Wednesday, November 19, 2008

I Say NO to Detroit

Before I delve into this topic I want everyone to know that I was a union member during college for 5 years. I saw firsthand how union can benefit as well as bankrupt a business. If you don't believe me I worked for Spaulding Bakeries. Having sad that I also saw how management that charts the course of a company sticking its head in the sand while enjoying lavish benefits could do more damage than any union's capability.

The bailout program passed by Congress to save the failing financial services sector has become the target of every major business in this country. Insurance companies are buying small banks so they can qualify as a financial institutions thereby qualifying for federal money from the financial rescue program. The insurance industry bought some of the subprime mortgage packages exposing them to losses, of course starting with the greed that came with high interest mortgages.

The Big 3 automakers went to Capital Hill yesterday to make their case for a portion of the bailout money. They called it a loan. The Big 3 CEOs had a PR problem from the moment they touched down in Washington. It seems they took private jets to ask for public money. That action is symbolic of the thought processes in the executive suites of each company.

David Yermack, a professor of finance at New York University's Stern School of Business, wrote a great essay on the need to let the Big 3 die a happy death. He discussed the two main arguments being used to justify some sort of bailout. "Two main arguments are being raised to justify a government rescue of the auto industry. First, large numbers of jobs may be at stake, perhaps as many as three million if one counts all the other firms that supply the Big Three. This greatly overstates the situation. Americans are not going to stop driving cars, and if GM, Ford and Chrysler disappear, other companies will expand to soak up their market share, adding jobs in the process. Many suppliers will also stay in business to satisfy the residual demand for spare parts even if the Detroit manufacturers go under. If the government wants to spend $25 billion to protect auto workers, it would do better to transfer the money to them directly (perhaps by cutting each worker a check for $10,000) rather than by keeping their unproductive employer in business."

Mitt Romney wrote an Op-Ed piece in today's New York Times titled "Let Detroit Go Bankrupt".

"Without that bailout, Detroit will need to drastically restructure itself. With it, the automakers will stay the course — the suicidal course of declining market shares, insurmountable labor and retiree burdens, technology atrophy, product inferiority and never-ending job losses. Detroit needs a turnaround, not a check.

The American auto industry is vital to our national interest as an employer and as a hub for manufacturing. A managed bankruptcy may be the only path to the fundamental restructuring the industry needs. It would permit the companies to shed excess labor, pension and real estate costs. The federal government should provide guarantees for post-bankruptcy financing and assure car buyers that their warranties are not at risk.

In a managed bankruptcy, the federal government would propel newly competitive and viable automakers, rather than seal their fate with a bailout check."

When the automakers were faced with auto emission controls in the 1970's two things happened. The Japanese left the table, flew home, and starting working on meeting the standards. The American manufacturers left the table, flew home, and called their Congressmen to try to stop the legislation.

"Industry immediately said the standards could not be met. Lee Iacocca of Ford said that a one year extension was needed to “keep us in business for another year.” A General Motors executive named Ernie Starkman told the EPA that requiring catalytic converters on its 1975 MY vehicles would pose “unreasonable risk of business catastrophe” and could conceivably lead to “complete stoppage of the entire production.”

In response to the Clean Air Act, Lee Iacocca at Ford issued a press statement saying that the provisions “could prevent continued production of automobiles after January 1, 1975. Even if they do not stop production, they could lead to huge increases in the price of cars. They could have a tremendous impact on all of American industry and could do irreparable damage to the American economy. And yet, in return for all of this, they would lead to only small improvements in the quality of air.”

As it later turned out, auto industry cost estimates for the 1970s catalytic converter requirements were two times higher than the actual cost. Industry estimates claimed a price tag of nearly $3,000, but actual costs turned out to be only about $1,300.

In 1975, with the passage of the Environmental Policy and Conservation Act, CAFE
standards further changed the face of the American automobile, and led to reductions in size and weight to improve fuel economy. Fuel economy was increased by 40 to 50
percent by MY 1980. General Motors and Ford quickly filed protests, contending the standards would require new, unproven technologies and would negatively impact consumers. The National Highway Traffic Safety Administration rejected the automakers’ claims and concluded that the standards could be met without a significant change in the mix of cars being sold."

The point of this piece centers on auto executives and the union both working against a solution to survive. Instead its time to go back to the government and get a bailout. I, for one, say no. In the shortterm there will be pain but in the long run the industry will be a stronger, more focused machine.

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