 Casey Files:
Should the Big Three Be
Allowed to Fail?
Olivier Garret
CEO, Casey Research
The
Casey Report
Dec 8, 2008
The fact that after over 30
years of consistent mismanagement and decline, there is still
any discussion on whether or not we should allow the now significantly
smaller "Big Three" automakers to fail is clear evidence
that Washington has lost all common sense.
Why, when after more than three
decades of continuous restructuring, GM, Ford, and Chrysler have
not been able to change their culture, high-cost basis and ill-conceived
strategies, does anyone believe yet another break would change
anything? Are they going to be better off next year, or the year
after that, or even five years from now? Just because their situation
has become even more precarious, it doesn't mean that they will
be more successful going forward... more likely the opposite.
"The definition of stupidity
is doing the same thing over and over again and expecting different
results," said Albert Einstein.
The best thing that could happen
to the auto industry is the Big Three filing for bankruptcy protection.
As a former turnaround professional, I am convinced that the
tools afforded by the bankruptcy courts would allow these companies
to restructure dramatically, thus allowing them to renegotiate
and drastically lower most of their liabilities. Management would
be overhauled, pensions renegotiated, union agreements tabled
and made more flexible. Everything that these three companies
have attempted to do for years, and could never achieve, would
now be possible.
So, why in the world is management
siding with the unions in their appeal to Congress?
Because under bankruptcy protection,
management becomes accountable to the court, many of their perks
and benefits would be curtailed, and they could, heaven forbid,
even lose their jobs.
The auto industry, its unions
and allies are therefore quick to point out that they, too, are
"too big to fail" (have we heard that before?), that
the American economy would not recover from the job losses and
the economic impact of failures that would have far-reaching
implications.
The Center for Automotive Research
(CAR) has just released a comprehensive study on the impact of
a 100% failure of the Big Three in the U.S.:
- In the first year, the U.S.
economy would lose 3 million jobs (about nine additional jobs
for each auto worker that is laid off). It would lose another
2.5 million in year two and 1.8 million in year three.
.
- U.S. personal income would
decline by over $150 billion in the first year and another $250
billion in the next two years.
.
- Our government would also
lose $60 billion in 2009 and almost another $100 billion in the
next two years.
.
- We would lose a piece of Americana
(those of you who are nostalgic for the good ol' days might enjoy
the following video clip: http://www.youtube.com/watch?v=KGZvQoPxhNs)
I agree - it poses a very grim
scenario.
In fact, Senate Bill [S.3688]
Sec. 402 seeks to:
"(C) preserves and promotes
the jobs of 355,000 workers in the United States directly employed
by the automobile industry and an additional 4,500,000
workers in the United States employed in related industries;
and
"(D) safeguards the ability
of the domestic automobile industry to provide retirement and
health care benefits for 1,000,000 retirees and their spouses
and dependents."
Obviously, the $25 billion
approved by Congress on September 24, 2008 is already falling
short. It is clearly not enough to deal with a problem of that
scale and, the car makers lament, needs to be doubled immediately.
But in case you wonder, the industry and its unions do reserve
the right to come back for more...
So let's review some of CAR's
assertions in light of what we know:
Auto sales are forecast to
decline from 16.1 million in 2007 to 14.9 million in 2008. 2009
can be expected to be much worse. Spending on capital goods such
as cars and trucks will be affected long-term as a result of
excessive consumer debt, tighter credit terms, higher unemployment,
and a serious recession (or depression).
If car sales decline dramatically,
manufacturing capacity has to be reduced to match demand. This
means that the less productive plants would be shut down, employees
laid off, and that the supply chain would have to adjust accordingly.
This is basic economics so far.
Now comes our choice: On the
one hand, we have some highly productive global manufacturers
that produce fuel-efficient vehicles the U.S. consumer wants
and can afford to buy. On the other hand, we have three inefficient
companies that produce unattractive gas guzzlers and are plagued
with high legacy costs and liabilities (Big Three workers make
$73/hr, Toyota's $48, the average manufacturing worker makes
$32). Why should U.S. taxpayers subsidize these losers? Is it
so that they can continue to compete unsuccessfully with productive
manufacturers and avoid any dramatic (and much-needed) changes
in their way of doing business?
In light of the fact that throwing
good money after bad almost never works out, I think the U.S.
taxpayers should not bail out GM, Ford, and Chrysler. A common-sense
alternative would be to save our tax dollars and allow the most
efficient manufacturers to gain market share and hire more workers.
Ultimately the U.S. market will post sales of 12 to 15 million
cars annually. If it takes one, two, or three million fewer workers
to produce the cars U.S. consumers can afford to buy, so be it.
A farmer with one modern
wheat combine can do the job of a thousand 18th century farm
hands. That is a lot of unemployed farm workers, yet nobody demands
to return to those good old days. Productivity and efficiency do result in job
losses and dislocation, but eventually progress creates new jobs
and additional wealth.
Whether a Honda, GM, Toyota,
Ford, Hyundai, or VW, currently each and every car
still requires one engine and four wheels. Each manufacturer
uses basically the same domestic and overseas suppliers, and
each has dealers selling its cars (most dealers represent a broad
spectrum of brands and will sell whatever car the market wants).
The argument that GM closing its doors would result in the loss
of 2 million jobs or more is ludicrous as the competitors that
pick up the slack will hire workers and buy more from their suppliers.
While that may not be good for Detroit, it may be good for the
Carolinas or Tennessee.
Simply, business shifting from
certain players in the industry to others is called competition.
Capitalism and competition are the forces that have made the
U.S. the most successful economy for many decades. Granted, it
is a harsh reality, but it works, and so far no other system
has come even close to creating as much wealth for most of its
agents.
Anyone who follows our flagship
newsletter, The
Casey Report, knows our stance: we hope, most likely in vain,
that the new administration will finally come to the realization
that no entity is too big to fail. Besides, bankruptcy reorganizations
have a much greater chance of success with larger corporations,
as they usually have lots of assets to dispose of - assets that
can be sold cheaply to new enterprises, which are then able to
build businesses on a much sounder basis. In the process, there
is innovation and progress.
The choice is clear: Either
the Obama administration can continue on the path of nationalizing
entire segments of our economy (so far banking, insurance, auto
- next, health, airlines...) and run them into the ground. Or
it can let poorly-managed companies fail, thereby making
it easy for successful businesses and new entrepreneurs to buy
the assets of these organizations. Step back and let the markets
work their magic instead of blaming the market for ills that
were created by special interests and poorly designed regulations.
***
Throughout history, the markets
have shown "riptides" - powerful trends that can make
or break a market sector and, in their wake, the people invested
in that sector. It's quite obvious that the U.S. auto industry's
day in the sun is over... maybe for good. But just like the tide
going out to sea and coming back to shore, for every dying industry,
another one emerges.
Investors with the knack to
recognize those potent trends have made fortunes in the past,
simply by getting in while the investing masses were still clueless.
One of them is Doug Casey, famous contrarian investor, speaker
and book author. Time and time again, Doug and his team at Casey
Research have correctly predicted the next riptide... if you
want to know what's coming next, learn
more here.
Dec 5, 2008
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