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MARCH 28, 2005
Business Week

Running Out Of Gas
With market share and sales falling fast, a bloated GM needs to shrink 
to make money

ON MAR. 10, GENERAL MOTORS Chairman and Chief Executive G. Richard 
Wagoner Jr. hopped on the company jet with his chief financial officer 
and some top sales execs to visit dealers in Dallas and on the West 
Coast. The idea of the trip was to shore up morale -- and, more 
important, to get some answers to the vexing question of why GM can't 
pump up market share and wean buyers off profit-eating incentives. One 
Texas dealer says Wagoner was extremely upbeat, vowing that some of 
GM's new and upcoming models and a new advertising push would turn 
things around.

Less than a week later, Wagoner was decidedly less ebullient. On Mar. 16 
he and CFO John M. Devine stunned Wall Street with a warning that GM's 
flagging sales will result in a huge hit to the bottom line in 2005. 
With market share sliding in the first two months of the year, from 
27.2% for 2004 to 24.9% -- the lowest level since a two-month strike 
shut the company down in 1998 -- GM as a whole expects a net loss of 
$846 million in the first quarter.

Like more and more companies these days, GM relies increasingly for 
profits on its financing arm. But while General Motors Acceptance Corp. 
(GMAC) is expected to earn close to $2.5 billion this year, significant 
losses in the auto unit could come close to wiping that number out. The 
company says it could earn as little as $600 million in 2005, down 
sharply from $3.6 billion last year.

Some analysts think even that figure is optimistic. As investors fled 
the stock, pushing it down 14% on Mar. 16, to 29, a somber Wagoner told 
investors and analysts: "We have to address some long-standing 
fundamental problems with the company."

He does -- and fast. It's becoming painfully obvious that Wagoner's 
four-year-old strategy of using rebates to grab market share and 
generate cash has failed. Company insiders say the 52-year-old CEO is 
getting heat from the board, and some mid-level managers are losing 
faith the top brass will make the bold moves needed to execute a quick 
turnaround. Without a dramatic rebound in sales -- an unlikely prospect 
anytime soon -- GM may be forced to shrink the company to a size that 
more closely matches its diminished market share. Wagoner may have to go 
back to the United Auto Workers to get concessions to trim his workforce 
and lower health-care costs. He will also have to squarely face a 
dilemma that has haunted GM for years: Can it really continue to support 
eight competing divisions? "GM is simply too big," says Sean McAlinden, 
chief economist at the Center for Automotive Research. "They have to 

That's something Wagoner has been loath to do. For three years he has 
tried to stave off market-share losses by boosting sales incentives and 
selling more cars to rental fleets. At first the gamble seemed to make 
sense. Since union contracts force GM to pay workers at least 75% of 
their take-home pay when they are laid off, Wagoner figured he might as 
well have them working.

By selling more cars, even at lower margins, GM would preserve its 
customer base. More important, that was the only way GM could generate 
enough cash to pay its huge retiree obligations. The idea was to slog 
along until 2008, when the company's retiree population is projected to 
start declining. By then, Wagoner & Co. reasoned, the company's new 
lineup of cars, sport-utility vehicles, and trucks also would be out, 
allowing GM to pull back on profit-eating incentives.

Things haven't worked out as planned, though. Wagoner's strategy is 
dependent on GM at least maintaining the market share of roughly 28% it 
has held in recent years, plus some growth in the auto business. But 
industry sales are off 5% from their 2000 peak of 17.4 million vehicles. 
What's more, amid rising gasoline prices, sales of large SUVs are 
slumping. As one of GM's strongest markets, that segment has been 
crucial for both sales and profits. Full-size SUV sales are off more 
than 20% this year, and GM's Chevrolet Tahoe sales are down 30%. 
Meanwhile, sales of the company's new passenger cars -- the Pontiac G6, 
Buick LaCrosse, and Chevrolet Cobalt -- are too sluggish to pick up the 

Add it all up, and GM's finances start to look very precarious. Dropping 
two percentage points of market share may not sound like a big deal. But 
in GM's case even a small shift makes a huge difference, because it 
can't cut its costs to match the sales drop. In addition to paying huge 
sums for idle workers, its health-care costs for retirees are growing. 
As a result, estimates Deutsche Bank analyst Rod Lache, each percentage 
point of lost market share means roughly $1 billion in lost profits to 
GM's North American operations.

That's not all. GM's European operations are expected to lose $500 
million this year. There also will be some one-time charges coming from 
GM's ongoing restructuring in Europe. The upshot, predicts Merrill Lynch 
& Co. analyst John Casesa, is that the global auto business could lose 
$2.2 billion this year. That means that GM overall could earn less than 
$300 million.

The steep losses in the auto unit also mean that GM will have negative 
cash flow. GM puts the shortfall at $2 billion. And while that will be 
offset by a $2 billion dividend that the GMAC finance arm will pay to 
GM, the company must pay $1.5 billion to Fiat to get out of its 
relationship with the ailing Italian carmaker. Add to that the fact that 
GM will take a charge for restructuring its European operations, and the 
company is starting to eat into its $23 billion cash hoard.

What must GM do to turn itself around? Many analysts argue that Wagoner 
& Co. need to come to terms with the reality that maintaining market 
share of even 25% is unlikely over the long term. Consider that fewer 
than two-thirds of GM's sales are retail. The rest go to rental-car 
agencies or to company employees and their families -- sales that 
provide lower gross margins. Take those sales out -- or reduce them to 
the lower levels that the Japanese sell -- and analysts figure GM's 
sustainable market share is closer to 20%. Says Center for Automotive 
Research's McAlinden: "GM would be a wonderfully profitable company at 
18% market share."

Even if GM is willing to accept what many believe to be inevitable, 
getting there will be extremely difficult. GM's worsening woes could 
give it the leverage to wrest concessions from the United Auto Workers, 
and talks between management and union leaders have begun. The union 
will never waive the sacrosanct clause that makes GM pay laid-off 
workers, but it may be willing to compromise if the company offers 
something in return. GM, for instance, could negotiate a buyout package 
similar to the one it got from its German union last fall, when its Opel 
subsidiary cut 12,000 jobs. That could allow GM to shed jobs without 
adding to its fixed costs. The move is proving pricey in Europe and 
would be in the U.S., too, but the one-time charge would give way to 
lower labor costs later.

Another option: Persuade UAW workers and retirees to pay more of their 
health-care costs. Two years ago construction-equipment maker 
Caterpillar Inc. (CAT  ) got the UAW 
to sign off on a deal that has their retirees and workers paying more 
than $80 a month for insurance now and more than $100 a month in coming 
years. GM workers currently pay nothing. If GM's 340,000 union retirees 
paid $100 a month toward their health-care premiums, GM would save $410 
million a year. Since the UAW is in the middle of a four-year labor deal 
that expires in 2007, GM would need to go back and negotiate any 
concessions. Wagoner says that with most of GM's high-impact 
cost-cutting options, "we aren't contractually allowed to do it 
unilaterally." But, he added, "we will work with them."

Then there's the issue of size. GM's eight brands -- among them Buick, 
Chevrolet, and Pontiac -- collectively sell five front-wheel-drive 
midsize family sedans. And Saturn has a sixth coming out next year. Four 
of its divisions sell a minivan. The result: GM is simply making too 
many similar vehicles in a market awash with more and more models.

Moreover, since GM has so many models, the company can't redesign them 
all as often as rivals do. It took nine years before the auto maker 
replaced the Chevrolet Cavalier with the Cobalt, which arrived this year.

By contrast, Honda Motor completely redesigns the competing Civic every 
five years. Last year the average model on a showroom floor had been on 
the market for three years. But GM's average model had been selling for 
3.7 years, says Merrill Lynch. From 1999 to 2004, GM replaced 76% of its 
sales volume with new models, but the Japanese auto maker replaced 113% 
of its volume. In other words, GM isn't making enough hot new models to 
get buyers into the showroom.

Wagoner has begun to unload some of the company's excess baggage. He 
announced the shuttering of Oldsmobile in 2000. He has closed four 
assembly plants and, since 1998, dropped the hourly payroll to 111,000 
from 151,000, mostly through retirement. And top executives have at 
least discussed the notion of paring down GM's portfolio of brands, 
though that is a costly and difficult option that few see happening 
anytime soon. While Buick is on the list, it is one of GM's premium 
brands in China, so it is unlikely to be closed. If GM decides to cut a 
brand, Saab and Pontiac would top the list.

In the end, Wagoner and his team may have little choice but to put pride 
aside and start chopping. Few analysts expect GM to reverse its 
performance and regain share in the short term. "GM doesn't have many 
products that are hot right now," says Global Insight Inc. analyst John 
Wolkonowicz. "And there isn't much coming that will turn it around." 
Only by scaling its size and ambition to match its shrinking market 
share can GM hope to regain some of its luster.

By David Welch in Detroit

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