Sunday, March 29, 2009

The Fate of Rick Wagoner

Rick Wagoner, Chairman and Chief Executive Officer of General Motors, will resign as a part of the agreement with the federal government in which the company will receive additional federal aid. General Motors is a turnaround situation; it is not a restructuring exercise. The odds are against a company pulling off a turnaround with the same people that led them into the situation they now face.

Some people argue that the problem is the bad economy, something that the executives are not responsible for and therefore should be allowed to continue in their positions. This, to me, is like saying that executives in financial institutions are not responsible for the collapse in the financial market that exposed to the world the increased risk they imposed upon their companies or the large increases in leverage that accompanied their use of more exotic financial instruments.

When you make bad decisions, a bad economy will exacerbate the results that come from these choices. But, one cannot just place all the blame on the bad economy.

This analysis puts us back into a discussion about our understanding of exactly what it is that we are now facing in the financial markets and the economy. One way to distinguish the two views that seem to be the predominant ones now in vogue concerning our current situation is between those that believe the main problem relating to financial assets is the liquidity of these assets.

In this argument, people insist that banks and other financial institutions are caught in a trap where the markets for many of their assets are so illiquid that these organizations are unable to price the assets and then, possibly sell them. This seems to be the assumption behind the recently presented investment program, the P-PIP, that was announced by the Treasury last week.

The alternative view is that many financial institutions are insolvent and that what is really needed is a recapitalization of those organizations that still have a future while those that are not capable of being salvaged should be closed. Those that take this approach contend that this problem will not go away and will have to be addressed sooner or later. They also argue that dealing with it sooner will speed on a recovery and will also cost the taxpayer less in the longer run. (See my post

The other area of concern is the status of many of the firms that find themselves in trouble. One group of analysts believes that the problem is one of a bad economy and a bad financial market and that all the companies need to do is restructure their current operations. This can be done, they argue, with the existing management and with just “tweaking” the existing business model.

Yet, here we are with General Motors. Over 20,000 employees were given the option of taking a buyout of their employment contracts. A total of about 7,500 took the buyout, but this was a disappointing result. Several of the product lines are going to be discontinued and/or sold off to bailouts in other nations. Contracts with labor unions regarding working arrangements and conditions must be massively changed. And, a substantial number of the bondholders must convert their bond holdings into equity. This doesn’t even touch the fact that the auto companies are substantially behind the curve in terms of real innovations and preparations for future technologies and products.

Given these factors that need to be addressed and resolved, I believe that one can only call this a turnaround situation, a condition in which new eyes and ears must be applied. To me there is little hope that the executives that got the company into this position are the executives that will bring these companies into the 21st century let alone into the 1980s.

This judgment applies not only to the automobile industry: it also applies to banks and other financial institutions, as well as many manufacturing organizations and other companies that require major changes in their business models. (See my post

This country (and the world) is facing a series of serious structural dislocations. The problems are not ones of liquidity or keeping on, keeping on. Lobbying to maintain the status quo will not give us much hope for the future. Inflating our way out of the bad debt or band-aiding inadequate business models will only postpone what needs to be done.

The arrogance that Rick Wagoner exhibited in his first appearance in front of Congress probably doomed him to this result. The behavior of other executives from both the financial and non-financial sectors has not endeared them to either the people of the country or to their representatives in Congress. This will probably not help the executives in the long run. Sometimes a little humility is a good thing!

Bankruptcy is another option for many firms. One could argue that taking this path would probably be an efficient way to get companies into the turnaround mode although it would not include government money as a part of the process. It would keep government officials out of the turnaround process and avoid relationships that are uncomfortable for the new managements that will be leading the companies out of the bankruptcy.

This in not a normal, relatively mild recession that will be ended through the injection of liquidity into the monetary system. The economy is facing a management problem and a debt problem that must be worked through. It is not clear that this is fully understood by those attempting to turn the economy around.

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