Can Bankruptcy Save GM, Chrysler?

As a parting shot, the Bush administration tossed the Obama administration a hot potato; namely, what to do about the American-based car manufacturers who are teetering on the brink. The new President has found that an entire bevy of “experts” aren’t shy about making recommendations, and many of those recommendations have been to require General Motors Corp. and Chrysler Corp. to enter Chapter 11 bankruptcy followed by restructuring and reconstitution of the companies. The experts suggest that by entering Chapter 11, the ailing companies could get relief from their pressing problems. They can tear up or substantially modify their union contracts, ash-can some of their under-performing brands, close plants and “right-size” their operations. Most of all, Chapter 11 would alleviate their most immediate challenge -- cash to pay their bills -- since it would put bill paying on hold. 

Those who suggest bankruptcy as a remedy in this unprecedented situation cite the experience of several airlines that entered Chapter 11 bankruptcy and emerged from it rejuvenated. But does bankruptcy for GM and Chrysler have any hope of success? Or, instead, is it likely to make a bad situation that much worse?

Let’s take a closer look at what a bankruptcy would do to the individual car companies and the economy as a whole. First, there is the issue of consumer confidence. The Conference Board Consumer Confidence Index, which had decreased only moderately in January, had a much more precipitous drop in February, reaching yet another all-time low. The index dropped to 25 (in 1985, it was at 100), down from 37.4 in January. Let’s face it, consumer confidence is already in the toilet, so you can imagine the devastating effect on overall consumer confidence a bankruptcy of GM or Chrysler would have. Then think of what this drop in confidence would do to the sales of General Motors and Chrysler vehicles. While not much has been made of it in the general press, GM and Chrysler sales have gone off the cliff in the past few months, and at least some of that can be attributed to the bankruptcy talk swirling around those two car companies. Should a bankruptcy be announced, it would have much more injurious effects on their sales -- and would very likely persuade so many people to avoid their vehicles, that their future survival would be very much in doubt.

If this isn’t reason enough to reconsider bankruptcy as an option, there is the issue of the supplier base, which would be devastated, perhaps irreparably, by a GM or Chrysler Chapter 11 filing. This factor makes the current situation very different from the scenarios faced by the once-ailing airlines or steel manufacturers. Many GM and Chrysler vendors have operated for years on razor-thin margins and are heavily dependent on the business and the cash flow from the automakers. If that cash flow ceases for even a relatively short period of time it could well send many of those suppliers into bankruptcy and force others to simply close their doors. The rebound effect of this is that the already ailing carmakers would find it difficult and costly to obtain the parts and services required to build vehicles on an ongoing basis. Further, the disruption and failure of supplier companies would have a ripple effect through the entire American vehicle manufacturing industry, causing hardships for the healthier companies as well. There is little doubt that this would only make the recession worse, and it could turn the recession in a depression.

So while some casually toss out the idea of a Chapter 11 bankruptcy as the answer for GM and Chrysler, what it might be in reality is the end of the line. And this is certainly a prospect the Obama administration can’t afford just as it begins its run in Washington.