GM Files for Bankruptcy

Copyright © 2009, Greenwich Financial Management Inc., a registered investment advisor.

On June 1st, General Motors filed for protection under Chapter 11 of the federal bankruptcy code. The United States government, which has already provided $20 billion in funding to GM and its financing subsidiary, will now also provide (together with the Canadian government) $39.5 billion in preferred “debtor in possession” funding under bankruptcy. The Obama Administration hopes that a pared down and competitive GM can emerge quickly from bankruptcy after shedding a great deal of liabilities.

In the article, “Panic in Detroit, I: Sell GM” (Greenwich Post, 2/10/2006), http://greenwichfinancial.com/wm94.htm we had recommended “shorting General Motors stock at current levels (closed February 9th at $22.14 per share), with the goal to cover the short at $7 to $10 per share within the next two years. If General Motors were actually to enter bankruptcy, expect the equity (stock) to be extinguished or diluted to near zero value.” We also recommended a risk-controlled trade: to buy the General Motors 7.40% debentures of 91/1/2025 at about 63.875% of face amount and sell short GM stock. Both of these trades would have succeeded brilliantly if held, but both would have been about twice again as profitable if timed at the recent high point of GM stock, which was $42.64 on October 8, 2007. As it is, the stock of proud General Motors is now trading in the “pink sheets,” as a penny stock, and it will indeed be extinguished or diluted close to zero value.

However, it wasn’t short-sellers or arbitrage traders who brought GM to this brink: it was instead poor executive decisions stretching all the way back to the 1960s, ferocious foreign competition, and the lavish benefits granted to unionized autoworkers by management, in what amounted to a joint suicide pact.

One benefit of the bankruptcy process, assuming GM emerges as a going concern, rather than being liquidated, is a dramatic reduction in its liabilities to existing and former workers. The United Auto Workers Union has agreed to receive stock in the new GM equal to about half of GM’s liabilities to the unionized members.

It is easy to understand what the Bush Administration and now the Obama Administration wished to avoid: first, the potential crippling of the auto industry, its suppliers and distributors, in the midst of a recession; second, the potential cost of not bailing out GM, including federally guaranteed pension obligations. I have great reservations. GM didn’t compete very well against companies like Toyota, Honda, BMW and Mercedes. Now it faces potentially crushing competition from China. GM’s existing product line is not particularly promising, though it has bright spots. Further, plans for dealer and plant closings will no doubt generate powerful political interference from Congress, and these objections will be difficult for the Administration to resist.

Note: Clients advised by Greenwich Financial Management Inc. may hold long or short positions in securities mentioned in this article or in derivatives of those securities. The author of this report has no personal holdings or interest in the referenced investments and has received no compensation for providing the above research from any of the listed companies. The information is not sufficient by itself to make an investment decision. The suitability of such investments for particular individuals has not been assessed.
Andrew Szabo CFA is managing director of Greenwich Financial Management Inc., a registered investment advisor. Questions call 917-796-8500 or e-mail Szabo@GreenwichFinancial.com). For more information, please visit http://greenwichfinancial.com/.

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