GM Files for Chapter 11 Bankruptcy Protection

• GM enters Chapter 11, using Section 363 to sell its "good" assets. A new company will be formed, to which GM will try and sell its assets through the use of a bankruptcy court. The U.S. government will provide an additional US$30.1 billion in debtor-in-possession financing—this will be the end of the government's financial involvement in GM, according to government officials, who say that this final amount will put the company on the path to profitability.
• The UAW gets a new VEBA. The United Auto Workers have accepted a new contract that will see a significant portion of the US$20 billion that is owed to them by GM for the Voluntary Employee Beneficiary Association (VEBA) retiree healthcare trust fund converted into equity. A new VEBA has been created, and will be funded by a US$2.5-billion note payable in three installments through 2017, US$6.5 billion in preferred stock, and 17.5% equity in the "New GM," with warrants to purchase an additional 2.5%. In return, the UAW will have one non-voting seat on the New GM board of directors.
• The governments of the United States and Canada take a stake. The U.S. government has already pumped US$19.4 billion into GM, and will put another US$30.1 billion into the company; the majority of that stake will be converted to equity, leaving the government with a 60% equity stake and US$8.8 billion owed to it in cash. Yet, the Canadian and Ontario provincial governments are also slated to provide US$9.5 billion to GM, in exchange for US$1.7 billion in debt and preferred stock, and 12% equity in the new company. The Canadian government will also select one member of the board of directors; the remaining directors will also be selected by the government, but they will not be government employees.
• The bondholders have largely capitulated. Approximately 54% of the bondholders have agreed to convert their debt to equity as set out in the government's newly sweetened deal. The government and GM had tried to coerce the holders of US$27.4 billion in GM debt to swap it for a 10% stake in the company, with warrants to eventually purchase an additional 15%. Those who have accepted the deal will receive a pro-rated equity holding based on that deal, the government has stated.
• Business as usual for most employees, suppliers, and dealers. GM will pay its employees as usual, and all pension and benefit plans for both hourly and salaried employees will be transferred to the New GM. The company will seek to continue payments to suppliers as part of its "first day" bankruptcy activities, as well as honor warranties for customers. Major additional dealer closings are already expected as part of a second wave of notifications, but the government says that they will be given an 18-month window to wind down operations, as opposed to the rapid closures that were seen at Chrysler.

Outlook and Implications

GM's bankruptcy declaration comes during its 100th year of operation and caps an unprecedented corporate collapse that has been a long time in coming. Thankfully, the implications look much less severe than they would have been had it filed for protection just six months ago. Towards the end of 2008, GM would not even discuss bankruptcy, and the prospect fueled talk of an economic, employment, and financial disaster with wide-ranging implications for all industries and all areas of the country. The outgoing Bush administration provided just enough financial support to prevent GM and Chrysler from going under, and the Obama administration made clear that its continued support would be contingent upon a major restructuring, whether that required formal bankruptcy or not. While GM's smooth exit from bankruptcy is far from guaranteed, it would seem that a sufficient number of stakeholders have already committed to cooperation, such that a reasonable hope of success can be posited. IHS Global Insight believes that there is a high probability that the administration's target of 60–90 days for the New GM to emerge from bankruptcy can be achieved. The risks to the broader economy will rise the longer the bankruptcy proceedings linger on, so we expect the administration to do everything possible to speed the process.

But it is also a painful fact that a massive contraction in the U.S. auto industry has taken place in any case, just not in the disorderly fashion that would have resulted from uncontrolled bankruptcies at GM or Chrysler. In GDP terms, motor vehicle output fell at an annualized rate of 62.8% in the fourth quarter of 2008 and an annualized rate of 56.5% in the first quarter of 2009. These declines knocked 1.8 percentage points off the fourth quarter's GDP growth rate, and 1.2 percentage points off the first quarter's growth rate. Motor vehicle output was just 1.5% of U.S. GDP in the first quarter of 2009, down from 2.3% just two quarters earlier and 3.0% in mid-2007. The future for vehicle output will depend on the path of vehicle demand, but it is likely that it will begin to pick up in the third quarter (May and June will see declines due to the Chrysler shutdown in May, and early-summer shutdowns for other companies, especially at GM).

As for GM, it now accounts for around 20% of U.S. light-vehicle production, and its U.S. employment is now down to 88,000—from more than 600,000 some 30 years ago. The automaker is proposing to cut another 20,000–25,000 workers, but that must be placed in the context of an economy that has been losing more than 500,000 jobs in every month since December.

If the bankruptcy process does not go smoothly, and GM has to shut down completely, then the macroeconomic implications will be much bigger because many more suppliers will fail, and that will hurt Ford and other U.S.-based producers who will be unable to get parts. The specter of a disorderly collapse in the domestic auto industry would re-emerge. That downside risk remains—but it is not now the most likely path.

The GM bankruptcy is painful for all involved—shareholders lose everything, bondholders and taxpayers trade debt for equity, the UAW makes concessions for existing workers and retirees, more GM workers lose jobs, and dealers will shed jobs—but GM has already shrunk to the point that an orderly bankruptcy is not a major macroeconomic shock. The U.S. stock market has taken the same view, as it surged on Monday, based on evidence that manufacturing activity around the world is beginning to stabilize.