A Deadly Unwind

1950s-carMy dad was a small town Ford dealer (Council Bluffs, IA). Dad was fortunate enough to have a very rich mentor that put him into the dealer development program when I wasn’t even walking and so we moved to what I still believe is the middle of no where and put down roots. I don’t know if you’ve got much experience in a small town, but the local car dealers are actually pretty big businesses for them. My dad headed up blood drives and the United Way. He belonged to the Chamber of Commerce. When Dad was younger he volunteered for everything. As he got older, he wrote a lot of checks. He helped my Mom establish a Victorian house museum that still is world-renown. He always bought tons of tickets to the college world series to hand out to every one who walked in the door. He sponsored little league teams and bought advertising in the local newspapers and TV stations. His 50-100 employees were with dad for as long as I can remember. Not only the mechanics and the office folks stayed with Dad, but also the car salesmen. They were my family too. When dad retired in the 1980s after surviving those horrible energy crisis years, I came to look back on how central the car business is to small town America. Actually, Dad also sold a lot of trucks because we lived in farm country.

I’m thinking more and more about this as well as having a lot of discussions with Dad on the unwinding of the great model-tAmerican car companies. In a way, it feels like the unwinding of small America cities and a way of living. Chrysler and GM are dumping dealers all over the country. Most of the surviving dealerships are not going to look like the way dealerships developed when cars and the car industry were the most American of all business. I’m sure it’s going to be much more efficient and I am certain that each of the US automakers over franchised, but still, there is something about a small town car dealership that is not going to be replaceable. In many towns, it is one of the biggest employers and also a huge source of charitable donations.

It is odd that the first two articles that grabbed me this morning as I drunk my coffee were two contrasting views on the wind down of Chrysler. The first one was all about the finance and the bankruptcy and is on Salon. It’s called “Who is Screwing with the bankruptcy laws”. The second was on the front page of the business section of the NY Times. It goes to directly to the heart of the dealer closings and is entitled “Chrysler Francisees Make Case Against Closure”. Both show exactly how ugly the Chrysler bankruptcy  has become.

I highly recommend the Salon article because it really explains some of the dealings between the bondholders and the government.  I’m not a bankruptcy lawyer or expert, but I am aware of the financial aspects of the bankruptcy risk. It’s a huge part of pricing assets and an even more huge part of rating bonds and enabling a company to finance through the relatively cheaper bond markets. Bank financing is much more expensive for companies because of the risk monitoring services a bank provides.  These services are covered by higher fees and interest charged by banks.  Any potential disruption in bond financing could hurt a number of companies;  not just those vested in the automobile makers.    One of the most interesting points brought out in this paper is the previous speculation in academic circles about the role of Credit Default Swaps in any bankruptcy proceedings.  The author of the paper, Seton Hall University’s Stephen J Lubben may have foretold the current goings-on.

But in July 2007 he also authored the prescient paper “Credit Derivatives and the Future of Chapter 11,” in which he theorized that the proliferation of credit default swaps (CDS) could end up reducing creditor willingness to agree to out-of-court corporate restructurings. He suggested that creditors who had bought CDS that would pay out in the event of a bankruptcy would have fewer incentives to agree to deals designed to avoid bankruptcy filings.

There are indeed some interesting law suits being file from various parties impacted by the Chrysler crash.  The press is turning this part of the mess into a “unions” versus “hedge funds” fight.  But that, as usual for the press, is over simplistic.   The argument is that there is a hierarchy of priority in the bankruptcy case.  Salon’s Andrew Leonard interviewed Professor Lubben and there are a lot of interesting issues presented in the resulting piece.

The first issue is that Lubben argues that the money given to Chrysler by the government is actually money to calm Union concerns and that there is no indication that the government money would come up in the bankruptcy case and be available to bondholders.  He therefor calls the union issue a red herring.  Although, he does mention one important thing concerning unions and the future of funding for unionized companies.  A recent Bloomberg article suggests that all of the government’s interferences in the Chrysler case may make it nearly impossible for unionized shops to access the bond market.  This looks like it’s Obama taking on Hedge Funds which are now being portrayed as Wall Street boogie men but again, it’s more complicated than that.

“Creditors are justifiably concerned” about what precedent the auto bailouts are setting, said Mark Kiesel, global head of corporate bond portfolios at Pimco in Newport Beach, California. Pimco managed $747 billion as of Dec. 31.

“When you get these companies that have legacy costs, that’s something you have to factor in when evaluating credit risk,” Kiesel said. “Any investor is going to price in increasing political risk in considering where to put their money.”

Pimco, manager of the world’s largest bond fund, didn’t have a stake in Chrysler and owns an “infinitesimally small” amount of GM debt, according to a report by co-chief investment officer Bill Gross on the firm’s Web site.

The government’s “grassroots trend” signals “an increasing uncertainty of cash flows from financial assets” and risk premiums will increase as a result, Gross wrote.

So who are those guys challenging the Chrysler deal?  Here’s an article in the WSJ talking exactly on that called “About Those ‘Speculators’ . . .Pension funds also got whacked by Uncle Sam”.

Indiana Treasurer Richard Mourdock revealed this week that his state’s police and teacher pension funds have lost millions of dollars in the Chrysler “restructuring.” Indiana’s State Police Fund and Major Moves Construction Fund, which finances roads and bridges, together lost more than $1 million. And the Teacher’s Retirement Fund “suffered, at a minimum, a loss of $4.6 million due to the action of the Federal government,” reports Mr. Mourdock.

Far from being speculators, these funds represent retired public employees, including cops and teachers. The funds paid a premium to buy “secured” status, only to discover that they were politically outranked by the United Auto Workers in the White House hierarchy.

“In the past, to be ‘secured’ meant an investor was ‘first in line’ in the event of a bankruptcy and ‘non-secured’ creditors would receive value after secured-creditors were paid,” Mr. Mourdock says. “In the Chrysler bankruptcy, however, secured creditors received $.29 on the dollar even as non-secured creditors received higher values and ended up with a 55% ownership of the new company, which is fundamentally wrong and a dangerous precedent to the capital markets.”

We’ve worried that the Chrysler sandbagging would discourage bond investment. And, sure enough, Mr. Mourdock says that from now on no funds under his control will invest in the secured debt of “General Motors, other manufacturing companies, or those insurance companies who have or will be receiving bailout funds.” Given the recent actions by the feds, he adds, “the risk is too great for any prudent investor to accept.”

chrysler-logoMeanwhile, back on Main Street, the latest group to file against the Chrysler proceedings are the disenfranchised dealers.   It appears that Chrysler executives were pressuring many of them to take on excessive inventory from the company, only to dump them weeks later.  This from the NY Times article.

The calls from Chrysler officials were coming nearly every day, sometimes several times a day, right through the final weeks before the company filed for bankruptcy. And the message, said Robert Archer, who runs three Chrysler dealerships in the Houston area, was simple: Take more cars.

“They tell me, ‘The only way that we can survive is if you order cars, and Fiat and the government see money coming in,’ ” Mr. Archer said.

He acquiesced, he said, thinking he was doing his part to save the company. “I’m a team player and I don’t want them to go out of business, so I ordered a ton of cars.”

Then, a week ago, Chrysler told Mr. Archer, a dealer for three decades, that his three stores were among the 789 dealerships the company was eliminating as of June 9. Mr. Archer had 700 new vehicles and $1.7 million in new parts in stock when the letters arrived.

Now, Mr. Archer is among 330 dealers, calling themselves the Committee of Chrysler Affected Dealers, who are contesting the company’s action. Next week and on June 3, the bankruptcy judge handling Chrysler’s case will consider their objections.

I’m not exactly sure what comes out of all of this, but I am willing to say that there will be no winners here.  What continually amazes me is the number of huge corporations that are allowed to exist that simply turn bad decision-making into to too huge to fail.  My hope is that the one lesson we learn from the death of this part of Americana is that too big to fail means too big to manage means too big to exist in the first place.  It’s time to dust off those old anti trust laws and prevent more of these deadly unwinds.  So few people shouldn’t have the power to wreck so much havoc to so many lives.