Just in time for the holidays, the White House agreed to a much anticipated rescue of American automakers. Chrysler LLC and General Motors Corp. would immediately receive $13.4 billion in shortterm loans from TARP (Troubled Assets Relief Program), followed by potentially $4 billion more in February.
The White House offered to help the automakers after Congress was unable to agree on a rescue effort of its own. The automakers had appealed for Washington’s help to prevent their looming bankruptcies.
In addition to the cash infusion, the terms and conditions established by the Treasury provide a framework for restructuring and call for proof of viability by March 31. At present, it’s unclear whether the loans will act as a bridge to a new and improved domestic auto industry or simply postpone its eventual demise. One way or the other, the fate of the Big Three will have serious implications for the overall economy and possibly the lives of millions of Americans.
The Road to Ruin
The banking crisis that hit in September made it harder to obtain credit and damaged consumer confidence, which took a toll on sales. In November, auto sales dropped 37% from the prior year to their lowest rate since 1982. U.S. manufacturers have also struggled with declining market share over the last two decades and higher employment costs than their foreign competitors.
Manufacturers had already cut production in response to falling demand, and GM and Chrysler extended holiday factory shutdowns to a month or more to reduce costs and keep unsold inventories from building further.
Ford Motor Co., which borrowed against its property and assets two years ago, said it may have enough cash to weather the crisis through 2009 without federal assistance. However, it called for the rescue of its competitors Chrysler and GM to lessen the fallout on suppliers, the industry, and the economy as a whole in the event of any monumental failure.
An auto industry collapse would have far-reaching effects on the U.S. economy because it accounts for four percent of gross domestic product (GDP) and 20 percent of manufacturing GDP. According to the White House, the domestic auto industry’s failure would slow annual GDP growth by one percent and cost the economy roughly 1.1 million jobs.
In return for the short-term loans, loan recipients must have a positive net present value by March 31, 2009, to be considered viable, or risk having the loans recalled. The government will receive stock warrants, and the companies must make taxpayers senior to other debt holders. Federal officials will have access to corporate books and records, as well as the power to block any transaction over $100 million. Firms are also forced to accept limits on executive compensation, eliminate perks such as corporate jets, and stop paying dividends until the loans are repaid.
The administration also set some specific restructuring targets that include:
* Reduce unsecured debt by two-thirds through a debt-forequity exchange with bondholders.
* Renegotiate wage agreements and work rules to make them more competitive with foreign-owned car makers that build vehicles in the United States by the end of 2009.
* Eliminate the jobs bank that continues to pay employees after they are laid off.
* Make half of a payment to an employee health program in the form of stock.
In effect, the loans deal with short-term liquidity issues and keep the firms alive until the new administration can enforce longer-term restructuring.
This information is educational in nature and is being provided with the understanding that it is not intended to be interpreted as specific legal or tax advice. Individuals are encouraged to consult with a professional in regards to legal, tax, and/or investment issues.