Detroit Has to be Saved

The cost of bailing out Detroit, which will end up being one automaker not three shortly, is cheap compared to the enormous cost of bankruptcy.

It is also critical to retain a domestic car manufacturing sector because of its importance to the economy as an engine of growth, to the currency in terms of balance of payments activities and to national security, in terms of keeping the country's commerce rolling.

Here's my latest Financial Post blog:

By the end of 2009 there will likely be a handful of auto companies left in the world, only one in Detroit and a handful of airlines. In fact, there will probably be only a handful of everything.

The de facto Depression underway worldwide will trigger consolidations. Strong will eat weak; cash-rich will eat debt-laden and consumer spending will shrink along with economies.
Detroit is a big worry for Washington and Ottawa alike. And taxpayers must bail out their auto industries. The number of people employed in this industry totals 4.15 million, equivalent to the population of Los Angeles (America's second largest city) or 12.5% of Canada's population. This is a 2007 figure and includes 996,500 involved in manufacturing and the rest involved in auto-related dealerships and suppliers.

The Big Three, which represent the lion's share of Canada's auto sector, are losing US$2 billion a month. Chrysler is headed for the ditch and General Motors has asked Washington for US$10 billion to help pay for its acquisition. Ford's biggest shareholder just bailed last week, leaving it an orphan. My guess is that there will be a three-way merger. Canada's auto parts makers are asking for C$1 billion or debt guarantees to keep their lights on.

More taxpayer dollars

These requests are on top of the US$25 billion Congress has already allocated over the next 18 months to help the auto industry retool. Despite the challenges facing the worldwide industry, it is ironic that the world's largest corporation is now carmaker Volkswagen in Germany. It is about to be taken over by Porsche, an announcement that made VW's market capitalization double and made VW bigger than the world's biggest, Exxon Mobil Corp. But the road ahead for VW/Porsche isn't going to be any smoother than that faced by their global competitors. Carmakers worldwide are struggling -- and airlines too -- with plunging sales as credit dries up and consumers with cash cancel discretionary spending of all types. U.S. auto sales fell 27% in September and European sales by 8.2%. VW will likely end up buying PSA Peugeot Citroen, Europe's second-biggest carmaker, and smaller French competitor Renault SA plus possibly Fiat SpA. All three have been downgraded credit-wise.

How the Mighty are Falling Too

Even Toyota had a bad month, with a decline of 4% in September. My bet is that Toyota will end up owning all the Japanese and South Korean automakers. (China's Chery will survive, as will India's Tata.) Carlos Ghosn, CEO of Renault-Nissan group, warned today that the worst was yet to come and would last into 2010.

"We have not seen yet the worst," Ghosn was quoted as saying at a business forum in Tokyo.

"Even if the financial crisis stops, the consequences of the market slowdown in terms of unemployment (will) come. So far we have seen only the beginning of the consequences."
Ghosn said he was bracing for "a relatively long term of credit turbulence."

"This is going to probably lead to a situation in 2009 which (will be) at best lukewarm. It may continue into 2010 if the financial meltdown does not find good solutions to address it," he said. "I think we are in the unchartered water," he said.

Japan's Nissan, in which France's Renault holds a controlling stake, is cutting production of luxury cars destined for the United States and is chopping 1,680 jobs in Spain. Renault is closing nearly all of its plants in France for at least one week. Daimler and BMW have both shut down factories temporarily.For Japanese manufacturers the soaring yen is another problem.

M&As are the Best Offense
Consolidations are going to happen and are as much of a defense against the crisis as an offensive means of taking advantage for the future. Airlines will be next, as will resource companies which are already being picked off on a daily basis.

The politics of such massive bailouts in the real economy, on top of those in the financial economy, are nettlesome and must be carefully negotiated. In the case of the unionized auto sector, where wages are higher than the average taxpayers', there must be huge labor cost concessions. There must be an end to ruinous featherbedding such as paying workers even when a factory is shut down for a period of time due to poor sales. A wage rollback of up to 25% is not out of the question plus an upside for taxpayers in the form of stock options. Same should apply here in Canada with rescues of any type. The auto sector is too important to let slide away in North America where as many as five million people derive their income, directly and indirectly. These are emergency measures in catastrophic times and blaming unions or management for past foolishness is not helpful. And bankruptcies are not options.