Automaker to Taxpayer: Keep Pushin’, Pal… Almost There…

Automaker BailoutThe legislative powers in Washington D.C. believe that they have reached an agreement in principle to a sweeping bailout of the auto industry. Word is that the vote passed in Congress already Wednesday morning with little trouble. The newest iteration of the plan has the government loaning the auto makers $15 billion initially, giving General Motors (GM) and Chrysler time to stave off bankruptcy while a long term restructuring and loan package is determined. The plan also calls for the initiation of a new “car czar” to oversee the whole process, and this czar will have far reaching authority to lead the restructuring effort. Of course “czar” has been used to describe other leaders at the forefront of government initiatives, but never has it seemed more appropriate than as the head of a quasi-socialist bailout program such as this. The auto bailout should pass with little trouble in the house but could meet significant opposition from Senate Republicans, who are pushing for amendments.

A few significant issues come to mind, not the least of which is the question of how much will this actually change the industry for the better? In the media coverage of this initial $15 billion loan, there has been little discussed about how the companies are going to reign in labor costs: the Achilles heel of the industry. The United Auto Workers union has begun to make statements that they were willing to work with the automakers in order to restore their solvency, but is this simply a ploy in the short term to keep the gravy train from derailing? Also, how will this bill treat emissions standards proposed by the government? Here you have an industry that cannot make it another quarter without a bailout from the government; it’s probably not the time to be implementing emissions standards that will further prohibit profitability. Let’s make sure that the company can survive before we start imposing restrictions on their business.

GMWe continue to be in favor of a Chapter 11 restructuring that would allow a bankruptcy judge the ability to cast away the labor and other contracts that are making these companies uncompetitive. However, now that a bailout (possibly with some additional tweaks) looks inevitable, it might be the automakers not participating in the bailout that truly benefit. As everyone who has followed this saga has undoubtedly heard, if these American automakers were allowed to fail (assuming Chapter 11 could not turn them around), it would cost hundreds of thousands or even millions of jobs throughout the country. The resultant unemployment could worsen the recession into a full blown depression, so the logic goes. It would affect not only plant workers, dealerships, and white collar jobs but also the industries that support these would have to cut back such as maintenance and service shops, parts suppliers, etc. you see the point.

This bailout from the government should serve the purpose of at least ensuring more jobs are safe, which is of course of great importance, but if the American automakers are allowed to remain bloated and ultimately uncompetitive this will only stand to benefit Honda (HMC), Toyota (TM), Kia, and other foreign automakers making cars here in the states. Consider the alternatives from the foreign auto company’s perspective; when choosing between feeble competitors in an economy that is weak but unlikely to remain that way forever, or the world’s largest auto market in depression. It makes for an easy choice.

Chrysler and its private equity owners (whose investment is Chrysler and GMAC account for only 7% of their total assets under management) are not turning down the injection of capital, but they are not willing to open up their books for inspection from lawmakers (link). How can they have it both ways? When news of this spreads, Chrysler will surely catch a lot of heat, as well they should. Interestingly, Ford (F) is not seeking a loan, at least not in this initial package, which could be a brilliant move. This should make them less subject to the car czar’s authority, and also should turn the ire of the many Americans against the bailout away from Ford at least for a while.

FordAt the end of the day, this will hopefully bring to a close the dog and pony show on Capitol Hill replete with public relations stunts from opting for a drive from Detroit to D.C. (switching vehicles in the last few miles to show off the Chevy Volt) instead of time saving corporate jet trips and executives “selflessly” taking $1 salaries this year. It is all a big joke, winning the PR battle has become the battle, instead of figuring out how in the world to make these companies viable competitors in the global auto industry. It appears the CEO’s of the Big 3 have done their jobs securing a bailout. Can any rational observer believe that these executives will be around too much longer after the bailout begins. They did not create the troubles their companies are going through, they inherited this mess and my guess is they will likely move on to greener pastures before the dust settles.

Please pardon the cynicism but government should not be in the business of well, business. After the government’s recent history of botching and reconstituting TARP, we are not convinced that those in leadership are not just making it up as they go along. That is a strategy that has never and will never work in business, even if you can print money with 0% financing from the Fed.

Rating Return ChartWe have included our ratings charts for both GM and Ford (obviously we do not cover Cerberus), but we must caution you that each one of these stocks receives our “sticky note of death”. We have integrated these post-its on our web reports to help our clients understand that just because something is undervalued compared to historical norms, that does not mean that it makes a suitable investment. Our chart for the entire Automotive sector is on the right and we have highlighted those that receiving this sticky note with a red circle. Notably not circled in red are Daimler, Nissan, Tata Motors, and Toyota.

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Ockham Research is an independent equity research provider based in Atlanta, Georgia. Security analysis at Ockham Research is based upon the principle known as Ockham's Razor, named for the 14th- century Franciscan friar, William of Ockham. The principle states that a useful theory should utilize as few elements as possible, because efficiency is valuable. In this spirit, our goal is to make the investing environment as simple and understandable as possible, yet no simpler than is necessary.

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