Mercedes Gives You a First-Class Drive in a Pandemic

(Bloomberg Opinion) -- “My chauffeur has difficulty parking our limousine” is the definition of a first-world problem but it’s one Mercedes-Benz was determined to solve with the latest iteration of its top-of-range S-Class saloon. The rear wheels can turn in the opposite direction to those at the front, which gives the hulking vehicle a smaller turning circle. “Wie praktisch!” (How practical!)

Mercedes’s parent company, Daimler AG, has shown similarly impressive maneuverability during the pandemic. After delivering an astonishing 5 billion euros ($6 billion) of free cash flow during the July to September quarter, the German luxury car and truck maker has raised its full-year financial outlook. Operating profit is now expected to be about the same as last year’s 4.3 billion euros.

True, this is a low bar — 2019 wasn’t a great year for Daimler. But it’s a remarkably resilient performance when many western markets are in recession and Mercedes is having to increase sales of less profitable hybrid and electric vehicles this year to meet Europe’s emissions targets.

It’s also a much better outcome than the one investors feared when the company, like peers, shuttered factories in the spring. Some analysts had said Daimler would have to raise capital.

An equity raise looks less likely now, provided the pandemic doesn’t get a lot worse. Daimler’s industrial businesses have 13 billion euros of net liquidity and the shares have more than doubled since March. There are signs that BMW AG and Volkswagen AG have done almost as well. BMW’s car sales rose 9% year-on-year in the third quarter and it produced 3.1 billion euros of free cash flow. The three German automakers generated almost 15 billion euros of free cash flow between them during that three-month period, estimates Bernstein analyst Arndt Ellinghorst.

Euro zone economic data also show the manufacturing sector is faring much better than services. So what’s gone right for Germany’s automotive export champions?

In one respect, their outperformance was almost preordained. French and Italian automakers have what’s called negative working capital: put simply, they try to hold little inventory and settle with their suppliers long after they’ve received payment from dealers. This helps generate cash when revenues are growing, but the effect is reversed when production stops suddenly. Supplier bills come due and cash rushes out the door. More than half of the 6.4 billion euros of cash that France’s Renault SA burned through in the first half of this year was down to working capital.

The German carmakers don’t operate like this. Mercedes has in fact generated cash by reducing stocks of unsold cars and trucks and restarting production only gradually. BMW said working capital effects boosted its free cash flow, too, during the third quarter.

More surprising has been the quick rebound in demand for luxury cars. Germany’s valued-added tax cut has helped sales at home. But China’s swift recovery from the virus is the biggest factor. Mercedes China sales rose 23% year-on-year in the third quarter. German carmakers’ globe-spanning sales team and assembly plants were considered a problem when investors’ biggest worry was the U.S.-China trade war. The large regional differences in containing the virus make that international presence an advantage. Peugeot SA’s sales, by contrast, are heavily concentrated in Europe.

It also helps that Mercedes’s white-collar clientele still have jobs mostly. Some have even more spare cash because they’ve not had so many luxury holidays and expensive meals out this year. Sales of Mercedes sports-utility vehicles, which usually generate higher profit margins, jumped by almost a quarter in the three months to September.

For the same reason, the pandemic has had only a modest impact on the company’s enormous car loan and leasing unit. Earlier in the pandemic Mercedes offered customers a payment holiday and warned of a possible rise in credit losses. But most customers have returned to a normal payment schedule. Used car prices have also stabilized.

Meanwhile, the sense of urgency created by Covid-19 has given impetus to Daimler’s efforts to cut its bloated costs and curtail wasteful investment. After expanding for years, the Mercedes employee count has declined slightly in 2020.

Shareholders will still wonder whether the current performance is sustainable and what Daimler might achieve in a “normal” year. With the virus surging again in Europe and the U.S., it will probably be a while before we find out. But Daimler and its German peers should be able to cope this winter. If only all European companies could say similar.

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

Chris Bryant is a Bloomberg Opinion columnist covering industrial companies. He previously worked for the Financial Times.

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