GM Turnaround Barrels Ahead, Despite Speed Bumps

Special Coverage

State of the Industry: North America

DETROIT – General Motors Corp. Chairman and CEO Rick Wagoner can see the irony all too clearly.

After years of shouldering higher labor costs and the health-care bills of thousands of retirees (unlike foreign rivals such as Toyota Motor Corp.), GM finally gains the concessions it needs from the United Auto Workers union to place itself in a more competitive position.

Rick Wagoner

Wall Street heralds the 4-year collective bargaining agreement as a game-changer and proclaims GM’s turnaround in full swing.

Just weeks later, the world’s largest auto maker reports a record third-quarter loss of $39 billion, due almost entirely to an accounting rule that requires companies with three years of historical cumulative losses in a particular period to place a valuation on unused tax credits.

The end result was a $38.6 billion non-cash charge that came on top of a deeper-than-anticipated setback in the mortgage business at GMAC Financial Services and generated headlines around the world.

“That’s what the rules said we needed to do, so we did,” Wagoner tells Ward’s of the charge during an interview at company headquarters here. “I think it caught people by surprise, because it seemed a little ironic.”

It also overshadowed GM’s gains in the period, which included record revenue from its core automotive business and fairly significant strides in the auto maker’s struggling North American unit. Those positives came against lackluster vehicle demand in the U.S. and Germany and on the heels of four consecutive quarterly profit reports.

Some analysts suggest the write-down suddenly clouds GM’s profit outlook. Wagoner sees it differently.

“It doesn’t change our view,” he says, pointing to momentum in GM’s core operations. “The auto business is working through some tough issues very well and at an expeditious pace, taking on things no one ever has before.”

Most noteworthy might be the $9 billion in structural costs GM has carved out of its business over the last two years.

Then there is the health-care trust contained in the new UAW agreement, which is pending court approval and will save GM upwards of $3.4 billion annually. And once GM fully leverages the contract’s new 2-tier wage structure, its labor costs will be closer in line with those of Toyota.

But the Detroit auto maker won’t fully realize the health-care savings until as late as 2010. And while the wage structure could pay dividends sooner, GM says it’s too early to accurately quantify its financial impact.

In the meantime, Wagoner says, GM will continue to implement its turnaround through additional cost-cutting in North America, where he claims more opportunities exist.

The auto maker also will continue its aggressive product rollout, which began in 2006 with its redesigned fullsize trucks and all-new cross/utility vehicles, and continues this year with a third CUV (Buick Enclave) and next-generation passenger cars such as the ’08 Cadillac CTS and ’08 Chevrolet Malibu.

Redesigned Pontiac Vibe appearing next year.

Next year greets a redesigned Pontiac Vibe, a rumbling Pontiac G8, an all-new Cadillac CTS-V and the Saturn Astra compact car from GM’s Adam Opel GmbH unit in Europe. GM also introduces hybrid-electric versions of its fullsize trucks and SUVs over the next 12 months.

“The sense of momentum is palpable,” Wagoner says.

Meanwhile, he admits, GM also must continue to sharpen its sales and marketing strategy. The direction is clear, Wagoner says, but properly positioning GM products in consumers’ minds takes time.

“But I do think we are getting crisper in the things we need to do,” he says. “I think the Malibu launch, for example, is being run better than some of the prior launches.”

GM won’t disclose its advertising budget for the Malibu, but executives say it’s comparable to the outlay for the launch of its bread-and-butter Chevy Silverado fullsize pickup.

GM also says it plans to keep the car in front of consumers well into next year, whereas previously it would have drawn down ad spending after the initial launch. The auto maker also performed more market research up front than ever before, going so far as to conduct “garage visits” with potential customers.

But even the best-laid plans can go awry, so GM approaches 2008 with guarded optimism. Industry-wide, it expects global vehicle sales this year of about 70 million units, a record for the sixth consecutive year.

In the U.S., GM anticipates year-end industry sales of no more than 16.3 million units, or roughly 1.5 million units below trend. While the auto maker expects emerging markets to push global sales up by about 2 million units in 2008, it forecasts flat year-over-year deliveries domestically.

The U.S. could show more strength in the second half of the year, Wagoner offers, but he also says much depends on the direction of financial markets presently befuddled by the housing crisis and credit worries.

“There is a reasonable amount of uncertainty in the economic outlook for next year,” he says.

Speaking of GM specifically, Wagoner says he likes its position in emerging markets and thinks that bodes well for 2008. Remarkably, a record 58% of GM sales through the first nine months of 2007 came outside the U.S. But the sales story darkens at home, where jittery consumers and fewer daily rentals have GM running up to 400,000 units below trend.

“That’s a lot of units and a lot of cash flow,” Wagoner says, adding the U.S. market has proven more difficult this year than expected. “Hopefully, we’ll get back to trend, but it’s not going to happen in the near-term.”

Likewise, GM also hopes to keep a lid on incentives. With the exception of an aggressive response to competitive offers in the pickup segment this summer, Wagoner says the auto maker largely has stood by its pledge to use spiffs more surgically.

“We’re going to react if the market moves, but our strategy is to continue to drive focus around more retail sales, brand-building advertising, leveraging strength in product (and) high residual values,” he says. “Hopefully that will continue to support relatively better pricing conditions.”

But a lackluster economy and a competitive market count as only two of the challenges facing GM in 2008. Material costs continue to rise, and a weak dollar shows no sign of rebounding soon.

On the flip side, GM now books more automotive revenue in the fast-growing, commodity-based countries that have pushed those material costs up. And perhaps more importantly, its ongoing efforts to operate as a global company, such as building where it sells, will continue to help mitigate some currency disadvantages.

For example, Wagoner offers, GM has eyes on perhaps producing the next-generation Saturn Astra at its small-car plant in Lordstown, OH, and plans call for building more Saab products in the U.S. in coming years in addition to the Chevy TrailBlazer-based 9-7.

“We’ve never liked the idea of building Saabs in Europe and selling them in the U.S.,” he says. “That’s a big risk, and over the years that’s cost us a lot of money. (But) if you can run reasonably balanced, you take a lot of risk out of your life. You lose some of the ‘up’ sometimes, but we are interested in structurally building a profitable business.”

In addition to those headwinds lies a potential increase in corporate average fuel economy requirements. While Wagoner adamantly contends GM and its peers want to trim carbon-dioxide emissions and enhance America’s energy security, he also breathes a note of exasperation over recent political one-upmanship that obfuscates the path to a reasonable range of solutions.

“Intellectually, it’s dishonest to say, ‘Vote for me. I will raise CAFE. Pick your number,’” he says, when asked about the recent rash of CAFE proposals, which includes a bid by presidential candidate Sen. Hillary Clinton (D-NY) to raise the standard to 40 mpg (5.9 L/100 km) by 2020 and 55 mpg (5.9/4.3 L/100 km) by 2030. “The impression is that it’s free. It’s not free.

“You can get up and say, ‘40, 50, 80 miles per gallon’ but you don’t have to say, ‘By the way, to get 80 you’re going to have to drive only vehicles of this size, there’s going to be safety issues, and it’s going to cost you $8,000 more to buy the vehicle.’ There’s no truth in disclosure.”

From Wagoner’s perspective, the auto industry has done much to improve fuel economy since the U.S. enacted CAFE in 1975 to reduce gasoline consumption. Fuel economy has doubled, he notes, but U.S. oil consumption, as well as the percentage of imported oil, has increased significantly as drivers are logging more miles and consumers have altered their vehicle choices.

“That’s pretty good evidence that fixing CAFE, alone, is not going to solve the problem,” he says, adding the debate has not tremendously affected GM’s product planning.

“If we want to reduce our reliance on oil, if we want to reduce our reliance on imported oil, if we want to address CO2, let’s fix those problems. There are good ways to do that and better ways today than I think we’ve ever seen.”

Wagoner proposes a “serious attack” on biofuels development. “It would have an amazing impact on those three areas in a relatively short period of time,” he says. He also offers electrified vehicles, “which have the advantage of giving you the flexibility of energy supply.”

And then there is the Holy Grail of energy savers – the electrically powered hydrogen fuel-cell vehicle. “There is a race to see which country can lead in the drive to a hydrogen economy,” Wagoner says. “I’m pretty sure someone is going to lead the race, and it stretches my imagination why the U.S. would not want to do it.”

No single approach will win, Wagoner adds. Instead, he sees a range of solutions that vary from state to state, region to region and country to country. Roadblocks also exist, he admits, such as the lack of filling stations for biofuels and hydrogen. But no one wins by merely revising a regulatory measure.

“We can do this,” Wagoner says. “But let’s work on doing it the right way, and let’s be honest with what it is going to cost and who is going to pay for it.”