Big 3: Cash on Hand vs. Burn Rate

Here is a graphic from the WSJ that depicts the Q3 burn rate for each automaker vs. their current amount of cash on hand:

Graphic courtesy of the WSJ

Something that worries me (between the graphic and some of the stuff I've read on the issue), is that Detroit seems to be operating under the premise that they can survive if they can drum up cash to get by until demand returns. Now this would make sense if their woes were as simple as not having enough demand and/or revenue to turn a profit, but in this particular case things are significantly more complex:

Detroit's current woes started during the credit bubble: more specifically they started losing money during the credit bubble, the bankruptcy talk first started during this time, the turnaround plans were initiated, Ford mortgaged themselves to the hilt to raise cash, etc. So even if one could magically turn back the clock to '06, Detroit would still find themselves in dire straits and would still be in need of a massive revamp to survive.

More important than the above is the fact that in the future Detroit is not going to be able to depend on (to the extent they did in the past) on leasing, people using the housing ATM to buy Lincoln Navigators, people with $40k/yr salaries being able to get loans to buy $50k SUVs, etc, etc.

The last point is an especially interesting one to consider: I applied for my last 2 car loans online and was able to get approved just on the basis of my credit history with zero income verification. Doesn't that sound suspiciously like the NINJA loans of the housing boom? It stands to reason that with auto lending losses escalating that many banks won't be engaging in this practice in the future.

The medium to long-term changes in auto credit, consumer spending, etc, as a result of the current environment suggests that even if the aggregate demand in terms of total units increases, people will be spending less per car.

Oil Prices: at the end of the day the overall situation hasn't changed: oil is a finite resource for which demand will only continue to increase over time. Meaning that while the current economic has depressed demand to an extend that oil prices have decreased, the decline in oil prices is only a temporary one.

The other thing to consider is that consumers have been suffering under the weight of depressed oil prices for several years now, have plenty of other economic pressures to worry about, and will no longer be able to depend on credit to cushion the blow of higher energy costs. All of these factors are likely to influence some permanent changes to consumer behavior.

Something else to be considered is that as economics force people to adopt smaller and more fuel efficient cars it may also influence a change in consumer preferences, where people who could afford an SUV may decide that it doesn't make much sense to purchase a larger vehicle when a smaller one can suit their needs.

I.e. think of all the single people, urban dwellers and other individuals we all know who own/used to own SUVs, yet never used the space, off-road capabilities, etc.

I suspect that it's going to be harder and harder to sell trucks on a go-forward basis, because even an "Escalade Hybrid" burns significantly more gas than your typical midsized car, and well, let's just be honest, many of the people who own Escalades are usually in the vehicles by themselves.

In short Detroit shouldn't be making plans around demand recovering, they should be figuring out ways to be profitable (more efficient) with the demand that exists today, as well as the likely less profitable demand that will exist in the future.

After all not only are their foreign competitors managing to turn a profit in the current environment, but these same companies sell their compact cars for a profit, something that Detroit struggled (and often failed) at doing even when things were going better for them.

The graphic comes from a larger article around the Big Three's efforts to receive a government bailout that you can read here.

Disclosure: at the time of publishing the author didn't own a position in any of the companies mentioned in this article; the ideas expressed are solely the opinions of the author and shouldn't be viewed as financial or investment advice.

Comments

[Robert Nabloid:]

While oil prices are part of the problem, I think this goes much deeper into the workings of our economic system as whole - and the way it runs off consumerism and the rampant use of debt. Perhaps the domestic automakers are just the canary in the coal mine?

2008 Nov 25 01:02 AM

[Paul Killinger:]

I know. And can you imagine, the new Administration is going to wring out our present deflation (a good thing) by pumping UP private credit and printing even MORE money (a bad thing).

Surely this wasn't what Milton Friedman had in mind when he suggested the way to avoid a depression was to lower interest rates and print money. He couldn't foresee the Congress running MULTI-TRILLION dollar deficits at the same time.

When the smoke clears from all this inflation will be running at 25-50% annually (at least!). All (that's left) that glitters will be GOLD !!!

2008 Nov 25 05:25 PM