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Why GM is so oppressed by legacy costs


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July 13, 2005

Why GM is so oppressed by legacy costs

Michael Mandel

I've been trying to understand why General Motors is so oppressed by legacy costs, and I think I finally have got it. Look at this table:

GM, a company with 300,000 employees, is supporting the number of retirees appropriate for a company with a workforce of 800,000, almost triple the size.

Meanwhile, Toyota and Honda, both growing companies, are supporting a retiree base which is relatively small compared to their current workforces.

Definitely a case where GM is still being punished today for mistakes it made in the past.

02:21 PM

Labor Market

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Tracked on December 7, 2005 02:00 PM

What this means is GM has been less profitable than reported in 1980s and 1990s? GM has basically spent the pension fund it should have set aside in the past. otherwise, provisioned pension should not impact today's cost position.

it reminds me of the SOE in China.

Posted by: sun bin at July 14, 2005 02:00 AM

GM is having problems today because it does not build cars that consumers want. It continues to focus on large suv's and trucks in the face of market surveys and $2.50/gallon gas. Their sales numbers aren't so bad because they have dropped the prices so low to stimulate demand, driving shoppers to purchase for the deal, not the product.

Little wonder why Toyota is doing so much better. Toyota focuses on the product. They offer the Corolla (great car) and Prius (gas sipper) for those who are economically-oriented.

Any shopper who buys a product they ultimately do not want because of a good deal will not be a happy customer down the road.

I own a GM product and I do not want to see them fail, yet they seem to get into the same problem time after time.

Posted by: Wes at July 18, 2005 04:01 PM

If GM goes into bankruptcy, will it shed the company of its enormous "legacy costs"?

Posted by: Les Washington at October 15, 2005 04:42 PM

One of the most significant issue with legacy cost is how it drives behavior of the management. With the prospect of legacy cost hanging over your head, it limits your options significantly.

A classic approach to a business with a poor product to customer alignment (dogs don't like the dog food) would be to cut back on production. The fix cost nature of the automotive model tends to limit that response (keep the plants running, to pay off the investment).

Legacy costs add yet another hurdle to this strategy of reducing production. It leaves the management team forced to "stick with a loser" to maintain volume. This strategy ultimatley spoils the market and forces poor future product decisions. It turns into a death spiral.

Posted by: Eric at January 28, 2006 02:15 PM

GM's problems aren't new - they've been brewing for over a decade. It's just that it's only recently that they've become so insurmountable that people are starting to pay attention.

It's a combination of a number of factors. It's partly due to massive legacy health costs, but it's also due to uninspired design by committee (look at the Pontiac Aztek), a fundamental misunderstanding of basic economic principles (trying to maintain brand differentiation while also achieving economies of scale and value pricing through architectural commonalities), massive overinvestment in capital (leading to global overcapacity), and a poor corporate culture.

The rational thing to do with their production overcapacity would be to shut down plants. Unfortunately, doing so doesn't have any labour benefit - under union agreements, they have to keep paying labour costs even if the labour isn't utilised. So, better to keep the plant operating and give the cars away.

The rational thing to do with their brands would be to choose a busines model - either be Ferarri or be Toyota. Instead, GM keeps trying to be both, and by doing so, creates relatively uninspired cars that cost more than the value competitors they're going against.

The current model of discount pricing with overproduction and brand saturation is a race to the bottom, and GM's winning. Odds are GM will look for chapter 11 protection within the next two to three years. If you're interested, check out their remaining cash reserves and compare it against their burn rate. As of two years ago, they had approximately five to eight years left before they would be forced to sell assets, assuming the burn rate didn't increase. With their current discounting in China, you have to assume things are getting worse.

Posted by: cafeman at January 30, 2006 06:23 PM


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