What's Another $14 Billion Anyway?
Mark Cuban echoed a lot of popular sentiment about the car industry here that I feel is just poorly reasoned. Every time the beleaguered industry does just about anything anymore, they’re pilloried for it, and it just doesn’t make sense.
First there was flying the corporate jet to Washington, where the Congressmen questioning them asked ridiculous things like “who here is willing to sell their jet now and drive back?” as if you can just put a Gulfstream V on Craigslist and it’s gone later that day. Then they advertised in the Wall Street Journal thanking Americans for the bailout (to which I was opposed, by the way) and they’re criticized for spending on that.
Just because a company is having a hard time does not mean it should stop making efficient investments. In fact, it maybe should make more of them. A corporate jet is not just a luxury to a large corporation whose executives are required to travel frequently. It’s an investment. The cost of an hour of a corporate executive’s time sometimes makes them well-worth it. I’m not sure if that’s the case for Chrysler specifically, and that would have been an intelligent question to ask before suggesting they eBay their entire fleet.
Same with advertising. Advertising isn’t a luxury for a car company, it’s a necessity. When done properly, every dollar in ads amounts to more than a dollar in profits. As an investor in Chrysler, which George W. Bush has essentially made us all with the bailout, the last thing I want them to cut is their ad budget. I’d maybe want them to examine it for cost efficiencies, but cutting it out entirely would be certain death.
Also, an ad calling us their investors is, I think, brilliant. People have been shown to greatly prefer patronizing businesses they own stock in over ones they don’t. If Chrysler can make Americans feel a sense of ownership, it might have some small effect on people when it comes time to buy a new SUV. I don’t know if that approach will work for them or not, but it’s certainly a valid angle.
Worse yet there’s this silly notion that American car companies are losing because they simply aren’t innovative enough. Bullshit. They’re losing because every car costs $2,000 more to build due to higher wages and health care. That’s it. End of story.
You can’t out-innovate $2,000 per unit. It’s not possible. It’s just too much money for an industry that’s become largely commoditized. It’s like trying to compete with Bud Light but being forced to sell at Sam Adams prices.
When every mid-sized sedan is more or less interchangeable, $2,000 is just a tremendous difference, and as a result every American car for twenty years, in order to compete, has had to either cost that much more, or cut back on that much worth of features. They’ve largely chosen the latter, because the former would have destroyed their volume, and as such they’ve gotten a reputation for shoddy quality. They’ve closed the gap a lot in the last 5 years, which is a testament to just how hard they’re trying, and in fact they might be out-innovating slightly, but they just can’t win a battle that’s perpetually uphill.
It’s not as if Americans can’t engineer good cars. Our engineers are just as intelligent and driven as theirs. Our aviation and defense industries prove that. It’s just that their cost basis means they’d have to out-engineer the Japanese by an impossible margin to compete. And the car industry is so massive and has so many companies vying for supremacy that there just isn’t $2,000 worth of slack laying around to pick up. Cost-cutting has, since Henry T. Ford, been the primary focus of the industry, and they’re pretty good at it.
Cuban says they should focus less on reducing costs and instead “figure out what cars consumers want, and how much they need to sell for.” To illustrate just how stupid that idea is, here are the top 10 selling cars in America (source):
1. Ford F-Series
2. Toyota Camry
3. Chevy Silverado
4. Honda Accord
5. Honda Civic
6. Toyota Corolla
7. Nissan Altima
8. Chevy Impala
9. Dodge Ram
10. Ford focus
Looks to me like they’ve figured out what cars Americans want. They’ve got 5 of the top 10 models, including numbers 1 and 3. What more do you want from them? Actually, what you want is for them to make a profit on those proportional to what their competitors do.
Americans don’t just say “I want a mid-sized sedan and I want to pay $25,000 for it.” They decide what type of car they want and then shop around. They want to get what they want and pay the least for it they can. American manufacturers have determined the price they need to sell for, and they’ve been selling at that price. The problem is that price is above the cost for Toyota to manufacture it but below that cost for GM.
Also here’s an interesting line about total profits from a slightly outdated NPR comparison between GM and Toyota:
$4.15 billion loss from North America operations off-set by profits in Europe and Asia for an overall loss of $3.8 billion
Note that in other parts of the world, where their per-unit costs are on par with the Japanese, they actually make money.
And that’s why the executives are focused on lowering employee wages and benefits. You can’t out innovate $2,000 in a commodity business. And even if you could, doing so should net you $2,000 in extra profit over your competitors, not parity. Forcing them to continually fight uphill will inevitably lead to failure.
All of that is why I’ve never purchased an American car, and why I was against the bailout. They’ve been unable to convince me to buy one because their cars weren’t as good as Toyota’s. It may not be the fault of their engineers, but I’m still not driving a vastly inferior car just so unskilled laborers in Detroit can make $50 an hour flipping switches and pushing buttons.
And they’ve been unable to convince me that the bailout is a good idea unless there were strict guidelines ensuring that changed. They seem to have been unable to convince the Senate of that too, but thanks to Bush being as fiscally liberal as he is socially conservative, they didn’t have to.
December 23, 2008 at 10:07 pm
I think you're missing two key points: 1) how much of those sales are fleet sales, (i.e. sales to rental agencies), which is probably more of the Impala and Focus than the pickup trucks, but either way, that probably placed those 2 cars in the top 10. 2) the more important point is how many cars are not there. I heard some crazy statistic like the average age of an Oldsmobile purchaser is 68 years old. If you're making cars to suit that demographic, you're doing something wrong. The car companies are making so many brands of cars that some of them are bound to land in the top 10, whereas the Japanese wind up there with very lean offerings.
December 24, 2008 at 12:13 am
I saw your abbreviated version of this on HN get modded down, thought about it, and basically came to the same conclusion you did before you wrote this. The problem doesn't really seem to be about what Detroit is doing wrong, though — the mantra of most of the people I've read/talked to about this is not right now. It's difficult for an economy to absorb shocks like this at any point, much less when everything else is going up in flames. What doesn't seem to be debated quite so much is whether delaying Detroit's fall/restructure is really going to help, or how badly everything else would be affected if there was no bailout. Perhaps no one really knows…?
December 24, 2008 at 5:57 am
A couple articles that seem well-reasoned to me:
http://www.nytimes.com/2008/12/10/business/econ…
http://www.tnr.com/story_print.html?id=1026e955…
December 24, 2008 at 8:37 am
I would say that I mostly agree with what you say…especially in this day and age of streetcar (or bus) drivers making 100k and assembly line workers at $50/hour.
However, take a look through the rest of the top 10 list. The most popular cars for people is easily the 4 door sedan. A buyer typically says “I want a 4 door sedan for my family – but I want it to feel luxurious”. Mileage, safety, etc are all important, but 2nd place to the exterior/interior. All of those Japanese models satisfy this requirement – much better than the NA equivalents. There is nothing worse than when I travel and am somehow stuck in a Grand Prix!
In a class above, which would you take – a 3 series BMW, Acura TL, Infiniti G35, Lexus….or a Cadillac? The only logical way someone could ever buy a cadillac is if it's 3 years old, and depreciated 30-40%.
Perhaps it's not just the cost to build issue – perhaps its an inability to carry out change? Ie – moving/shutting down a plant is far too painful, so the Pontiac brand must stick for 10 years to their shitty little plastic buttons?
December 26, 2008 at 10:38 am
It's the not so much the union wages, as it is the work rules, seniority, and inability to scale back. In any case, the union is the parasite that is killing it's host- the employees of the American car companies. The union and the management negotiated an untenable short term agreement that doesn't make sense any more.
GM has 96,000 employees covering the health care of over 1 million people.
I say take the bailout monies and fund 10 new car companies. Otherwise I'll be buying a BYD to replace my 05 Prius in a few years.
December 28, 2008 at 8:51 pm
Oldsmobile is no more. GM killed that brand a few years ago.
You've articulated exactly my frustration with Mark Cuban's post and other opinions I've read.
December 29, 2008 at 4:22 am
Matt,
I don't think this post really makes sense. Chrysler is a large enough concern it should be beating the market at health care costs. If it isn't then the company should outsource that and their failure to do so is a sign of managerial incompetence.
I just checked Hoovers which claims the company has 66000 employees. A 5 billion bailout would be enough to give every one of those employees 75 thousand dollars for a full year to stay home and play plinko. And the company supposedly still has a revenue stream from… you know… actually producing stuff? Yet media reports claim public support will only keep the company alive for a few months and labor costs are the issue?
Huh? The burn rate is way too high for this to be an issue of salaries for the average worker. At a 2000 loss per car Chrysler still has a runway of 250 million vehicles. It doesn't seem plausible that any organization can lose money this quickly unless it has already lost it, which suggests that problems are in the supply chain and/or that the company has a boatload of financial obligations that it is hemmoraghing on: contracts with suppliers, ventures in capital markets, etc. that have not been properly accounted for or weren't treated as risky.
My best guess is that the company was probably rolling over a lot of short-term debt and found its financing costs soar earlier this year when interest rates went up. But that is a guess – I do not know how much debt the company is servicing and why, and in its fray to crucify labor the media seems intent on ignoring a fairly obvious question: where will the money actually go?
As a small business owner myself, I am not subsidized so have an emotional reaction to this too: it feels like unjust enrichment for someone. But I also ask why it's considered generally appropriate for the government to guarantee expensive and private financial contracts between two parties who were funded and should have hedged risks, but not relatively inexpensive labor costs. Surely our collective social preferences should flow the other way.
December 29, 2008 at 9:49 am
A lot of the cost differential is actually due to benefits to retirees — something the transplants don't have to deal with. When every worker is actually supporting 4 – 6 (or more) retirees it becomes problematic. The issue is that GM, Ford, and Chrysler are punished for being around longer.
Think of it this way, 40 years ago, had GM said they wouldn't offer retiree benefits they'd have been pilloried. Yet, by offering those benefits are costing them in the neighborhood of $2500 per car. Obviously a huge problem.
The solution? One way of offloading the costs is to move healthcare to universal healthcare, which is what every other industrialized nation on Earth has. That would eliminate that from the domestic's cost structures. The actual pensions are a different issue, and I'd rather see the US government provide funds to move it from GM's books to those of the UAW. The Union wanted great pensions, they should have to deal with it long term — i.e., once the employees enter retirement.
Those two moves would make GM and Ford much more competitive. And I single out GM and Ford because they are releasing cars that are getting not just local acclaim but worldwide acclaim. The Corvette ZR-1, for example, got Top Gear's Best Car in the World award. The CTS and CTS-V are amazing vehicles, and the new Fusion Hybrid is more efficient by a substantial margin than the Camry Hybrid. And the Fusion and Malibu are actually competitive with the Camry and Accord, which until recently was not the case. Chrysler, I fear, is a lost cause. Interestingly, Top Gear gave the Chrysler Sebring the accolade of Worst Car in the World.
Thus, the federal government should work with GM and Ford in particular to help them readjust their cost structures.
Although I agree some folks in the car industry are overpaid, pushing wages down too much actually has an inverse issue in that it greatly impacts the economy by killing off spending by what is the middle class. Moreover, the latest concessions from the UAW do bring the average cost per employee at the domestics in line with the transplants leaving the difference fully in pensions and healthcare to retirees.
I do believe that GM and Ford in particular have started major changes. I again point to the Malibu, the Fusion and the forthcoming Fiesta and Cruze to say nothing of the Volt. Plus, it is GM's 2-Mode hybrid system that was adopted by Mercedes and BMW, which indicates their innovation is appreciated by other automakers.
What I would like to see is some contrition on the part of Wall Street who were provided $700+B with no strings attached. I'm appalled they raked GM, Ford, and Chrysler over the coals as victims of the folly of Wall Street and the credit mess while doing nothing at all to the perpetrators of the crisis.
Also, I'd love to see the folks on the Hill who went on about $1 salaries for executives, plans, etc. to show a movement to sustainability, etc. explain why what's good for the goose (GM, Ford, Chrysler) isn't also good for the gander (all the politicians on the Hill)?
January 14, 2009 at 2:07 pm
There was something that I completely left off my earlier comment, and it's worth digging up an older blog post to update!
Sure the NA automakers have a few of the top selling trucks, but perhaps their issues are at the other end? Check out this list – look just how many are from NA:
http://www.thetruthaboutcars.com/ttacs-ten-wors…