Chrysler

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Fiat on the Rise?

News has emerged over the weekend about the plans that Fiat has after its deal with Chrysler is consummated. The story is an ideal example of the way in which recessions produce opportunities as well as the more often described disasters. Somewhere the great economist Joseph Schumpeter is smiling: the ‘creative destruction’ he saw in the inevitable cycles of capitalism reveal the next path toward new wealth, just as it lays bare the folly of the old path.

Of course he also said that a ‘depression is just a cold douche for capitalism’, so perhaps he had less empathy for the unemployed than we might want from one of our leading thinkers.

Still he had a point.

Fiat is attempting to use its new and strengthened competitive position by cobbling together a vast auto empire from the ashes of Chrysler and GM.

Its plan is complex, with many moving parts, but its timing is impeccable. Essentially Fiat wants to spin off its car making operations, based in Italy with eleven factories, into a new auto group, and then add in the European operations of Chrysler and GM. The latter include brands such as Opel, Vauxhall, and Saab. The various European parts of the defunct American auto makers consist of ten more factories, mainly in Northern Europe – in particular Britain , Germany, and Sweden. None of these countries have much appetite right now for further plant closings, so they may well be supportive with cash grants as well as other subsidies and pressure on local unions to ease the plan’s implementation.

Were Fiat to pull all this off the new car maker thus created would rank second worldwide to Toyota ahead of Ford and Nissan/Renault and roughly on a par with Volkswagen. GM would be reduced to a third rank, but would have part ownership in the new company.

This is heady stuff and demonstrates the advantage that the non-US auto industry has at the moment. Not only are they ahead technologically and operationally, but they are better capitalized and thus in a much stronger position to dictate the outcome of what appears to be the inevitable shake-up in the industry now that GM and Chrysler have foundered. With worldwide demand at a low ebb the industry has vast overcapacity that needs to be eliminated. Not only this, but the assets within the industry need to be allocated to those shareholders and managements most able to create value.

This was Schumpeter’s point: basic economic forces will always force assets into the hands of the most able. Thus new opportunities are always emerging even in the depths of recession. While Schumpeter’s theories represent something of a backwater his imagery certainly is vivid. And his larger point seems to have validity.

Just ask Fiat: there’s money to be made in this recession. Too bad for Chrysler and GM. But that’s capitalism for you.

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Chrysler: Let The Games Begin

As the continuing Chrysler story continues to unfold thefocus now shifts to Manhattan and the courtroom of Judge Gonzalez. The preliminary hearings began this morning and already the stage is being set for the upcoming fight between the company and the minority group of creditors whose rejection of the government’s last offer precipitated the bankruptcy filing. These are early days, but here’s a couple of things to bear in mind:

  1. Yes the administration keeps saying that they think this will be a ‘surgical’ bankruptcy and that it will all be over quickly. But in the court documents Chrysler asks for as much as four months to deliver a detailed plan of reorganization. That puts the date of its reemergence well into the late summer. Not quite the speed that the government had in mind.
  2. The position of the minority creditors is weaker than all their public protestations would indicate. Remember that the larger creditors and the UAW had already reached an agreement – the same one that the minority rejected. The court is most likely going to wonder why the minority cannot agree to the same terms as the majority. Certainly there will have to be a much stronger argument from the smaller banks and hedge funds that comprise the minority than the one they have pressed so far: that the big banks caved because they are receiving TARP money which makes them vulnerable to government strong arm tactics.

Well at least we are underway. Expect quite a fight initially. The judge has plenty of experience: he oversaw the Enron and WorldCom filings. Let’s hope he moves things along quickly.

Meanwhile, with the auto industry now in active reorganization and those bank stress test being released next week we know one thing for sure: New York bankruptcy attorneys are having a field day.

What’s new about that?

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Chrysler Folds

It’s early in the day, so there is plenty of time for the usual brinkmanship to play out, but the rejection of the latest government offer to the company’s creditors increases the odds that Chrysler will enter bankruptcy quickly. Possibly as soon as later today or tomorrow.

The creditors group consists of two sub-groups. One is made up of big TARP receiving banks, and the other consists of smaller banks and some hedge funds none of whom are receiving bailout money.

A gap has opened up between the two.

The TARP group finally caved into the government’s pressure and accepted the deal being pushed by the Auto Industry Task Force, the administration’s ‘front line’ on this issue. The second group of creditors are under less political pressure since they have no bailout cash to worry about, and so they are taking a very hard line. They want far more than even the sweetened offer they received yesterday.

Normally I would expect this kind of last minute brinkmanship to extend throughout the dying moments of a deadline for any deal. Don’t forget that the administration set today as the deadline for Chrysler to sort itself out if it wanted more government aid.

This time things are a little different, which is why it’s worth talking about now.

My take is that the government should stand firm. Very firm. Even if that means Chrysler goes into bankruptcy and the courts take over. I suspect that the creditors will not fare as well in court as they would from the latest government offer – $2.25 billion, which was up $250 million from last week’s offer. The holdout group of creditors seems to have two notions it’s banking on:

  1. That the government desperately wants to avoid bankruptcy for political and national economic reasons and so can be bullied even up to the last moment.
  2. That the creditors will fare better in court than they would dealing with the government.

Of these two I suspect that it’s the first driving the negotiations. The creditors are testing the government. They are gambling that the political consequences of a major bankruptcy are so dire for the administration that they can be coerced into offering more than the creditors would likely receive in court.

I don’t think this is a good gamble.

Contrary to the holdout group’s calculation, I think the administration has decided to make a stand over Chrysler and thus send a message not just to Chrysler’s creditors, but to all creditors with whom it may have to deal as it cleans up the economy. Look at the timetable: Chrysler is first up, but GM looms hugely in the not too distant future, and there are one or two banks I could name who must have creditors who are watching the Chrysler negotiations very keenly. Were the government to cave in here it drastically undermines the credibility of any ‘hard ball’ it wants to play over the summer with those other groups.

Chrysler is not as iconic in the public’s mind as is GM. So the political damage will be limited by that fact alone. Plus the financial industry is hardly the apple of the public’s eye currently having been the epicenter and original cause of this recession. For a bunch of ‘greedy’ bankers and hedge fund managers to stand in the way of the government’s effort to save thousands of jobs, right after they ‘ruined’ the country is hardly a strong position. I would bet that public opinion could be rallied to the government’s side quite easily on this one. I realize that Fox News, the Wall Street Journal, and sundry financial cable stations will support the bankers. But who else?

It looks to me as if there’s plenty of talking yet to be done. But I wouldn’t be at all surprised to see Chrysler thrown to the dogs by tomorrow.

It’s never a good idea to become a bit player in a larger conflict. Unfortunately for Chrysler that’s what they’ve become.

The Chrysler negotiations have become about GM. And that’s not a good place for Chrysler to be.

Addendum:

Wow. That was quick. No sooner do I post the above, but I read President Obama’s public statement saying the government will allow Chrysler to slip into bankruptcy immediately. Interestingly the court overseeing the process will be in New York, not in Michigan. Naturally the holdout creditors have already issued a statement criticizing the government. Apparently they thinks they could get as much as 65 cents on the dollar if Chrysler is liquidated as opposed to the government’s 33 cents on the dollar offer. I am not sure who they imagine would want to purchase the company’s assets, given the massive over capacity in the auto industry right now, but they seem to be sufficiently angry to attempt to derail what the government hopes will be a swift and ‘surgical’ bankruptcy process.

This could get ugly.

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Chrysler Settles … Sort Of

I reported last week that there was a fist fight going on between Chrysler’s bondholders and the government. Back then – doesn’t it seem ages ago? – the creditors were holding out for more than the paltry $1.1 billion that the government wanted to give them. This is a long way down from the $6.9 billion in debt that they now hold.

Today it appears that four of the largest creditors have agreed to a deal that gives them about $2 billion in cash. Those four all happen to be banks who are part of the TARP program: Citi; JP Morgan Chase; Morgan Stanley and Goldman Sachs. When they rejected the original government offer I lambasted them as ingrates, so now I give them due credit for coming around and understanding the political reality they find themselves in. Taking this revised offer makes sense and it takes them all off the hot seat as Chrysler continues to press for a durable solution. It also appears that there is now a deal in place to force the remaining smaller banks and hedge funds who hold the rest of the debt to cave in and accept similar terms.

At the same time the news emerging from Chrysler indicates they have settled their negotiations with the UAW. When the dust clears the UAW, and the separate employee health care trust set up to administer ‘legacy health care costs’ will stand as major shareholders. Fiat will end up with a 35% stake and the US government will probably also own a large chunk as well. In fact at the end of the day the combined US government and UAW stakes will represent majority ownership of the company.

Such is life in the US auto industry: just yesterday GM published a proposal that would have left the UAW and the Government owning well over half its shares too. The future of the GM deal remains cloudy however since it relies on the conversion of most of its debt into equity with the creditors ending up with about 10% of the new company’s stock. I doubt whether that conversion will go smoothly. Having read it more closely I see that it requires 90% of the debt holders to agree to the deal. That’s a tall order: there are always cantankerous creditors who think they can squeeze more from the company. Brinkmanship is the name of the game for some of these folks. So look for the GM story to have quite a twist in its tail.

In any case the government is pulling out all the stops to get resolution. Both companies could still head towards more formal bankruptcy. But the most likely ending has both reorganized and severely shrunk within the next few weeks.

No one said fixing the auto industry would be easy!

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The GM Story Continues

We appear to be reaching the end of the GM saga. The end that is of this interminable run up towards the company’s reorganization. This morning’s announcement by GM’s management contained some fairly aggressive measures. It also signaled that the company had finally heard the administration’s message about both urgency and extent with respect to the cuts necessary to assure ongoing government support.

Recall that the criticism leveled at GM previously was that its survival plan seemed to lack the kind of drastic surgery most experts thought would be needed for the company to sustain itself free of government aid, and was very far from the action needed to assure a return to vibrant profitability. Hence the turning of the screws back then and the ouster of the old CEO. Apparently the message got through.

Today’s presentation includes some hard ball gamesmanship. The Company is asking its major creditors to swap their debt holdings for equity. The exchange rate GM wants to do the swap at imposes a severe ‘hair cut’ on the bondholders: they will receive 225 shares worth $414 for every $1,000 of debt they own. The implied share price in the swap includes a hefty premium over today’s opening stock price. Whether the creditors accept the deal remains to be seen, but to focus their attention the company has been making very obvious and dark threats about bankruptcy. It is highly likely that the creditors would receive less in bankruptcy court than the GM proposal gives them, so, at least on the surface, the deal being offered must be tempting. Ultimately the bondholders will have to decide whether the new GM is survivable and therefore offers a better way to recoup their losses than a fight in bankruptcy court. Given the parlous state of the company, the declining value of its assets – just how many buyers are there for auto production lines? and its escalating pile of debt, I would say bankruptcy looks much the worse of two terrible options.

The rest of the plan is grim.

GM is now saying it will definitely ditch the Pontiac brand; it will cease making Saab cars; it will get rid of the Hummer brand; it will reduce its workforce by about 21,000 jobs; it will slash its distribution system by cutting out 42% of its independently owned dealerships [cutting out 2,641 from its current 6,246]; and it will offer both the UAW and the government equity in order to convert the debts of each of them into equity.

At the end of the day the new plan produces a very lean and profitable GM that is approximately 85% owned by the government and the union. The bondholders would own about 10%, and the current equity holders less than 5%.

While all this sounds draconian, the outcome of a bankruptcy filing would probably have been more severe: most likely the company would have re-emerged in two pieces, Chevrolet and Cadillac with all the rest of the brands being liquidated.

As you know I have been arguing for a GM bankruptcy or re-organization from the outset of this crisis. So today’s plan is welcomed here as being a bold and sensible step in the right direction.

Coupled with today’s other news that Fiat and Chrysler had reached agreement with the UAW on the terms of a deal, and it looks as if the American auto industry is turning a corner at last.

There’s a long way to go of course, but we’re finally moving in the right direction.

Having said that I feel awful for those 21,000 people, their families, and the communities in which they live. If only these companies had been well managed years ago, much, if not all, of this trauma could have been avoided.

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