What happens to manufacturers of expensive vehicles if the credit crunch stops the flow of loans? What happens if the political climate makes ownership of SUVs and expensive upmarket vehicles hard to justify? What if the 'ultimate driving machine' turns out to be a Smart ForTwo or a Chevy Aveo? BMW announced its financial results in early November and the numbers set off alarm bells amongst investors. Third-quarter net earnings dived 63 percent to $374.2 million, weighed down by another in a series of bad debt provisions and job cut program expenses. The company also withdrew its profit target for the year, but CEO Norbert Reithofer, said BMW would be in the black for 2008. Investment bankers worry that red may be the color of the results in the current quarter, not to mention most of 2009. They point out that the more cars and SUVs that BMW has sold, the less money it has made per car, and wonder if the company has become too big, and in terms of profits is now just another mass car manufacturer. Mass market profits'In prior periods of economic weakness BMW's brand profitability has outperformed the competition, and the competitive gap has widened in the downturn. However, this is not true this time with BMW management already giving a second (profit) warning and profitability falling to the level of mass-market players,' Deutsche Bank analyst Jochen Gehrke said in a report on BMW called 'The end of an era?' Gehrke said BMW's revenue per car sold is on the slide as buyers opt for less powerful and less gizmo loaded versions, while falling residual values make deals more difficult to make. 'We believe the automotive division will find it difficult to keep in the black in the final quarter (of 2008). We now see BMW losing money in its automotive division for the next three quarters,' Gehrke said. Gehrke points out that BMW has raised its sales by more than 50 percent since the start of the decade and added smaller models like the 1-series and Mini, introduced the smaller X3 SUV and X6. But at the same time profitability has constantly slid, even while the global economy spurted ahead. 'Is the company too big today?' asked Gehrke. 'Adjusting to a more 'normal level of demand' could be very painful and we fear the restructuring steps taken will prove insufficient,' he said. Max Warburton, senior analyst with Bernstein Research in London shares this negative view of BMW up to a point, but feels that longer term, it might just be in the fast lane. BMW might also remain in the black, just. Not easy to fix'What can BMW do to reverse its decline? BMW's problems are deep-rooted and will not be easy to fix. The performance car era may be over and BMW may need to learn to live with weak mix (smaller, less powerful cars). However, macro factors such as a strengthening U.S. dollar, falling raw material costs and lower fuel prices may all assist BMW in 2009. We believe BMW has a reasonable chance of remaining marginally profitable in 2008. For a significant improvement in profitability, BMW will need to look to serious internal restructuring and corporate activity,' Warburton said. Warburton agreed that BMW's small models like the Mini and 1-series weren't seriously profitable, and that its business model might have stalled. 'BMW has suffered a decline because of the demise of its pricing premium in its core product ranges and a decision to move downward into smaller-car segments where the company lacks the cost structure and volumes to make a decent return. We believe the pressures on BMW's business model have been building for some time. And an era of high fuel prices and environmental legislation may mean a profit structure built on a rich mix and a brand built on performance cars may no longer be viable,' Warburton said. Warburton summed up the problems bearing down on BMW. Greater competition in high-margin, sporting sedans, mainly from Mercedes and Audi. Declining consumer interest in high-performance vehicles. Greater demand in Europe for fuel efficiency, diverting resources into diesels. Growing difficulty in differentiating BMWs from the mainstream. Seeking more sales from fleets and sacrificing prices for volume. Widening product range into small segments with lower returns, or volume areas like the Mini and 1-series. But Warburton believes there is still time for BMW to get its act together. Another German investment bank UniCredit fails to see what the fuss is all about, and said BMW looks good compared with its great rival Daimler, which makes Mercedes cars. 'Despite all this (the third-quarter numbers) the underlying profitability of the BMW group is not that bad. The October sales results confirm that BMW performs in the difficult 4th quarter better on relative terms than Mercedes-Benz,' a UniCredit report said. Morgan Stanley, which pointed out that BMW has a head start over its rivals in engineering solutions to excessive CO2 emissions, is still firmly in its corner. 'Longer-term, we think BMW is a winner in this industry. Shorter-term, we cannot rule out operating losses. 2009 is setting up to be a very difficult year for BMW and the global auto industry. We believe BMW offers the best combination of strong franchise, survivability and depressed sentiment attractive (making the shares cheap) to long-term investors,' said Morgan Stanley analyst Adam Jonas. Too optimistic?Deutsche Bank's Gehrke believes that even its negative take on BMW might be understating the problems if economies weaken further. 'We see BMW as loss-making for the next three quarters in its core automotive division. So far, we expect profits to recover in the second half of 2009 but note that such a view might prove to be too optimistic in the event of further global economic deterioration beyond our current forecast,' Gehrke said. But Bernstein's Warburton doesn't see any return to BMW's former glory when its fast cars sold for big mark-ups as buyers loaded them with expensive extras. 'We don't see how the company's brand proposition 'performance cars' can recover its historical status in a changing political/environmental climate,' Warburton said. Neil Winton, European columnist for Autos Insider, is based in Sussex, England. E-mail him at [email protected].