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Fiat Chrysler Is a Textbook Victim of Disruption

By Evan Niu, CFA - Apr 18, 2016 at 9:00AM

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If Fiat Chrysler waits until it can make EVs profitably, it'll be dead in the water.

Worrying about Model 3 initial profitability misses the long-term picture. Image source: Tesla.

Tesla Motors (TSLA 4.53%) may not technically fall into the textbook definition of a "disruptive" company primarily because of its unique top-down approach, but at the same time you can't deny the fact that EV adoption is starting to affect the broader industry in a way that signals the beginning of the end for the internal combustion engine (ICE). To be clear, it will take many decades for ICE vehicles to die out (maybe even a century for ICE to fade completely).

Most automakers now recognize this. Most automakers are doing the best they can to prepare, investing heavily in developing EVs that can accommodate expected future demand. Fiat Chrysler (FCAU) is not.

Stuck in his ways
For a guy that has long lamented the state of the auto industry, CEO Sergio Marchionne is surprisingly averse to change. Marchionne is also very much a victim of the precise type of thinking that leads to the downfall of great companies (not that Fiat Chrysler is particularly great among the major automakers). Specifically, when massive technological shifts are on the horizon, the absolute worst thing that any company can do is stubbornly adhere to traditional resource-allocation methodologies.

Generally speaking, no new technology is ever profitable from the get-go, and that's exponentially true when it comes to the auto industry since design and development cycles cost billions of dollars and many years. Over the years, Marchionne has demonstrated an entrenched disdain toward EVs which will eventually come back to hurt the very shareholders he's trying to protect.

Stop me if you've heard this one before
For example, as recently as 2013 Fiat Chrysler said that it wouldn't invest heavily (beyond compliance vehicles) in EV development until consumers showed a willingness to pay up for the premium. The very next year, Machionne even went as far as to ask customers not to buy its Fiat 500e EV, specifically because the company was losing about $14,000 per unit at the time on the compliance car. The CEO made it clear that he only wanted to sell the absolute minimum necessary to meet regulations.

In a recent interview with Bloomberg, Marchionne said, "I can't make money building a car like Tesla. So for the time being I am abstaining." Responding to Tesla's strong Model 3 unveiling, Machionne again emphasized the bottom line: "I'm am not surprised by the high number of reservations but you have then to build and deliver them and also be profitable." The executive continued that if Tesla CEO Elon Musk can demonstrate "that the car will be profitable at that price, I will copy the formula, add the Italian design flair, and get it to the market within 12 months."

Everybody's doing it
Do you want to know who else loses money on EVs? Everyone.

Literally every automaker in the world today loses money on EVs, including all-electric OEMs like Tesla as well as industry titans like General Motors (GM 5.55%). But it's precisely this type of short-term thinking that delayed the EV movement by a decade in the first place. General Motors famously killed the first EV1 since it lost tons of money developing the vehicle only in order to meet California mandates.

As soon as General Motors successfully lobbied to get the mandate killed, it recalled all the leased EV1s and killed them, too. Former GM CEO Rick Waggoner has since admitted that shuttering the EV1 program was the worst mistake he made.

It's precisely this type of short-term thinking that delays any technological progression, since all new technologies are incredibly expensive to develop and bring to market. But the value that those technologies inevitably deliver to society far outweighs the upfront costs over time. Most automakers are finally coming to terms with this, and now investing heavily in EV or hydrogen fuel cell development despite the fact that those endeavors will inevitably be unprofitable for many years initially.

It's going to be a while until Tesla is profitable on a GAAP basis, and if Fiat Chrysler waits until then, it'll be dead in the water: Every other automaker will have already hopped on the EV bandwagon.

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