Smith Faculty Opinion Article

By Dr. Peter Morici, Professor of International Business E-MAIL WEB SITE

July 28, 2008

Chrysler's Financials Improve Ford's Prospects

Apparently, Chrysler is encountering difficulties raising funds from banks to finance leases on its new vehicles. Its financing arm has suspended leases on new vehicles to facilitate negotiations on new loans.

The capital market simply does not believe it is a good bet that Chrysler will be around when leased vehicles come back, or it has concluded the residual values on the vehicles will be so poor that Chrysler will not be able manage, financially, the final sale of the vehicles.

That is likely accurate. Daimler stripped Chrysler of its cash and gutted its engineering capabilities during its stewardship. Among the Detroit Three, it has the least desirable vehicle portfolio, and lacks engineering capability and the funds to develop new ones, to address an environment of rising gas prices.

This situation raises the odds that Ford will survive the shake out to come. That's a good thing. Its Focus and Fusion are two of the most attractive values on the road. Ford reliability is way up, and more good small vehicles are on the way.

Most people have not driven a Ford lately, and should.

For the Record:

The note below was published by Dow Jones Newswires on February 13. It was originally penned when Cerberus purchased most of Chrysler and published under another title by the Boston Herald on May 15, 2007, as well as posted by Finfacts and other websites.

Also, on May 14, I taped this interview with CBS News.

http://search.cbsnews.com/?source=cbs&q=morici  or http://www.cbsnews.com/sections/i_video/main500251.shtml?id=2802651n?source=search_video 

When Cerberus purchased Chrysler from Daimler, I told anyone that would listen it was not a red hot idea.

Cerberus Acquisition of Chrysler Makes Little Sense
By Peter Morici
Revised 6:54 a.m., May 14, 2007

Cerberus will acquire control of the Chrysler Group from DaimlerChrysler.

Cerberus will pay $7.4 billion for 80.1 percent of Chrysler Group and assume the North American automaker’s pension and health care liabilities. Daimler would retain 19.9 percent ownership.

This arrangement fails to address Chrysler's fundamental competitiveness problems on three fronts.

First, the legacy health care costs impose a severe disadvantage on Chrysler. None of the Detroit Three can carry these liabilities and produce vehicles equal in quality and content to the North American transplants of Asian manufacturers.

Although the United Autoworkers Union has surprised observers by endorsing the acquisition, it is not clear how the legacy health care costs can be wholly removed from the cost of building vehicles without Cerberus sinking billions in new funds and partially frustrating the claims of present and future retirees.

Given the tough competition and slim profit margins that characterize the U.S. and global auto markets, whatever residual claims remain would come back to haunt the new company.

Second, the legacy costs aside, the company carries substantial labor cost disadvantages owing to work rules, job classifications and other elements of the UAW contract that raise the hourly cost of labor at Chrysler above those at Toyota and other North American facilities of Asian manufacturers.

Despite Cerberus's strong track record of cutting costs in other firms it has acquired, the concession accepted by the UAW in deals with Chrysler, Ford and GM indicate a Cerberus-UAW deal will not completely and adequately align non-legacy labor costs with Toyota and other transplants in the United States. Without that, Chrysler engineers would have to be superior in every way to Japanese and Korean engineers, which is absolutely inconceivable.

Third, the new company will still be tethered to Daimler in elements of vehicle development, which is why Daimler retains 20 percent ownership. Mercedes and Chrysler enjoy some of the worst reliability and quality records in their classes of cars. A continued alliance would preserve some of the worst elements of the failed merger. Daimler has failed to put a good product on the road in North America, and a continued permanent alliance with Daimler would be foolish.

The additional capital Cerberus will put into Chrysler could be invested by DaimlerChrysler but Daimler chose not to invest such funds, because Chrysler is not a good bet. Cerberus has not demonstrated how it changes Chrysler's fundamental matrix of liabilities.  

Peter Morici is a professor at the University of Maryland School of Business and former Chief Economist at the U.S. International Trade Commission.