Saving the Big Three

The fate of GM, Chrysler and Ford hang in the balance, with widely varying sentiments regarding what can be done, if anything. Both a bailout or a bankruptcy present a set of opportunities as well as negative consequences. If a bailout were structured to include in its terms some of the restructuring benefits that otherwise could only be realized through bankruptcy, however, it would be the preferred option. Indeed, a federal bailout that facilitated fundamental cost cuts for the automakers might set a useful precedent for restructuring other large U.S. institutions that have overpaid workforces and inefficient operations, such as most of our state and local governments.

Using General Motors as an example, since they are the biggest of the big three, and since they have the most challenging set of legacy obligations both in terms of labor costs and leases, it is difficult to isolate numbers for the USA. But there are certain things we can quantify with respect to GM’s costs, so here goes:

GM is currently burning through, worst case, about $2.0 billion per month in cash. Assuming these losses are all from U.S. operations, this means they have to save $24 billion per year. Given much of GM’s problem stems from a 40% slide in auto sales compared to one year ago, one can only hope some of GM’s $24 billion problem will be reversed when auto sales rebound. But how much of this $24 billion can come from restructuring GM’s costs?

GM has about 75,000 hourly employees in the USA, and about 50,000 salaried employees. When UAW President Ron Gettelfinger testified recently in the bailout hearings that the auto workers have already done their part, he stated “new employees at GM are making half what veteran employees make.” This is indeed a dramatic reduction, but the problem is GM’s hourly employees are overwhelmingly veteran workers, and it will take years before the average labor costs at GM descend to the market rates the new workers are earning.

How much can GM save, if instead of declaring bankruptcy, the federal bailout includes an executive order requiring renegotiation of labor rates for veteran hourly workers? According to a CNN report posted earlier this year entitled “GM Offers Buyout to 74,000 Workers,” the average veteran GM employee, including benefits, earns a total hourly compensation of $78 per hour, whereas the new employees are earning a total compensation of $26 per hour. This equates to a labor cost of 156,000 per year for the average veteran worker, compared to a labor cost of $51,000 per year for an incoming worker.

One can only wonder how such a gross disparity can be tolerated – but sticking to the numbers – let’s assume average labor rates at GM were brought down from $150K per year per worker to a still quite decent $75,000 per year? Taking 75,000 hourly workers times a $75K per year savings would save GM $5.6 billion per year.

What about GM’s roughly 50,000 salaried workers in the United States? Here it is even harder to get figures, other than the executive salaries which are public information. But it is likely that most of the salaried employees are paid less on average than the hourly employees, so total possible savings through salary reductions may not be as dramatic. Suggesting cutting top management salaries will make a big difference is a fallacy. According to Yahoo’s GM Profile, the top five executives at GM collected a total of $11.2 million in salary and bonuses last year. Cutting their pay to $500K each, as has been proposed, would only save GM $8.7 million dollars. GM’s problem requires billions in savings, not millions. If one assumes that collectively, through dramatic percentage cuts to top management compensation and a 25% cut to overall salaried employee compensation, another $2.5 billion in costs could be saved per year by GM, that would probably be a stretch. But let’s go with it. This means total savings via pay cuts at GM could reduce their costs by $8.1 billion per year.

What about a force reduction? If GM has seen total U.S. sales drop by 40%, and if GM expects to get some but not all of those sales back, and they also expect to operate more efficiently, what about a 20% force reduction? At the lower rates of compensation, averaging $75K per year for both the hourly and salaried workerforce, eliminating 20% of GM’s 125,000 U.S. workforce would save $1.9 billion per year. Overall, the combination of pay cuts and force reductions probably could save GM’s U.S. operations about $10 billion per year.
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An automated GM plant in China. In the U.S., GM’s ability
to invest in new equipment and research has been hampered
by paying over-market costs for labor and property leases.
(Photo: General Motors)

Another area where GM is under severe financial stress is because of their contractual obligations to maintain their dealerships. GM has over 6,700 dealerships in the United States, and at least for now, nearly all of them are losing money. GM’s dealership network was established when they had a market share in the United States of about 40%, a share that has shrunk to half that level today. If GM eliminated 50% of their dealerships, they would still have more dealerships per cars sold than their competitors. If one assumes the lower-performing 50% of GM’s dealerships are each costing GM $1.0 million per year in losses, then shutting these down would save GM $3.4 billion per year.

What is daunting, of course, is that just these two steps, both of them dramatic, painful, wrenching sacrifices, would only solve about half of GM’s current financial problem. But neither of these necessary steps can be taken unless GM declares bankruptcy – which allows them to renegotiate all of their contracts – or via an executive order that accompanies a federal bailout that requires all of GM’s contractual obligations to be renegotiated.

It is specious to suggest that GM’s top management has not done their job. Their current management has been pushing relentlessly to restructure their costs and retool their operations. But while foreign automakers have poured money into research and development, for years GM and the other U.S. automakers have been forced to sustain over-market wages and an overbuilt dealer network.

If a bailout to GM of approximately $10 billion is granted along with an executive order that permits them to further renegotiate their labor rates, reduce their salaried employee compensation at the same time, cut their workforce, downsize their dealer network, and renegotiate other leases which might save additional billions, then GM can make it through another year and hopefully regain profitability with just a modest uptick in their auto sales in the U.S. To just throw this money at GM with nothing asked of them other than slashing top management compensation, getting rid of the corporate jets, and building more “green” cars, will be a missed opportunity of historic proportions.

Categorized | Cars, Other, Transportation
2 Responses to “Saving the Big Three”
  1. David Schmidt says:

    Eliminating the “closed shop” and incorporating “right to work” rules would establish a basis for an equitable and competitive labor market throughout the auto industry. Merit based individual incomes could benefit productivity and improve worker satisfaction. Without these changes we risk a return to the stifling negotiated contracts that are the root of our current problem. Union management in such an environment would still be free to solicit worker participation and perform collective bargaining to respond to the needs of their voluntary membership.

  2. K.R. Reinschmidt says:

    Nicely written article but suspect of any credible information. Please explain to me how a dealer is costing GM 1 million per year? What cost is GM paying of any franchise dealer? GM has moved to remote contact with most dealers in which one salaried employee maintains contact with 47 dealers. So their total cost per dealership is one small cubicle and their salary split between 47 dealers would be approximately $1,000 per year. I would like to hear your response. K.R.


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