Wednesday, January 19, 2011

Paul Ingrassia's Success Call On "The Great Auto Restructuring"

Only a week ago, I wrote this post regarding AutoNation's CEO Mike Jackson's shameless, disingenuous cheerleading for auto stocks on CNBC. In the interests of equal time and treatment, I guess I must also discuss my one-time squash partner and friend, Pulitzer Prize-winning writer Paul Ingrassia's recent Wall Street Journal editorial entitled The Great Auto Restructuring Shows Signs of Success.

Rather than rewrite the prior post's highlights, let me quote from it,

"Thus, to hear Jackson's version of history, the only way America's automakers could be saved was by government rescue. And that was necessary to preserve jobs and technology.

Well, as I've written in several prior posts, a conventional Chapter 11 filing by GM and Chrysler would have provided both with the time and opportunity to reorganize, group healthy units together and refloat them independently, or sell them to bidders. Further, neither company had to cease operations to do this.
Why Jackson seems ignorant of this fact is beyond me. I guess he's either not creative or simply not well-versed in the very real and frequent occurrence of business death or dismemberment.
So, to hear Jackson sing the praises of GM and Ford and the coming high volume vehicle unit sales years is to listen to someone tell half of a story. Give any business free government help to an extreme and you'll get the same happy ending. Jackson failed to discuss government-mandated purchases of hybrids and other unholy consequences of the excessive intervention.
The chart above displays the lone US automaker with a continuous price history, Ford, and, for good measure, Jackson's Autonation, along with the S&P500 Index.

If you have a technical inclination, you might notice that both firms' recent rapid price gains don't have long term sustainable precedents. In Ford's case, it's pretty clearly just a function of the rebound from the nadir of the 2008-2009 market bottom. Of the three series, anemic as its last decade has been, the S&P is the least volatile, ending with a much better performance than either company.
Of perhaps more import is how both Ford and Autonation have current share prices below their 1990s-era tops. Autonation peaked a few years before Ford, but both had either a flattening or multi-year decline for most of the past 12+ years. Jackson became CEO of Autonation in 1999, so he owns most of that performance.
What Jackson chooses not to explain, or perhaps genuinely doesn't realize, is that automaking is, for the most part, an unattractive commodity business over the long term. He railed about how China is the real 'Government Motors,' but, if true, this simply proves my point. It's hardly the sort of industry in which you'd invest a billion dollar fortune, if you had one to invest.
When you consider where most of the so-called innovations in vehicles originate, it's typically with vendor-supplied assemblies or devices, e.g., anti-lock brakes, airbags, and, now, so famously touted by Ford's Mulally, all manner of wireless communications devices. Thus, most of the profit for the automakers would seem to be sourced in design, rather than manufacture. Otherwise, the smart, value-adding components are available from sector vendors to any assembler.

Doesn't sound very attractive as an investible sector to me. Rather, it sounds more like a case of advanced Schumpeterian dynamics, wherein the value-added growth has long since left the sector's auto assemblers. The entry of Korean and Chinese automakers, and near-exits of GM and Chrysler fits the description of an industry with low barriers to entry and exit."

Here's some of Paul's glowing prose regarding the alleged success and its meaning for broader American fortunes,

"The good times are beginning to roll again, far faster than anybody expected, at General Motors, Ford and even at the weakest of the Detroit Three, Chrysler. There might be a lesson here. If the Great Restructuring has the potential to resolve the seemingly intractable problems of Detroit, perhaps bold structural overhauls can produce similar results on some broader issues facing America. Sure, that's a lot to hope for—but consider what tough love has done in the Motor City.

In 2005, General Motors lost an astounding $10.6 billion—this in a year when Americans bought nearly 17 million cars and trucks, nearly an all-time record. Last year, industry-wide sales totaled 11.6 million vehicles, historically depressed by any standard, but GM posted net income of $4.8 billion through Sept. 30. The company hasn't reported full-year results for 2010, but earnings will easily top $5 billion.

At Ford, the only Detroit company that didn't go bankrupt, the financial turnaround has been even more dramatic. Ford lost $12.6 billion in 2006 but earned $6.4 billion in the first nine months of last year. It just announced it will hire 7,000 more employees. Chrysler, meanwhile, is operating at break-even, and its cash flow is positive.
The average vehicle on American roads today is 10.2 years old, says R.L. Polk Co., which collects such data. This compares to an average age of 9.4 years five years ago and 8.8 years a decade ago. The point: Cars and trucks are getting older and will have to be replaced.

GM now makes 28 vehicles per year for each employee, calculates Goldman Sachs auto analyst Parick Archambault. That's more than double the company's productivity during the 1990s, he notes, and fully four times as high as in the 1950s, Detroit's glory years. GM's hourly labor costs now amount to just 6% of its revenue in North America. That's down from nearly 30% a few years ago, when the company was paying tens of thousands of workers to sit idle, and paying the full freight for employee health care.
GM's gains, and similar ones at Ford and Chrysler, have occurred because of the Great Restructuring, much of which came at the insistence of President Barack Obama's automotive task force.
The car companies' unlimited health-care obligations to retired workers have been replaced by a trust, funded by company contributions that are capped at a fixed amount. Active workers now pay about 5% of their health-care costs, up from nothing a few years ago.

Of course, 5% is only about one-fifth of what the average American employee contributes out of wages to his own health-care plan. That's one sign Detroit's turnaround remains fragile, threatened by the companies' traditional tendency to confuse comeback with victory. But even in labor relations there's a whiff of fresh air.
When GM's new CEO, Dan Akerson, suggested this week that workers' wages should be tied to corporate performance, the new president of the UAW, Bob King, quickly said he's willing to discuss the idea.
The United States is facing trillion-dollar federal deficits that are patently unsustainable, and the broad debate in Washington is whether tax increases or spending cuts are the proper solution. But neither approach, nor a combination of the two, will work without restructuring the vast federal entitlement programs that are the national equivalent of Detroit's Jobs Bank.

Social Security can't and shouldn't be abolished like the Jobs Bank was. But it can and should be restructured—to encourage later retirements, for example—as part of a broad entitlements reform.
States are burdened with underfunded pension plans for public employees that have destroyed their fiscal probity. It's nutty to raise taxes to plug state budget deficits, as Illinois just did, without restructuring public-employee pensions that allow workers to retire in their fifties, in some cases, with 80% of their pre-retirement incomes. Restructuring public-pension plans into 401(k) programs will spur fierce union resistance, just as key elements of the Great Restructuring did in Detroit. There's no painless way out of this problem. But further delay will only increase the pain, as Detroit's disaster of 2009 proved.
We should learn from success. Tough-love restructuring can produce renewal. With political will, resolve can produce results."

First, let me suggest reading this post from last summer. In it, I discuss Paul's review of another journalist's book about the Detroit automakers. He admits to journalists cheerleading without giving full disclosure,
"Ingrassia's opening sentences say it all,

"Many of the journalists who covered the long decline of General Motors that led to last year's bankruptcy were, in their hearts, rooting for the company. Such reporters- I among them- would seize on the occasional piece of good news about GM to write something upbeat. It would be a journalistic coup, after all, to be the first writer to call the company's turnaround. In any case, no one who grew up during GM's heyday, in the 1950s and 1960s, wanted to see an American icon self-destruct."
Together, Ingrassia's inclusion of these passages tells us a lot about why we should simply not trust most beat reporting on US companies and industries.

Reporters are not sell-side analysts. And, for that matter, we know from the last decade's dot-com bubble that sell-side analysts are, in reality, marketers for the equities which their firms underwrite and in which they make a market.
You'd ordinarily think that a reporter was more objective than an analyst whose firm clearly has conflicts of interest.
Ingrassia's review tells you different. I am not sure Paul meant to open the media kimono quite so widely, but there it is."

Let me reiterate that I like Paul Ingrassia as a person, but, thanks to that review, I can't say that I completely trust his coverage of the auto sector in the public press anymore. His own words make that a reasonable stance.

Next, I won't question Paul's many numbers involving Ford's and GM's costs, volumes, profits, etc. I simply reiterate my contention that the basic entry/exit realities of the sector suggest it's very mature and suspect for investors.

Further, Paul makes quite clear that none of this was possible without egregious government intervention. Give your local dry cleaner or restaurateur the same help, and he will eventually show promise, too. But what about years later, when the free bailouts are finished and these businesses have to prosper on their own?

Don't you think that as soon as GM or Ford book large profits, the unions and government will come screaming at management nest-feathering? Sure, it sounds good that a union official "is willing to discuss" linking wages to profits. Try getting that into a contract. The existing health care cost-sharing remains a glaring inequity for UAW members versus the rest of America.

Now, I don't even agree, based upon my prior posts, including the linked one at the beginning of this post, that Ford and GM have accomplished legitimate, long term, sustainable turnarounds. But whatever improved performances have occurred would not have been so, in GM's case, without the bailout, unless the firm were put into Chapter 11 and allowed to exit the traditional way.

So I find it troubling that Ingrassia gets all googly-eyed about how what worked for Detroit could be a template for America to self-rescue on its federal entitlement programs.

Of course, as all pundits, Paul quickly disavows really scrapping Social Security or public pensions. Instead, he is in the camp of some sort of sensible discussions and negotiations with recipients to rationalize and temper the liabilities.

Well, Paul, there's a bit of a problem with that. First, GM's bailout only happened because the federal government basically printed the money for it. That has caused enough problems already. Some of the backlash by overseas investors was precisely because they watched their loans to the US government be funneled to the UAW.

However, there's nobody to bailout the US.

If anything is an object lesson in the administration's bailout of GM, it's to borrow the template used to illegally stiff legitimate senior creditors. If the US could do that to GM bondholders, why not use such tactics to cram reforms down the throats of Social Security and public pension recipients?

Works for me!

Other than that, there's nothing about the GM bailout that is really transferable to the larger public pension or federal entitlement spending mess. It's not just like a business problem. And that particular UAW benefits problem was 'solved' by our government printing and throwing money at it.

Despite Paul's best hopes, I just don't think that's going to work for the entitlements messes he believes will be resolved in that manner.

No comments: