The Obama Administration on Mar. 19 created a $5 billion fund that guarantees payments to struggling auto suppliers, especially those tied to providing parts to General Motors (GM) and Chrysler that are facing the possibility of bankruptcy.
The White House auto industry task force has been warned in recent weeks by automakers, auto industry consulting firms, and the parts suppliers themselves that a lack of credit could force as many as 500 parts suppliers into liquidation or Chapter 11 in the next 60 days.
The concern is that a sudden failure of so many supplier companies, such as such as American Axle (AXL), Lear (LEA) and Visteon, could plunge GM, Chrysler, and Ford (F) into even more dire financial straits because of the resulting disruption in automobile production, as well as cause job losses at foreign-owned auto plants that rely on some of the same supplier companies.
Parts suppliers have been even harder hit in many cases than the automakers by the steep drop in auto sales since last fall. Auto companies including GM and Chrysler have been hammering parts suppliers for lower prices over the last few years to lower their own costs. But suppliers calculate their profits based on an annualized vehicle selling rate, in many cases, of between 13 million and 15 million. The auto industry this year is selling at a rate of around 10 million, erasing even the skimpy profits the supplier companies were banking on.
Auto sales dropped 18% last year, but sales are running 39% below last year's levels in the first two months of this year.
Suppliers will get a government guarantee that money owed them by auto manufacturers for parts will be paid "no matter what happens to the recipient car company," according to the Treasury statement.
Participating suppliers will also be able to sell their receivables from car companies to the program at a discount, thus allowing them to borrow money in private markets more easily. Many suppliers have been unable to get loans from private financial institutions because of increasingly late payments for parts by auto manufacturers.
Healthier Automakers at Risk
If 500 or more supplier companies failed in the next two months, the impact would not only be felt at GM and Chrysler, but at healthier companies such as Ford and Toyota (TM), which use the same suppliers. "It would cause havoc across the whole U.S. industry," said Laura Marcero from auto industry consulting firm Grant Thornton in Southfield, Mich., which recently issued a report on the supplier sector and has advised the White House.
Marcero says the supplier industry needs to be consolidated, with a lot of companies merging and buying each other out. "But it needs to be done in an orderly basis, not in emergency mode."
About 1,500 auto suppliers employ around 500,000 workers in the U.S.
The program by Treasury is not without its critics. The loan program for automakers has been unpopular with many Republicans. Senator Bob Corker (R-Tenn.), who is on the Senate Banking Committee, called the program "a violation of trust," and warned the White House that it would not help their cause should President Barack Obama have to come back to Congress for additional bailout funding for the industry. "Regardless of the merits, Treasury's decision to provide up to $5 billion to auto parts suppliers flies in the face of what they told us they would do in January—provide aid to GM and Chrysler and only for comprehensive restructuring," said Corker. "While most of us on Capitol Hill are very concerned about the supplier base, this is a violation of trust and another sleight of hand by this Administration which will make it very difficult for them to win congressional support at a time when they really need it. The Administration needs to work with Congress instead of running the country by executive fiat without checks and balances on the use of taxpayer money."
GM and Chrysler, which jointly account for about 30% of the auto industry, are facing a Mar. 31 deadline to demonstrate to the White House that their restructuring plans are in place and sufficient to continue as going concerns if they receive additional federal loans. GM has already received $13.4 billion and is seeking $16.6 billion more. Chrysler has received $4 billion and is seeking $5 billion more. Many analysts and critics of the auto industry loan program, though, believe the companies will be back for more loans later this year.
In GM's case, the government is looking for the United Auto Workers to take half of the $20 billion GM owes in health-care trust payments in GM stock. And it is looking for GM bondholders to take a 66% "haircut" on the face value of $31.5 billion in debt they are holding. The automakers have been in negotiations with both the union and bondholders, but no agreements have been reached.
The Obama Administration's stance toward further loans for GM and Chrysler seems to have been affected by voter/consumer bailout fatigue. Despite the progress the companies have made in restructuring their operations, and the transparency of their finances compared with insurance giant AIG (AIG) or Merrill Lynch, public sentiment has been against a big bailout for automakers since last fall when the companies first went to Capitol Hill to ask for taxpayer loans.
Additionally, there is worry that GM in particular will take on so much government debt that it will never get out from under it unless the company is radically restructured under Chapter 11. One of the scenarios being looked at by the White House task force, according to sources, is how the effects of a GM bankruptcy on auto suppliers, Chrysler, and Ford could be minimized should one be necessary.
Kiley is a senior correspondent in BusinessWeek's Detroit bureau.