Bail Out Auto Companies?

Wednesday, November 19, 2008

U.S. auto executives warned Congress on Tuesday that their industry was teetering on the brink of disaster as they pleaded for a $25 billion aid package despite political opposition to another multibillion-dollar government bailout in the absence of giving any evidence or assurance that they have a viable business plan for the future; and without requiring a game plan that shows that they are not just buying time and what they are going to do to become competitive within their industry. Taxpayer dollars sho uld only go to companies that can show viability and a willingness to make tough decisions to restructure themselves so that they can be successful for the long term.

The hearings came a day after Senate Democrats proposed to bail out the ailing industry with $25 billion in loans.

Rick Wagoner; CEO of GM, Robert Nardelli, head of Chrysler (owned by private equity firm, Cerberus), Alan Mulally, CEO of Ford Motors, Ron Gettelfinger, head of the United Auto Workers union; Michigan Sen. Debbie Stabenow and economist Peter Morici all testified on Tuesday.

For the first time, the CEOs confirmed how much they are asking from the government. General Motors is seeking between $10 and $12 billion, Ford is seeking roughly $8 billion and Chrysler would get $7 billion. "We are willing to provide full financial transparency, and welcome the government as a stakeholder -- including as an equity holder," Robert Nardelli, the head of Chrysler, told lawmakers. He said that without immediate financial help, the company may lack sufficient capital to continue operating and that Chrysler looked at a prepackaged bankruptcy and other alternatives before deciding to apply for the federal funds.

"We are in a very fragile situation," he said.

Lawmakers complained that many of the industry's problems were self-made, citing their past reliance upon gas-guzzling trucks and SUVs and opposition to tougher fuel efficiency regulations, and intransigent labor unions. Sen. Richard Shelby, an Alabama Republican and a member of the committee, has called the automakers "failed models" and said they should file for bankruptcy. “A lot of people think you've already failed, that your model has failed, that you're here to get life support," he said.

Criticizing the bailout, Kentucky Republican Sen. Jim Bunning said the proposal "is not a serious one." "Detroit's basic problem is that they created a business model that doesn't have a snowball's chance in hell of surviving in a global economy," said Sen. Lindsey Graham, another Republican from South Carolina. Legislation under consideration by U.S. lawmakers would provide funding on top of $25 billion of loans approved earlier this year for the companies to improve their technologies and create a line of more fuel-efficient vehicles. (What, we have to pay them to compete by instituting good business practices, something they needed to be doing to survive as part of their business plan over the last four decades??)

The part of the plan that seems to have gained the least traction is the idea of using a portion of the $700 billion Troubled Asset Relief Program (TARP) for the automakers. Treasury Secretary Henry Paulson said during a House Financial Services Committee hearing that while it would not be a good thing to let an automaker fail, the $700 billion fund should not be used to prevent such a failure.

“The Detroit Three are rapidly running out of cash and face filing for Chapter 11 reorganization," Peter Morici, economist at the University of Maryland, testified. "It would be better to let them go through that process and re-emerge with new labor agreements, reduced debt and strengthened management.” Bankruptcy, because of its transparency and its oversight, as a system, requires that management justify itself and its business plan. Ironically, that type of scrutiny generally doesn't exist outside of the bankruptcy process. And the one thing both opponents and proponents of the bailout agree on is that bad management has brought the auto industry to this point. They will either reemerge with the company strengthened, with stronger balance sheets and lower labor costs or they'll emerge as reorganized companies with new ownership, new management and they'll go forward.

And critics of the automakers say Chapter 11 is a reality whether they get taxpayer loans or not. They believe the industry is so badly managed that it's a question of bankruptcy now or later. Morici added that, "I would suggest if you give them $25 billion this month, they will be back." " I don’t see what’s in the history of the automakers that leads anyone to believe that a $25 billion dollar loan isn’t just throwing good money after bad," says Karen Finerman.

The government would take warrants for shares in exchange for aid, which would come with limits on executive compensation and a prohibition on the payment of dividends. But Congress should impose strict conditions on these loans, maybe insist that management be turned out. So far, however, there hasn't been any meaningful conversation whether any of that is going to happen---Congress is just talking about giving them the money.

Taxpayer dollars should only go to companies that can show viability and a willingness to make tough decisions to restructure themselves so that they can be successful for the long term.

The problem is that these CEOs say they need cash urgently, that their cash flow has dried up, but it is not the responsibility of the United States Congress or taxpayers to provide cash flow for a company that is either failing or is very badly distressed. For years GM, enabled by Michigan legislator-advocates, has lobbied Congress to fight fuel-efficiency standards instead of making the cars Americans want to buy. It made gas guzzlers instead, building the SUV on a truck bodies exempted from fuel efficiency standards. It has clung to a non-viable business model while its Japanese competitors in the U.S. have built profitable, lean, enterprises and eaten Detroit’s lunch. GM has 8 brands while Toyota has 3 and Honda 2. GM had an unbelievable 7000 dealerships in the U.S., while Toyota has 1500 and Honda 1000. And the compensation differentials just strangle: GM pays its workers 65% above what Toyota and Honda pay ($77 per hour compared to $44), and it pays its workers salaries even when it must idle a plant. Moreover, Detroit’s Big Three are crushed by the legacy burdens of healthcare & retirement pensions.

If taxpayers give GM or the others money now, that money will disappear by February. What we need to do here is a prepackaged, government sponsored bankruptcy (GSB) that requires following, as preconditions to receiving taxpayer funds:

1. Let GM merge with Chrysler, consolidation will reduce costs by billions.
2. Then bankruptcy will allow GM & Chrysler to close plants, eliminate brands, shed dealerships.
3. Only managed bankruptcy can allow restructuring and reducing of union contracts.
4. Kick out management, Board of Directors and Rick Waggoner.
5. The new company needs to agree to the imposition of new gas mileage standards.

Then, and only then, can we, the taxpayers & the government, agree to put up money to make sure that Detroit actually emerges from bankruptcy. Bankruptcy is a highly developed system that has existed a long time in this country for the purpose of restructuring troubled companies. It would be foolish to help them outside of this venue.

On behalf of the American people, we need to bring into a room all the smart people who know more about cars than anybody else in the world and try to figure out the least wasteful most efficient way to solve the problem. It is disappointing to not have seen a more sophisticated response from the Senate hearing today, other than “Give us the money.” It is like these auto companies are crack addicts & the Congress is giving them money and saying, “Don’t use too much of the crack,” without even trying to curtail the behaviour at all.

Bottom line: Any solution must lead to long-term, sustainable viability of the automobile businesses.

The Detroit CEOs will testify before the House Committee tomorrow.


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