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How the U.S. Will Save GM and Chrysler

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Wednesday, April 22, 2009

Negotiations over the government's bailout of Chrysler and General Motors have shifted into high gear in recent days, and from this point until the end of June, things are likely to get more tense and more complicated. My guess is that when it's all over, both companies will have been run through a quickie bankruptcy process and will emerge smaller, with less debt, a lower cost structure and Uncle Sam as the majority owner.

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The process is now being driven largely by Steven Rattner and Ron Bloom, the Obama administration's auto czars. Over the past month, they have laid down the parameters for talks among the companies; the United Auto Workers; the banks and bondholders; and, in the case of Chrysler, Italy's Fiat, which seeks to integrate Chrysler with its newly revived European operations.

The Obama team understands that it will get only one good shot at a rescue and that if its plan doesn't work, the companies will be shut down and sold off in pieces. Its priorities are to minimize damage to an already weak economy, protect workers and pensioners, and get the government out of the deal as quickly as possible with all of its money back.

The government has the upper hand here for the simple reason that all the parties know they would be better off with almost any restructuring that involves $40 billion of federal financing than with the normal bankruptcy process, which would almost certainly result in the liquidation of the companies.

But the government's leverage has its limits. As a legal matter, if the plan tilts too much in favor of unionized workers, the bankers and bondholders can demand that the judge reject it, based on a bankruptcy law requirement that all unsecured creditors be treated equally. And as a political matter, a Democratic administration may be reluctant to ask a bankruptcy court to impose an overly onerous labor contract on an unwilling union.

So what is the final rescue plan likely to look like?

For starters, it will certainly require that workers accept a wage and benefit package that would bring labor costs down to the levels of Toyota and Honda plants in the United States. In February, the UAW took a big step in that direction by accepting a two-tiered wage structure that cut the pay of new hires roughly in half. But with the government insisting that labor costs come down immediately, unionized workers will have to accept immediate reductions in base pay, along with increased cost sharing for their health insurance.

Even that's probably not enough, however. The generous defined-benefit pension plan that UAW workers have always gotten will need to be replaced by company contributions to individual 401(k) plans. And to reduce the tens of billions of dollars that both GM and Chrysler have committed to fund a new retiree health plan, the government is likely to insist that benefits be trimmed and that half of the money come in the form of stock in the new companies.

Both companies will also have to lay off tens of thousands of additional employees as they eliminate brands, close more plants and outsource more non-core functions. Chrysler's product line will be reduced to Jeeps, minivans and trucks, along with a new line of passenger cars using Fiat-designed platforms and engines. GM, meanwhile, will be left with its Chevrolet, Cadillac and Buick nameplates, along with GMC trucks.

Going through bankruptcy would allow both companies to bypass state laws and dramatically reduce the number of dealerships without having to take the time and bear the expense of buying back the franchises from their owners. Still unresolved, however, will be the tricky question of what to do about the hundreds of thousands of cars now on those dealers' lots. The worst outcome would be to force the dealers to dump them on an already depressed market at deep discounts.

The toughest negotiations will be with the GM bondholders and Chrysler bankers, who have already been told by Rattner & Co. that nearly all of what they get will be in the form of stock in the new company, rather than cash (which they don't have) or new debt (which the Treasury is eager to minimize). The only question now is how much of the new companies they will own.

Given the amount of money it is likely to put into the automakers, the government will be entitled to more than half of the stock of the reorganized companies. Then there is the union's health fund, which will probably be entitled to stakes of 20 to 25 percent, reflecting not only the reduced cash payments it will receive but also all the other concessions made by active and retired workers. At Chrysler, there's also the matter of Fiat's contribution of technology and management services, which it offered for a 20 percent share.

That leaves only about 10 to 15 percent of each company. Bankers and bondholders will kick and scream and call it unfair, but in the end they'll take it because, like everyone else in this adventure, they'll conclude that it's better than the alternative. And that's the way GM and Chrysler will be saved.

Steven Pearlstein will host a Web discussion today at 11 a.m. at washingtonpost.com. He can be reached at pearlsteins@washpost.com.




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