Japan’s automakers wonder how to go more ‘local’ under USMCA

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TOKYO — North America’s automakers all face a new reality of sourcing vehicle content under the free-trade deal agreed to by the U.S., Canada and Mexico.

But for Japan’s auto companies, the moment is particularly worrisome.

After decades of building vehicles in relative stability in North America and spending billions of dollars to move factory capacity and suppliers from Japan, the Japanese now must re-examine their supply chains and plant investments to make sure they can meet the local- content rules of the United States-Mexico-Canada Agreement.

Kuraishi: Honda seeking solutions.

That free-trade plan raises the portion of vehicle content that must originate within the region to 75 percent, from 62.5 percent, to sidestep tariffs, and it requires at least 40 percent of a vehicle to be built by workers whose pay averages more than $16 per hour.

It also requires that 70 percent of steel and aluminum be purchased in-region.

“We acknowledge that regulations on local content are much tougher,” Honda Motor Co. Executive Vice President Seiji Kuraishi said last week while announcing his company’s latest quarterly financial results. “We will think of how to achieve the best allocation in the world.”

It is no small challenge.

Even as executives here pledge to bring their North American operations into compliance, they concede that the mandates set to replace those of the 24-year-old North American Free Trade Agreement have put seven key component systems under the microscope: engines; transmissions; body and chassis parts; propeller shafts; suspensions; electrified vehicle batteries; and steering systems.

Auto companies in Japan are trying to grasp the full repercussions. Honda is hardly alone in grappling with the new reality. Although the impact will vary by company and nameplate, the new rules pertain to automakers from South Korea, Europe and even Detroit — in short, any company with business crisscrossing the borders of North America’s three neighboring nations, and also any company thinking of building or expanding plants in the region, such as Mazda and Toyota.

Mazda and Toyota said in January that they will build a $1.6 billion joint-venture auto assembly plant in Huntsville, Ala. That was before the new content rules were written.

“They have to make a decision about making new investments in supply chains, paying the tariffs or possibly stop selling a product,” Chris Richter, senior auto analyst at CLSA Asia-Pacific Markets in Tokyo, said of Japan’s automakers. “That could become a big problem because it can get very expensive.”

A relief?

The industry’s initial reaction to the trade deal was a collective sigh of relief. The alternative could have been a total collapse of the free-trade bloc, an abject disaster for the auto business.

“We are relieved that the three- country framework remains intact,” Honda’s Kuraishi said.

But the next chapter could be drawn out. Carmakers must figure out how much of their content complies with the new framework and adjust supply chains accordingly.

Kuraishi said Honda has enough time to figure out solutions. If ratified, the trade rules take effect Jan. 1, 2020.

That gives Honda and other automakers a little more than a year to rethink content equations, with the provision for a two-year extension.

Mazda and Toyota’s Alabama plant is slated to open in 2021. Mazda acknowledged last week that the revised trade accord likely will increase the project’s costs.

“There are two concerns,” Mazda Senior Managing Executive Officer Akira Koga said at his company’s earnings announcement. “One is labor cost. The other is steel prices. Regarding these two things, at least, we have to be prepared for a rise in costs.

“On the premise that we will have to raise local procurement in the U.S., we and our partner are currently updating our business plan together,” Koga added. “A key point is how we can best utilize the transition period. That is a major point we need to clarify to meet the requirements.”

For Japanese brands in particular, the new agreement is a rude awakening.

For decades, they have toiled to localize manufacturing throughout North America, investing more than $48 billion in U.S. plants and supply chains. Honda’s made-in-America nameplates, such as the Odyssey minivan, Ridgeline midsize pickup and Pilot midsize crossover, are routinely touted as some of the “most American” vehicles U.S. consumers can buy because they locally source so many of their parts and so much of their labor.

Kuraishi said in July that Honda’s local procurement rate is around 70 percent in the U.S. and 90 percent for all of North America.

But that percentage is based on Honda’s internal criteria — not the more demanding calculator of the new trade agreement. Under the new rules, even Honda’s regional roots might not be deep enough.

Content calculus

Below is the current content breakdown of select North American-assembled vehicles.

 
% U.S./Canada
% Other
Final assembly
Engine source
Transmission source

BMW X3
25%
35% Germany
U.S.
Austria
Germany

Ford Flex
52%
15% Mexico
Canada
U.S.
U.S.

Honda HR-V (4wd)
20%
30% Mexico, 30% Japan
Mexico
Japan
Indonesia

Nissan Altima
55%
15% Mexico
U.S.
U.S., Japan
Mexico

Subaru Outback
45%
40% Japan
U.S.
Japan
Japan

Toyota Corolla
60%
25% Japan
U.S., Canada
U.S.
Japan

Source: 2018 American Automobile Labeling Act, via NHTSA

For the Civic coupe built in Alliston, Ontario, Honda sources 70 percent of its content from the U.S. and Canada, according to the 2018 breakdown of local content compiled by NHTSA.

Some of the vehicle’s transmissions come from India, and some from Mexico. About 20 percent of its content comes from Japan, according to NHTSA.

The HR-V subcompact crossover manufactured by Honda in Mexico sources just 20 percent of its content from the U.S. and Canada. As much as 35 percent comes from Mexico, and up to 30 percent comes from Japan, depending on the model. All of the engines are sourced from Japan, while the transmissions are shipped from Indonesia, Japan and Italy, according to NHTSA.

The Fit subcompact car, also assembled in Mexico, is only 15 percent sourced in the U.S. and Canada. Another 40 percent of the content is supplied from Mexico. It gets its engines from Japan and some of its transmissions from the Philippines, NHTSA says.

‘Still very vague’

The Fit’s low levels of local content made it the subject of a media report last month saying Honda may move production of the vehicle back to Japan.

Kuraishi denied Honda has any such plan. Instead, he said, Honda will examine the new trade rules and bring its manufacturing base into compliance with as little upheaval as possible.

Other companies will have to make similar calculations across a wide array of products, including Nissan’s U.S.-made Altima and Mexican-made Versa, Subaru’s Indiana-built Outback and Toyota’s U.S.-made Corolla.

But the devil is in the details.

The next headache, executives and analysts say, is combing through the fledgling trade agreement’s dense text. The rules-of-origin chapter alone is 234 pages. And any supply chain tweaks would, of course, hinge on the agreement actually winning approval.

Hammering out fine print, such as assurances for worker protection, could push a vote by Congress well into 2019.

“Not all requirements are clear yet,” Mazda’s Koga said. “For example, what are exemptions and requirements for labor? The calculation basis is still very vague. So, we are still trying to study the content.”

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