DETROIT (May 26, 2010)—General Motors Co.'s first-quarter pretax income of $1.3 billion put an exclamation point last week on the Detroit 3's new reality.
The three auto makers are by no means robustly healthy. But in the first quarter they did what viable companies do: post profits and generate cash from operations.
After various strategies—whacking plants and employees and in some cases debt and brands—the auto makers are ready to post serious profits. The Detroit 3 proved—for now anyway—that they can break even at an annual selling rate of 11.5 million vehicles, down from about 16 million three years ago.
GM, for instance, posted healthy income before taxes in the first quarter even though revenues were only about three-fourths of what they were in the money-losing first quarter of 2008.
It's unclear, though, whether the Detroit 3 can stay the course. The same profit-eroding traps that dogged Detroit executives in the past—incentives, overcapacity and bureaucracy—still can return, now or later.
The difference now, though, is that the companies have CEOs from outside Detroit who have pointedly rejected the bad habits that drove two of the three domestic auto makers—GM and Chrysler Group L.L.C.—into U.S. Bankruptcy Court last year.
It's tempting to attribute the improved results, at least at GM and Chrysler, to the quick balance-sheet rinse those companies received last year in Bankruptcy Court. But in reality, a series of actions by all three Detroit auto makers set the stage beforehand.
The first came in 2007 when the Detroit 3 negotiated with the United Auto Workers. The auto makers off-loaded enormous retiree health care costs into trusts administered by the UAW.
The Detroit 3 also won a two-tier wage structure allowing them to pay new hires a lower wage—although that isn't yet producing major savings.
The auto makers reduced dramatically the time that laid-off workers remain in the Jobs Bank and collect nearly 95 percent of wages and full benefits. That change made it easier to close excess plants and temporarily halt production at operating plants.
When the economy hit the skids, auto makers drastically cut production and closed plants. For instance, GM had 235,000 employees at the end of the first quarter of 2009. Today it has 196,000.
The Detroit 3 have stuck with the discipline of building to demand and have reaped the benefits: better transaction prices, lower incentives, reasonable inventories. For instance, Chrysler's days' supply fell to 53 on May 1 from 114 a year earlier.
The new inventory discipline helped boost revenue dramatically in the first quarter.
Ford—now the biggest domestic, in terms of revenues—took in $31.6 billion in the first quarter, up 29 percent from first-quarter 2009. GM's top line rose 40 percent to $31.5 billion.
More important, with costs down across the board, all three companies posted operating profits and healthy cash flow in the first quarter.
For analyst John Casesa, “the single most important measure is cash flow. All three companies are starting to generate cash on very low volumes.”
Ford led the pack with $2.68 billion in net cash from operations, but all three Detroit auto makers pulled in more than $1 billion. Earning rather than burning cash is critical, said Casesa, managing partner of Casesa & Co. in New York.
Despite the good cash news, Detroit 3 market share is still ugly. In the first quarter the three auto makers reclaimed some share in the U.S., but they were still more than 5 points behind 2008.
In the first quarter, their combined share was 44.7 percent, compared with 43.8 percent in the first quarter of 2009 and 50.1 percent in the first quarter of 2008.
Although the Detroit 3 benefited from many of the same changes, there is one sharp difference. GM and Chrysler needed federal aid to survive, and they dumped debt in Bankruptcy Court. Ford stayed out of Chapter 11 and refused federal bailout funds, winning considerable public sympathy.
But Ford was left with $34.3 billion in total debt.
In the first quarter, Ford had interest expenses of $1.7 billion. For now, Ford needs to pump its incoming cash into debt payments, Casesa said.
“Every car that Ford builds is burdened with hundreds of dollars more of interest expense than GM cars,” he said. But he adds that Ford's product execution has been excellent. If maintained, that should keep adequate cash flowing in. The new Fiesta arrives this summer, and a redesigned Focus arrives late this year.
And with CEO Alan Mulally's insistence that Ford produce more global platforms, Ford's engineering and other costs to add them to North America are modest.
In a measure of Ford's restored credibility, Moody's Investors Service last week raised the company's debt rating to B1, the fourth level below investment grade. A Moody's statement said Ford has “a healthy and sustainable operating model.”
Meanwhile, at GM, new marketing chief Joel Ewanick created a splash last week by swiftly hiring a new ad agency for its Chevrolet division. Such quick decisions, particularly from an outsider, were unheard of at the old GM. CEO Ed Whitacre, seeking accountability, has installed a new leadership team in sales and marketing in North America.
Whitacre also is eyeing an initial public offering of stock, as is Chrysler CEO Sergio Marchionne.
Quick decisions have been largely the norm at Chrysler since Fiat's Marchionne arrived a year ago.
Chrysler's Fiat-based products won't arrive for two more years. But the redesigned 2011 Jeep Grand Cherokee, due in showrooms in a month or so, will give dealers a shot in the arm.
In short, it's too early to declare victory in Detroit. But enough has changed in the past year to generate modest profits—and lofty expectations for much more.