Brexit looks bleaker than the worst-case scenarios

At just after midnight in the early hours of June 24, with the Brexit vote still unofficial but the outcome obvious thanks to intelligence from government insiders, one top-ranking auto executive in Europe straggled off to bed.

His emotional state in the newly post-Brexit world?

“Shock and awe,” said the executive, sharing the story of a short, fitful night’s sleep. “We got up the next morning and started solving the problem. And this is a big problem.”

Ten days into the digestion of a United Kingdom vote for a separation from the European Union, and the analysis is crystal clear: Brexit is a flat-out mess. A quagmire.

It has global CEOs worried and has teams of thinkers mobilized.

And Brexit’s potential impact has some leaders worried that even their worst-case scenarios weren’t bad enough.

“We ran every “Leave’ formula, every possible way,” said another European executive last week, who asked not to be named because company plans were private, “and the European recovery just gets pushed back in every way.”

Don’t say industry leaders were unprepared.

One auto company formed a task force six months ago, charting and planning and strategizing each and every step of Brexit — from Day One of “Leave” through the nuclear fallout of days 30, 60, 90 and beyond.

Yet another automaker built models of scenarios that included possible tariffs, two years out, that ranged from 0 to an unfathomable 25 percent tariff on cars into the EU.

That’s where Brexit fears started, long before ballots were cast.

Today, in the aftermath of one of the most analyzed votes (until, of course, this November’s U.S. election), industry leaders are coming to the same conclusion: A European market — a global market, for that matter — has an enormous challenge ahead.

“Brexit” is a bad word. But with time to digest the results, the consequences appear worse.

Twin terrors

For Brexit watchers, it boils down to two pieces, both too big to swallow: the short-term impact of currency and sales; and the long-term, potentially devastating impact of tariffs and trade agreements.

First, sales and currency.

Before the Brexit vote, the U.K. industry was smoking hot, having hit an all-time high of 2.6 million sales in 2015 along with record profits, increased imports and unbridled enthusiasm.

With Brexit, the U.K. may hit a brick wall.

Most leaders expect sales to fall fast, perhaps by 10 percent this year. The large public dealership groups, which reaped enormous profits the last few years, are already seeing a “dramatic” drop-off in sales, insiders say.

Another issue is inventory. When the market was hot and the currency was strong, auto companies flooded the U.K. with product.

Now the market is awash in imported, expensive cars. And with a weaker pound, inflation is predicted to rise, which means car prices will rise and the industry will be forced into a gun battle with incentives.

As for currency, the British pound is at a 31-year low against the dollar and a 3-year low against the euro. For euro-based companies with a high number of imports into the U.K. (Volkswagen Group, Mercedes-Benz, BMW) the scale of currency exposure is key. With the pound down 9 percent against the euro since the Brexit vote, it means revenue is down 9 percent.

For companies that book their revenue in pounds and their costs in euros, that’s the stuff of a derailed business plan.

Just wait

But for the true effect on currency, wait a few months. Since most brands hedge their currency months out, the true effect won’t come until the third quarter or even early next year. At that point, the large, adverse effect will depend on the currency.

And then the other Brexit shoe will drop.

European leaders say the biggest impact will come perhaps after two years, when tariff levels could rise to 10 percent on U.K. imports. Or the opposite could happen: Vehicles built in the U.K. could face a 10 percent tariff going into Europe.

Either way, profits are wiped out.

Consider the plight of Nissan. According to Automotive News Europe, Nissan builds about 475,000 vehicles annually at its Sunderland plant in the U.K., but the vast majority are sent abroad.

And, as most people last week said, the European Union won’t exactly be motivated to waive tariffs, given the instability around the EU.

Some automakers are already lobbying ACEA, the organization of automakers representing Europe, to keep tariffs low.

But allow the U.K. to have a special deal on tariffs? The whole EU will blow apart.

So this is a situation rife with exaggerated projections but with only one element real: No scenario is good.

Brexit is big. But the consequences globally are even larger.

Indeed, it is yet another red flare into a hot summer night.

North America is plateauing. South Africa has rioting and civil unrest. China has cooled. The Middle East is down 30 percent in car sales. Russia is under sanctions. Paris and Istanbul have been attacked.

And no one is sure where it’s all going to lead.

Any silver linings in Brexit?

“None that we can see yet,” a European executive told me last week. “As always, the fittest will survive.”

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