GM: A View from the Back Seat

GM: A View from the Back Seat
Longtime General Motors reporter David Welch looks back on how America's
premier auto company got trapped in groupthink
By David Welch
To understand how trapped General Motors management became in its own version of groupthink, here's all you need to know: At one point in the early 2000s, the company's strategy amounted to outliving its workers.
As former GM Chairman and CEO Rick Wagoner explained in a story I wrote for BusinessWeek in February 2003, management's big-picture strategy was to wring out costs where possible within the confines of its union agreements, keep improving cars and trucks under car czar Bob Lutz, try to catch the Japanese in productivity and quality, and stay afloat until the middle of the next decade. By then, it figured, retirees would be dying off, GM's huge cost disadvantage for paying retiree pensions and health care would narrow, and it would be on more equal footing with competitors.
It might have made sense—if GM weren't underinvesting in new car designs, and if its profits at the time weren't coming from gas-guzzling SUVs and mortgages. An Inevitable Endgame
It was, and they were. Both of those shortcomings became glaringly apparent. Within two years, fuel prices had soared and decimated truck profits. By 2005, Wagoner was cutting thousands of workers and looking for health-care concessions, and the company was in the process of losing almost $11 billion.
Now no one should be surprised that a company that suffered 40 years of nearly nonstop decline has arrived in bankruptcy court. The signs were apparent for years even to the casual observer. Journalists, analysts, consultants, and, yes, even insiders with the temerity to buck the system pointed out that GM's business was flawed and that the company was playing itself to an inevitable endgame. It had too many brands demanding new cars, advertising money, and executive attention to changing an image scarred by past quality problems. It couldn't sell the handiwork of its outsize network of factories and workers. Union contracts made quick downsizing all but impossible.
Why couldn't management, labor, and dealers see what was coming? Blame a combination of hubris, myopia, and short-term thinking. During my 10 years of covering GM for BusinessWeek, I heard plenty of explanations from GM insiders of why its business model couldn't be dismantled: It's too expensive to fight dealers and labor, so we shouldn't even try. We have to put money into trucks because Americans don't like fuel-efficient cars. The next new slate of models is the one that will reverse the sales slide. Hovering in the background of all these management arguments was the assumption that GM's size—its seat on the throne as the world's largest automaker—was an important asset that was not to be squandered. Mired in "Profitless Prosperity"
But of course it was. GM only kept market share in the U.S. by buying it. Deals like 0% financing and fat rebate checks had GM briefly growing its share early in the decade, but at the expense of margins. That "profitless prosperity," as former Goldman Sachs (GS) analyst Gary Lapidus once called it, kept lots of people busy in plants. But it was GM's version of losing money on each item and making it up on volume.
See, GM viewed its market share the way Michiganders view their thermostat in February. If you want to be warm in Detroit, just crank up the thermostat and you can walk around your house in Bermuda shorts. When the bill comes the next month, you panic, turn the heater down to save money, and pull on a wool sweater.
GM would spend, say, $4,500 a car in incentives in a given month and drive its market share to 28% or so. As the cash flew out the door, profits cratered. Then GM would pull back spending, letting share slip down to, say, 23%. Up and down it went. But for most of the decade, market share fell and GM made much more money writing car loans and mortgages through its GMAC finance arm than making automobiles. With easy credit, rising home equity, and a robust economy, even GM's flawed strategy made a few bucks. The Math Didn't Work
In fact, the company was severely exposed. In 2005, when housing started to slip and fuel prices spiked, GM began losing billions. In our May 9, 2005, Cover Story entitled "Why GM's Plan Won't Work," I suggested, among other things, that GM should cut rebates and money-losing deals to rental agencies and sell chiefly to the folks who like their cars enough to walk into showrooms and buy them at full price. It might have left GM with only 20% of U.S. auto sales, instead of 26% at the time, but profits would improve.
How was that greeted? Former CEO Wagoner, who was fired by the Obama Administration this year, took me to task, saying that "anyone who thinks we can go to 20% doesn't understand our business." He meant that GM couldn't afford to pay the health-care and pension costs of all of those retirees if he let his sales fall too far. The math just didn't work.
He was right about the math—but only if you accepted the conditions GM had already set for itself. The answer wasn't to buy market share to keep plants going and bills paid; it was, as we said in the same Cover Story, to reset the cost equation, get the union to see things a different way. Cut retiree health-care benefits to meet the national average; that could have saved billions. Eliminate the JOBS banks, that pay-for-no-work clause that gave workers 95% of pay when their plant was idle, and cut workers without expensive buyout packages. I'm not saying I'm smarter than the people running the company. Far from it. They knew the problems. What was frustratingly absent was the will among management and labor leaders to see what was coming and embrace real change before it was too late. UAW: Hamstrung by Members
Anyone inside GM management would say, of course, "Good luck with that." They're right. The UAW never trusted management enough to make big concessions. And let's face it, the UAW fought hard to win blue-collar affluence. It wasn't about to give it back without a fight.
Even Ron Gettelfinger, who is one of the most levelheaded leaders the UAW has had, was both unable and unwilling to alter Detroit's glide to bankruptcy. In some ways he was hamstrung by a membership that didn't want to lose what it had. But at other times he could be frustratingly intransigent. During an interview in 2006, just after GM had lost almost $11 billion, he told me that ditching the JOBS Bank in the 2007 labor agreement was out of the question. He said workers should not have to live with the fear of suddenly losing their job. Well, everyone else does.
Which brings me back to my original point about GM betting that it could outlive its workers. Wagoner figured that in the meantime, he would win customers with the cars produced by Lutz, and with fat sales incentives. But the plan only made sense as long as mortgage profits were rolling in from GMAC; there was no margin for error if housing or car sales tanked. And it had one other big flaw, which became more obvious as time went on: The company couldn't generate enough cash to freshen its models and fund R&D at the pace set by its rivals. (Former Merrill Lynch analyst John Casesa pointed this out year-in, year-out in his annual Car Wars report.) Not Solely Labor's Fault
By 2006, GM was running low on cash. As its options narrowed, GM had to sell 51% of GMAC to raise cash and the strategy of waiting out the problems gave way to a different kind of groupthink. GM figured it would buy its way out of its problems. And in fairness, labor contracts and dealer franchise laws meant that whenever GM wanted to make major changes, someone had to be bought out. A few billion in restructuring costs thinned the workforce and in 2007, GM planned to hand the United Auto Workers $35 billion to set up a trust fund that would take care of retiree costs. It was a big change for Detroit and its union, but the company needed everything to break right: The car market needed to stay healthy until 2010, when the health-care fund would take over and give GM a new lease on life. As we know, it didn't work out that way.
Let's be fair to the UAW. This isn't solely labor's fault. Thanks to the SUV boom of the '90s, there was money sloshing around inside GM. Longtime GM watcher Maryann Keller has noted that GM has paid in the neighborhood of $20 billion in stock dividends and for share buybacks since the mid-1990s. That cash could have been socked away to pay for health care instead of giving it to investors, or invested into R&D. But stockholders want a return and executives get bonuses if stockholders are happy. By the way, while GM was paying a dividend, the company cut capital spending and borrowed $14 billion to shore up the pension fund.
Another great example of how things looked from within the GM bubble: When former Chrysler star Lutz emerged from retirement in September 2001 to join the company as vice-chairman, it was common industry wisdom that GM's cars and trucks suffered from the corners that were cut on GM's product decisions by bean counters and manufacturing gurus. Lutz Fought for Style
Styling isn't free; the stamping machines that make more curvaceous car bodies cost a lot of money, as do posh interiors. Lutz fought for these enhancements, knowing that Toyota's (TM) and Honda's (HMC) emphasis on aesthetics was one of the reasons why they dominated the car market. One GM executive told me that, before Lutz, the company figured its dealer network and market presence were so big that cutting corners on their new models would be fine. They would get the buyers anyway and save a few bucks on everything they sold. The rest, as they say, is history.
A similar kind of thinking went into GM's battle against fuel economy. With its labor costs and retiree burden holding GM back—and no will to change that—GM ignored cars and plowed money into higher-margin trucks. In September 2004, when oil prices started flirting with $50 a barrel, I wrote a column entitled "Detroit Is Over a $50 Barrel." It argued that if fuel prices stayed high, Detroit wouldn't be able to react. While GM was introducing the Chevy SSR, a combination of a hot rod and a pickup, Toyota was boosting production for the Prius hybrid. Toyota was ready, GM was not.
Blame Wagoner if you want. But he inherited many of these problems and was making some of the right moves before he was fired. He couldn't get the company and those who depended on it to make enough sacrifices to get the job done. However, even an outsider like Bob Nardelli, a lauded cost-cutter who came to Chrysler after turns at General Electric (GE) and Home Depot (HD), found few options in Detroit. Wiping Out Debt
Now, with the guiding hand of the Treasury Dept. and the Obama Administration leading GM through what looks to be a fast bankruptcy, many of its intractable problems will be addressed. Billions in debt will go away, leaving a relatively clean balance sheet. Stock in a new, leaner company will seed the health-care trust; that will get GM out of the medical-benefits business. The UAW has made other concessions to align factory costs with those of Toyota. Four weak brands are going away, giving GM a crack at building four strong ones.
In about three months, Treasury has enabled GM to accomplish what decades of managers, dealers, and labor leaders were unable or unwilling to do. It's a shame than many of them won't be around to benefit from that.
Civis Romanus Sum

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