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Broken pay model keeps burden on auto toolmakers

By: Rhoda Miel

November 5, 2013

NOVI, MICH. — The North American auto industry is going to need to lock in good tool and die makers for the future if they want to meet expected new-product production goals.

The question, said industry watcher Laurie Harbour, is whether an expected capacity shortage in tooling will be enough to change the standard payment structure for toolmakers.

"As a tool shop, you may kick off a program in January of one year and not get paid until the spring of the next year," Harbour said during an Oct. 31 media briefing of Harbour Results Inc.'s new 2013 study of automotive vendor tooling suppliers. "There's a broken model of how these guys are paid and treated in the industry."

In its study, Harbour Results found that it is possible for an automaker to cut millions of dollars from its tooling costs if it is willing to change its payment system for tooling, while also locking in future production capacity at preferred suppliers.

The issue goes to the standard way of doing business for the North American auto industry, with toolmakers selected through automakers and top suppliers.

While the mold or die is owned by the automaker, the toolmaker is not authorized for payment until the mold is done and has passed all quality and production tests — commonly called PPAP for Production Part Approval Process. And at that point, Harbour noted, normal payment standards of 60 to 90 days kick in, which means an even longer payout period.

That practice is even followed by international automakers that may have completely different systems in their home countries, she said.

Since most toolmakers are small companies, with average sales of $15 million, they cannot afford to pay for materials and production costs themselves, and must take out loans to cover the costs involved in production until they are paid. And because most toolmakers are small, privately owned firms, they are paying at least 6 percent interest on that loan.

"It is the thorn in the side of every toolmaker out there," Harbour said.

By contrast, automakers and large suppliers get far better terms. Toyota Motor Co. recently said that it could borrow at a 0.7 percent interest rate, said Dave Andrea, senior vice president of industry analysis and economics for the Original Equipment Suppliers Association.

Since toolmakers include the cost of their loans in the price of the tool, automakers end up paying for the higher loan rate eventually. Harbor Results said the industry paid $500 million worth of interest payments for tooling in 2012 — or about $32 per vehicle.

An alternative payment system would pay toolmakers throughout production, allowing them potentially to avoid taking out a loan. These "progressive payments," Harbour said, would pay mold makers 30 percent of the value when they buy the steel for the tool, 30 percent during production, 30 percent when the tool is delivered and the final 10 percent after PPAP.

That would reduce costs for the toolmaker as well as final tool costs. Harbour said the change in terms would also encourage toolmakers to prioritize work with that company, helping automakers and suppliers to guarantee production capacity within key tooling firms.

"The No. 1 lever for any tool shop to guarantee capacity is to agree to progressive payments," she said.

However, the issue of payment terms is a "very sensitive" one for the industry. While progressive payments have been done on an occasional basis or as part of pilot programs, automakers are reluctant to change for now, Harbour Results' study found.

The current system allows automakers to keep the tooling development costs off their accounting books until the vehicle is in production — which pleases stock analysts, Harbour said.

But with the North American tooling industry looking at tight capacity for the next several years, the time is ripe for change, she said.