The Innovation-Driven Disruption of the Automotive Value Chain (Part 3)

In a previous post I wrote about the disruptive innovations that have been introduced by Tesla Motors (Tesla) and Uber and presented the steps the automotive industry should be taking in order to address the startup-driven disruption.  In this post I want to make three points:

  1. It is hard for startups to break into and succeed in the automotive industry.  The industry requires high investment and ability to scale while maintaining low risk.  The Car Use value chain has lower barriers to entry but they result in many competitors that have difficulty differentiating their solutions.
  2. Startups must realize that they cannot disrupt the entire automotive industry.  Instead they must focus in the right areas, and collaborate with innovation-minded incumbents in order to become part of the appropriate supply and value chains as quickly as possible.
  3. The incumbents must structure their organizations, operations and culture in a way that enable startup-driven innovation to meaningfully impact their business.

Disrupting the Automotive Industry is Expensive

The success of Tesla and Uber to date is often obscuring the fact that disruption in the automotive industry is extremely expensive and difficult to come by.  Automotive manufacturing, as it stands today, is capital inefficient, absorbing $0.9 out of every $1 invested in a new model.  For example, Toyota has invested over $5B on the Prius, BMW has invested over $4B on the development of the ibrand vehicles (ref), and GM has invested over $5B to bring Volt to the market.  Tesla reportedly burned through $1.1B during the past 12 months and is losing $4000 per car it sells.  For this reason, depending on a model’s production and sales volume, automakers need to amortize the investment in each new car model over long periods (5-10 years).  

While we celebrate the success of companies like Tesla for the technology and business model innovations they have brought to the automotive industry, we often forget of failed automotive startups such as Fisker, Carbon Motors, Better Place and A123 that raised large sums of money but which ultimately proved insufficient, leading to their demise.  Of course, such failures are not discouraging new entrants.  For example, Faraday Future, a new entry in the electric-autonomous-connect car arena, has reportedly recently raised close to $1B, and so has Atieva.  Uber, in the meantime, is preparing to raise another $1.5B just to support its expansion plans but most likely not its plan to create its own fleet of self-driving cars.  

To better understand the scale of the investments that are often necessary in the automotive industry it is instructive to look at Tesla’s situation more closely.  The Model S is the perfect platform for matching the car’s range specifications to the lithium-ion battery technology it uses.  In other words, to achieve a range of approximately 250 miles per charge using the particular battery technology, Tesla needed to equip the car with a specific number of batteries which take a certain amount of space and have specific weight.  Despite the $1B+ investment that it required, the particular model has a limited market opportunity because of its price range. In order to target a bigger market Tesla has been trying to introduce the Model 3.  However, for the Model 3 to attain its announced specifications Tesla will need to innovate even more than it did with the Model S (which means that the company will need to make additional investments). The Model 3 cannot just be a shorter version of the Model S.  Tesla has already committed to continue using the same Lithium-Ion batteries it uses in Model S.  Otherwise it wouldn’t have decided to make the huge investment necessary to build the Gigafactory.  Even if it attains some incremental improvement on its battery technology over time, to achieve the range of 200+ miles per charge using Tesla’s existing battery technology, the Model 3 will need important innovations aimed at decreasing the weight of its chassis and body.  

The Model 3 will also need to be designed in a way that it can be manufactured at the cost/copy that will enable Tesla to produce 500,000 cars/year and achieve its target unit economics. Let’s forget for the time being whether Tesla can indeed sell 500,000 Model 3 per year at the target price through its distribution network.  In order to contain costs and improve their margins, while managing risk at scale, automakers, including Tesla, establish long-term contracts with their part suppliers and in exchange receive scale guarantees, i.e., that the supplier will be able to produce and supply the necessary parts at the scale the auto manufacturer requires, and price discounts.  A startup cannot provide such a guarantee.  In particular, consider that despite its startup roots and its supply chain innovations, as is shown in Figure 1 below, for Model S Tesla has been working primarily with established suppliers rather than startups.

Figure 1

Figure 1: The Tesla Model S suppliers

Startups can Win by Focusing in the Right Areas

An alternative to trying to disrupt the entire automotive industry, like Tesla, Faraday Future and others are trying to do, is for a startup to focus on core competencies and become indispensable parts of the new supply chain for a brand new platform, e.g., an EAC vehicle, and the industries that will benefit from such a platform, e.g., in the case of EAC vehicles, the logistics industry.  To accomplish this goal, the startup must partner with the incumbents in the automotive industry in order to leverage their knowledge, data, well-established processes, networks, technologies and products.  An important lesson for startups may come from NVIDIA.  This graphics chipmaker, started focusing on infotainment systems for next-generation vehicles and over several years established partnerships with several automakers. Its products are now part of the automakers’ supply chains.  I should note, however, that even when focusing on specific areas, the road to success is not particularly capital efficient and may still take a long time.  For example, consider that it has taken MobileEye, an Israeli and Dutch Tier 2 supplier that provides state of the art vision systems that are necessary for driver-assisted and autonomous driving, 7 years to establish production contracts with Tier 1 suppliers that allowed it to go public.   

I have already written about the software and data opportunity presented by next-generation vehicles and by Mobility Services.  Current generation vehicles may have up to 100 microprocessors running millions of lines of software.  Autonomous-Connected and EAC vehicles will have even more computing power running increasingly complex software.  They will be equipped with hundreds of sensors to detect everything about road (infrastructure conditions, traffic conditions), passenger, vehicle (from engine, to actuators, controllers, tires, cabin, etc.) and environment conditions.  This will necessitate for automakers to re-think the vehicle’s entire software system.  An example of where we may be heading is the TeslaOS (and here), the operating system running on the Tesla vehicles.  The operating system running tomorrow’s car must open, extensible through well-described and well-behaving APIs and allow the flow and utilization of the big data produced in the process of operating the vehicle.  Startups are starting to develop applications around such data.  Automatic, through its partnership with Ford and USAA, utilizes an aftermarket device to access the little data made available through the APIs of current generation vehicles in a Usage Based Insurance application.  Zendrive uses data provided by smartphone sensors for a similar application. Startups have the opportunity to disrupt through innovations in the software and data areas by developing open operating systems (Renovo Motors), specialized algorithms for autonomous vehicles (Ottomatika, recently acquired by Delphi Automotive), and data management solutions for vehicle data (SQLStream).

The Automotive Industry Must Set Up for Startup-Driven Innovation

If the innovation outposts automakers have been establishing in Silicon Valley are any indication, most of them have started taking seriously the possibility of disruption and the critical role of startup-driven innovation and startup ecosystems in trying to avoid being disrupted.  In a previous post I listed a set of steps the automotive industry should be taking in order to take advantage of startup-driven innovation.  In addition to that list, it is important to also identify the stakeholders that must be involved for the implementation of the steps included in the list and the interactions that are necessary among these stakeholders.  

There are three basic stakeholders (shown in Figure 2) that need to come together and collaborate:

  1. The corporate leadership (CEO, board of directors) that must feel the urgency for innovation, the importance of startup-driven innovation, and lead innovation from the top.
  2. The innovation enabling organizations, that operate under a single leader (the chief moonshot officer), seek to start implementing the corporate leadership’s innovation vision, drive the interactions between the corporation and startups, and always engage the corporate business units (existing ones and new ones, e.g., BMW ibrand).
  3. The entrepreneurs/intrapreneurs who create innovation from within the corporation and drive it from the bottom up.

Figure 2

Figure 2: The basic stakeholders for startup-driven corporate innovation

Take one of these stakeholders away and the entire effort weakens, may even collapse.  But in order for the effort to be successful and sustainable one more element is necessary: value exchange.  The automotive incumbents, at every corporate level (top, middle, and bottom) they must acknowledge that startups have something important to offer to them.  They must be willing to share with them their knowledge, their data, their technology, their processes, introduce them to their networks.  In exchange, the startups should be willing to provide them with their disruptive ideas, technologies, business models.  Today, most startups trying to work with the automotive industry complain that there is only a one-way flow of information from them to the incumbents that express an interest in working with them.  In other words, there is no value exchange.  

In addition to the value exchange between the automotive incumbent and the startup ecosystem, it is also necessary for the innovation enabling groups of the incumbents (OEMs, part suppliers, and maybe even other members of the automotive value chain) to be exchanging value through their collaboration, as shown in Figure 3.  For example, see NVIDIA’s collaboration with automotive OEMs and other Tier 1 suppliers.Figure 3

Figure 3: Value exchange among the innovation enablers of automotive incumbents

While it is extremely attractive to think big and try to disrupt an entire industry, startups with IP that can address important automotive problems should be working together with innovation-minded incumbent automakers and parts suppliers that want to avoid being disrupted.  By taking this approach, in addition to having access to capital, startups will be able to leverage the knowledge, data, well-established processes, networks, technologies and products from the automakers and their suppliers.  The automakers must realize that establishing an outpost in a startup ecosystem like Silicon Valley is not sufficient for innovation.  They need to bring together the right stakeholders and establish value exchange relations between them and the members of the startup ecosystem.

© 2015 Evangelos Simoudis

4 thoughts on “The Innovation-Driven Disruption of the Automotive Value Chain (Part 3)

Leave a Reply

Fill in your details below or click an icon to log in: Logo

You are commenting using your account. Log Out / Change )

Twitter picture

You are commenting using your Twitter account. Log Out / Change )

Facebook photo

You are commenting using your Facebook account. Log Out / Change )

Google+ photo

You are commenting using your Google+ account. Log Out / Change )

Connecting to %s