Tuesday, November 18, 2008 4 comments ++[ CLICK TO COMMENT ]++

Opinion: Almost impossible for the government to bailout GM

I think it will be impossible for the government to successfully bail out GM. It's too late and the situation does not seem to have any positive outcomes.

The big problem is that, even if the government is willing to take a risk by putting up money, anything they do will end up nationalizing GM. For instance, GM's market cap is $1.77 billion right now, with its enterprise value being $31 billion. If the government injects, say, $25 billion, you would end up owning more than half the company. Now, does anyone want the government to own and hence run the company? Even many that are in favour of a bailout would likely not want the government running GM. On top of the difficulties of the government running it, it would open up a big can of worms and possibly lead to big trade disputes with other countries.

From a shareholder point of view, it goes without saying that the stock is likely to get wiped out. Bondholders are also looking at a big haircut given that worker liabilities, most of which you can't renege on, seem very high. It is likely that even if GM emerges from bankruptcy, a big chunk (possibly as much as 30%) will be owned by the union or a pension fund due to the worker liabilities.

On another note, if GM goes bankrupt, Ford and Chrysler likely follow suit. GM will get such a huge advantage on their costs that the other two wouldn't be able to compete. Long-term worker pensions will end up being picked up by taxpayers since, if I'm not mistaken, pensions are backed by the government during a bankruptcy. I don't think the government necessarily guarantees them post-bankruptcy but any surviving firm will have manageable pension exposure.

I don't care about nor pay attention to military matters (except from a political point of view--I'm very anti-war and non-interventionist) but I suspect the collapse of the all three American car companies will also weaken the US military slightly (thanks to the Economist's View for the original mention of the NYT article.) Although the car companies aren't as critical to the US military, they still produce many of the armoured cars from what I understand. Perhaps the best thing is if the auto manufacturers spin off them military divisions to the government during the bankruptcy. Although the government-owned division won't have the economies of scale or advance rapidly, the US government can at least have a functioning manufacturer. Even after the auto manufacturers re-emerge from bankruptcy, it is possible that they will be struggling for decades, like the airlines. If one thought Toyota, Honda, BMW, et al, were a big threat to the Big Three now, wait until you see what happens if consumers flee the bankrupt companies (there is a high chance of this if any emergent firm voids warranties or if dealers somehow void something that customers took for granted.)

If all three declare bankruptcy, this will likely be the biggest set of bankruptcies faced by USA since the countless bankruptcies during the Great Depression. Whole industries going bankrupt is pretty common (practically all the steel companies went bankrupt in the 80's/90's; many airlines went bankrupt in the 90's/2000's; and so on) but the automakers are a big chunk of the economy. For instance, GM, even with its declining market share and supposedly poor products, has total sales of around $166 billion (includes foreign.) If you apply a multiplier to capture all the parts suppliers, auto retailers, and so forth, you are talking something very sizeable. The economy in areas such as Michigan (or Ontario, Canada) are going to get hit really hard. It will have a big detrimental effect in the short-term but will likely be neutral to good in the long run.

It's just too bad that this is happening during a nasty recession and a financial crisis. Humans--I know this personally very much--have a habit of putting off issues until it is too late and this is a good example of it. Government, management, UAW, and shareholders did nothing even though the problems were obvious 5 to 10 years ago.


4 Response to Opinion: Almost impossible for the government to bailout GM

November 18, 2008 at 8:09 PM

Today GM suffers a loss of about $2,000 per vehicle sold. On the other hand Toyota whose employees are not part of the UAW earns a profit of about $1,200 per vehicle sold. If GM was able to operate with labor prices near Toyota’s it would have pocketed an additional $29,715,200,000.


November 18, 2008 at 10:52 PM

Yes, that's the reason some market commentators are calling for a restructuring through bankruptcy. However, the situation is far more complex and the outcome is not obvious.

For instance, there are two sets of costs that are hampering GM: long-term legacy costs (such as pension obligations, healthcare obligations, etc, for the retired or near-retirement employees) and the current labour costs (higher unionized wages, healthcare, etc).

GM won't be able to shed the first cost (long-term legacy costs.) You cannot just wipe out your past employee obligations. Somone will have to pay for that. Unless the government decides to take on those obligations, those costs will have to be paid.

The first set of costs will hurt current shareholders and bondholders, more so than any future post-bankruptcy shareholders. The pension funds or whoever that is owed the money may swap their obligations for a stake in a post-bankruptcy GM.

The second set of costs (wages and salaries) are what you, as well as others, talk about. Wages will definitely go down but GM will likely never be what it was. Companies like Toyota will still have a minor advantage with wages since they don't pay healthcare costs at their foreign plants (healthcare is socialized in Japan, like Canada and Europe.) But since cars are expensive to transport, a lot companies manufacture them in the US so it comes to the number that is manufactured versus imported.

Lastly, the widely quoted gap between Toyota and GM also includes Toyota's far superior branding, manufacturing, and logistics. Very few would claim that GM has the efficiency of Toyota (although many of GM's plants are catching up.) Similarly, brand strength of Toyota is far superior (for example, Toyota rarely offers 0% financing on their cars whereas GM relies on that quite often (incidentally the auto financing has blown up badly for GM.))

So to sum up, I agree with your sentiment that GM can compete better with lower wages. But I just don't think the advantage is as big as some claim. Unless the US government socializes healthcare, they will still be at a disadvantage. Some of the US government subsidies and spending on R&D also has to be significantly altered (eg. if I'm not mistaken, Japan was betting on hybrids 10 years ago and partially funded Toyota's hybrid development, whereas the US government took a bet on ethanol and is funding ethanol. More ethanol-like strategies from the US govt isn't going to help matters much.)

November 19, 2008 at 10:04 AM

Spin off the NA operations and declare bankruptcy. Kill the unions, as they are only cancerous, and either restructure or sell the assets to Toyota/Honda/Nissan.

November 19, 2008 at 11:25 AM

Anon: "Spin off the NA operations and declare bankruptcy. Kill the unions, as they are only cancerous, and either restructure or sell the assets to Toyota/Honda/Nissan."

IANAL but I imagine that would be illegal. You can't just spin-off the bad assets into an almost-sure bankruptcy. I suspect that they would need the consent of bondholders, lenders, pension trustees (or whomever) and so on. The only way they are going to do that is if they give away the good assets to the bondholders/pension claimees/etc and leave all the toxic assets with the shareholders. Why would management, which is supposed to act in the interst of shareholders, do something like that?

An alternative is to sell the foreign operations for cash. You will only get depressed prices right now but even then, it doesn't accomplish much. The company will have more cash but end up owning all the toxic assets.

Post a Comment