T Thomas: A Gulliver tied down

Alfred P Sloan's book on his career at General Motors has inspired generations of managers in industrial enterprises all over the world. He took charge of a disparate group of floundering automobile companies, put them together to form General Motors and built it up to become the largest automobile company in the world. It has remained so with the Japanese companies hard on its heels. Sloan also was a thinker on the management of larger companies. There has always been a close relationship between the Massachusetts Institute of Technology (MIT) and General Motors. He endowed the MIT's Alfred Sloan School of Management.

GM's models like Chevolet, Oldesmobile and Cadillac were the most well-known. In the early 1960s GM controlled over 50 per cent of the US car market and set standards for the world's manufacturing industry. Yet today this giant is on the brink of bankruptcy. Its domestic market share is down to 25 per cent. It has slid back into losses because of high wages and generous healthcare benefits promised to its existing and former employees. These were extended to them in prosperous times. Another damaging concession made by GM to the United Auto Workers' Union (UAW) was that it could not close down factories or reduce wages even in straitened circumstances. GM today is like a Gulliver tied down with his own consent. Plus, GM has lost its flair for innovation and creating new products. Innovation is difficult in a large corporation unless the top management devotes extra attention to this aspect. A company in distress can innovate if the top management is creative and willing to take risks. In the absence of new products, GM now has to resort to price discounts to maintain volumes. It is losing market share to Toyota, Nissan and Honda for normal cars and to BMW and Mercedes for premium models.

Standard & Poor's has downgraded GM's debt to junk status. It has said the company will have to restructure its debt and labour contract. GM lost $4 billion in North America last year and cut 30,000 jobs by closing down 12 plants. Although the company denies the possibility, analysts believe GM's losses will continue to mount and it may be forced to seek Chapter 11 protection as a case of potential bankruptcy. And, GM's erstwhile subsidiary Delphi (the auto parts manufacturer which it had spun off as a separate company) has gone into Chapter 11. This may negatively impact GM finances up to $11 billion on account of pension and healthcare coverage for Delphi workers, who are eligible to return to GM under the terms of separation of Delphi from GM. Due to the cutbacks in previous years GM today has to support three retirees for every active worker! This is an unsustainable position for any company. The only places where GM is moderately successful today are Brazil, South Korea, and China, with a slight recovery in Europe. But this will hardly compensate for the debacle in its home base in North America, the largest market in the world. In short, GM is wobbling towards bankruptcy.

It is not that the management of GM is of low calibre. On the contrary, GM has had one of the most admired management teams from the time of Sloan. Therefore, it is worth analysing the causes of such a decline in fortunes at GM. First, the fundamental mistake made by GM was to underestimate for quite some time the effect of higher oil prices on demand for the cars it made. While GM continued to manufacture its range of gas-guzzling models, its Japanese competitors had designed and launched fuel-efficient vehicles. The second mistake was while GM concentrated on upgrading sports utility vehicles (SUVs), its competitors upgraded their range of normal cars and increased their market share in this premium segment. Third, GM had to pay $2 billion earlier last year to wriggle out of a potential commitment to buy out Fiat, the sick Italian car company in which it had invested $2.4 billion some time ago. The latest problem confronting GM is the investigation into its accounts by the Securities and Exchange Commission (SEC) and a restatement of its accounts for 2001. This has eroded the confidence of investors. It is burning cash at the rate of $5 billion a year.

Who will invest in or lend to such a company? To meet immediate needs of cash it is planning to sell a part of its profitable finance company, General Motors Acceptance Corporation (GMAC). It has sold at a loss its stake in the joint venture Subaru to Toyota, which is now emerging as the world's largest car maker. To make things even more difficult for the GM management, Kirk Kerkorian, the octogenarian nemesis of US companies, has taken a nearly 10 per cent stake in GM and is seeking a seat on the board. He could make himself visible and active if things do not improve at GM. GM Chairman Richard Wagoner is in a most unenviable position not entirely created by him.

What are the lessons to be learnt from this debacle at GM? The first lesson is that size does not make a company immune to decline and even extinction, just as its size did not save the Titanic. If GM as one of the world's largest companies can be pushed into bankruptcy, what about smaller companies? The second lesson is that while a company and its products are doing well, it should invest even more in innovation to improve product performance and to create new products. It is natural in those fortunate circumstances for a company management to become complacent and over-generous with employees, as GM managers did. This temptation has to be consciously resisted. The third lesson is that it is sometimes necessary to stand up to excessive demands from trade unions and face the challenge of strikes and disruption rather than mortgage the future of a company, by yielding to extortionist demands, which could ruin the company. Fourth, it is wise to shift manufacturing operations increasingly to low-cost countries rather than expose a company to the risk of high costs. But this has to be done with a great deal of planning and preparation in a gradual manner, to minimise the risks of discord and disruption. Lastly, a company must avoid the temptation of being misled by its own success (and size) into believing that it is indestructible, as the captain of the Titanic did. Management must cultivate a sense of vulnerability and the potential risk of mortality. That is part of the formula for the survival and growth of a company.

Now Mr Kerkorian may bring in new management which could negotiate successfully with unions to reduce costs. They could perhaps inspire enough confidence in investors and lenders. If that happens it will be the largest turnaround story in the history of business and there will be many volumes to be written on the recovery of Gulliver!