Opinion: Auto industry set for a huge shake-up
Lots of stuff happening in the auto industry in America (and Canada.) Although not as crucial to America as it once was, the auto industry still plays a huge role in the economy. After homes, most individuals spend most of their money on cars so you can get a sense of how big autos impact the economy. With the bankruptcy of Chrysler and potential bankruptcy of GM, the auto industry has been permanently altered forever. This is especially true if GM starts selling off its foreign divisions.
Sergio Marchionne & Fiat
To an outsider like me, the most amazing thing in my eyes is the attempt by Sergio Marchionne of Fiat to carve out what may become the 2nd largest automobile manufacturer in the world. These high stakes games in the thick of a crisis can create huge profits, as well as create the potential for a huge disaster (recall Ken Lewis of Bank of America trying to catapault Bank of America to the top ending up in a disaster of epic proportions.) Even more amazing is the fact that Fiat was literally bankrupt a few years ago.
The current plan seems to be for Fiat to buy most of bankrupt Chrysler, as well as attempt to gain ownership of GM's overseas assets, and then spin it off into a separate company. Fiat is getting a good deal for Chrysler's assets with very little committment (but then again, Chrysler has little to offer.)
Bankruptcy Was Inevitable
I recall writing early in the year that bankruptcy seemed inevitable regardless of what the government does. Regardless of what one thought of the chances of survival, you are now seeing how bankruptcy is actually the rational option.
The key reason a bankruptcy was required has to do with the competing interests of various stakeholders. I just couldn't see how you were going to resolve any of the conflicts between unions, pensioners, dealers, parts suppliers, bondholders, and shareholders, outside of bankruptcy court. With the bankruptcy of Chrysler, everyone has been brought together in a court of law. Even in bankruptcy, there are conflicting desires, with a recent attempt by some lenders to block Chrysler's asset sales. I have no idea who is right or which strategy is best—I don't follow the auto industry enough to have a strong opinion—but it's up to the courts now and we'll see how that works out.
Some Lessons For Investors
There are some lessons, especially if you are a newbie like me, from the auto situation. One lesson on the debt side; another on the equity side.
The Chrysler and GM situation shows how investing in junk bonds can easily blow up. It wasn't even an year ago when bonds of American autos seemed like a reasonable bet. If you look at one of the exchange-traded-bonds such as the 7.5% GM senior notes due 2044 (GMS)—this is the one I used to own once upon a time—its price has collapsed from around $12 an year ago down to $2. Note that the $12 was already a distressed price and was more than 50% off par. Many bondholders, I am sure, thought that they would get something closer to 50% in a bankruptcy. Well, it seems that the bondholders are going to end up with very little. Indeed, the $2 price indicates that the market is trading this bond as if it's worth no more than 8% of par value (these exchange-traded-bonds, aka baby bonds, have a par value of 25.)
The other lesson is for shareholders. I remember seeing some people—I think it was Barron's but I'm not too sure—argue a few years ago that GM was a worthwhile investment because its foreign operations were valuable. Foreign operations were indeed quite valuable. For those not familiar, GM was posting strong profits overseas, including high growth China. Well, the problem I and many others saw was that the liabilities in America was very large compared to the foreign operations. It would have been very difficult for GM to spin off the profitable foreign operations to shareholders without bondholders/pensioners/unions/etc challenging it. Well, in the end, shareholders saw no reward from those foreign operations. GM may sell the foreign divisions—Fiat is interested—but it won't be enough help for shareholders. Bondholders who invested in GM on the hope of gaining some ownership in the foreign divisions post-bankruptcy also may end up with only the American GM operations if GM goes and sells all the profitable foreign divisions (it's just an idea and GM may not do it.)
Who knows what the actual outcome will be but if some of the ideas floated around end up being realized, shareholders and bondholders of GM may simply end up owning the low-growth American operations with workers possibly holding a majority stake.
End of American Auto Dominance
This probably seals the fate of the America in the global auto industry, and end its dominance and influence. America largely "invented" the modern automobile and popularized them. It was a symbol of rising America and of the consumer buying power possessed by its citizens. The Big Three—GM, Ford, and Chrysler—were massive companies that had little competition (except for Toyota.) Right now, they will probably be reduced to 2nd tier companies. The end of an era. Chrysler was trying to build the tallest building in New York, the Chrysler building—symbol of the Roaring 20's and great Art Deco design—just before the onset of the Great Depression. Well, it goes bankrupt just after the onset of a possible Long Recession.
Sergio Marchionne & Fiat
To an outsider like me, the most amazing thing in my eyes is the attempt by Sergio Marchionne of Fiat to carve out what may become the 2nd largest automobile manufacturer in the world. These high stakes games in the thick of a crisis can create huge profits, as well as create the potential for a huge disaster (recall Ken Lewis of Bank of America trying to catapault Bank of America to the top ending up in a disaster of epic proportions.) Even more amazing is the fact that Fiat was literally bankrupt a few years ago.
The current plan seems to be for Fiat to buy most of bankrupt Chrysler, as well as attempt to gain ownership of GM's overseas assets, and then spin it off into a separate company. Fiat is getting a good deal for Chrysler's assets with very little committment (but then again, Chrysler has little to offer.)
Bankruptcy Was Inevitable
I recall writing early in the year that bankruptcy seemed inevitable regardless of what the government does. Regardless of what one thought of the chances of survival, you are now seeing how bankruptcy is actually the rational option.
The key reason a bankruptcy was required has to do with the competing interests of various stakeholders. I just couldn't see how you were going to resolve any of the conflicts between unions, pensioners, dealers, parts suppliers, bondholders, and shareholders, outside of bankruptcy court. With the bankruptcy of Chrysler, everyone has been brought together in a court of law. Even in bankruptcy, there are conflicting desires, with a recent attempt by some lenders to block Chrysler's asset sales. I have no idea who is right or which strategy is best—I don't follow the auto industry enough to have a strong opinion—but it's up to the courts now and we'll see how that works out.
Some Lessons For Investors
There are some lessons, especially if you are a newbie like me, from the auto situation. One lesson on the debt side; another on the equity side.
The Chrysler and GM situation shows how investing in junk bonds can easily blow up. It wasn't even an year ago when bonds of American autos seemed like a reasonable bet. If you look at one of the exchange-traded-bonds such as the 7.5% GM senior notes due 2044 (GMS)—this is the one I used to own once upon a time—its price has collapsed from around $12 an year ago down to $2. Note that the $12 was already a distressed price and was more than 50% off par. Many bondholders, I am sure, thought that they would get something closer to 50% in a bankruptcy. Well, it seems that the bondholders are going to end up with very little. Indeed, the $2 price indicates that the market is trading this bond as if it's worth no more than 8% of par value (these exchange-traded-bonds, aka baby bonds, have a par value of 25.)
The other lesson is for shareholders. I remember seeing some people—I think it was Barron's but I'm not too sure—argue a few years ago that GM was a worthwhile investment because its foreign operations were valuable. Foreign operations were indeed quite valuable. For those not familiar, GM was posting strong profits overseas, including high growth China. Well, the problem I and many others saw was that the liabilities in America was very large compared to the foreign operations. It would have been very difficult for GM to spin off the profitable foreign operations to shareholders without bondholders/pensioners/unions/etc challenging it. Well, in the end, shareholders saw no reward from those foreign operations. GM may sell the foreign divisions—Fiat is interested—but it won't be enough help for shareholders. Bondholders who invested in GM on the hope of gaining some ownership in the foreign divisions post-bankruptcy also may end up with only the American GM operations if GM goes and sells all the profitable foreign divisions (it's just an idea and GM may not do it.)
Who knows what the actual outcome will be but if some of the ideas floated around end up being realized, shareholders and bondholders of GM may simply end up owning the low-growth American operations with workers possibly holding a majority stake.
End of American Auto Dominance
This probably seals the fate of the America in the global auto industry, and end its dominance and influence. America largely "invented" the modern automobile and popularized them. It was a symbol of rising America and of the consumer buying power possessed by its citizens. The Big Three—GM, Ford, and Chrysler—were massive companies that had little competition (except for Toyota.) Right now, they will probably be reduced to 2nd tier companies. The end of an era. Chrysler was trying to build the tallest building in New York, the Chrysler building—symbol of the Roaring 20's and great Art Deco design—just before the onset of the Great Depression. Well, it goes bankrupt just after the onset of a possible Long Recession.
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