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Will the Big Three Fail?

SMG’s Lataif on saving GM, Ford, and Chrysler


If any one of America’s Big Three auto manufacturers collapses, says Louis Lataif, “it could have terrible reverberations throughout the economy, hurting a lot of innocents.” Photo by David Croy

Another day, another government bailout. Or so it has seemed in recent weeks. This time, it’s the auto industry — GM, Ford, and Chrysler — aka the Big Three, whose looming bankruptcies could hit an already weak American economy like a pileup of SUVs. These companies currently employ about 240,000 workers, and their suppliers account for an additional 2.3 million jobs, totaling nearly 2 percent of the nation’s workforce. Last month, industry sales dropped 31.9 percent, to the lowest rate in 25 years. GM predicts it will run out of cash by the end of the year unless the American taxpayers intercede.

President-elect Barack Obama and Democratic leaders want to divert some of the $700 billion financial bailout Congress passed in October to keep the auto industry solvent while it retools to produce more marketable fuel-efficient cars and wait for consumer confidence and credit to bounce back. The Bush administration, on the other hand, is pushing to use money from a recently passed $25 billion loan program to help automakers convert to more fuel-efficient vehicles. At the same time, many Congressional Republicans promise to resist any move that would give taxpayer money to an industry that they say has created its own problems with bad business decisions, uncompetitive labor agreements, and vehicles that Americans just don’t want.

The issue is scheduled for discussion at a Senate hearing today and in the House tomorrow. For some thoughts on what happened to America’s auto industry and what, if anything, should be done to save it, we turned to Louis Lataif (SMG’61, Hon.’90), Allen Questrom Professor and Dean of the School of Management and the former president of European operations for Ford Motor Company.

BU Today: Is the auto industry in as bad shape as it says?
Lataif: The credit crisis–induced recession (and the earlier, unprecedented spike in gasoline prices) could not have been anticipated by the auto companies over the past three or four years as they rationalized their operations and initiated a new product development cycle. The current selling rate for new vehicles is at or below the “scrappage rate” — a level of demand that is virtually unheard of. So, yes, the auto industry is, at the moment, in peril.

How much of the industry’s trouble stems from the current fiscal crisis, with its plummeting consumer confidence and tight credit, and how much is due to more systemic problems with American car companies?
Most of the systemic problems have been addressed in recent years, particularly with the offloading of hourly health-care obligations to the United Auto Workers. There is still a legacy cost problem related to an older workforce and many retiree obligations, but natural demographics are helping to resolve some of those issues. If the companies survive into the next decade, their overall structural costs will be more in line with import car manufacturers.

Why should the average American care if GM or Ford declares bankruptcy?
The average American should be concerned about the survival of the auto industry because a collapse could have terrible reverberations throughout the economy, hurting a lot of innocents. All the suppliers and dealers who would be wiped out would cause a lot of collateral damage in their towns and throughout the economy, more so than any other industry. The auto industry is the largest consumer of steel, rubber, glass, and more and employs hundreds of thousands of people.

Do you agree with the plan sponsored by Congressional Democrats to support the industry by siphoning money from the recently sponsored $700 billion financial bailout package?
The government can make “loans of last resort” to bridge the auto companies for the next two years, until consumer auto demand is restored. (And demand will be restored; there will be great pent-up demand arising out of the current historically low selling rate.) Our elected representatives will need to decide where the loans would come from. I would advocate interest-bearing loans to be repaid over the next several years ahead of all other creditors. The government should reasonably expect to realize a profit for the taxpayers on the risk it takes. I don’t think the government should take an equity stake — that would be more socialization, which would not serve the country well; there is no evidence that the government can manage businesses more efficiently than private ownership.

What about letting the market simply run its course?
If the market were simply to run its course and one or more of the auto companies failed, the effect would be to drag the economy into a longer and deeper recession, hurting everyone in the country. Bankruptcy, in my view, is not a viable alternative. When people buy new vehicles, they enter into a relationship in which they expect parts to be available, service to be provided, and warranties to be honored. It is unlikely that people would choose to buy a new car from a bankrupt car company where there are other, safer choices.

It seems like a lot of industries are in trouble right now — why should we bail out the auto industry in particular?
No industry is as pervasive as the auto industry, involving one of every seven jobs in our economy. In recessions, many companies face difficulties, but few, if any, impact the entire economy like the auto manufacturers.

How can American car manufacturers regain long-term, sustainable profitability?
The auto manufacturers have taken many bold and difficult steps in recent years to restructure their business and restore themselves to a position of sustained profitability. There has been serious downsizing of the manufacturing base, huge cuts in salaried workforce, great strides in achieving fully competitive product quality, more reasonable contracts with the United Auto Workers union, and efforts to develop alternative fuel vehicles (although not nearly at the pace required, given the huge jump in gas prices last summer).

Do you believe a bailout package for the industry will be passed, and if so, how soon?
Because President-elect Barack Obama promised the autoworkers in Michigan and Ohio that he would help, it seems inevitable that the government will intercede in some way. And there will be conditions, such as limits on executive pay until profitability is restored and further concessions from the unions. Beyond that, it would be counterproductive for the government to dictate operating or investment decisions on an industry that is already struggling.

Should the federal government bail out the auto industry? Vote here, and comment below.

Chris Berdik can be reached at cberdik@bu.edu.


15 Comments on Will the Big Three Fail?

  • Anonymous on 11.18.2008 at 8:25 am

    OMG. Here we go again! What’s next?

  • SMG Graduate on 11.18.2008 at 9:07 am

    Where is the fundamental problem?

    I see the fundamental problem as being the Union Auto Workers conversations / negotiations so it seems to me like large amounts of energy at these companies HR and overall management has been spent in negotiating labor contracts vs. finding the appropriate design workforce, and appropriate people to be working at these large auto-manufacturers that could get them out of the slump and to be able to catch up with their direct competition. Toyota and other foreign companies (as we all know and study their cases at SMG) have re-invented their supply chain and production systems much longer then 5-6 years ago. Where where US auto companies then and why didn’t they effectively enhance their production systems and found better and efficient ways to produce American cars?
    To me all of that stems from lack of proper HR recruiting perhaps and capable employees within the design teams and a more competitive management. But then again, you can’t blame them full till, since they were negotating Auto – Union Labor contracts for majority of their time. Would like to hear other SMG colleague opinions.

  • Anonymous on 11.18.2008 at 10:11 am

    New Plan - Bailout the Consumer

    The way to stimulate the automotive industry is not to give them a blank check but instead give the signing power of the check to the taxpayers of the United States. Much of the issue we just went through with the financial crisis was had a negative impact on the automotive industry that we are seeing today. Without a stimulus this will continues into many industries outside just the automotive.

    Provide the power of the consumer by giving each taxpayer a $15,000 federal credit voucher that can be applied to the purchase of a vehicle produced by a US automotive manufacturer that can be used once over the next 5 years.

    Each taxpayer over the age of 18 years during the five year span will have access to use these funds to the purchase of a vehicle. Anyone that is a taxpayer of 18 years of age over the five years period will be eligible to apply for voucher that can be applied to a vehicle.

    The value of the voucher is tied to the following conditions:

    100% use of funds when:

    Automotive vehicle produced by a USA Auto Manufacturers

    For a vehicle manufactured in North America

    33% use of funds when:

    Toward an automotive vehicle that is manufactured in the USA.

    25% use of funds when:

    Used toward the purchase of a used vehicle manufactured in North America.

    Taxpayer Must:

    Register through a government website

    Provide taxpayer information to confirm eligibility

    Government must:

    Provides authorization code if individual is a USA taxpayer and this will voucher authorization code will be sent to the US taxpayers registered address.

    Auto-manufactures / Auto Dealers:

    To obtain funds they must provide the following:

    Taxpayer authorizations code
    Vehicle VIN number
    Certificate of origin of Vehicle
    Proof of vehicle registration to taxpayer that code was issued against.

    This would:

    Provides a stimulus to the automotive industry by eliminate over stock of vehicles and future manufacturing
    Provide a stimulus over five years
    Provide jobs to USA taxpayers
    Provide taxpayers to fund the USA by increase the number of taxpayers

  • Anonymous on 11.18.2008 at 10:17 am

    Don’t forget the dealer network is bloated and needs to be trimmed back by at least half , if not more.

    Good luck doing that without bankruptcy help!

  • Anonymous on 11.18.2008 at 10:19 am

    They got themselves into this mess

    I don’t believe the government should bail out the auto industry since they not only got themselves into this mess, but they will likely use the bail out money in much the same way as the financial sector did- to give top executives bonuses and to purchase other companies, both of which are not things to do when you’re about to declare bankruptcy. GM in particular has just been stupid with its design decisions. 10 years ago they had a fully developed and working electric car which they produced several thousand of and leased them to individuals in the LA area, and people LOVED them. But GM decided that at the time they could make more money selling gas chugging SUVs and therefore recalled every electric car on the road to be crushed and use for scrap metal. Had GM only continued to produce the electric that so many people were clamoring for, they could have completed avoided the situation they are currently in. Businesses should fail for making such stupid decisions, particularly ones that continue to destroy the environment.

  • Jim Russell on 11.18.2008 at 10:21 am

    Let them fail

    A vibrant free enterprise system has to allow failures as well as successes. We should not be proping up any company or industry. Management in the big three has been terribly incompetent in telling the labor unions NO. Few will remember that it was the government that was responsible for the initial one sided union agreements when it hammered General Electric using the National Labor Relations Board to severely criticize GE for standing up to the unions after the 2nd world war and basically told industry to cave in to the labor unions or face stiff fines from the US Govt. So once again we have the results of government interference in the free enterprise system coming home to roost. JUST SAY NO. The big three have an easy solution. Go into Bankruptcy, abrogate the union contracts and start dealing with its work force the same way Toyota and other foreign companies do that manufacture here in the USA in Tenn and elsewhere where there are Right to Work laws. Michigan has to get over, once and for all, its love afaire with union labor. The rest of America isn’t interested in subsidizing you anymore. Frankly I’d have more confidence buying a car from a company in bankruptcy that showed it was facing up to its responsibilities in dealing with its labor force.

  • Anonymous on 11.18.2008 at 10:28 am

    Barney Frank?

    Aside from the pending collapse of the big three, we should also be concerned about the “committee” that has been appointed to head up the bail out of these giants. This committee is being headed up by Congressman Barney Frank, the same man as we all know, was actually far more responsible than Pres. Bush for the recent economic collapse of our banking system through his “de-regulation” of sub-prime mortgage lending. If Barney is to have the same effect on Ford, GM and Chrysler as he did on Sallie Mae and Freddie Mac it may be better to just let them file, re-organize, and actually become competitive in the world market again.

  • Anonymous on 11.18.2008 at 10:32 am

    Giving a Competitive Advantage to Failed Tactics

    Bailing out the Big Three would insult other American-staffed auto manufacturers, such as Toyota who became the leader of hybrid vehicles with the Prius. The Detroit Three don’t deserve a bailout, and they are going to struggle with an already leveraged structure.

    I propose that the government offers loans to all auto manufacturers under the fuel-efficiency initiative started by the Bush Administration, and also offers government support if GM, Ford, or Chrysler file for Chapter 11 bankruptcy. I agree that the industry is vital to the U.S. Economy, but I don’t believe that restructuring through bankruptcy should be eliminated as a possibility, this would allow renegotiations with the UAW and the elimination of unnecessary amounts of brand names (GM).

  • Anonymous on 11.18.2008 at 10:36 am

    fundamental problem? try again.

    I disagree both with Dean Lataif and the first commentator. The former Ford employee says externalities like the gas spike and credit crisis could not be foreseen by the industry and that they, along with the many “innocents” on main street, ought not be punished. For their role in promoting the profligate consumer culture that got us into this mess, I disagree on both counts.
    The vast majority of people bought cars on credit, not necessarily because they needed them, and in part to due repeated, aggressive, expensive ad campaigns by the big three. Rather than churning out gas-guzzling behemoths that foster the bigger=better mentality (anyone who has ever watched a football game knows what I’m talking about) and creating demand for inefficient cars and trucks, they ought to have focussed on making better ones–preferably that run on forms of alternative energy.
    This IS something that greedy auto industry board members OUGHT to have foreseen. Perhaps they should pay! If either the $25 billion earmarked for the purpose of evolving alternative energy sources OR a portion of the bailout money is used to merely resuscitate a dying industry instead of adapting it, even with promises of future conversion (just like an addict, isn’t it?), this artificial selection will merely be deferring the inevitable at the expense of all involved. Our transportation infrastructure and corporate culture are broken; THIS is and has been the “fundamental problem.”

  • Anonymous on 11.18.2008 at 10:44 am

    I have to say I am ambivalent about the prospect of bailing out the auto industry. On the one hand, I do agree that allowing one or more of the big three to go under would have severe negative rippling effects throughout the economy, although I have to believe the surviving, albeit foreign owned competitors would pick up some of the slack. In the long run, the number of cars driven will not decrease, and therefore demand, in the long run, will also not decrease. Someone will step into the breach to build, sell and maintain these vehicles, and presumably at least some of the productive capacity of the then-defunct US auto makers, e.g., plant, labor, parts suppliers, would be utilized. I also fear that giving the auto companies a pass would open the door to companies in other industries looking for government aid. Where would it end?
    In fairness to the US auto companies, I think the government has been complicent in the current situation over at least the past 25 years. After the two oil shocks in the 1070s that caused the price of oil to almost quadruple, the government did sensibly pass fuel economy standards to encourage conservation and the building of more fuel-efficient cars. In the 80s however, the government chose to pursue deregulation, gutted the CAFE standards, and played games by classifying SUVs and light trucks (pick-ups) similar to commercial trucks, and exempted them from some of the stringent standards that passenger cars are subject to. This, combined with falling crude oil and gasoline prices due to a then perceived oversupply, conspired to create a demand for these larger gas-guzzling behemoths. In retrospect, the government probably should have retained, and indeed even tighted, the CAFE standards, and mandated that SUVs and light trucks be subject to these, as well as other passenger car requirements. They also probably should’ve imposed a “conservation tax” on cheap crude and gasoline, to keep the prices at a level that would encourage conservation, alternate energy R&D, and the production of smaller, more efficient vehicles. Absent these measures, one can hardly blame the car companies for responding to the resulting consumer demand, although they were right there with Big Oil lobbying the government for relaxed CAFE standards and fewer requirements on SUVs/light trucks.
    I also agree that in recent years the big three has been somewhat successful at gaining some meaningful concessions from the unions, and made great strides in producing better quality vehicles, almost on par with Japanese cars and in most cases better than European, even luxury European, brands.
    As I’m writing this I think on balance I am coming out in favor a bailout, but it does have to come with strings as noted in the article. I think the government also needs to take a more rationale, longterm view of energy policy, considering not only the impacts to our economy, but national security as well as environmental, and perhaps learn from some of the mistakes of the past 25 years?? Time will tell.

  • Anonymous on 11.18.2008 at 11:04 am

    Did anyone else notice that this article appeared on the Google Business News Page for only a few seconds and then completely disappeared? Why would that be? Could it be because of the idea of “pent-up demand,” which MUST be true, given that people will still need to drive to work and so will still need to buy a car, no matter what?

    We have to ask ourselves: who is profiting from this crash? News outlets, foreign competition and shorts.

    Anyone who thinks that the news and markets are not being manipulated for private interests is crazy!

  • John Brackett on 11.18.2008 at 12:01 pm

    Concept of a government-sponsored bankruptcy

    This article in the New York Times today (11/18) is worth reading. It may be the best balance between conflicting interests.

  • Sheila R. Krajnik on 11.18.2008 at 12:31 pm

    And how much are the bonuses of the 3 auto giant’s CEO’s and other top exec’s??? Tap into their salaries and bonuses to bail out these companies, not the taxpayers’.

  • Anonymous on 11.20.2008 at 10:42 am

    Its not just about these companies...

    Ok, so I’m a little partial. My father works for one of these dealerships as a service manager. In the past months he’s laid off people, has extended his hours, has taken pay cuts, and has lost commission from servicing vehicles, all of which have affected our family greatly. I know theres a lot of people out there that don’t want tax money going to help these private companies, but do they realize the effect of these companies dying? Obviously theres the loss of jobs for the 3 million people employed under these companies, which is HUGE. Not to mention the effects on other people and companies that rely on these carmakers. It won’t just affect one industry. It will have a rippling effect that will hit the entire country. Everyone’s scared right now of this recession, and wondering when it will end… if these companies are not given some assistance… it will make this horrible time last a great deal longer.
    I agree, these companies do need restructuring, and higher ups should be cutting back and not getting those “retention bonuses,” but remember its not just about those, its about the millions of hardworking people underneath. Of course the money shouldn’t just be “given” to them. It should be loaned with stippulations. Without help, this will really hurt the entire country.

  • Mike Mitchell on 01.09.2010 at 2:29 pm

    Free Market Economy?

    What is the point of having a free market economy if you aren’t going to let it be free? Many companies crash and burn, granted they aren’t as large or employ as many people as the auto industry does but shoveling money to them isn’t going to solve the problem but rather make it worse because they are still going to fail if only a little later.

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