The Big Three Automakers: The Big Three

Mike Shedlock takes a look at the Big Three Automakers — and finds that two of them are being badly mismanaged and wonders about their future.

“Detroit’s Big Three automakers all posted a slide in U.S. vehicle sales in November, losing further market share to major Japanese rivals.

“General Motors Corp., the world’s largest automaker, on Thursday posted an 11% drop in November U.S. sales, its fourth consecutive monthly decline. Ford Motor Co. said sales fell for the third straight month, down 18%.

“‘I think Ford saw catastrophic declines in big SUVs due to a general retreat from that sector because of gasoline prices,’ Burnham Securities analyst David Healy said.

“Both automakers launched new incentive plans in mid-November as demand for their big sport utility vehicles continued to slump.

“GM and Ford both cut fourth-quarter production forecasts, but GM said it would raise its first-quarter production target by 6% compared with year-ago levels. Ford said it would cut first-quarter production by 2.5%…

“The automaker, which has lost nearly $4 billion this year, last week said it would cut 30,000 jobs through 2008 and close a dozen plants in North America to bring capacity in line with demand.

“But GM on Thursday set its production target at 1.25 million vehicles for the first quarter of 2006, up from 1.18 million units a year earlier. A company spokesman said the planned cuts will not impact production in coming months.

“‘The announced cuts will affect production minimally, if at all, in the first quarter of next year,’ said the spokesman, Daniel Flores.

“Ford cut its fourth-quarter production target by 20,000 units, to 790,000 vehicles. For the first quarter of 2006, Ford plans to build 885,000 vehicles, down from the 908,000 units it produced a year earlier.

“Industrywide vehicle sales weakened in November to a seasonally adjusted annual rate of 15.7 million units, from 16.6 million a year earlier.

“INCENTIVES AND MORE INCENTIVES

“November U.S. sales results were more bad news for U.S. automakers, who were already dealing with high labor and health-care costs, rising prices for transportation and raw materials, and intense competition from Asian companies.

“GM’s U.S. market share in November fell 1.2 percentage points, to 23.8%, while Ford’s slipped 2.5 points, to 17.2%.

“Japanese rival Toyota, however, gained 1.7 points, bringing its November U.S. share to 14.6%. Honda gained 1.1 points at 9.1%…

“GM earlier this month launched a “Red Tag” sale, in which anyone in the United States could buy a vehicle for the price paid by its auto parts suppliers’ employees. Combined with existing rebates, the program offered a discount of more than $10,000 on some of GM’s largest SUVs, a greater savings than the automaker’s summer sales incentives.

“Chrysler offered customers two years of free gasoline, worth close to $2,400. Ford responded with a program offering reduced prices and rebates.”

The Big Three Automakers: The Facts

Let’s see if I have my facts straight:

1. GM monthly sales are down for the fourth consecutive month.
2. GM lost $4 billion in 2004.
3. GM is slashing 30,000 jobs.
4. GM is closing 12 plants to “bring capacity in line with demand.”
5. GM’s SUV sales are such a disaster it is offering “Red Tag” discounts of $10,000 on some models.
6. GM’s market share fell 1.2% in November, to 23.8%.
7. Industrywide vehicle sales fell 15.7 million units, from 16.6 million a year earlier.
8. GM is upping its production in the first quarter of 2006 to 1.25 million vehicles, up from 1.18 million, a 6% increase.

Does anyone dispute those facts? If not, can someone please tell me why GM is upping production by 6% while slashing 30,000 jobs and closing 12 plants to “bring capacity in line with demand” at a time when it has to offer $10,000 discounts to sell SUVs and a time when industrywide sales are down 5.4%?

There can only be one answer to that question: The management at GM is totally incompetent.

In the last 20 years, General Motors sold off its Allison jet engine and Muncie transmission businesses and spun off Delphi, Guide, and Remy parts supply operations.

Delphi, Tower Automotive, Meridian Automotive Systems, and Collins & Aikman, all parts suppliers to GM, have gone bankrupt. Amcast has filed for a second time within a year. Remy is on the verge.

The industry is toxic. Neither GM nor any supplier to GM can make a profit. The problem is simple: GM spends $2,500 more to make a car than Toyota. No matter how one twists and turns or hems and haws, or tries to hide behind supposed quality improvement at GM (real or not), GM simply is not going to be able to overcome that disadvantage. Much of GM’s cost disadvantage to Toyota is related to providing medical benefits to 1.1 million workers, retirees, and their dependents. According to Yahoo!, GM has 324,00 employees. GM has approximately twice as many retirees as employees, for which it has to fund pension and medical benefits. The ratio of retirees to employees will rise again next year when GM fires another 30,000 workers. Those cutbacks will reduce employee costs but do nothing for pension costs.

The Big Three Automakers: GM Bonds at Risk

The Chicago Tribune is reporting, “Troubles at GM Put Bonds at Risk”:

“‘The risks are significant, and investors must incorporate these risks into their investment decisions,’ Merrill Lynch analyst Matthew Burnell said in a recent report.

“Burnell thinks there’s more than a 30% probability that GM will file for Chapter 11 bankruptcy protection over the next two years…

“Bond analyst Richard Lehmann of Income Securities Advisors estimates that if GM goes through Chapter 11 bankruptcy, investors would end up with bonds worth about 65 cents on the dollar, or a little less than where they are trading. But he doesn’t think the company will file for Chapter 11. He assumes GM will be able to renegotiate union contracts with the UAW…

“Analysts are focused on union negotiations at Delphi Corp., a major supplier of GM’s auto parts that has filed for bankruptcy protection. If talks fail and workers strike, that could present dire consequences for GM, said Shelly Lombard, a high-yield-bond analyst for Gimme Credit.

“GM has about $19 billion in cash. But lately, GM has been burning through cash at a disturbing rate, about $2 billion a quarter, because customers are reluctant to buy sport utility vehicles, and GM has to cut prices to compete with overseas automakers.

“If Delphi workers strike, and GM has to cut production sharply, UBS analyst Rob Hinchliffe estimates GM would burn through its cash in 10 weeks.

“The concern is, said Lombard, ‘They won’t have enough cash to pay the bills.’

“If the Delphi matter is resolved without a strike, GM would have time to try to put the company on stronger footing. The automaker is attempting to sell a 51% stake in GMAC, which makes auto, commercial, and residential loans.

“The sale, if successful, could provide GM with $13 billion, but [Merrill Lynch analyst Matthew]Burnell notes there is uncertainty surrounding that deal too. Potential buyers could be deterred by the possibility that GMAC would be forced in a GM bankruptcy to pay for some of GM’s pension costs.”

Now, that is interesting, because GM is currently only claiming $19 billion in cash. Where did $13 billion go? At any rate, if GM has to cough up $10 billion to Delphi, it will have a mere $9 billion in cash left. A strike by parts supplier Delphi will drain that cash quickly. I suppose GM can keep cannibalizing itself like it has by selling GMAC, just as it spun off or sold Allison, Muncie transmissions, Delphi, Guide, and Remy; but eventually, don’t you run out of assets?

The Big Three Automakers: Bankruptcy Not an Option

Of course, Wagoner says, “GM Not Considering Bankruptcy”:

“The bankruptcy question has been swirling around GM since its former parts supplier, Delphi Corp., filed for bankruptcy protection this month. GM could be liable for up to $12 billion in benefits for Delphi employees. The automaker has around $19 billion in cash.

“While bankruptcy would allow GM to close plants and reduce union wages in court, Wagoner said GM’s turnaround requires far more than reduced labor costs…

“Wagoner said he knows some GM hourly workers and retirees are upset about benefit cuts and may think executives aren’t doing their part, but he said that’s not the case. GM’s top five executives will probably see 40% cuts in their compensation this year, he said. Executives’ base salaries are determined at the end of the year.

“‘I can understand the anxiety, but there’s been significant reductions,’ he said.

“Wagoner said he is expecting his own compensation to be cut by 50% in 2005.

“Wagoner made nearly $8.5 million in total compensation in 2003, including a $2.2 million salary, a $2.8 million bonus, and $3.3 million in incentive pay tied to stock price. His total compensation fell to $4.8 million in 2004. GM already has said executives will get no bonuses this year and the company’s stock price has fallen, so Wagoner won’t get much more than his base salary in 2005.

“Wagoner said it’s appropriate to tie executives’ compensation to the company’s stock price.

“‘I own a huge number of shares of the company and have experienced the downside with our investors,’ Wagoner said. ‘I like it that way. That’s the way it should be.'”

I try not to be sentimental, but that almost brings tears to my eyes. How can Wagoner possibly get by on a mere $4.8 million in compensation? That’s outrageous. Then again, perhaps that explains why bankruptcy is not a “good option.” If you were suffering the pain of making only $2-5 million a year for the tremendous performance he has put in, wouldn’t you be loathe to declare bankruptcy?

The Big Three Automakers: Ford in Trouble Too

In other news, “Ford May Close 5 North American Plants”:

“Ford Motor Co. is likely to close five North American plants as part of a restructuring plan still being developed for announcement next month, according to a newspaper report published Friday.

“The Wall Street Journal reported that the nation’s second biggest automaker is likely to close assembly plants in St. Louis, Atlanta, and St. Paul, Minn., under the plan that is still evolving and is subject to change. It cited two unidentified people familiar with the automaker’s product plans.

“The newspaper said an engine-parts plant in Windsor, Ontario, and a truck-assembly plant in Cuautitlan, Mexico, are also slated for closure.

“Together, the plants employ about 7,500 workers, or 6% of Ford’s North American work force.

“‘Obviously, we’ve indicated we will address our excess capacity,’ Ford spokesman Oscar Suris told The Associated Press on Friday…

“Ford also said it plans to build 850,000 vehicles in North America in the first quarter, down 2.5% from a year ago. Ford said it will be increasing car production and lowering its output of trucks and SUVs.”

This is kind of interesting. Let’s see if I have these Ford facts correct:

1. Ford is losing market share.
2. Ford SUV sales suffered catastrophic declines.
3. Ford will cut five plants.
4. Ford is cutting 7,500 workers, about 6% of its work force.
5. Ford is lowering SUV production and relatively increasing car production.
6. Ford is dropping overall vehicle production by 2.5%.

Does anyone dispute those facts? If not, can someone please tell me why GM is upping production while Ford is cutting its production, both presumably responding to lowered demand for their vehicles? Can someone tell me why GM thinks it can sell SUVs while others are shifting away from them?

Given the sad state of both companies, here is the real question investors should be asking: Which company goes bankrupt first, GM or Ford?

Mish’s note: There is a huge advantage to going under first. Whichever goes under first can lower its production costs, creating a huge disadvantage to the one trying to irrationally hang on for dear life. GM’s management seems more inept, but Ford’s market share is much lower. It’s a tough choice. In the end, it does not matter much, both are likely going under in due time.

Regards,
Mike Shedlock ~ “Mish”
December 12, 2005