Thursday, May 26, 2005

Can We Still Say “What’s Good for GM Is Good for America?”

Burdened by legacy costs, retiree healthcare expenses, and increased competition, General Motors Corp (GM) faces shriveling profits and eroding market share. The company supports 900,000 jobs and represents the American industrial might of the 20th century. Once commanding 60% of vehicle sales in the nation, this behemoth size and reputation seem to be the very force that paralyzes GM. The company and its Detroit management have comfortably sat on the cushy Number 1 spot for so long that in the face of so many threats they employ business as usual tactics. It appears as if GM can no longer come up with innovative ideas to cut costs, respond to consumers’ changing car tastes, or combat shrewd competitors. Yet GM must change its marketing strategy, overhaul its automotive operations, and restructure the company in order to avoid continued shrinkage or worse extinction.

GM currently supports 8 divisions and 89 models. Even with this portfolio experts criticize that GM “is producing legions of automobiles that are outdated, poorly constructed and wrapped in dull, cookie-cutter styling.”[1] Research dollars are spread across all of these divisions and models. Its Japanese counterparts spend more on Capital and R&D (GM spends $13.7 B while Toyota spends $15.3 B), focusing on packing fewer models with the latest features and technologies. Toyota models stay on the market for only 3 years while GM keeps its models on the market for 4 years, resulting in consumers switching to foreign competitors to replace aging vehicles since GM has the same old models sitting in the showroom. GM inventories are above the 60 day industry average; Toyota, in contrast, has less than 55 days of inventory. These high inventories force GM to offer attractive rebates and 0% financing to consumers, as well as sell to rental car companies at low margins—tactics leading to further profit decay.[2]

GM is also strangled by legacy costs and union agreements; yet cutting expenses is complicated, and even costly. The automaker is burdened by a $1600-per-vehicle handicap in legacy costs, consisting mostly of retiree health and pension benefits. Average medical expense per vehicle for overseas auto makers is $425.[3] Union agreements prevent GM from simply closing plants or laying off workers without paying stiff penalties. They also dictate that GM must run plants at an 80% capacity minimum. This rule causes GM to engineer cars to use up production capacity.[4]

GM’s revival depends on its ability to win concessions from the United Auto Workers (UAW) union. The next negotiation with UAW is scheduled for 2007. Due to GM’s strong balance sheet ($52.6 B in cash and equivalents) UAW might not compromise on cutting benefits. However, it is imperative that GM reaches an improved agreement with the UAW in order to be competitive.

In the past, superior consumer segmentation was a competitive advantage that helped GM dominate the US market and beat ruthless competitors like Ford and Chrysler. GM is trying to use this same tactic to turn around sales now. In an effort to thwart competitors and fix the money-losing auto business, GM plans to roll out a new marketing strategy in lucrative markets and boost SUV sales. It will launch a counterattack against foreign brands in the East and West Coast markets and in fast-growing areas like South Florida. The strategy includes cutting and simplifying a complex pricing system, focusing on models that will compete with the popular Honda Accord and Toyota Corolla, diversifying marketing messages to gain minority consumers, and consolidating Buick and Pontiac dealerships. SUV models are also being redesigned and introduced to the market more quickly. Unfortunately, this strategy seems like a gamble considering SUV sales are diminishing with higher gasoline costs and a growing number of environmentally savvy consumers.[5]

We wonder whether this new marketing strategy will revive GM and help regain prior dominance. Cutting price and introducing an aggressive discount strategy might be effective in the short term. However, it is questionable whether this is a sustainable competitive advantage. Considering GM’s huge legacy costs, foreign competitors are more flexible in pricing. They can easily copy or surpass any price cuts. Furthermore, consumers seem to be more sensitive to oil price changes than to car price changes, even preferring more expensive Japanese cars with high mileage to the gallon. GM’s financial situation is unlikely to be drastically improved in an extended price war.

Alternately, GM might consider adopting differentiated marketing to attract various consumers in differing geographies. Full market coverage is costly but not efficient. GM can focus on different products for each market segment and design different programs to attract these segments. Chevrolet can satisfy consumers’ penchant for gas efficiency and environmental concerns in areas like California and Florida, while Cadillac can attract richer and pickier consumers in both coastal areas.

GM should also emphasize R&D to develop new, high quality models to attract consumers. How would the auto behemoth get the money for costly R&D and marketing campaigns? Restructure its business and cut costs. GM suffers from redundant production, overlapping promotion and distribution, and excessive management. Combining similar functional products and brands will help increase synergies, improve productivity, eliminate redundant management staff, and avoid cannibalization. Closing less profitable plants and spinning off non-productive businesses is also reasonable to get more cash funding. These strategies do not require GM to give up on its traditional advantage of customer segmentation. On the contrary, focusing a product to a particular segment centralizes resources to support more popular products.

Outsourcing partial production and expanding OEM business to nearby countries like Mexico is another way that GM can reduce operating costs. GM’s OEM business in Japan is pretty profitable, which can monetize up to $3 billion. Benefiting from their low cost, GM Asia and South America are the only two profitable business units in the 1st quarter of 2005.[6]

While the Japanese manufacturers are known for quality, the Koreans for price, and the Europeans for performance, GM can still find its niche. By restructuring and reinventing itself, the American giant can once again return to greatness.
[1] Yates, B. “What’s Good for General Motors?” The Wall Street Journal, May 24, 2005.
[2] Levy, E. “Standard and Poor’s Industry Survey: Autos & Auto Parts,” Standard and Poor’s, December 23, 2004.
[3] “The Burden for GM Revive,” Asahi Newspaper, May 25, 2005.
[4] Welch, D and Beucke, D. “Why GM’s Plan Won’t Work,” Business Week, May 9, 2005.
[5] Hawkins, L. “Struggling GM Rolls Out A New Marketing Strategy,” The Wall Street Journal, May 23, 2005.
[6] GM’s 2005 Q1’s 10K report.

Abigail Akzin
Naomi Nakagawa
Natalie Yu

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