Unpacking the General Motors Settlement
VEBA is a four-letter word, isn't it?
By blackhedd Posted in Economy — Comments (26) / Email this page » / Leave a comment »
So the UAW's leadership have settled up with GM management, and their local leaders have agreed too. The rank-and-file still need to ratify the pact, but it's not too early for some Monday-morning quarterbacking.
The score appears to favor management, if only because they came out of this not visibly black and blue. It's a great day whenever you can get labor to understand that they actually do share some interests with the hated plutocrats they work for. Including, oh I don't know, maybe... survival.
The top-line question is: will this deal do GM any good, financially or business-wise?
Let's crunch a few numbers...
The settlement calls for the UAW to become the owners of a "VEBA" (Voluntary Employees' Beneficiary Association), which will fund healthcare benefits for retired GM hourly workers and their dependents.
VEBAs are not a novel idea. There are quite a few of them knocking around, but this one will likely be among the biggest. GM will fund it with about $30 billion early next year. Some of this funding will take the form of a note convertible to GM stock. (Common or some new or existing preferred class? I don't know.)
I'm going to assume the rest of the initial funding will come from new debt. (GM's long-term debt today stands at about $42 billion. Cash or equivalents on their balance sheet total about $24 billion.)
On top of the thirty, GM has to add another $5.4 billion to the VEBA, later. I don't know what "later" means, and I won't try to guess. And then there is a sweetener (press reports have called it a "backstop") of twenty annual cash payments of up to $165 million. I'm going to think of that as a fixed-income security with a net present value of $2.5 billion. (Yes, I pulled some risk and interest-rate assumptions out of a dark hole in my anatomy to come up with that. Just play along, ok?)
So at the end of the day, we have a rough proxy for the net present value of GM's healthcare liability taken as a whole: about $38 billion. This more or less ties out with press reports that GM's nominal liability is something like $50 billion.
Of course I know nothing about the capital structure that GM will employ to fund the VEBA, but I can't see how it can cost them any less than $5 billion a year. That's about what they're spending on health benefits now.
So for GM, the whole thing is a wash.
Now let's look at the union side of things. I really shouldn't recall the past history of investments by union leaders, simply because it's not sporting. After all, certain famous individuals who were very high up in the labor movement have... well, let's just say they've paid their debt to society. And "corruption" is just such an ugly word that we'll forget it even exists.
Anyway, the UAW's leadership will now be in charge of quite a few billion dollars. Let's assume they will have the good capitalistic sense to do the right things with it. The best, top-quality fiduciary management of such an asset might produce income applicable to beneficiary claims of anywhere from, let's say $2 to $3 billion a year. Maybe a little more if you dial up the risk exposure.
So here's the question: on a long-term basis, will this be enough to do the job? That would depend on exactly how many retirees and dependents we're talking about (I don't know the answer), and on how much healthcare costs rise in the future.
The risk is that the UAW will go back to GM or to the taxpayers for more funding. My magic eight-ball says: "believe it, baby."
The whole point of this deal is to enable GM to get back in the saddle and start competing globally again. And the thing they need most of all in order to do this is to invest in new products, which the Japanese do constantly.
Free cash flow at GM is now about negative $5 billion a year, according to their published financials. This is the number that I like to use to measure any company's ability to invest in their own products. I'd want to see GM's free cash flow at very least two or three billion dollars in the black.
But GM is about to convert roughly $5 billion in annual current expenses on healthcare into roughly $5 billion in annual capital costs to support the VEBA. Based on the rough, thumbnail analysis I've presented here, the new contract does not solve GM's problems.
I invite rebuttals and better-sourced values for all of the money amounts I've cited here.
[Disclaimer: None of the information and analysis presented here is to be considered investment advice. Disclosure: I own GM stock, personally and beneficially.]
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Unpacking the General Motors Settlement 26 Comments (0 topical, 26 editorial, 0 hidden) Post a comment »
I'm always amazed by your ability to make complex financial transactions understandable to the financially illiterate.
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Develop alternatives to existing policies and keep them alive and available until the politically impossible becomes the politically inevitable. Milton Friedman
If the union does their usual pattern-bargaining thing, then Ford Motor might also be looking at funding a VEBA. I've heard numbers like $20 billion floating around for them.
No idea what the new Chrysler Group might do. But they are so leveraged already that they might not be able to play the game. (I'm not speculating since there is no information yet.)
1) the insight and normal high quality reportage of market events
2) The opportunity to tell you I sold GM at 81 some years ago. True, a piddling holding, as all my holdings are. But today it's providing psychic income. :>)
So I checked. Must have been in late 2000, eh? Back when gas was cheap and SUVs were hot.
Thanks for the compliment.
although I'm not sure how relevant the origin concept is as all the big car companies are thoroughly global.
It has been my best car in terms of reliability and has never had a major malfunction on the road.
To me, they still have a very far distance to travel. My family has owned GM cars (in the past) and because of that experience, we don't buy them any more. Ditto with Ford and Chrysler. It will be quite a while before we trust any of the American Automakers, with each car, we never felt like we got what we paid for and that should be the absolute minimum someone should feel.
One semi personal account of the hole that GM dug itself. I two friends whose grandfather worked for GM for, I believe, about 20 years. He retired and several years into retirement, died of a heart attack in 1982. His wife still alive to this day and in decent health. She was a home maker and never worked. Since her husbands death, she has received his pension and health/dental coverage. So for 25 years and counting she has received quite a bit of money in those forms. This is while the company is in such financial trouble, beyond their poor innovation. How can a company pay someone, who did not add any value to the company, in such a manner. Even adjusted for inflation, I'm sure GM has paid the retiree and widow more money in the last 25 years than they did when the employee was an asset. The agreements with the union were from another time, when the Big 3 split up the US market and had no competition. They set up the scheme like FDR and Social Security.
An interesting side note though. Unions are one of those groups that always side with democrats about slowing the rate of growth in Federal programs. When even sound investments don't keep up with the growth of their health costs, what will they say when they reduce coverage or increase deductibles? My guess is, the union agreed to this because they are hopeful of a Hillarycare socialized health care and they can pocket the money for the union (and corruption).
less of a problem.
Also, they have blown a lot of money on lousy investments, or badly managed capital projects.
One problem with GM's retiree health costs I believe (and am open to correction for those with real numbers) is that the costs keeps rising each year along with the increase in health care costs generally.
If so, then GM would benefit if it's able to lock-in its yearly cost at $5 billion and be protected against higher costs in future years. Not much benefit this year, but increasingly in future years.
The more serious question for the retirees (and for me as a taxpayer) is whether this VEBA is actuarially sound. Not to mention the issue of putting union leaders in charge of the cookie jar. I see a taxpayer bailout looming down the horizon, lubricated by campaign donations (suitably laundered) from the VEBA.
From GM's point of view, they have purchased a put-option on their future healthcare liabilities. And that put-option has a lot of value.
For reasons given in the main post, I don't buy the public spin on the deal (which is that it will increase GM's cash flow). But as you say, the company has now sold (to the union) the risk of future healthcare cost-increases.
GM may have hedged future risk but I doubt the union thinks the well is dry. Someone will pay for their poor union management in the future whether is be GM in some way or some other public bailout. Unions practice divide and conquer. Get what they want now, then ask for more in the future. They'll never stop until they have lost all their members.
Ask not what you can do for your country, ask what your country can do for you. Washington Elected Elite
I'm doubtful of that. As your continuation notes, it isn't obvious that the VEBA is actuarially sound. I'd be betting it isn't. The employees still have no immediate self-interest in controlling their healthcare costs. Even if they did, even at $5 billion a year, they wouldn't have a significant influence on the larger healthcare spending environment, which also has no immediate consumer driven self-interest in controlling expenditures. Until those items are controlled, I expect to continue to see signifcant double digit increases in healthcare costs.
So what happens when those costs impact the VEBA? If there isn't a government bailout, you can bet the union will "negotiate" for more money being paid to the VEBA. Heck, they might even "negotiate" for more VEBA money WITH a government bailout.
In the glory years, GM was able to offer higher wages and present benefits in return for promises of retirement benefits for which they didn't put in enough money (i.e. underfunded liabilities).
Now that those chickens have come home to roost, and these underfunded liabilities are bankrupting the company, the company is shifting these liabilities to a shell VEBA group in return for present benefits to the union.
I think any observer who didn't fall off the turnip truck yesterday will immediately recognize that the VEBA is almost certainly underfunded, which means that in future years, either the company will be hit-up for more funding or the taxpayers will be hit-up. However, there will be some money freed up in the next few years for GM by it's fixing of annual costs at $5 billion or so per year (or by its having purchased a put option, as blackheed phrases it). This money for GM will either go to improving the company or will be plundered for present goodies (divied up between the union and company leadership) before the jig is up.
Then the retirees will be impaled, and the newspaper stories will tell heart-rendering tales of woe, and the campaign money will flow, and the stake will be re-targeted at the taxpayer.
Seems to me that the surest way to make money would be if there were a way to invest in corruption and malfeisance.
I want to thank you for suggesting what is really a nice investment theory :-).
One way to do it: invest in Chinese stocks.
Oops, the Chicoms already thought of that. Most Chinese equities are offlimits and can't be owned by foreigners.
that the whole thing is nothing but a sham set up in anticipation of a government bailout. Even the best run employee benefits programs have been hard pressed to keep up with inflation and spiraling medical care costs over the last several decades. Joint union-employer trusts, so-called Taft-Hartley Trusts, have been far, far from models of responsible financial management. A union-run trust will be subject to the electoral whim of the membership and any benefit that "the boys want" will be offered - right up to the day the plan is bankrupt.
What it will do is give UAW a tremendous amount of economic power over banks, investment firms, and health care providers, at least until the money runs out. Threatening to take a few billion dollars and move it somewhere else can be very persuasive to a bank, for example, as it decides whether it will loan money for, say, construction of a plant or office building. The union's terms are simple; if it isn't built under a project labor agreement with all union labor, we take our money and go home. Likewise, a hospital or other provider can be union and be a Preferred Provider or it can be non-union and on the "do not patronize" list. Yes, Virginia, that is how trusts work.
The part of this that hasn't been made clear is how to make this legal. The National Labor Relations Act (as amended) makes it illegal for an employer to make any payment directly to a union. This is why the joint union-employer trusts were created. Perhaps the National Labor Relations Board could sanction this scheme by regulation, but I don't think so; I think it would require an amendment to the Act. Touching the Act has been a Third Rail issue for the unions in recent decades; they generally don't want it opened up for fear of what might get put in it, though that seems to have changed a bit with this Congress. My view is that it will become more "gotcha" politics. UAW and GM have come up with this wonderful scheme to make poor, faltering American industry more competitive but the eeevvvuull Republicans won't pass the necessary amendments to the Act. BTW, betcha a dollar to a doughnut there's be lots of other little "enhancements" to the Act in the authorizing bill, e.g., card check, maybe old standbys like interest arbitration for police and fire, and even common situs picketing, a perenial old favorite.
It might be very interesting to see where GM managers and major stockholders/debt holders are putting their money in the Presidential race; I'm betting it ain't on Republicans.
In Vino Veritas
I stand by my prediction that the whole thing is nothing but a sham set up in anticipation of a government bailout.
And I expect it is only a matter of time till we that bailout comes... probably in the form of some universal healthcare scheme that renders the whole thing obsolete. Heck, we are halfway there already.
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Underlying most arguments against the free market is a lack of belief in freedom itself. - Milton Friedman
much like the unions and American auto markers seem to be? The reason I ponder is, should Hillary or Obama or Edwards get elected and manage to pass a socialist healthcare policy couldn't VEBA just pass healthcare off to Joe taxpayer leaving the unions with several billion lying around to influence some elections? Afterall it would seem silly to pay for something you can get for "free" from Uncle Sam.
"Cowards cut and run, Marines never do"
Any idea if there is such a clause in this deal?
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Underlying most arguments against the free market is a lack of belief in freedom itself. - Milton Friedman
What did the UAW get from their 72-hour strike that they wouldn't have gotten otherwise?
Freedom Fighter in Occupied VA
The retirees got ripped off by their union. Their representatives to make it right are going to rip off the rest of us. GM gets a pass on escalating healthcare costs.
To be fair if the retirees didn't get ripped now they would have gotten it later, when GM folded.
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"Those who expect to reap the blessings of freedom must, like men, undergo the fatigue of supporting it."
-Thomas Paine: The American Crisis, No. 4, 1777