The Strike At GM: Causes and Consequences
*Graham and Doddsville Revisited* -- "The Intelligent Investor in the
21st Century" (6/28/98)
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"The underlying principles of sound investment should not alter from
decade to decade, but the application of these principles must be
adapted to significant changes in the financial mechanisms and
climate." (Benjamin Graham)
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[The following is a letter e-mailed to Ted Koppel regarding a recent
edition of Nightline's coverage of the GM strike.]
Ted Koppel
Managing Editor and Anchor
ABC News Nightline
Dear Ted Koppel:
It has been both a pleasure, and highly informative, to have watched
so many editions of Nightline, going back to when it began daily
coverage of the hostage crisis at the U.S. Embassy in Iran.
Not long ago, you did a wonderfully balanced week-long series on a
maximum security prison, in which not only the prisoners, but also the
guards and the families of victims, were all given the opportunity to
express their varying concerns. I have every expectation that this
series will win an award.
But, the purpose of this letter is not to compliment you on all the
many fine editions of Nightline you have presented, but rather to
complain a bit about the lack of balance in the edition of Thursday
night, June 25, 1998, regarding the strike at GM.
My concerns are presented below, in the approximate order in which the
topics were raised on Nightline:
Blame Is Not The Issue
One guest, film maker Michael Moore, made the case that GM was to
blame. The other, auto journalist Jim Mateja, supplied
"balance" by commenting that other auto manufacturers were also to
blame, not just GM. But, no one offered the point of view of all the
proverbial "widows, widowers, and orphans" who own shares of GM stock:
namely, that blame is beside the point.
The relevant issue is not who is to be blamed, but rather, to quote
Lenin, of all people: "What is to be done?"
Who Better Understands GM's Profit Picture: Mr. Moore or Mr. Market?
In making his case against GM's management, Mr. Moore was very
emotional in asserting that "... this company in the last five years,
Ted, has made a net profit of $27 billion. Now, what I don't
understand is what are they complaining about." (See:
abcnews.com
ml)
No one pointed out that GM lost a comparable sum in the early 1990's,
during the last recession. In other words, during the decade of the
greatest global economic growth in all history, the world's largest
auto-and-truck maker just broke even -- and then only because of its
non-auto making subsidiaries.
GM's continued existence was in doubt during the last recession. And,
auto industry analysts who have studied GM have concluded that it must
shed at least 20,000 to 30,000 hourly workers to insure that it
survives the next recession.
Further, those GM auto workers who remain must work 7-1/2 hours a
shift, instead of 4-1/2, if GM is to survive.
The Respective Gains Of GM's Workers, Car Buyers, and Shareholders,
Since 1965
In the following day's (6/25/98) Wall Street Journal, one reads that
$1.80/hour was a typical entry level wage for a GM worker
in 1965. It is now $20/hour -- for a job the 20-something woman who
holds it describes as requiring nothing more strenuous than standing
on her feet 8 hours a shift, watching to make sure the robots don't
foul up the assembly of a dashboard. This is a wage appreciation of
over 900%.
Similarly, in this 33-year span, the cost of a modest Chevrolet has
risen from about $2,000 to around $18,000 -- an appreciation of about
800%. But, in 1965, the typical U.S.-made car required a tune-up and
oil change every 5,000 or 6,000 miles, a valve job after 30,000 miles,
replacing brakes and transmission after 40,000 miles, and an engine
overhaul after 60,000 miles. In a small town, a car that had over
100,000 miles on its odometer was considered worthy of having its
photo appear in the local newspaper.
Today, a GM-made car that costs the same number of hours of work on
the part of the average U.S. worker can often operate for 100,000
miles before its first trip to the shop. In addition to reliability
that is beginning to approach (thought not yet meet) Japanese
standards, GM cars are far more fuel-efficient, as well as far less
polluting, than 33 years ago.
And, in 1965, the DJIA reached almost 1000, and recently peaked just
above 9200 -- also an appreciation in excess of 800%.
By contrast, the price a share of GM common stock will fetch in the
marketplace only recently rose to its 1965 level, before retreating in
the wake of the strike. This is an appreciation of less than 0%.
When inflation is taken into account, a share of GM stock is worth
about a quarter of what it was in 1965.
The UAW has done fine. GM auto buyers have done fine. Investors in
the DJIA have done fine. Even the air is cleaner. But, holders of GM
stock (many of whom are also in the first two categories) have done
very poorly.
It is true that GM has paid dividends to shareholders throughout this
period. But the total return on these dividends has been well below
that of the risk-free return on cash over the same span.
In other words, the financial markets are convinced that GM has not
been growing its average profits for over 30 years. In the short
term, a company's common shares can rise well above, or fall well
below, their long-term economic value. But, Ford's and Chrysler's
common shares have soared in recent years.
Further, when GM's auto-and-truck operations are viewed in isolation,
their price-to-earnings ratio (a fundamental measure of a stock's
favor with investors) comes in dead last on the S&P 500. Is it
plausible that Mr. Moore's insights into GM's true profitability are
that much more accurate than Wall Street's?
GM Couldn't Afford Innovation In The Early 1990's
Mr. Moore continues: "... [GM] designed cars that people don't want
to buy.
I mean ask anyone who's watching this show right now if
they've driven a Chevy Lumina van or a Pontiac Bon[n]eville
lately and compare that to a Ford Taurus or a Chrysler minivan
or any of the Japanese cars and it's clear the top management
of General Motors has refused to listen to the consumer and
build the car that could help improve their market share.
Chrysler did that and they've doubled their market share in
the last 10 years."
As should be obvious, there is a "little boy or girl" in every auto
worker, from the factory floor to the executive suite, who wants to
make "cool cars". GM, for instance, is the company that put
hi-powered V-8 engines in every Cadillac, created America's only
high-speed sports car (the Corvette), perfected the automatic
transmission (Rolls Royce once bought its transmissions from
Oldsmobile), produced the 409 V-8 engine, the Pontiac GTO, and so on.
What Happened?
What happened was: GM stopped making money over the "peak-to-peak"
economic cycle.
Economics has been called the "dismal science". And, a dismal
scientific truth is found in the economic equation: No profits => no
cool cars. And also, no long-term economic security for the
substantial number of GM workers, and their families, who have already
retired from GM, or for those who will do so over the coming years.
Some Added Historical Perspective
How is it that Ford and Chrysler can still afford to make interesting
and innovative cars? That requires a bit of history that was left out
of Nightline's presentation on the history of GM's relations with the
UAW.
As Nightline indicated, organized labor came into its own during the
Great Depression. At long last, labor had won the right to bargain
collectively. Capital had long had the right to form powerful
bargaining combinations. However, consumers have never had a
widespread right to bargain collectively.
This last factor, in combination with the one that follows, would have
a major role in leading GM and the UAW to their current impasse.
Quasi-National Health Care
During World War II, wage and price controls prevented the use of cash
incentives to attract and keep workers, at the same time that the
labor force had been greatly diminished because so many people of
working age were serving in the military. As you know, to provide the
necessary economic incentives, an increasing number of companies
offered health benefits to their workers.
After the war, companies that wanted to avoid strikes, or avoid
unionization entirely, anted up for ever broader, and ever more
expensive, health coverage for their workers.
In general, the broadcast news media have made much of the fact that
average real wages were largely stagnant during the 20-year span from
the mid-70's to the mid-90's. Not as much was made of the fact that
average labor costs paid by companies exceeded inflation throughout
the period. (However, this information was widely disseminated in the
print media in, to cite just two examples, both The New York Times and
The Wall Street Journal.) The difference between wages to workers and
labor costs to companies is mainly due to the increased cost of
providing worker health coverage.
Burden Shifting For Higher Health Costs
In effect, U.S. workers who did not have health coverage were
subsidizing, through lower wages and higher prices for consumer goods
and services, quasi-national health care for workers (both union and
non-union) who were covered by their employers.
The auto industry, as noted above, is cyclical. In the post World War
II period, strike after strike came during economic peaks, the very
time when auto companies must keep turning out cars to make an overall
profit for a given economic cycle. All along, the "Big Three" kept
settling strikes by giving away the key to the vault to the UAW,
largely in the form of rising health care liabilities, while also
making sure the fat cats in the executive suites remained economically
rotund.
The last great UAW strike came in 1970 -- against GM. At that point,
GM sealed its current fate by caving into the UAW. A "pattern
agreement" (that Ford and Chrysler had no choice but to adopt) was
signed that insured all of the automakers' profits earned during an
economic up-cycle would be given up during the next down-cycle.
It should be added that refusing to lower dividends to shareholders
exacerbated the auto industry's financial difficulties. The Catch 22
on this score is that maintaining dividends through thick and thin is
one of the few ways to attract capital to industries with limited
profitability and growth prospects -- as well as to protect management
from disgruntled institutional investors.
Who Paid For This Condominium Between Management And The UAW?
The burden of paying for this cozy arrangement was shifted to the
shareholders of car makers, and the U.S. auto consumer -- the former
by experiencing ever decreasing real returns on their investment, and
the latter by paying ever higher prices for cars that were mainly just
altering the external sheet metal from year to year. And, quality
"improvements" were confined to offering ever-longer, and more
expensive, warranty periods, instead of making the cars right in the
first place.
How It Ended
In the aftermath of the run up in oil prices, Japanese autos began
showing up in quantity on U.S. shores. Suddenly, U.S. consumers,
though they lacked the collective bargaining power of capital and
labor, could choose to buy cars from companies where fuel-efficiency
and quality were top priorities.
As a result of 30 years of largesse for the UAW, and even greater
largesse for auto executives, by the late 1970's, both Chrysler and
Ford were almost on the steps of the bankruptcy courts. At that time,
the UAW made concessions on outsourcing and work rules to both Ford
and Chrysler. GM, at the time still bloated and arrogant, obtained no
such concessions.
GM Is Trapped By Past Successes And Excesses
Today, on a typical laundry list of components that go into
manufacturing an auto or truck, UAW-covered GM workers make almost
100% of these parts, while at Ford and Chrysler the figures are about
50% and 0%, respectively. The latter two outsource the rest. (Some
auto analysts view Chrysler as more of an auto design and marketing
company, rather than a manufacturer as such.)
GM's Unprofitability Revealed
In the early 1990's, accounting rules were changed such that companies
were required to estimate the present value of future medical benefits
that their workers had already vested. The result was that GM had to
admit in its financial reports what Wall Street had long suspected:
GM hadn't actually been making a profit from one economic cycle to the
next, largely due to the future health care obligations that had been
accumulating.
Yet, GM was trapped in a cost structure that made cycle-to-cycle
profitability all but impossible, in the face of competition from
domestic and foreign car makers, which were not burdened by 100% of
their workforce being covered by a UAW contract.
New Designs Not An Option On GM Cars And Trucks
At that point, designing interesting and innovative cars was no longer
economically feasible at GM, though it had become so at Ford and
Chrysler. Seen in this light, it is unsurprising that Chrysler has
enjoyed rapid growth in market share by designing the most interesting
and market-appealing cars in the 1990's -- because designing and
marketing is most of what Chrysler does -- and it doesn't have to pay
$45 per hour to have the cars manufactured.
Instead of coming out with new designs, which it couldn't afford, GM
endeavored to perfect the ones it already had. GM largely succeeded
in closing the quality gap with Ford, but at the expense of a good
deal of market share, as younger buyers sought more innovative cars.
GM Cannot Afford New Equipment, Without A Day's Work For A Day's Pay
It is always enjoyable to watch you, Mr. Koppel, suddenly zero in on
an evasive guest. No one reading only the transcript can fully
appreciate the look in your eyes that silently said to Mr. Moore:
"Don't even think about giving an unresponsive answer to this
question." The transcript reads:
"...what General Motors is saying is look,
we signed this deal here where, in effect, if a man or a group
of men turn out so and so many of these cradles in, what, four
hours, they still get paid for an eight hour day and if we need
more of them, we have to pay them overtime."
Yet, Mr. Moore did evade the question, by pointing out how difficult
it is to move engine-cradle presses for 4/1/2 hours, and then switched
the topic to:
"....The difference is that at Ford or Toyota, they've
invested in new presses, in new dies, new technology where you
can stamp out 400 parts an hour. General Motors hasn't done
that in Flint."
You then reminded him:
"Yeah, except Michael, they're not putting it in
terms of these guys are [not?] working enough. They're saying
if they fulfill that quota in less than an eight hour day and
then they, we ask `em to do any more work, that has to be done
on an overtime basis...."
Unfortunately, the topic then changed to GM's late-night removal of
new plant equipment from Flint to a safe site, to ensure that the
equipment would be still be undamaged at the end of a then
all-but-certain strike. But, no one on the show explained how GM can
continue to provide a full day's pay at a premium rate for 4-1/2 hours
of actual work, and still afford to buy the latest equipment.
Let's look at some simple arithmetic. GM incurs an estimated average
cost of around $45 per hour for workers covered by the UAW contract.
A normal shift entails, say, 7-1/2 hours of compensated time. 7-1/2 =
1-2/3 x 4-1/2. This implies that a worker who goes home after 4-1/2
hours of work, but gets paid for 7-1/2 hours, is costing GM $75 per
hour.
Neither Ford, nor Chrysler, nor any other company anywhere in the
world, can continue incurring costs of $75 per hour for manufacturing
workers, and still have a surplus left over out of which to buy the
latest manufacturing equipment. (It is not without reason that GM is
so out-of-favor on Wall Street.)
"It's Not Their Job"
The fact that GM removed the equipment at Flint from possible harm's
way shows that, contrary to Mr. Moore's preceding plaint, GM had, in
fact, purchased more productive equipment for the Flint factory.
Having come through on its end of the 1993 agreement, GM then expected
the UAW to come through on its end, i.e., easing up on work rules, in
particular "job classifications" (a subject you are no doubt familiar
with from within your industry).
In particular, GM was asking that workers who had met their quota for
making engine cradles be allowed during the remainder of their shift
to help other workers with other tasks. It is on this point that the
UAW dug in its heels, insisting that these workers get overtime for
work with a different job classification.
Thus, GM would have to incur costs of around $75 per hour for the
first 4-1/2 hours of work by engine cradle stampers, and then pay
overtime for each additional hour they worked at some other task. How
could GM extract enough profit from this arrangement to pay the cost
of installing the new cradle stamping equipment?
Neither Ford, nor Chrysler, nor the companies to which they outsource,
are similarly encumbered by such rigid job classification
restrictions.
White Males: Fat, Fifty and Annoyed
There was an extended segment showing the usual cast of mainly white
males who, like myself, are fat, fifty and annoyed. And, whatever the
particulars, we are all annoyed about basically the same thing: The
world is no longer arranged for our convenience -- and at the
inconvenience of everyone else.
I recall a letter to the editor that appeared in Barron's a few years
back, when payrolls were being slashed among the ranks of white collar
managers. The letter's writer had been terminated as the controller
of a foreign company's U.S. subsidiary, with an annual salary of
$125,000. In the subsequent two years, no company had been willing to
restore him to his former executive prominence.
Consequently, he had been reduced to the indignity of doing temporary
office work (like that which a couple of billion people who aren't
white males would be grateful to have). He was furious, and warned of
dire consequences, if Washington did not make redressing this
injustice an immediate national priority.
Apparently, even though a reader of Barron's, it hadn't yet occurred
to him that the world economy doesn't need $125,000 per year
controllers as much as it does more modestly compensated office
staffing.
Similarly, rhetoric aside, most GM workers realize that the U.S. auto
industry can no longer afford as many $45 per hour auto workers (if it
ever could).
Gen-X Sees GM Differently
The gist of the 6/26 Wall Street Journal article mentioned above is that
there is a major generational gap within the UAW over this strike.
There are very few younger workers marching on the picket lines. The
young woman who watches robots doesn't see "GM" as standing for
"Generous Motors", as did her parents' generation. And, she doesn't
plan on spending the rest of her working life watching robots.
Older workers at GM (and many other large corporations around the
world) once expected that 30 years of loyalty to the company would be
rewarded with a lifetime of economic security for themselves and their
families. (If this seems similar to the medieval arrangement between
landlords and their serfs, that's because it is. Europe made no
apologies about it -- and now endures double digit unemployment that
won't go away. Japan has similar woes with similar causes.)
But, this young woman sees GM as a place where she can earn enough
money to finance an education that will qualify her to do something
other than watching robots for 8 hours per day.
My Own Bias
I should point out that I am a registered investment advisor. Around
the beginning of 1997, I began recommending to clients that they
invest in GM.
This recommendation was based, in part, upon the belief that GM
management and the UAW would work out an arrangement whereby the long
term economic security of both would be provided for. I still believe
this, because rhetoric from both sides notwithstanding, GM and the UAW
know that they have no other realistic choice.
However, I don't believe this is about "good guys" vs. "bad guys".
Both sides want to make the best cars in their price category, and
both sides want to make a lot of money doing it. But, both sides know
that this isn't possible with a wage package of, in effect, $75 per
hour.
I think the UAW just wants to show its guys and gals that it can still
bloody GM's nose if it wants to -- not necessarily a bad thing in
itself. But, at the end of the day, a lot of UAW retirees' economic
security, current and future, is premised upon GM's long term
profitability.
The likely outcome is that the UAW will eventually claim victory, and
return to work at Flint with less rigid jurisdictional boundaries on
the shop floor. GM management will bring the new equipment back to
Flint. U.S. auto buyers will get better offerings from GM. And, I
believe, the widows, widowers and orphans, will start to see positive
returns on their investment in GM.
Yours,
Reynolds Russell
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Graham and Doddsville Revisited
Editor: Reynolds Russell, Registered Investment Advisor
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