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How Honda Is Stalling In The U.S.
Its most popular models show signs of weakness -- and the mighty yen is hurting profits

Until recently, Honda Motor Co. (HMC ) seemed unstoppable. With its sporty Civic compact, stalwart Accord sedan, and a fleet of snazzy sport-utility vehicles and minivans, sales seemed to go nowhere but up. Profits soared, and Honda's U.S. market share rose to 9% last August from 6.7% in 2000.

These days, though, Honda doesn't look so invincible. In April, once-hapless Nissan Motor Co. (NSANY ) overtook Honda as Japan's second-largest car producer. And on Apr. 27 the company surprised investors by slashing this year's earnings forecasts by 7%, to $5.2 billion. Its profit for the quarter ended in March fell 36.5%, to $682 million. Even as Honda has started to recover from a sales slowdown in Japan, its U.S. market share has slipped to 8% in the first four months of the year, from 8.3% for the same period in 2003. While Honda's Tokyo-traded shares have risen 13% since last May, those of rival Toyota Motor Corp. (TM ) have advanced 42%.

What's going on? Honda is paying the price of its large exposure to the U.S., where the company makes 80% of its profits. The U.S. problem is twofold: sales of key models are slipping, and the rising yen lowers the value of U.S.-derived profits when they're translated back into the Japanese currency. The company predicts that the strong yen will reduce income by $1.22 billion in the current fiscal year, even worse than the $889 million currency hit in the fiscal year ended Mar. 31.

But if the yen problem can be blunted, the larger issues of Honda's positioning in the market and the strength of its lineup are harder to address. The weakness shows in the latest numbers for core Honda products. Sales of the flagship Accord have fallen by 9% so far this year. The Civic has gained 1.8%, but mostly because of rich incentives added after sales slipped by 4.3% last year.

Honda is struggling in newer segments, too. The boxy Element SUV hasn't been the hit among young drivers that Honda had hoped, with sales down 9% this year. Even the Odyssey minivan, once the vehicle to beat in its class, is down by 9% this year as would-be buyers await its relaunch in the fall. And Honda had to set aside $369 million to cover recall and warranty costs for 600,000 SUVs and minivans with transmission problems. "Honda's situation in the U.S. isn't so good right now," says Yoshio Watanabe, an analyst at Mizuho Securities Co.

Honda has long been successful because it entered mainstream market segments with offbeat cars. Its high-tech engines offer the best of two worlds: They're zippy and fuel-efficient. The cars handle well, offering a little fun to go with their high quality and utilitarian design. But the current Civic is getting long in the tooth. Time was, the cars were so cool that young car buffs spent thousands of dollars to kit them out like race cars. But these days the hot-rodders are turning to the likes of Subaru's WRX and the Dodge Neon SRT-4. The current Civic, launched in 2000, has soft suspension that enthusiasts say doesn't handle well. Plus, the most powerful model, the Civic Si, only has 160 horsepower, compared with 200 hp or more for some rivals. Although the hot-rodders don't buy a lot of cars themselves, they give the brand a cachet it can't afford to lose. "For the guys going to the strip, the Civic isn't much to show off," says Justin Sharp, a sales manager for Wings West, a custom auto-parts maker in Newport Beach, Calif.

Honda says it would cost too much to revamp its factories to produce all-new platforms and big engines for trucks and luxury cars, so a big shift isn't in the cards soon. The auto maker only has three cars in the pipeline for this year: the new Acura RL sedan, a revamped Odyssey minivan, and the latest version of the gasoline/electric hybrid Accord. Rivals are rushing out many more models. "The number of products [launched by Honda] will be smaller than any other major player," says Kunihiko Shiohara, an analyst at Goldman Sachs (Japan) Ltd. (GS ).

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