Should U.S. lawmakers fail to provide the Detroit Three auto makers with $30 billion in bridge loans, and two of the three companies fall into bankruptcy, the financial impact to the country would be four times worse than if the loans had been granted, says a study released today.
The analysis, conducted by Anderson Economic Group and BBK, an international business advisory firm with automotive experience, is the first study to weigh the costs of bankruptcy vs. federal assistance, and offers a “conservative” view of the situation over a 2-year period, the authors say.
“The findings indicate a bridge-loan scenario would be the more financially sound choice of the scenarios under debate in Washington, with lower relative economic costs than not providing any type of financial support,” Patrick Anderson, AEG principal and CEO, says in a conference call with journalists and analysts.
The “catastrophic failure” of two Detroit auto makers would kill 1.8 million jobs in a 1-year period and eliminate nearly $70 billion from federal and state coffers over two years. Other bankruptcy costs would include attorney fees, financial advisors, accountants, appraisers and investment bankers.
Tax effects of a failed domestic auto industry include:
- A $12 billion reduction in average state revenue, whereas restructuring outside bankruptcy would deplete state coffers by just $2.3 billion.
- Federal tax revenue from income and payroll taxes would be reduced by some $40 billion, compared with $8.8 billion should bankruptcy be avoided.
As such, the collapse of two U.S. auto makers would further exacerbate the current economic crisis and could lead to the shutdown of nearly all U.S. auto production, including plants run by overseas-based auto makers, says Kriss Andrews, managing director and automotive practice lead, BBK.
It would “force many Tier I suppliers to file for bankruptcy or cease operations within days (of bankruptcy filings), at least for some time,” he says, noting that most auto makers, both domestic and transplants, share the same supplier base.
Should automotive production in the U.S. cease, even for a limited time, it would benefit foreign auto makers, placing the entire domestic industry in a weakened position.
“There would be a loss of significant industrial capacity and more dependence on foreign governments and technology,” Anderson says, adding legislators seem to have a grasp of how Wall Street works, “but they don’t know about Main Street.”
The study also confirms consumers would be highly unlikely to purchase vehicles from a bankrupt company, a theory that has been bandied about by analysts and auto makers. In fact, the longer Washington waits to issue the loans, the worse the situation will become, making survival for General Motors Corp., Ford Motor Co. and Chrysler LLC, all the more difficult.
While lawmakers continue to weigh their options, “folks are buying cars elsewhere,” Anderson says, noting when auto makers lose consumers, it’s for at least four to five years and sometimes as long as eight years, before they return.
“So the sooner this is resolved, the better chance for consumers to go back and buy cars,” he says, adding the study shows the loans must be made available by January in order to be effective.
Unfortunately, even if the Detroit Three were to receive the loans, there still will be fallout from this crisis, the study concludes.
Even under the bridge-loan scenario, “We expect significant reductions in employment and income, with resulting reductions in state and federal tax revenues,” the study says. “However, the losses of employment, income and tax revenue under bankruptcy are unequivocally much higher.”
It’s a pay now or pay later scenario, Andrews says, likening bankruptcy to a “contagion” that will ripple through the entire economy.
“It’s far better to act now in a controlled situation vs. an uncontrolled situation,” he says.
As for the proposed government “strings” attached to any bridge loans, Anderson says too much oversight could be problematic.
“I think business decisions should be made by business people with consumers and investors in mind,” he says. “If we walk down that road (and have a) ‘Political Motors,’ we won’t be successful.
“We’re not assuming there will be no strings attached, but we’re assuming the strings are primarily financial,” Anderson says.
Despite reservations by lawmakers, both Anderson and Andrews say the Detroit Three’s restructuring plans are sound and based on a conservative annual U.S. sales estimate of 10 million to 12 million vehicles annually, far below levels seen before the current economic crisis.
Andrews also takes exception to the idea that a change in Detroit Three leadership should be mandated under a loan agreement. Sen. Chris Dodd (D-Conn.) has suggested GM CEO Rick Wagoner be forced to resign.
“I don’t think it’s wise for Congress to make those decisions,” he says. “What would you expect Wagoner to do differently, and what could he have done differently? I don’t know how he could change the economy.”
