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GM-Chrysler Merger: A Disastrous Deal?

by: Robert Salomon October 12, 2008 | about stocks: DCX / GM    

Robert Salomon

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The New York Times is reporting that General Motors (GM) and Chrysler (DCX) are discussing combining operations (see GM Said to Seek Merger).

GM executives approached Ford (F) about a possible merger in July, but Ford rejected the idea and ended the discussions last month, these people said.

After Ford decided to remain independent amid an increasingly difficult auto market, GM turned its attention to Chrysler. For the last month, it has been in preliminary merger talks with Chrysler’s owner, the private-equity firm Cerberus Capital Management.

People with knowledge of the talks described the chances of a deal as “50-50.”

It’s a straightforward deal: an oligopolistic play in an industry burdened by overcapacity. By coming together, the two firms figure that they can rationalize operations, reduce industry capacity, and gain some pricing power.

This type of strategic rationale can work, as there is no quicker way to gain market share and increase pricing power than to remove a direct competitor. However, I’ve never been a big fan of combining two failing firms in the hopes of creating one healthy one. You generally end up with managerial attention diverted to a complicated integration, and away from what they should be doing in the first place - managing the individual businesses to make them healthy.

According to the WSJ, GM expects $10B in benefits by combining with Chrysler (see GM had Talks with Chrysler).

Pray, do tell, how?

Unless GM is expecting to shut Chrysler down and pocket their nearly $11B in cash reserves, $10B in benefits seems improbable to me.

Their best bet would be to get rid of half the products of the combined GM-Chrysler, keeping only the best-in-class product from each firm (e.g., the Jeep brand for SUVs and the Chevy brand for the mass market). Their product portfolios overlap almost exactly, so the thinking has to be that by rationalizing operations, GM-Chrysler would be able to do so while effectively combining Chrysler’s 11% U.S. market share with GM’s 24% market share.

Again, I am skeptical. Do Chrysler and GM truly believe that they will improve operationally after combining operations? This integration will cost far more than either can imagine, at a time when there is little room for error on either side. As the WSJ astutely points out:

A GM-Chrysler deal would be a highly complicated maneuver, which would involve the rationalizing of more than 100 automotive plants and about 190,000 employees in North America. It would also likely force a streamlining of 11 automotive brands — from Chrysler to Cadillac — and more than 10,000 auto dealers in the United States, Mexico and Canada.

So if you are GM, why not wait until Chrysler goes bankrupt? That accomplishes the same thing without the trouble of the integration. You get to capture Chrysler’s market share (or at least split it with Ford), without having to assume responsibility for its operations. Unless, of course, GM is worried that it might be the first to go…

In the end, the whole thing reeks of desperation. And sadly, the only firm this deal benefits is Cerberus, providing them an exit from an ugly, ugly deal.

Disclosure: No positions.

 

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This article has 9 comments:

  •  
    Oct 12 06:16 PM
    Whoever making decisions for GM now must be nuts. GM itself is a big beggar right now, don't fool yourself !! The merger will just make it even
    a much larger mess. To borrow money from taxpayers and then use the loan to buy more trouble ? That's how stupid it seems. If they use this to confuse people's attention, it won't work !!
    It is sad to see GM & Ford come down to this miserable situation. Wonder how all those auto-workers think , all the demands and strikes they brought upon GM & Ford. As a share holder, I blame them for GM's collapse !! I am a GM customer all my life, can't imagine that GM maybe gone tomorrow for ever !! That will be a sad day for America !!
    Reply
  •  
    Oct 12 06:47 PM
    I remember when Packard and Studebaker merged. There really is no basis for thinking that combining two losers will create a winner.
    Reply
  •  
    Oct 13 02:27 AM
    Exactly. 2 losers when combined become a bigger Loser.
    History didn't teach them anything. Not many people care about
    history nowadays, especially Automotive History.
    Reply
  •  
    Oct 13 09:56 AM
    I would say Kudo's to mgmt team of both firms for at least looking at the possiblity. That is what the stockholders "owners" would want them to do. Also your comment about Chrysler going bankrupt? Since they are a privately held firm where are you getting your information, Crystal Ball?
    Reply
  •  
    Oct 13 10:17 AM
    I despised my old GMs.

    But new GM beat BMW and MINI to market with turbo-direct-injected engines, will probably beat Mercedes with the HCCI/Otto cylce engine, has just introduced the new independently-sprung RWD platform, has offloaded benefits to the union via MetLife and others, is merging multiple chassis into flexible platforms that can be built in any factory in any country, has passed every single automaker on the planet to first place in reliability [I have a hard time getting my head around that concept, but it's true], has started production of two-mode hybrids, is strong in Europe, a powerhouse in China [GM Shanghai, Buick], and will be a top company if they simply kill all their marketing morons.

    The Cerberus investors have been called in for reassurance because there is NO upcoming product in the Chrysler group. They have no drawings for direct-injected engines, no replacement platform for the only independently-sprung RWD models, no fix for the failed C/D platform, [which is under every FWD car they have except the vans] and they botched their attempts at CVTs, turbos, styling, and European expansion. The product head hired to fix the C/D platform made a public statement and was fired. The new product guy from Cerberus quit after two months. The head stylist has been fired, but it's too expensive to retool less-ugly bodywork. They have a massive liability problem. Chrysler is the worst-managed company in American history, and GM would be choosing slow, messy suicide by acquiring this piece of garbage.
    Reply
  •  
    Oct 13 10:43 AM
    "31 October" is right. GM has some exciting technology. But they were first to market with an electric vehicle (I believe '94 MY) and look where that has got them. GM has had many good cars for years now, but they are "Levi's" and everyone wants "Lucky" jeans. I don't know how you turn that around in an industry that takes 3-4 years for a product change and billions in tooling. I like GM, but I don't see their way out of this one.

    There is one last ditch possibility. Perhaps this is not a bone headed business move (GM has long disdained Chrysler), but a desparate political move. If GM really is on the ropes, they might as well make a "too big to fail" organisation. Combining with Chrysler pretty much makes Congress choose whether or not they want US car companies. In the current wave of nationalisation they will very likely come under the protection of the Federal government. If you think product cycles are slow now, just wait until that happens. With so much uncertainty I am not sure why anyone would still be in auto stocks.

    Just a side note. No one ever talks about the special controlling class of stock that the Ford family owns. There are now hundreds of trust fund Ford families living off this stock dividend. A vote to merge would certainly be a vote to cut off all funds to the Ford family who have not worked for generations (except Bill). They will choose to go down with the Titanic hoping there will be a lifeboat in it for them. I wish them luck.
    Reply
  •  
    Oct 13 11:21 AM
    This is simply a case of someone jumping in to save a drowning man who's forgot he doesn't know how to swim himself.
    Reply
  •  
    Oct 13 11:27 AM
    GM could do alot to try to help themselves through this, but like a family who can't pay their mortgage, they just keep their fingers crossed and hold on tight like nothing's wrong, instead.

    One possibility is we could see GM imports and Ford as our lone domestic survivor when the smoke clears. Even the Congress will run out of the will and money to cover GM's losses eventually.
    Reply
  •  
    Oct 31 10:27 AM
    There is an old axiom in the Investor world "Never invest to the past." A merger between GM and Chrysler may, I repeat "may" make strategic sense if Chrysler goes bankrupt first, to break the albatross (read: Union) then merge. Perhaps then, with the combined resources of the two companies they can focus in on the business of making great cars that Americans would want to buy.
    Reply
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