Global Insight Perspective | |
Significance | Late last night, legislation designed to provide a US$14-billion bridge loan to the American auto industry was defeated in the U.S. Senate. Southern Republicans led opposition to the bill, claiming that there was a lack of evidence that the money would actually return the automakers to viability. |
Implications | Republican Senator Bob Corker came up with a desperate, last-minute compromise deal that would have offered Republican support, but this was ultimately rejected when the United Auto Workers union refused to set a timetable for massive wage and benefit cuts. |
Outlook | There is one final chance of a reprieve for the automakers as the government considers using money from the Treasury Department's US$700-billion rescue fund to help them. However, if that money does not appear, bankruptcy may be the only option left for the automakers. |
The U.S. Senate (upper house of Congress) rejected a US$14-billion bridge loan for American automakers in a very late vote last night, sending the future of the industry into doubt and stirring talk of widespread bankruptcies. Congressional Democrats had worked hard to secure a deal with the government in the hope of securing approval for a sweeping bill that would establish numerous oversight programmes and even a cabinet-level "car czar" to supervise the restructuring of the industry. The bill passed the House of Representatives (lower house) on Wednesday (10 December) in a vote that was largely along party lines, with a good three dozen Republicans crossing over to vote in favour. However, much stiffer opposition from southern Republicans in the Senate forced a compromise bill to be drawn up instead, forwarded by Republican Tennessee Senator Bob Corker..This included four major additions: the restructuring of the automakers' bond debt to 30 cents on the dollar; concessions from the United Auto Workers (UAW) union over the level of wage parity with the best practices of the Japanese transplants; elimination of the UAW's Jobs Bank; and the requirement to accept half of the US$23 billion needed for General Motors' (GM) union healthcare trust in stock rather than cash.
"The last thing Washington should be getting involved in are issues like product development and shedding excess capacity—that should be left up to the boards of these companies", said Corker in comments on the Senate floor. "Our role should be swift and simple and centered around two areas where we can force immediate and transformative change: addressing the unworkable capital and labor structures that cripple these companies. I cannot support the proposed loan package as written by Democrat lawmakers and the White House because it doesn't tackle these critical issues." But according to Corker's comments before the final vote of cloture on the bill (a procedure that requires 60 votes to end debate on a bill and bring it to a full vote), all of the conditions had been met except one: the UAW had refused to agree to a timetable to achieve wage parity with the Japanese transplants. As a result of this single obstacle, Corker stated that the Republican contingent could not support the bill. The procedural vote to end debate came in at 52-35, with all Democrats voting for cloture, but short of the 60 votes needed to proceed.
The government, which has publicly said that a failure of the auto industry cannot be allowed to happen in the currently struggling economy, said that it was reviewing its options in light of the Senate's inaction. "It's disappointing that Congress failed to act tonight", a White House statement said. "We think the legislation we negotiated provided an opportunity to use funds already appropriated for automakers and presented the best chance to avoid a disorderly bankruptcy while ensuring taxpayer funds only go to firms whose stakeholders were prepared to make difficult decisions to become viable." A visibly angry Senator Christopher Dodd, chairman of the Senate Banking Committee that oversaw the interrogation of the "Detroit Three" automakers' executives last week and the man that led the marathon multi-party negotiations to try to salvage a bail-out deal, voiced his own frustration at the inability to pass the bill. "In the midst of already deep and troubling economic times, we are about to add to that by walking away", he said.
Now that the legislation has failed, the Wall Street Journal has reported that GM has hired a team of bankruptcy lawyers and advisors as it prepares for a possible bankruptcy filing. The company has reportedly hired Harvey Miller of New York City law firm Weil Gotshal & Manges LP to handle the filing, as well as restructuring exports Jay Alix, William Repko of Evercore Partners, and Arthur Newman of Blackstone Group. According to the Detroit News, all of the advisors and attorneys have ties to south-east Michigan. Miller has advised GM about the ongoing Delphi bankruptcy restructuring, and specialises in reorganising distressed businesses. Alix helped with the city of Detroit's multi-million-dollar deficit and subsequent ratings assistance during the administration of Mayor Dennis Archer. He has also advised companies such as Kmart, National Car Rental, Exide Technologies, and Mitsubishi Motors. "He's outstanding. One of the best", former Mayor Archer told the Detroit News. "World class. As a result of his advice, we were able to balance our budget." Both Repko and Newman have also been involved in restructuring some of the country's largest businesses, including Kmart, Chrysler, and Dow Corning.
Outlook and Implications
There is one final hope for GM and Chrysler as they look to secure financial aid from the government and stave off bankruptcy: President George W. Bush can direct the Treasury Department to use part of the massive US$700-billion Troubled Asset Recovery Program (TARP) to fund an emergency loan. Such a move would be unlikely to involve any of the conditions and restrictions included in the legislation discussed by Congress over the past two weeks, but it would also probably involve a reduced amount of money, allowing Congress to take up the matter again in January, when an administration much more inclined to help the industry is in place. However, President-elect Barack Obama does not take office until late January, and the need for cash to maintain operations at GM and Chrysler is immediate.
It has also been suggested that, should they not receive federal assistance under the current Congress or Bush administration, GM and Chrysler could simply "shut down" until February, essentially extending the typical two-week holiday shutdown over much of December and January. This would presumably help the companies stop spending, conserving as much cash as possible by not producing vehicles or working on development. But this argument tends to ignore the contracts, agreements, and obligations that the automakers have, not to mention the accounting methods they use. Automakers book revenue not when a vehicle is sold, but when it rolls off the assembly line; the ending of all production to save on the costs of paying suppliers would also mean a total loss of revenue for the period. Payment terms for suppliers also do not work as cash-on-delivery; automakers typically have 45-day pay periods, meaning that they owe suppliers payment in the next two months for vehicles already built. Furthermore, the UAW contract stipulates significant amounts of pay even if the workers are not actually building vehicles. Moreover, on top of this, GM still has fixed costs that need to be maintained, everything from mortgages and leases to utility and tooling payments. To continue to have these expenses without the benefit of revenue from vehicle production would not help the company's cash burn rate, making the idea of a shutdown less feasible than it originally might seem.
All of which leaves what is increasingly becoming the most likely option: bankruptcy for one or more of the American automakers. To be sure, this would solve a number of problems for an automaker such as GM—it would eliminate massive amounts of debt, throw out union contracts that are still not fully competitive, eliminate franchise contracts that prevent the automaker from closing brands and dealers, and allow an extraordinary restructuring of the company. But the trail of economic, social, and financial devastation that a GM bankruptcy would leave in its wake would far outweigh the benefits of such a restructuring. A massive loss of shareholder value would arise from stocks and bonds that are suddenly worthless, further adding to Wall Street's distress. It is likely that suppliers that rely on GM for their revenue would also have to file for bankruptcy protection as their contracts are nullified, putting their ability to deliver to the other domestic and foreign automakers operating in the United States in doubt. Massive lay-offs of hundreds of thousands of people across the country would almost certainly occur, further burdening already strained state budget deficits and unemployment numbers that have not been this high in nearly 30 years. Hundreds of billions of dollars in income would be eliminated, as would billions in social security payments and income taxes, while the move would add to the government's burden via the assumption of responsibility for pensions. How all of this would affect the already struggling U.S. economy is still yet to be fully determined, but IHS Global Insight is preparing to officially address this question in the very near future.