Posted by: bmeverett | June 1, 2009

Kiss it goodbye

GM has finally filed for bankruptcy – in a sense. The idea behind a Chapter 11 bankruptcy is pretty simple. An enterprise has the capacity to be profitable, but is loaded down with debt or contracts which it cannot manage. The bankruptcy court wipes the slate clean, voiding labor, supplier and dealer contracts and reducing the debt load to a manageable level. Shareholders and management generally do (and should) get wiped out, since the value of the enterprise is negative. The enterprise can then be sold to new shareholders who can adjust all their costs to competitive levels and make a go of it. That’s what should have happened to GM last fall, but our ugly political process intervened. President Bush apparently decided he didn’t want GM’s failure to be a part of his legacy, so he decided to give GM $17 billion of your money and leave its fate in the hands of the most anti-free market administration since FDR.
So what did President Obama do? Naturally, he loaned GM some more of your money to tide it over until he could organize a restructuring. The two things that restructuring absolutely had to do were the two things President Obama refused to do: get rid of GM’s management and invalidate the union contracts. Instead, the union has agreed to some compensation reductions, (but probably not to anything like market levels) and to become a 17.5% owner of GM. The old management is still there, with the sole exception of Rick Wagoner, the hostage the White House shot to intimidate the others.
The government will pour in more of your money, up to $50 billion, and convert your loan into equity ownership. The bond-holders get something, perhaps more than they deserve, and the existing shareholders may get some crumbs, definitely more than they deserve.
Outside the bankruptcy proceedings, however, the Obama Administration is accelerating the application of fuel economy standards which it claims will help GM produce the right product mix for tomorrow’s market. Glancing anxiously at Rick Wagoner’s career lying dead on the floor beside them, GM’s new management agreed wholeheartedly. The great myth of this whole exercise is that GM went bankrupt because it didn’t produce the small cars consumers really want. If this had been true, consumers would have visited GM dealerships looking for small cars, found none and been forced across the street to a Toyota dealer who actually had small cars. This is silly. Any GM Chevy, Pontiac or Saturn dealer would have been happy to sell you any one of many small cars (check out, for example, the tiny Chevrolet Aveo offered for the last 7 years which gets 30 mpg or the Pontiac G3 or the Saturn Astra). GM’s problem is that its costs are higher than Toyota’s, Honda’s, Hyundai’s or just about anyone else’s. For any car of any size, GM must either sell its offering at a higher price than its competitors or produce a lower quality vehicle. Until now, GM has at least had the advantage of a strong reputation and customer base for its pick-ups and SUVs – the company’s only source of truly profitable sales and precisely the models that the Obama Administration will not let GM produce. In the fine print of this deal, GM has reportedly agreed not to import any of the small cars it makes competitively overseas, but to open instead new factories in the US under the thumb of the UAW.
The New York Times of course applauds this deal, noting the importance of the twin goals of profitability and fuel economy. Unfortunately, these two goals are contradictory, not compatible. GM, which you now own, will continue to produce expensive small cars in a market dominated by larger cars sold at prices set by its more efficient competitors. If the car market rebounds dramatically and GM manages to eke out a small profit, the money will go immediately to the UAW. Does anyone really think that the government will say no to the UAW in an election year or any other year for that matter? If GM loses money again, management will go back to Washington with glowing reports about its restructuring progress and ask for more of your money, which it will get. There is no end in sight.
Very few people except those with a very high risk tolerance have bought GM shares in the last few years. President Obama has effectively forced the American people to buy these worthless shares and will now try to convince you to buy GM’s expensive cars. Yesterday on Fox News, Mitt Romney suggested that the federal government distribute the GM shares to the American people and allow them to hold or sell them as they wish. Not a bad idea, but the market tends to price shares at the net present value of future earnings. The GM shares you’d get would be worth zero.
If Presidents Bush and Obama had simply allowed GM to go into Chapter 11, it would probably be emerging from bankruptcy today – much smaller, with new private owners and a competitive cost structure. Instead, the government has set up a pipeline from the Treasury to the UAW, which will last as long as the American people will tolerate it. You can kiss your $50 billion goodbye.



  1. Суперский пост! Блог уже в ридере )

  2. Довольно интересно конечно. Я немогу подписаться под каждым вашим словом, но в общем соглашусь.

  3. Действительно полезный пост, спасибо.

  4. Классная статья – спасибо!

  5. Did Gm deserve the bailout? You Ask me I would say NO.. why? When Honda and Toyota were out inventing new cars, GM was busy boasting about its pride and Showing off its hungry hungry Daughter the Hummer

  6. No Surprise that GM had to sink like the Titanic.. Just the pain and hard work of 300 Million Taxpayers going down the drain.. Whose responsible for that?

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