MSU Law Faculty in the News
Branching paths
GM, Ford could be headed in separate directions
March 15, 2009
Tribune Chronicle
By Larry Ringler
Will General Motors Corp. do it or not? And what will be the impact either way? The nation's largest but ailing automaker seemed to take a step back from the dreaded "B" word - bankruptcy - last week when it announced it didn't need a $2 billion check from the federal government as originally expected.
The owner of the Lordstown Complex said it's starting to see benefits from cost-cutting measures already implemented. The company also deferred vehicle programs and other capital investments, although it's going ahead with a $350 million investment in Lordstown to build the much-anticipated Chevrolet Cruze small car in April 2010.
But a possible trip to bankruptcy court for a Chapter 11 reorganization continues to cloud the company's future, prompting debate about whether to avoid bankruptcy completely or try to get it over as quickly as possible so the company can make a fresh start.
Auto analyst Erich Merkle said he's leaning against GM filing bankruptcy partly because it wouldn't be politically correct with union-friendly Democrat Barack Obama as president and the same party controlling the House of Representatives and Senate.
"I'm not saying unions good or bad, but if you place a bet on the more likely outcome, I have to believe (Obama's auto) task force will find GM to be viable enough to get additional funding," he said Friday.
If GM did file for bankruptcy, the company's auto sales could plunge to such a degree that the specter of a Chapter 7 liquidation and shutdown would arise, Merkle said.
"Their sales would go markedly lower, and I'm not sure they would recover," he said.
If GM couldn't restructure in bankruptcy and had to liquidate its assets to satisfy creditors, the effect would devastate the nation's economy, Merkle said.
"Michigan's unemployment rate would go up to one-third, which is depressionary. Ohio would follow not far behind," he said. "The rest of the country would go up 4 percent; we'd be looking at 13 percent, not including jobs already being lost."
Already-reeling banks would suffer another body blow because loans they have to companies that make steel, aluminum, aircraft and other manufacturers would be at risk as those companies crumbled, Merkle said.
Merkle said the company not only would face public fear about buying a new vehicle from a bankrupt automaker, but potential buyers also would find it harder to get a loan because banks wouldn't know how to value the vehicles.
"Banks have to value a car's residual value," he said, referring to what a vehicle is worth after it's driven off the dealer's lot. "If GM is in bankruptcy, what would the car be worth in two or three years, especially if GM were forced to liquidate? My guess is they won't know and won't make the loan."
Making it even dicier to write a loan on a car, Merkle said, is that GM no longer has a captive financing arm. GMAC is becoming a bank holding company, seeking to attract public deposits to recapitalize itself. It also gave up its exclusive right to finance GM vehicles when it accepted $6 billion in government aid.
Ford Motor Co., meanwhile, still has its own credit unit that can write lower-priced loans for buyers of Ford vehicles. The nation's second-largest car company also reached a cost-cutting agreement with the UAW that brings its total labor cost - wages, benefits and retiree costs - to $55 an hour, close to the $48 an hour at foreign transplant carmakers, Merkle said.
Those items, plus Ford's ability to continue operating without government aid, positions the nation's second-largest automaker for a run at GM if the latter files for bankruptcy, Merkle said.
"Ford finally has a great management team," he said of the group led by chief executive officer and former Boeing Co. executive Alan Mullaly and Mark Fields, president of the Americas. "Ford's burning cash, too, but they're getting their cost structure in line.
"Ford very easily could become the leading domestic automaker," he said. "I don't see it happening in the next 24 months because GM is still bigger, but if GM files for bankruptcy and sales drop dramatically, it becomes real tricky."
Merkle said it's clearly best if GM can restructure outside of bankruptcy court, something that would require reaching terms with its bondholders on converting the debt to stock, persuading the UAW to accept further cost cuts, cutting the number of dealerships and other reductions.
Anne Lawton, associate professor of law at Michigan State University, said she's not convinced an official GM bankruptcy would be much different than what's already occurring.
"There's a risk people won't buy a car from a bankrupt company, but that's already happening because everyone is so worried the company may go into bankruptcy," she said, referring to GM sales that in the first two months of the year were less than half of figures in the same period last year.
Lawton, who specializes in bankruptcy law, said part of the problem is the way GM has presented the situation by saying it'll go under if it doesn't get government aid.
"I think they've scared everyone, but people don't realize there's Chapter 7 liquidation and Chapter 11 reorganization. There are a lot of things you can do in Chapter 11, some of which they're trying to do outside bankruptcy, but they don't have the power of the court or a judge," she said.
Some suppliers who shipped goods to GM 20 days before a filing could get an edge with a bankruptcy because the law provides them the highest level of payment called administrative priority, Lawton said.
"Suppliers aren't getting paid now. They might be better off," she said.
Lawton said GM missed an opportunity last fall when former presidential candidate Mitt Romney said the company should seek bankruptcy.
"GM could have used their public relations people to say bankruptcy isn't a disaster, that it'll honor warranties and this is what it can do," she said.
Outside of a courtroom, debtholders have "zero incentive" to cooperate, Lawton said. Inside the courtroom, they have fewer choices because many of them hold debt that's unsecured, or not backed by the company's plants, equipment and other assets that can be sold to raise money.
Also, in bankruptcy, the company has the right to form its own reorganization plan and put it to a vote of creditors, Lawton said. Even if some creditors reject it, the judge can exercise a "cram down" that forces the plan on creditors, she said.
Asked to handicap whether or not GM will file, Lawton noted even though GM said it didn't need $2 billion this month, its restructuring plan asks for billions more government aid. She said she believes the company will be back again for more money.
"My feeling is (bankruptcy) is like ripping a band-aid off. You should rip it fast. They're ripping it off slowly and dragging out the pain," she said.