Sunday, June 21, 2009

GMs' Delema: Go for "Patriotic" Green or Go for Profit

GM: Go green or go profitable?

By Nicolas Van Praet, Financial PostJune 19, 2009

Bob Lutz, global product chief, said it is illogical to force manufacturers to make green cars when gasoline is still cheap.
Photograph by: Jeff Haynes/AFP/Getty Images, Jeff Haynes/AFP/Getty Images
TV talk show comedians have let the General Motors Corp. jokes fly hard and fast this year.

But when the automaker filed for bankruptcy protection June 1 with a US$173-billion debt — more than twice its assets — and the governments of Canada and the United States pledged US$60-billion to stabilize the company in exchange for a majority stake, perhaps no one captured the public’s bewilderment better than Jon Stewart.

“Hey, my government! What’s up?” the Daily Show host said in his intro the next day. “Hey, thanks for buying us part of that company ... I guess my question, government, is, as long as we’re nationalizing companies, is there any way we could grab a couple of them that make money like a McDonald’s or a Google? How about if we run a sports team like the Cowboy’s? Or maybe one of them offshore gambling sites or a couple of porn portals? You’re killing us!”

The unease taxpayers are feeling in their political leaders spending such a major chunk of money has not disappeared, even if they understand the argument it saves jobs.

In Canada, the $1-billion rescue package for the lumber industry this week served as a reminder of government’s US$9.5-billion gift to GM. And many retirees who don’t have pensions still can’t believe government loans are helping pay for the automaker’s underfunded pension liabilities.

In the United States, lawmakers are trying to influence GM’s bankruptcy reorganization, slamming the car company’s plans to close dealerships in their states and proposing control of the government’s stake be moved to an independent board. Three new polls suggest President Obama’s GM and Chrysler bailouts are sufficiently unpopular that they’re tugging down his approval ratings.

Meanwhile, pundits are still debating Washington and Ottawa’s true intentions. Some charge that it’s a government conspiracy to take over GM and make the company build extremely small green vehicles that no one wants to buy. Others argue that’s exactly what political leaders should be doing.

And what does GM say?

“The government wants us to be successful, to be a full-range car company, to repay [them] and to become basically the poster child for the rebirth of the American manufacturing industry,” Bob Lutz, GM’s global product chief, told the Financial Post in an interview.

“The government doesn’t want to run the car business. They want us to succeed and get back out from under the government money, which is one of the reasons they gave us the money. Both the Canadian government and the U.S. government gave us the funds in the form of equity so that we wouldn’t have huge debt-carrying costs. And the thing is that they will sell down equity to get their money back. And then we will replace it with private equity.”

President Obama’s auto task force has directed GM to cut structural costs to a point where it can be profitable at industry-wide U.S. sales of 10 million vehicles a year, far below the 16 million average of recent years. Like its rivals, GM has to make sure its lineup meets new U.S.-mandated fuel economy standards of 35.5 miles per gallon by 2016 (cars have to get 39 mpg, while light trucks have to get 30 mpg).

That means it makes sense for GM to sell its Hummer division, a symbol of gas-guzzling excess. But it does not mean it has to stop making boat-hauling full-sized pickup trucks, hot-selling muscle cars like the Ontario-built Chevrolet Camaro or even status-symbol SUVs like the Cadillac Escalade.

Mr. Lutz said GM will continue to make those models, as well as small cars like the Chevrolet Spark and Cruze and the Chevrolet Volt plug-in electric car, which will prove what GM can do in engineering.

“We cannot violate the laws of supply and demand. We have to produce the kind of vehicles that the American public wants,” he said. “And we are not going to suddenly stop producing [medium and large-sized models] just because out of some sort of warped sense of patriotism we should concentrate all on tiny little 40 miles-per-gallon vehicles.”

What the public wants, according to industry analyst Dennis DesRosiers, is the biggest and best vehicle people think they can afford.

“Americans won’t buy smaller products in serious volume and the ones they do buy are from companies like Toyota and Honda who sell spectacular entry-level products that are near bullet-proof.”

Improving the fuel-economy of a model as big as the Chevrolet Suburban will require developing more expensive engine technology, Mr. Lutz said. “Probably gear boxes with a greater number of speeds, probably more aluminum panels to reduce weight, improve aerodynamics.”

But getting Americans into subcompact and compact cars in truly big numbers will be nearly impossible without a comprehensive energy policy that addresses gasoline prices, Mr. Lutz argued. Europeans drive small cars largely because their governments impose high taxes on fuel.

And therein lies the absurdity of this situation, according to industry observers. President Obama wants to reduce the country’s dependence on foreign oil and steer the Detroit automakers into a new age of technologically advanced small cars, hybrids and electric plug-ins. As part of GM’s commitment to invest in the United States in exchange for aid, it will build a future small fuel-efficient car in the United States for the first time.

But the President has to reconcile those goals with the need for GM and Chrysler LLC to make a profit if taxpayers are to be repaid. And much of that profit comes from bigger vehicles like the GMC brand, which GM convinced the auto task force to allow it to keep despite its model duplication with Chevrolet.

GM has certainly been able to make larger vehicles better. For example, it has managed to squeeze a 25% fuel efficiency improvement in the Canadian-built Chevrolet Equinox mid-sized SUV. Mr. Lutz touts that the Equinox now gets better gas mileage than Toyota’s RAV4 and Honda’s CR-V while sporting the ornamental bling that makes it look thousands of dollars more expensive than it really is.

But actually making money on small cars is another matter.

“It was brave of [GM CEO] Fritz Henderson to say they’ll make small cars here profitably, but if they break even, it’ll be impressive,” said Marina Whitman, a professor at the University of Michigan’s Ross School of Business. “This is just an example of the risks. Can they get through a period of government ownership with that being the only example? I doubt it. My concern is that the President had two major goals here. One was to have GM become a viable, profitable company. And the other was to have it build more ‘green’ cars. The truth is that those two goals may well clash.”

George Iny, president of consumer group Automobile Protection Association, argues marketers for GM and its competitors will look deep into their souls and find a way to sell green or “small-is-beautiful” to the masses at a price premium. “The challenge is not more difficult than it was to convince U.S. residents who live in one of the 30 states south of the snow belt mostly graced with excellent, paved roads that what they really need is a truck with all-weather and off-road capability.”

But in the end, President Obama and other political leaders refuse to do the one thing most analysts say would change buyer behaviour quickest: Make gasoline more expensive by increasing the tax on it.

The fact GM sold more than 110,000 SUVs and trucks in North America last month proves the appetite for big vehicles still exists. Trying to changing consumer preference permanently by making manufacturers build more fuel-efficient vehicles when gasoline is still relatively cheap at $2.67 a gallon ($1.06-a- litre in Canada) is somewhat illogical, Mr. Lutz said.

“[It’s] a little bit akin to fighting national obesity by forcing the clothing manufacturers to produce only small sizes.”

Normally a government will tax something it wants people to consume less of, like cigarettes, he noted. “Somehow this tried-and-true market mechanism is deemed to be unacceptable when it comes to motor vehicles... Long term, when you’re dealing with a free society and with a marketplace where people make choices, there is really only one way to change behaviour. And that is to change price.”

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