Friday, December 12, 2008
Even though news of the breakdown in talks to bail out the Big Three Automakers will send stocks lower at the opening on Friday, is the news so bad? I don't think so. What good does it do to bailout companies with an operating model and cost structure that has failed. The Big Three will only be back to the bailout window again, and again. The US automakers are hamstrung with thousands of dollars per car in so called legacy costs: costs associated with generous pensions and other benefits that have been agreed to by management and labor over the years. There is one small problem with these legacy costs -- Americans and world buyers won't pay them. Instead auto buyers the world over have, increasingly, switched to foreign based cars, many of which are manufactured in the US. Toyota is now the largest car company in the world. Nissan, Honda, and Hyundai have all made huge gains in the US and around the world. The common denominator of these companies is that compared to the Big Three US auto makers, they all produce cars that have lower costs feature against feature, offer better gas mileage, and possess better customer satisfaction ratings. It's tough for the Big Three to compete against those kinds of results, and it is not likely to change anytime soon. The Big Three auto makers need a new, lower cost structure, and the only way to get it is probably to seek bankruptcy protection. Under bankruptcy, they will able to renegotiate all contracts and debt. Bankruptcy may seem a harsh pill to swallow, particularly in these tough economic times, but bankruptcy does not mean an end to the US auto industry; it just means a time when the industry, creditors, and the unions can put together an operating model that has a chance to succeed in the global market. You and I have all flown on bankrupt airlines. In bankruptcy, planes still fly, most employees still have jobs; indeed, business is conducted pretty much as usual. It just means that management gets protection from creditors and contracts that are draining away their viability. Importantly, it is a time when management, creditors, and unions are under the gun of a bankruptcy judge whose job it is to keep the pressure on all the players to agree to a plan that has a chance to survive in the market place. The current high-cost structure cannot and should not survive. The US auto industry needs a complete overhaul. The breakdown in bailout talks may offer all the participants an opportunity to get it right. The markets won't like the uncertainty, but the markets will, ultimately, ecstatically embrace a plan that has a chance to survive. There may still be a reprieve and a bailout deal may be yet struck, but in my mind any deal that leaves the current operating and cost structures in place is doomed to ultimate failure.