President, Synergistics Limited
The American automotive industry has met the hard realities of the 21st century. The Chapter 11 bankruptcy filing of General Motors (GM) on June 1st, just one month after Chrysler entered US bankruptcy court, represents a defining moment in a long and once-proud history of an iconic American company. Automobiles and the industry that produces them are in fact woven into 20th century American history and culture. It is an industry that has brought forth remarkable innovations, provided jobs for millions of middle-class people, and offered individuals and families the chance to experience the freedom of the road.
Founded in 1908 by Billy Durant, GM dominated the American automotive industry as well as the American economy for most of the last century. In 1954, GM reached its peak of 54% share of the US market. GM has also been a pioneer in the global expansion of the automotive industry, having been fairly successful in expanding their global footprint through acquisitions and partnerships. Acquisition of the British automaker Vauxhall motors in 1925, followed by acquiring the majority share of German carmaker Adam Opel in 1929, gave GM a strong European base. They added Saab to their European base in 1989. More recently, GM and its partner Shanghai Automotive Industrial Corporation (SAIC) have established a strong position in the rapidly expanding China market.
However, GM has been on a steady decline in its domestic market over the past half-century, and the recent global economic crisis has accelerated the need for restructuring through bankruptcy. The story of GM’s rise and eventual fall offer important lessons for 21st century companies with global ambitions.
Impact of the Global Financial Crisis on the Auto Industry
The global car industry has long suffered from overcapacity resulting from overly ambitious assumptions for market growth combined with optimism surrounding whatever product or technology was being offered. Ambition and optimism are the first victims of a recession as businesses struggle to realign to a new era of fiscal conservatism. This translates into a major reduction in capital spending and asset sales as businesses attempt to adjust their size in order to regain a profitable footing. The financial crisis, which worsened in the 3rd quarter of 2008, has dragged the world into its deepest economic downturn since the Great Depression. A unique attribute of this recession is how quickly the financial turmoil has spread across the world as a result of global interdependence along with a synchronization of business cycles among these interdependent markets. According to a recent forecast from Global Insight, 2009 will likely witness the first drop in global GDP since the 1930s.
In previous economic crises, the U.S. economy has always come to the rescue and restored hope to a troubled world. The $838 billion economic stimulus bill enacted in February is designed to create millions of new jobs and jump-start the economy. However, most experts do not foresee a recovery until 2010 at the earliest. Of course, the housing crisis and resulting credit crunch have made it more difficult for car dealers and consumers to buy on credit. On top of this, American consumers have become much more cautious in their buying behavior, preferring to spend less and save more than they have done historically. In the current economy, American consumers are placing a much higher priority on value-based products, which have much lower profit margins.
The impact of this on the car business is immediate and significant. Car companies understand and are often prepared to handle many economic cycles – but the sudden loss of 40% of the demand from the US market was far beyond even the most pessimistic assumptions. Every carmaker competing in this market has suffered as a result. However, the impact on Chrysler and GM is catastrophic. The consequence of which is the need to fundamentally restructure both companies in order to shed non-performing assets. The near-term challenge is to restructure the business to regain an appropriate balance of supply and demand.
The Success Trap
The plight of the Big 3 in the US market is actually a decades-long story of the loss of domestic market dominance. However, many have been too quick to say that their recent troubles have resulted from “making cars that customers are no longer interested in buying”. While it is a historical fact that the Big 3 have gone from a combined share of 66% to well under 50% within this decade, it would be incorrect to say that this is a result of the consumer’s rejection of American brands. Today, Chrysler’s market share in the US is about what it was 20 years ago (roughly 10%). However, over the course of the last half of the 20th century, the Big 3 fell into a several traps that were largely a result of their prior success – especially for General Motors.
- Product Innovation Trap: GM was a company known for product innovations such as the electric starter, V8 muscle cars and “tailfin” styling. Companies should never assume that what worked in the past will work again in the future. Relevant product innovation is critical in the car industry. While blessed with one of the strongest R&D capabilities in the business, it became increasingly evident that GM was having difficulty bringing these innovations to the market. A noteworthy example of this was GM’s $1B EV1 electric car program, which never became a commercial success.
- Brand Trap: Alfred Sloan’s pioneering concept of “different cars for different buyers” was the centerpiece of GM’s early 20th century expansion – and this was perfect for an industry in its infancy. However, the cost of engineering unique products for as many brands as GM had in its portfolio became too great. GM’s reluctance to give up brands because of their historic value became a major financial burden. After GM’s sale of Hummer, Saab, Opel, Vauxhall and the wind-down of Pontiac, only 4 brands will remain: Chevrolet, Buick, Cadillac and GMC Truck.
- Business Model Trap: It can be argued that the mass production business model was Henry Ford’s innovation – but it was Alfred Sloan’s GM that realized its true potential. The introduction of the principles of business management at Sloan’s GM ultimately became the textbook for running a successful business. The failure to adapt these principles to an increasingly competitive and globally distributed world has contributed to GM’s decline.
- Legacy Cost Trap: In a new and growing industry, size is an advantage. Bigger companies have the ability to leverage scale and thereby lower costs for purchased goods, and can recover investment costs over a larger number of units sold. However, size brings fixed cost resulting from worker salaries, health care and other benefits, retiree pensions, and other general and administrative costs. Inflexible labor contracts make it difficult to adjust to new marketplace realities. On top of this, it is very difficult to match the costs of global competitors where such costs are subsidized by social benefits available in their country. Companies in a global industry will have difficulty competing against rival companies with workers willing to accept lower salaries for comparable work.
End of Story?
Chapter 11 is not the final chapter of GM’s story. GM has a core business that can in fact compete in the global auto industry. As noted earlier, GM was perhaps the first truly global car company. GM’s is well positioned and is successfully selling its Buick, Chevrolet and Cadillac branded vehicles in China. Ahead of the Chapter 11 filing, GM has already been able to renegotiate many of its debt obligations and fixed cost burdens with the support of the Obama Administration’s auto task force. Through the bankruptcy process, GM will be able to further eliminate non-performing assets including discontinued products and facilities associated with them. They also intend to adjust the size of their dealer network in-line with global competition. Bringing their overall cost structure in line with a new market place reality will allow GM to regain a profitable footing at a much lower breakeven point.
Successful 21st century companies will be the ones that can quickly adapt to the reality of globalization. Noteworthy examples exist – such as Apple Corporation. Also an American icon, Apple has carefully deployed a business model that yields innovative products while leveraging the best and most cost effective resources from home and abroad.
The US auto industry may have come late to the realization of the need for this fundamental rethink of the business model – but it is very possible that GM can rise from bankruptcy to once again be a formidable competitor in the global automotive industry.