With U.S. automakers asking for billions more dollars in aid from the U.S. government, it’s worth asking something that was almost unmentionable just a few months ago: Shouldn’t General Motors and Chrysler just file for bankruptcy?
On Tuesday evening, meeting a deadline to file viability plans with the U.S. Treasury Department, GM and Chrysler asked the government for up to $21.6 billion in additional government loans by March 31 to survive the current recession. The funds would come on top of the $17.4 billion allocated to the automakers in December.
The automakers’ new requests were accompanied by plans for thousands more job cuts, slashing of models and brands, union concessions and the prospect of even further expense cuts — acknowledgments that the U.S. auto industry has grown significantly worse since late December, when the Bush administration granted the automakers billions in federal loans to stay in business.
Bankruptcy is the dirty word of the automotive industry’s current dilemma. Late last year, as the automakers sought financial help from the government, some industry observers argued that a traditional bankruptcy filing — or Chapter 11 proceedings, where a company gains court protection from its creditors while it reorganizes its operations — could create a vicious cycle, pulling down other automakers like Ford and their suppliers and ultimately have a devastating impact on the broader U.S. economy.
They also argued that consumers would not want to buy vehicles from an automaker that is in bankruptcy proceedings, for fear of not having their vehicle warranties honored.
But even though GM and Chrysler are burning through hundreds of millions of taxpayers’ dollars each month, most analysts still say bankruptcy, or some form of it, would not necessarily be a good option for the struggling automakers.
“If these companies went into bankruptcy right now, in exactly the position they are in today, they would be liquidated because no one out there would supply them with the financing they need to get through bankruptcy,” Mark Zandi, chief economist with Moody’s Economy.com, told CNBC Wednesday.
That would mean a few million jobs lost, Zandi said, which would be “cataclysmic” for the U.S. economy, already shedding about a million jobs every two months. A better option would be to give the automakers the extra funding they need to stay in business until March 31. Then the government could prepare for a bankruptcy later on with provisions for securing financing to bring them through Chapter 11 and guarantee vehicle warranties.
On Tuesday afternoon, the White House said it has not closed the door to a government-backed bankruptcy for the struggling automakers. This is not a common or garden bankruptcy. In a government-run, “prepackaged” bankruptcy — one in which a company prepares its reorganization in cooperation with its creditors and implements it as soon as it enters bankruptcy — a company can keep operating while it gets relief from its obligations, including any contract with its union.
Analyst David Leiker at financial services firm Robert W Baird still sees bankruptcy as the best option for the automakers. Although it is likely to be “painful near-term, we continue to believe that the challenges to restructuring GM and Chrysler are too complicated to be met outside of a bankruptcy,” he said Wednesday.
Large U.S. companies have successfully emerged from bankruptcy in the past. In September 1983, Continental Airlines’ Chairman Frank Lorenzo put the airline into bankruptcy. He brought it out again days later as a new, restructured Continental, hiring back employees at lower salaries than the airline had originally paid.
“Bankruptcy doesn’t mean a company shuts its doors and fires all the workers; it doesn’t mean liquidation,” Lorenzo told CNBC. “But if the government is not willing to subsidize a company it’s probably the only realistic option. There’s a view that GM won’t make it through bankruptcy, but I remember people said Continental wouldn’t make it thought bankruptcy, but we were the first airline to fly through bankruptcy, and I have little doubt GM can make it through this and continue to make cars.”
GM and Chrysler argue that their businesses are best served by restructuring the company outside a bankruptcy filing. The two automakers still must resolve some major issues before March 31 — a government-imposed deadline for them to implement their restructuring plans — including major concessions with the union and debt-holders. They must also work with President Barack Obama’s new cabinet-level task force to oversee a restructuring of the auto industry.
In its report to Treasury, GM said bankruptcy would cost the government more in loans. It said the Obama administration would have to finance the companies though their restructuring, as banks are doing very little “debtor-in-possession” financing — the funds they typically lend to companies working to emerge from bankruptcy.
GM, the largest U.S. automaker, said a “prepackaged” bankruptcy would cost the government $36 billion, while a traditional Chapter 11 bankruptcy would require the government to put up between $71 billion and $86 billion. Both figures are larger than the amount already provided to keep the automakers in business. Chrysler estimated that the bill for bankruptcy could cost hit $1,200 per taxpayer.
An outright liquidation of either of the companies — which would bring massive unemployment, lost tax revenues, and would place the burden of the automakers’ pension liabilities on the government’s shoulders — would cost the government more, according to Rebecca Lindland, director of the Automotive Group at consultancy IHS Global Insight.
“If taxpayers are complaining now, wait until the pension obligations are swapped over — it will cost a lot more than the $39 billion the automakers are asking for now,” she said. “So in any scenario, it’s not as if the taxpayer’s going to get away with this scot-free. With so many workers losing their jobs there would be a lot of federal aid required.”
Lindland also argues against backing out of the current plan to reform the industry, adding that the $39 billion figure still pales in comparison to the $300 billion paid out to prop up the banking sector.
“The government has committed to rebuilding these companies, and if we the taxpayers want to get repaid on these loans we need to put more money in,” she said.
“We are not yet at the point of diminishing returns,” Lindland added. “If they can get the cost-cutting measures from the union, if they can restructure their brands and close plants, there will be long-term benefits. They are scheduled to start repaying these loans in late 2011, and while that might be a little aggressive because the market is bad, they are still going to repay the loans. If we allow these companies to go bankrupt there could be no chance of recouping all these taxpayer dollars.”
One party would benefit from a GM bankruptcy: GM bondholders, who are mulling plans to swap two-thirds of their debt for equity as required by the loan terms set down by the Bush administration in December. These GM creditors are reportedly pushing for more stringent terms and some are suggesting bankruptcy — a move that would mean they have a say in how GM restructures.