Saving the Corporate Automotive Industry

Just as soon as the American government heaved a sigh of relief over the U.S. $700 billion rescue package, the automotive industry, the kingpin of the manufacturing sector, came knocking on its door for emergency aid of $25 billion. Will the automotive sector be the first victim claimed by the global economic slump?

The first thing President-elect Obama did when he visited the White House was push for the rescue of that sector. He has since made calls asking the Bush administration and Congress to pass the whopping $25 billion package for the Big Three. Why is Obama so obsessed with the survival of these automotive players?

Nadir of the automotive sector in 30 years

Tension is building up in Detroit, the automotive locus in the U.S. The beacon of the city, the triumvirate of General Motors, Ford, and Chrysler have succumbed to financial woes. Without Congress bailouts, they will have to close shop in no time.

To any automotive player, filing for bankruptcy is akin to being sentenced to death. No rational consumer will dump his/her money into a car by a failing manufacturer out of fear that the warranty would go worthless and parts won’t be available.

The automotive sector is the pillar industry in the U.S. If the Big Three fall, there will be dramatic domino effects reverberating across the economy. This will pose severe challenges for the incoming president. How can Obama not care?

This is a year automotive players around the world hope to forget. They have been hammered from all directions, one after another. Last year, it was the sub-prime crisis and the oil price hike. This year, the deep recession has wiped out consumers’ appetite for new cars, leading to plummeting sales across the globe.

It was reported that U.S. auto sales to date have sunk by more than 16% year-on-year, the worst since the 1980s. The Big Three have failed to keep the wolf from their doors in spite of the $25 billion Congress aids released earlier this year.

The European auto market is also near collapse. German Chancellor, Angela Merkel, is bringing together the top brass of the sector to tackle the situation. Opel has sent the SOS signal while hanging in there. The Japanese auto market saw its worst in 34 years.

The Taiwanese auto market is also depressed. Auto sales took a free fall of 60% year-on-year in August, recording its lowest monthly sales in 20 years.

Yulon, a Nissan distributor in Taiwan, is on a slide. Its sales dropped by 38% year-on-year in August, the lowest single month’s sales in five years. In September and October, Yulon experienced a further 20% and 40% decline respectively. Analysts are pessimistic about the car market in Taiwan; it is a foregone conclusion that there will not be a quick turnaround in the 4th quarter.

Land of bankruptcy filings and SOS cries

Chrysler is the smallest establishment among the Big Three. Cerberus Capital Management, its largest shareholder, was planning to sell its stakes to General Motors. However, with General Motor running into trouble, the deal is off. Hence Cerberus’ priority now is to look for a new buyer for its 80% stakes in Chrysler.

As signs of recession become clearer, investors are staying away from the stock market. Auto stocks fall through the floor and depressed the asset values of carmakers. Along comes the credit crunch and the banks are less likely to be generous. Not surprisingly, they shut all doors to these battered auto players. Since financing from banks is a no go, the Big Three have to resort to asset sales. Unfortunately, General Motors and Ford are sitting on dud “non-core businesses” that attract little interest from buyers.

The only jewel for Ford is its 33% stake in Japanese Mazda which at least is running a profit. General Motors and Ford are facing turmoil of historic proportion and there are only two ways out for them: get bailed out or go bankrupt.

According to a simulation model by an auto analyst with the Center of Automotive Research, a 50% reduction in Detroit production will lead to a loss of 2.5 million jobs in the first year alone, of which 240,000 will comes from auto plants, 795,000 from auto parts suppliers, and 1,400,000 from auxiliary companies.

If all the Big Three go belly up, at least 3 million people will be axed, affecting not only those who work at the auto plants, their suppliers, and auxiliary companies, but also those employed by eateries and bars around the production areas.

With such massive job displacements, the U.S. government is likely to lose at least $100 billion in terms of higher unemployment benefit pay-outs and lower tax collections spread over the next three years. In that respect, the request for $50 billion by the Big Three sounds passable. Some economists fear that the fall of any of the Big Three would push the economy from “recession” into “depression.”

In the U.S. market alone, General Motors buys $31 billion worth of goods from 2,100 suppliers every year. These suppliers include the tier-ones that produce engines, converters, steering wheels, safety belts, brakes belts and safety bags as well as tier-twos that manufacture auto parts, bulbs, ear pieces, audio, and gloves.

There are already 23 fold-ups of auto parts companies this year, under the pressure of gloomy auto sales and escalated production cost.

Far-reaching domino effect of General Motors going bust

If GM files for bankruptcy, it will affect 14,000 auto dealers, roughly 50% of the top players in the country. An American Automobile Association economist pointed out that 700 auto dealers would fall into red by the end of the year.

Notwithstanding these, why should government foot for the bills when companies run into trouble due to poor management? As a heavy-weight Democrat has pointed out, “There are companies failing everyday. This is a free market. As one company exits, other companies will come in to fill its place. If everybody wants the government to help, there will be no end to it.”

Moreover, the Big Three have themselves to blame for their plights. They have rested on their laurels and have dragged their feet in renovation and restructuring. Henry Paulson, Secretary for the Treasury, also opposes the bailout. He took the position that the U.S. $700 billion package is for the financial sector and not the manufacturing sector.

Why is Obama still forging ahead then? He feels that the American players have good products to offer, just that they are starved of cash. General Motors and Ford enjoy good sales in Europe and emerging markets (especially China).

In addition, the Big Three are at the homestretch of their restructuring exercises. They have retooled their factories to produce fuel-efficient cars. And the labor deals concluded last year after much pain will boost the Big Three’s competitiveness by $1,000 every car produced.

With these advantages under their belts, the Big Three are champion hopefuls and hence, should not be abandoned. The outcome of the auto rescue plan will be out soon. This will be Obama’s first stamp of authority as he takes office in January.

The article was first published by Taiwan News Weekly.

The article represents the personal opinions of the author.