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Analysis: General Motors

Once key drivers of the American economy, the bankruptcies of General Motors (GM) and Chrysler may cost a quarter million people their jobs and hit the country hard.

GM, which officially filed for a Chapter 11 protection earlier this week, marks the biggest industrial corporation to ever go bankrupt in America. This is the third-largest, after Lehman Brothers last year and Worldcom in 2002.

The automaker’s bankruptcy comes just one month after its smaller rival Chrysler declared bankruptcy and at a time when the world’s largest economy is struggling to recover. Two of the top three American motor manufacturers are now under court protection.

According to the Center for Automotive Research (Car), based in Michigan, the impact of unsuccessful automaker bankruptcies on the American economy is “major”. Sean McAlinden, the chief economist at Car, says the government could lose revenue on the level of $37 billion (£22 billion) in the first two years alone.

Ford and other international automakers located in the
America could lose half of their production in the first year because of parts shortages or fire-sales of GM and Chrysler inventories. They could, however, resume full production and replace 30% of output in the second year.

Mark Vincent, the senior vice president of American equities at Standard Life Investments, says more supplier bankruptcies are likely. But the government has made it clear that industry disruption will be minimised. This suggests that overall disruption to the economy should be at the lower, rather than higher, end of possible outcomes.

Auto parts suppliers and Ford are up substantially off their equity price lows and relative to the market, says Vincent. And this implies a “significant recovery” of the American market. The Ford share price seems to imply considerable market share gains at GM and Chrysler’s expense.

The “GM solution” appears to get to a level where new GM can be competitive in terms of labour costs and other obligations, as it will have a high level of capacity utilisation and ought to be profitable.

“The GM bankruptcy is painful for all involved—shareholders lose everything, bondholders trade debt for equity, the UAW (United Auto Workers) makes concessions, more GM workers lose jobs, retiree benefits are reduced, and dealers will shed jobs,” says Nigel Gault, the chief American economist at IHS Global Insight. “But GM has already shrunk to the point that an orderly bankruptcy is not a major macroeconomic shock.”

The automaker has listed $82.3 billion in assets and $172.8 billion in debts. It will cut nearly 2,100 dealerships and lose or idle 14 plants by the end of next year, says Aaron Bragman, an auto analyst at IHS Global Insight. However, unlike Chrysler, it will not halt production immediately.

The key to preventing that from occurring will be the other half of the American auto industry solution—that which is not provided in bankruptcy court—says IHS Global Insight. But consumers must start buying cars and trucks again at levels above current rates.

“It is difficult to say whether or not the automobile industry has hit a bottom as yet,” says John Benson, the vice-president at Marsico Capital Management and sub-advisers to Gartmore’s American portfolios.

“It is clear that the market share landscape, on a global basis and for the US buyer, is changing”.

However, he says the number of autos being manufactured in America is “well below the necessary level”. This is probably a temporary reaction to the recent economic turmoil, and he expects this to normalise in the coming months and quarters.

“There are investment opportunities to be had on some individual company-specific rationales, but not a broad investment in the automobile industry as yet, in our opinion.”

Vincent says there are still selective opportunities in structural growers within the sector, but by and large American recovery seems to be priced in. He is more cautious than he would be on the European market as scrappage incentives have artificially held up demand. There will not be the bounce-back that we will see in America.

One area of interest to Standard Life is the extent to which there will be higher margins, than previously, when the global auto markets recover, because of the measures that have been taken during this downturn.

He says this would probably be the “most fruitful area of exploration”.


Manager focus: Patrick Ryan

Lazard Asset Management’s Patrick Ryan is adding stocks he says will not only survive a recession, but also participate in a rally, as the world’s economic future is too difficult to call.


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