – Figure 2). From 2009-2010, their overseas sales increased dramatically because of Hyundai’s efforts to enter emerging markets. An example of an emerging market that Hyundai is focused on is China. Recently, Hyundai has also been interested in entering the luxury car market. Their first luxury vehicle they introduced was the Genesis. Since 2008 (the year it was introduced), it has had steady sales, with a slight increase each year (See Appendix – Figure 3). This is positive feedback for Hyundai, and gives hope that their newest luxury vehicle, Equus, will also have success in the market.

Organizational Structure

Hyundai’s organizational structure is relatively flat, with little vertical depth across their divisions. As a result, their internal structure and chain of command is relatively shallow, which allows for a quick, but collaborative decision making. This lead to the creation of a lean board of directors with relatively few members. Also, since Hyundai operates in a competitive industry and has many high level competitors geographically close, resulting in a strong competitive culture. Their product innovation and development is highly internalized as a result of the rivalry amongst competitors. Hyundai values quick decision making and implementation, as well as a drive to create a higher quality product than competitors.

Distribution Channels

Hyundai is a Korean company that was expanded globally. It is currently present in 193 countries and is the 8^th largest automaker in the world. Hyundai has operations and distribution channels in the US. They have a production facility in Alabama, a design facility in California, and a technical engineering facility in Michigan. Although these facilities exist in the US, Hyundai still needs to import a majority of their vehicles due to the fact that US demand does not meet US production. Hyundai dealerships are stand alone enterprises, meaning they only sell Hyundai vehicles, and are present in 50 states and are characterized by exclusive territories.

Current Offerings

The 2011 Hyundai line includes 13 automobiles available in the US markets. The compact market segment has four different vehicles while their other segments have three options each.

Compacts

2011 Accent - 3 Door: $9,985

2011 Accent - 4 Door: $13, 695

2011 Elantra: $14, 830

2011 Elantra Touring: $15,995
Family Sedans

2011 Sonata: $19,395

2011 Azera: $25,495

2011 Sonata Hybrid: $25, 795

Crossovers

2011 Tucson: $18,895

2011 Santa Fe: $21, 845

2011 Veracruz: $28,345

Premium/Performance

2011 Genesis Coupe: $22, 250

2011 Genesis: $33,000

2011 Equus: $58,000

Current Markets

Hyundai is gaining US auto market share, currently at 4.7%, up .3% from last year (See Appendix – Figure 4). Year to Year sales have also increased by nearly 30% (From 111,509 to 142,620 total sales). Consumer perceptions are improving as the brand gains respect and market share. Hyundai now is viewed as a quality affordable car, on par with Honda or Nissan, and currently has a higher perception than Toyota. Just this year Hyundai’s Sonata was ranked best car for the small-car class by Consumer Reports, beating out Toyota’s Corolla and the Honda Civic (See Appendix – Figure 5).

Competition in economy cars include: Nissan, Toyota, Honda, Ford, GM, VW, Suzuki. Each of these firms, along with Hyundai, has established their place in the economy car market. Hyundai has used the recession to make great strides here. Consumers looking at an inexpensive car find more than expected, truly getting more value for their dollar. Hyundai’s recent ad campaigns, aimed at alleviating the expectation of compact cars being uncomfortable, have demonstrated their mission to create a quality, economy passenger vehicle.

Competition in luxury cars include: Lexus, Mazda, Volvo, Audi, BMW, Mercedes, Infiniti, and Acura. Clearly more brands operate in this segment. There is also a higher level of competition amongst brands here as the purchasing differences are based off quality not quantity. The recession also helped sales in this segment. Hyundai offers an equally luxurious car as competitors but at a much lower cost to consumers. “‘They’re really trying to use this recession as an opportunity to take market share, which they have,’ Jessica Caldwell, director of industry analysis at Edmunds.com.” – NY Times.

Evaluation Strategies

RBV Analysis

Hyundai has many resources at its dispose, some of which are positives and strengths for the company while others hinder Hyundai. Components within their value chain propel and block the company from growth while working together in one way or another. In general, most of their strengths come from the support side of the value chain, which is a sign of a good corporate structure. However its negatives are found in various parts of value chain and need to be addressed in order for Hyundai to continue to be profitable.

One positive resource for Hyundai is its well-structured currency exchange risk policy. Due to its uniqueness, this policy is valuable, rare, inimitable, and non-substitutable. Their currency exchange program is unique to Hyundai and is unlike any other seen in the industry. Hyundai operates on a global scale and this policy allows for them to have an advanced understanding of exchange rates and currency forecasts for the countries they do business in them. Essentially it safeguards them from losing money in transactions due to currency exchange rates. Another positive is Hyundai’s quality advantage. This relates to the technological development aspect in the support side of the value chain. It satisfies valuable and the level of quality they have achieved is somewhat rare in the industry. Their quality is not inimitable since other companies can offer similar quality and is therefore substitutable. Hyundai led the industry in 2010 with five cars placing at the top of their respective segments in a total quality survey. Furthermore, two of Hyundai’s cars placed in the top 20 cars sold in America last year (See Appendix – Figure 6). Quality is something they need to continue to invest in and make it a differentiation point for their company because the gaps are closing. Continuous investment in product development is one way to obtain this. Hyundai also offers “Americas Best Warranty” which includes a 10 year 100,000 mile power train protection plan. The warranty is credited to the marketing and sales component in the primary activities of the value chain because it is a large selling point. However, their warranty is very imitable by other car companies and is not a source of sustainable competitive advantage much like the frequent flyer program in the airline industry. Hyundai has been on the frontier along with Ford for being the most fuel-efficient auto company. Fuel efficiency is valuable and non-substitutable but it is not rare or inimitable. This development in technology is at its upmost importance right now as gas prices continue to rise. Fuel efficiency decreases the overall cost of ownership and in turn, increases overall value to the buyer. It is especially important on a global scale since citizens of developing countries have less discretionary income to spend on fuel.

Unfortunately Hyundai’s weaknesses come with its strengths. First, they lack long-term contracts with commodity suppliers, which deal with the procurement in the support activities of the value chain. Hyundai failed to secure these win-win relationships with suppliers that long-stays Toyota and Honda have been so successful at. Not having long term contracts increases the uncertainty of COGS as commodity prices fluctuate and in turn makes it much more difficult for the company to run at the highest levels of financial efficiency. Hyundai car dealers also experience low margins on sales at 1.9% compared to Honda dealers who make 3% margins. This is mostly attributed to consumer’s perception and their unwillingness to spend more for the Hyundai brand. Low margins hurt their sales efforts because more credible and established dealers choose to work with companies like Honda who offer higher margins. Technology development is also a weakness for Hyundai because they offer a limited product line. Hyundai lacks a luxury line along with multiple segments within their current product offering such as a convertible and pick-up truck. The pick-up truck is the most profitable vehicle a company can make so in this sense, Hyundai is missing a big boat. They need to invest more in research and development as far as expanding its product line and offerings to consumers to better position itself in the market. All of these previously mentioned weaknesses lead to Hyundai’s largest downfall, a low perceived brand image. This can be blamed on their general and administrative activities in addition to their marketing and sales. While auto trade publications continue to rank Hyundai high in quality reviews the consumer’s perception has not changed much about the brand image. Buyers are still likely to spend less for the same amount of quality when it comes to Hyundai and some of their competitors. Low brand image is a problem that is hard to fix and is very inimitable and rare. A strong brand image increases value immensely but at the same time Hyundai is taking steps to fix this problem.

Value Stick

The value stick analysis is used in order to compare value created between the Hyundai’s Equus and Sonata, as well as the Lexus LS 460 (See Appendix – Figure 7). The Equus’s willingness to pay is $58,900 and their cost is $55,104. Therefore the value created is $3,796. The Sonata only creates $159 of value per unit. Then comparing the Hyundai’s Equus with the Lexus LS 460, the Equus still creates more value. The Lexus LS 460 creates $3,369 of value per until compared with $3,796. This is because Hyundai is able to charge a cheaper price than Lexus, while still offering the same luxuries and amenities that the Lexus offers. Hyundai has a cost advantage. By analyzing the value sticks for these three vehicles, one can predict that the Equus has a high chance for success.

Game Theory

With a few different potential options for Hyundai, we use game theory to break down the potential for collaboration between Hyundai and Kia. The collaboration would involve using Kia as the economy class brand while Hyundai moves into the luxury market. Because we do not know the outcome of this collaboration, two separate prisoner’s dilemma in a joint venture game charts are needed; one for successful collaboration and another for failed collaboration. Despite both outcomes suggesting an incentive to defect, having the same ownership and ability to create a strategic partnership the focus is on their collaboration.

Successful Collaboration:

Collaborate Defect

Kia

Collaborate

Hyundai

Defect

Through successful collaboration between Hyundai and Kia, when both firms choose to collaborate, each achieves a higher sales level than the current level. Because of the project design, if only one firm chooses to switch to either only luxury or economy vehicles sales levels fall as the firm is unable to occupy both low and high income markets. In this situation, the firm that chooses to defect on the project attains the highest sales level due to less competition from the other firm. When both firms choose to defect on the project, sales levels remain at the current level. While there is incentive for one firm to defect on the project if the other carries it out, both firms can achieve a higher sales level through collaboration on the project

Failed Collaboration:

Collaborate Defect

5

5

12
3

3
12

8
8

Kia

Collaborate

Hyundai

Defect

In the case of failed collaboration between the two firms, when both firms choose to carry out the project, sales levels fall below the current level. When only one firm chooses to carry out the project, sales levels fall further due to the lack of diversity within the product line; while the other firm achieves a sales level higher than the current level due to a decrease in competition. If both firms choose to defect on the project, sales levels remain at the current level. Because neither firm has incentive to collaborate the Nash equilibrium in this game is to defect on the project.

Potential Options

Option One – Separate Brand

In order to launch the luxury product line as a stand-alone brand Hyundai will need support and commitment from upper management. Also, Hyundai will need to conduct separate market research for this luxury brand with regards to consumer pricing, proper distribution channels and product positioning. They must develop a new target market and distinguish a proper WTP resulting in an appropriate pricing strategy, keeping him mind that luxury car consumers are less price sensitive. Therefore Hyundai will have to further invest in marketing to generate interest in the new brand. Competition is high in the luxury car market, and a new brand will need to be positioned in a way that allows for them to compete. The advantage of separating the luxury cars from the Hyundai brand is that consumers will be able to view the brand as a competitor with BMW, Mercedes, and Audi since the luxury brand will not be connected to a Hyundai. Rather, it will be structured like its competitors within the luxury car market. In consumer’s minds, the focus of the brand is offering the best features and capabilities amongst luxury cars rather than for all product lines.

Option Two – Under Hyundai Brand

If Hyundai were to introduce the luxury cars as a product line within Hyundai’s current product line the investment will be less than the first option. They will be able to sell the line at preexisting Hyundai dealerships rather than create new distribution channels. Also, their existing buyers might adjust their WTP because they are loyal to the brand and know the quality and features that they will be receiving. Rather than gaining the trust and loyalty for a completely new brand line, Hyundai will already have potential consumers. However, introducing the luxury brand within Hyundai’s product line has some disadvantages. Certain consumers may not want to buy a luxury car, and therefore Hyundai will need to conduct appropriate marketing to reach out to new consumers as well. Unfortunately, because the luxury car will be introduced as part of Hyundai’s product line it may not be able to compete with brands like Audi, BMW, and Mercedes. Consumers may not differentiate the luxury cars as a luxury brand because they view it as an extension of Hyundai. There will be a level of disconnect between the luxury cars and customer’s preconceived notions about Hyundai automobiles.

Option Three – Rebrand Hyundai as Luxury

Another option for Hyundai would be to stop producing economy cars under the Hyundai name. They can collaborate with Kia to produce their models of economy cars under the Kia brand alongside other Kia models. Thus, Hyundai will now be known as a luxury car brand. This option does not require Hyundai to establish a new brand name, which is advantageous because competition in the luxury car market is high. Introducing a new brand will require greater investment rather than redesigning and re-branding one that is preexisting. However, it may be difficult for Hyundai to transition from producing a range of vehicles to solely luxury ones. Their target market will change and they will need to conduct extensive market research in order to efficiently launch this new type of brand. Also, the culture of Hyundai will need to realign with their new luxury brand rather than their traditional economy brand.

Option Four – Discontinue Luxury Line

If Hyundai chooses not to launch the luxury line at all they may miss the opportunity to expand Hyundai. Currently discontinuing the luxury line seems like a mistake as, since the release of the Genesis, that model has been one of Hyundai’s most profitable. On one hand, if the introduction flops, then Hyundai could possibly save on the faulty investment.

Recommendation

Hyundai should utilize its internal strengths like its corporate support, quality and production advantages, and industry leading fuel efficiency to combat its low brand image. In addition it’s important for them to remain patient while they continue to produce higher quality vehicles and enter into the luxury market. Entering into the luxury market with a sister brand should lend itself to a higher brand image much to the likes of what Toyota has experience with Lexus. As shown in the value stick analysis, Hyundai can make a higher gross margin from their luxury lines compared to their economy lines, while still being priced competitively with other luxury brands. Despite the Nash Equilibrium resulting in mutual defection, Hyundai will be able to communicate and create a binding, strategic collaboration with other automakers. All in all, of the four potential options that Hyundai is faced with, the most attractive decision is to create a sister brand, either for their economy vehicles or their luxury line.