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Shares of Canadian auto parts suppliers surge after trade deal removes tariff threat

Shares of Canadian auto parts suppliers surge after trade deal removes tariff threat
Martinrea International jumped 13 per cent, the most since 2014, Magna gained 5.1 per cent and Linamar rose 9 per cent

October 1, 2018 – Bloomberg

Canada’s eleventh-hour inclusion in a new North America free-trade deal removes a major overhang for auto suppliers but doesn’t fix many of the competitive issues that have restricted investment in the Canadian auto industry.

The new U.S.-Mexico-Canada Agreement, or USMCA, removes the threat of damaging auto tariffs and requires that 75 per cent of vehicle content be made in North America, up from 62.5 per cent currently.

This marks the first trade deal between major auto producing nations since the original 1994 North American Free Trade Agreement that will see regional vehicle content increase, said Flavio Volpe, president of Canada’s Automotive Parts Manufacturers’ Association.

“This achievement benefits Canada immediately and directly in the automotive sector,” Volpe said in an interview. “It’s going to result in more investment, more volume purchases from existing investment and underpins the kind of jobs that we want in this country.”

Auto suppliers jumped on the news, with Martinrea International Inc. up 11 per cent at 11:20 a.m. in Toronto. Magna International Inc. gained 4.2 per cent and Linamar Corp. rose 7.8 per cent.

“I think Canadian stocks in general have had this NAFTA cloud over them, and that’s certainly true for the auto parts sector,” Rob Wildeboer, chairman of Martinrea, said in an interview. “I expect valuations are going to increase.”

U.S. President Donald Trump had repeatedly threatened to impose tariffs on Canadian autos and auto parts if a new trade deal couldn’t be reached, a move that would have cost Canada 160,000 jobs, according to TD Economics. The deal reached late Sunday ensures Canada won’t be affected by tariffs unless exports top 2.6 million units annually, well above the current level of 1.8 million.

“The auto industry should be absolutely thrilled,” Jerry Dias, national president of Unifor, the union that covers auto workers, said in an interview on BNN Bloomberg TV. “Today people can rest and take a big deep breath. We really are in a situation where we can attract investment.”

However, the deal doesn’t fix Canada’s awkward position as a high-cost competitor to a lower-cost U.S. and Mexico. In 2008, Mexico surpassed Canada for the first time to become the second-largest North American producer of light vehicles, according to the Center for Automotive Research. While total Canadian production is poised to decline by 135,000 units between 2016 and 2020, Mexico’s is forecast to rise by 850,000.

Much Theatre
“I thought at the end of the day it was a lot of theatre, very little substance,” said Dennis DesRosiers, president of DesRosiers Automotive Consultants Inc., adding that the higher auto content rules will make the sector less efficient overall.

“There’s nothing in here that lowers costs for any of the three countries so compared with the rest of the world, all three countries are probably made slightly less competitive over the longer term,” Brett House, deputy chief economist at Bank of Nova Scotia in Toronto, said by phone.

For Martinrea, which has 2,500 employees in Canada and 5,000 in each of the U.S. and Mexico, the deal means Canada now needs to turn its attention to attracting new plants and more jobs.
“There’s opportunity for the Canadian automotive sector to focus on being very competitive and attracting investment,” Wildeboer said. “Now we can focus on the overall cost issues, things like electricity costs, labour costs and taxes as compared to the U.S. and other jurisdictions.”

Southern States
The deal includes a requirement that 40 to 45 per cent of auto content be made by workers earning at least US$16 an hour, a move that was intended to lessen Mexico’s advantage as a low-cost jurisdiction. However, most vehicles produced in Mexico already meet that threshold, according to Wildeboer.

And even if it does boost production in higher-cost jurisdictions, the U.S. is far more likely to benefit than Canada, said Volpe.

“If you’re going to supply a Mexican plant with a specialty product, you’ve got to be close,” he said. “I’d imagine that the southern U.S. states will be the chief beneficiaries.”

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