Romney's Dishonest Pitch to Michigan Voters

Mitt Romney has a problem in Michigan. Four years ago, part of his case for his candidacy was that he could deliver Michigan for the Republican Party. He won the primary, but with less than 40% of the vote. Now he's the presumed nominee, and he may lose Michigan to, of all people, Rick Santorum. Then, as now, Romney claimed a form of inherited connection with the state and auto industry that, like pretty much everything else he claims, just doesn't ring true for a lot of the voters he expects to support him.

Four years ago, Romney argued that we should "let Detroit go bankrupt."

If General Motors, Ford and Chrysler get the bailout that their chief executives asked for yesterday, you can kiss the American automotive industry goodbye. It won’t go overnight, but its demise will be virtually guaranteed.

Can you feel his brilliant business insight at work? He follows that up with a number of observations that range from the trite (the need to renegotiate labor contracts for lower wages and benefits, the need to replace bad management, the need to focus on a long-term strategy and not simply he next quarter's financials), and suggests that the auto industry is the wrong place to spend government money,

I believe Washington should raise energy research spending to $20 billion a year, from the $4 billion that is spent today. The research could be done at universities, at research labs and even through public-private collaboration.

Yes, that's right, Romney was for massive public investment in companies like Solyndra before, with the benefit of hindsight, he was against them. It's astonishing that a guy who claims to be a genius venture capitalist believes that you can invest $20 billion in research without taking any losses. Most good venture capitalists have a success rate of what, one in three?

Let's start with my 1/3, 1/3, 1/3 assumption that regular readers will be familiar with. This says that 1/3 of an early stage venture portfolio will be losers, 1/3 will get your money back or make a little money, and only 1/3 will deliver the kind of performance you expect when you make an investment (5-10x).

Romney complains when people criticize his record at Bain, and point to the companies that ended up failing, but he predictably applies a very different standard when going after the President. Solyndra obtained almost a billion dollars in private equity - money from companies like Bain - prior to its collapse. Romney can argue that the scale is different, an argument undermined by his own assertion that the federal government should push $20 billion into alternative energy research, but as others have pointed out the entire effort resembles a push Romney made as governor of Massachusetts, with some of his administration's selections for the receipt of millions in grants ultimately failing. By the time he was criticizing Solyndra, Romney had either forgotten or flip-flopped on his proposed $20 billion budget for energy research, with a campaign spokesperson arguing, "Gov. Romney worked to limit the role of the state as venture capitalist". As a former head of the Massachusetts fund argues,

"[Romney's] administration was certainly at that point willing to support the establishment of a fund that was going to be in the business of giving money to individual companies and in effect picking winners," Leon said. "This is true. In some ways, it's a question of on what basis one wants to be critical of his position now."

Romney's other arguments about Solyndra seems remarkably detached from reality,

"When they put $500 million into Solyndra, they thought they were encouraging solar energy in this country," Mr. Romney told a friendly audience packed with business executives. "They did the opposite. Because when they put $500 million into Solyndra, the other 100 entrepreneurs in America working on solar energy just lost any potential to get capital."

He added: "When the government chooses to put in $500 million, who wants to put $2 million in some idea from this person in Montana? No one."

Seriously, not one venture capitalist in the country will invest in alternative energy if the U.S. government is providing loan guarantees to large ventures that have been vetted and funded by large venture capital firms? And his evidence for this is... that it makes for a great, if mendacious, sound bite in his speech?

You could argue that the U.S. government was following Romney's advice, creating a program that offered a total of about $20 billion in loan guarantees, and that it has a pretty remarkable record, having only one company (Solyndra) default. Perhaps Romney would like to bring out a panel of working venture capitalists, and have them explain how a 2.5% default rate on their investments would bring their companies to their knees. And while Romney likes to bandy about phrases like "crony capitalism" for why the Obama administration (like the V.C. firms that invested the $billion) thought Solyndra was an appropriate recipient for government support, he omits mention of the fact that Solyndra started to receive loan guarantees during the Bush Presidency.

What critics fail to mention is that the Solyndra deal is more than three years old, started under the Bush Administration, which tried to conditionally approve the loan right before Obama took office. Rather than “pushing funds out the door too quickly,” the Obama Administration restructured the original loan when it came into office to further protect the taxpayers’ investment.

If Romney is a brilliant businessman and investor, he knows all of this.

Moving back to Detroit, Romney whines that when the government restructured G.M. it gave a block of shares to the union,

Instead of doing the right thing and standing up to union bosses, Obama rewarded them.

A labor union that had contributed millions to Democrats and his election campaign was granted an ownership share of Chrysler and a major stake in GM, two flagships of the industry.

The first statement is an outright lie. Unions had to make significant concessions as part of the restructuring deal. The "ownership share" was part of the negotiation between the unions and the failing auto companies, and was designed to ensure at least partial continuation of medical benefits to retirees.

In virtually every respect, the concessions that the UAW agreed to are more aggressive than what the Bush Administration originally demanded in its loan agreement with GM. Among other things, the UAW’s existing VEBA – to which GM has a $20bn obligation – will be replaced by a new VEBA as described below....

This new GM will establish an independent trust (VEBA) that will provide health care benefits for GM’s retirees. The VEBA will be funded by a note of $2.5 billion payable in three installments ending in 2017 and $6.5 billion in 9% perpetual preferred stock. The VEBA will also receive 17.5% of the equity of New GM and warrants to purchase an additional 2.5% of the company. The VEBA will have the right to select one independent director and will have no right to vote its shares or ther governance rights.

Let's contrast the type of private investment that Romney implicitly argues is superior, and which he practiced back in his days with Bain,

The [investors] who ran Harry and David into the ground have a defense: economic conditions changed in unforeseeable ways. But that’s precisely why loading firms with debt in order to reap short-term benefits is bad. It leaves companies unable to weather tough times, and allows private-equity firms to make money even if things go wrong.

As if this weren’t galling enough, taxpayers are left on the hook. Interest payments on all that debt are tax-deductible; when pensions are dumped, a federal agency called the Pension Benefit Guaranty Corporation picks up the tab; and the money that the dealmakers earn is taxed at a much lower rate than normal income would be, thanks to the so-called “carried interest” loophole. The money that Mitt Romney made when he was at Bain Capital was compensation for his (apparently excellent) work, but, instead of being taxed as income, it was taxed as a capital gain. It’s a very cozy arrangement.

Recall also that before the government stepped in, Chrysler was not a publicly traded company. It was privately held by Cerberus Capital Management, a company that appeared adept only at running the company into the ground. In Romney's book, it appears to be a very good thing for a corporate raider to be able to pick the meat off a company's bones, leaving it to the taxpayer to cover defaults on pensions and retiree medical benefits. Surely he understands that the calculus is different when you're a government actor and you care less about profit than the survival of the company and the avoidance of an additional burden on the taxpayer. If Romney doesn't understand the difference between being President and running Bain, he has no business running for President.

Romney is now purporting that everything good about the government bailout of G.M. and Chrysler was his idea, and that everything else about the bailout was bad. Well before this speech was made, Paul Krugman gave an apt assessment:

So what the story of Romney and the auto bailout actually shows is something we already knew from health care: he’s a smart guy who is also a moral coward. His original proposal for the auto industry, like his health reform, bore considerable resemblance to what Obama actually did. But when the deed took place, Romney — rather than having the courage to say that the president was actually doing something reasonable — joined the rest of his party in whining and denouncing the plan.

And now he wants to claim credit for the very policy he trashed when it hung in the balance.

Romney he wants us to imagine that in private hands a company like Chrysler could have survived and thrived, ignoring the fact that Chrysler had spent years in the tends of people like Romney who were either indifferent to its survival or beyond incompetent in their effort to engineer a turnaround. He wants us to believe that G.M. and Chrysler could have survived a private bankruptcy, despite the far that credit markets were frozen and nobody was going to finance the companies' operations over the course of a traditional bankruptcy, even if expedited. He wants us to imagine that GM's bondholders, and Chrysler's private owners, were somehow duped or tricked into believing that they would do as well or better through the Obama Administration's plan that they approved, as opposed to rejecting the deal and pursuing a traditional bankruptcy. And, as a brilliant investor, Romney now encourages the Obama Administration to inflict a massive financial loss on the taxpayer, apparently because this will somehow punish the UAW.

American taxpayers have been left on the hook for billions to benefit unions and the union bosses who contributed millions to Barack Obama's election campaign. Such a state of affairs is intolerable, and as president I would not tolerate it. The Obama administration needs to act now to divest itself of its ownership position in GM.

The shares need to be sold in a responsible fashion and the proceeds turned over to the nation's taxpayers.

I recognize that anti-union demagoguery is par for the course for the Romney campaign, but you would think that in using the word he would have some sense of what it means to be responsible. The numbers are pretty basic: To recoup its 'investment' the government needs to sell its stake in G.M. at $53 per share. The present value of G.M. is $25.33 per share. Were the Obama Administration to follow Romney's advice, they would be "turning over" to the taxpayer a loss of about $20 billion. How can you view Romney's pressure for divestment as anything but dishonesty, demagoguery - a single (albeit very large) company's failure that results in a $500 million default on loan guarantees is government at its worst, but inflicting a $20 billion loss on taxpayers would be "responsible".

Don't Save The Dealerships

There's an old joke that, had Congress followed its present practices at the time, we would still have (heavily subsidized) local blacksmith shops.

Faced with a sharply reduced market for new automobiles, and creaky, oversized dealer networks that are protected by state franchise laws, one of the key benefits Chrysler and GM sought through their bankruptcies was to reduce the size of their dealer networks. In my opinion the deal was too protective of dealerships. Don't get me wrong - I like the dealership where I last purchased a vehicle (as much as one can like a car dealership), and I like the service I receive at the dealerships where we get our cars serviced. There's value to the brand, and (if they're doing their job) to having the manufacturer protect its brand by requiring certain levels of quality and consistency in the level of service provided by authorized dealers and service centers. But a huge part of the current customer-dealer encounter - most notably picking out (settling for) a vehicle from the lot, negotiating price (and wondering if you were given a reasonable deal) - are relics of an era gone by.

There's no reason why a customer should not be able to customize a vehicle online. In fact, before you get to the dealership and find out that the configuration and color you want aren't "on the lot", pretty much every manufacturer lets you "build your own car" online. Why, as a matter of course, can't you order that car through the manufacturer's website, or get competitive bids from dealers within a specified geographic range? We tolerate what amounts to bad customer service in the sale of new vehicles because we're used to it, but can you imagine a new business that tried to impose a similar model?

Congress, in the manner of the aforementioned joke, wants to take us backwards:

The bankruptcy cleared the way for GM and Chrysler to eliminate more than 2,000 dealerships, with GM estimating that it would save $2 million per shuttered outlet. But on Thursday, the House passed a measure, attached to a must-pass spending bill, that largely undoes this vital reform. Headed for likely passage in the Senate and unavoidable signing by the president, the bill lets dealers threatened with closure take GM and Chrysler to arbitration on terms considerably more favorable to dealers than the companies had previously been willing to accept. The result will be hundreds of time-consuming cases - or demands by dealers that the companies pay them to go away. Either way, the taxpayers, who own most of GM and much of Chrysler, will bear the cost.

I have a great deal of sympathy for dealers who were running profitable enterprises (even if more from the sale of used cars and service than the sale of new cars) who are losing their franchises. Just as I have sympathy for the guy who profitably sold buggies before horseless carriages put him(and the village blacksmith) out of business.

Keep in mind also what this same Congress would do if this were workers asking for job protections - "Don't let GM close our plant. Don't let GM cut our hours." That would be quickly dismissed as interfering with the business strategies and profitability of a corporation. With due respect for Congress's greater sympathy for corporate subsidies (or perhaps it's the greater efficacy... or deeper pockets of corporate lobbyists), this is another side of the same coin.

Why Shouldn't The Government Be The Senior Creditor

I'm sorry. Although I support the creation of a new bankruptcy chapter for companies deemed "too big to fail", and I support proposals to keep "too big to fail" from being an excuse in the future to bail out companies that should go through bankruptcy or otherwise be allowed to fail, I find myself completely unable to get worked up about the idea that certain Chrysler and GM creditors are getting a raw deal in bankruptcy.

The concept seems to be this: Even though the auto companies survive solely on government bailout funds, and can make their way through bankruptcy only with the government guaranteeing their debt and warranties and providing additional cash support, and even though the creditors objecting to the proposed distribution would be receiving far less but for the government bail-out, and even though to give them more increases the government's future exposure through the Pension Benefit Guarantee Corp., it's hideously unfair that the government is using its position to bring about a settlement that doesn't provide a greater transfer of taxpayer money to cover the private losses of GM and Chrysler investors.

Why are these people so willing, eager, to regard taxpayer dollars as meaningless. No, that's not quite right. As a justification for a wealth transfer from the taxpayers to investors who made a poor investment. What if we had a perfectly reasonable law that, when a major business falters and is deemed "too big to fail", but cannot obtain the private capital it needs to maintain its operations, in the event of bankruptcy any loans or other aid it receives from the government to get it through the crisis must be paid back to the penny before any other creditor may receive a distribution? How would that be unfair? Yet in the context of GM and Chrysler, the deal being offered to creditors is far more generous.

With all due respect to those who pretend that nobody can bid against Fiat for Chrysler because nobody has had time to figure out what Chrysler is really worth, how hard is it to beat a bid of $0? What reason is there to believe that Obama would be anything but pleased with a higher bid, a bidding war, or a bid from a domestic company? Seriously, Chrysler was privately held by Cerberus Capital Management, a company that deems itself a turnaround specialist, and I don't think they would have hesitated to provide a detailed prospectus to anyone who was willing to outbid Fiat. I also don't accept that Fiat is the only company that noticed Chrysler was for sale, and spent a bit of time kicking the tires and looking under the hood.

I expect that the legal challenges to the proposed resolution of Chrysler's bankruptcy will fail. I agree that what we're doing here (and, outside of the bankruptcy process, with major financial institutions) is far from ideal. I am anything but thrilled with the prepackaged bankruptcies we're looking at, and would very much have preferred to keep GM's ownership in private hands. But this notion that keeps rearing its head, that it's unfair not to give investors, financial industry employees, and others a windfall at taxpayer expense - where their investments would be worthless or they would be out on the street without government intervention - just doesn't move me.

The better argument is that we should have let Ford and GM enter bankruptcy last fall, without federal support, and let the market deal with it. It's highly questionable whether, three or five years down the road, this will look like the best use of the taxpayer money we're pouring in, with the short-term goal of saving jobs and perhaps allowing viable companies to emerge from the ashes of their former selves. Will it still look like it was a good idea to keep the companies going, in order to prevent huge numbers of their employees from becoming jobless in the middle of a difficult recession? It's hard to know - there is a serious price to worsening or perpetuating the recession. But while I hope I'm wrong, I don't think it is ever going to look good in terms of "dollars spent per job saved".

Bring On "Chapter 10"

Recently, Barney Frank pointed out the obvious: If Chapter 11 bankruptcy isn't suitable for companies like GM or Chrysler, Congress can pass a new form of bankruptcy ("Chapter 10") that will allow them to continue payments to suppliers.

Meanwhile, the outlook for GM and Chrysler in their present forms continues to darken.

This leads "straight talkers" like John McCain to embarrass themselves,

McCain said the Obama administration didn't make the tough choice by letting GM fail, and instead has trapped itself in spending billions on a company barely on life support.

The problem, of course, is that the decision not to let GM and Chrysler fail was made by the Bush Administration.

Speaking from the White House at 9 a.m., Mr. Bush said the administration decided against forcing a bankruptcy to compel cost-cutting, fearing consumers might desert one or more of the car companies and touch off a broader collapse. Executives of the car makers have made similar arguments.

"Under ordinary economic circumstances, I would say this is the price that failed companies must pay, and I would not favor intervening to prevent the auto makers from going out of business," the president said. "But these are not ordinary circumstances. In the midst of a financial crisis and a recession, allowing the U.S. auto industry to collapse is not a responsible course of action."

In essence, Mr. Bush's plan lets the auto companies survive through March. He leaves it to the Obama administration to decide many tough questions after that.

But despite his dishonesty, McCain has a point. If we're going to pretend that we actually follow capitalism, or have a market economy, we need to consider how we can let companies like GM and Chrysler fail, or how we can give them the opportunity to reinvent themselves through bankruptcy despite the poor fit of Chapter 11. So I say, bring on Chapter 10.

Keep GM afloat while Chrysler enters "Chapter 10". If necessary, tweak the legislation to resolve any early problems. After a month or two, if the sky hasn't fallen, ease GM in to Chapter 10 proceedings. They'll emerge as smaller, leaner companies, ideally able to compete on their own merits. Or not. But they'll have a fair chance, and it will minimize the amount of taxpayer dollars we burn trying to sustain them in their current forms.

Who Would Have Guessed....

Here's a real news flash....

General Motors Corp on Thursday said its auditors had raised "substantial doubt" about its ability to survive outside bankruptcy if it fails to stem its losses and stop burning cash.

Who would have guessed that having too many expenses, too few sales, and being out of money could result in bankruptcy.

How Much Is Too Much?

That GM Chapter 11 plan?

It's still sounding good.

The U.S. auto industry needs even more help from the government to survive than originally thought.

General Motors Corp. on Tuesday said it could need up to $30-billion (U.S.) from the Treasury Department to keep operating. Included in that amount is $13.4-billion the company has already received. Previously, GM had said it could need as much as $18-billion.

GM and Chrysler LLC said Tuesday they'll need billions more in government loans than they predicted just two months ago. The two auto makers also plan further job cuts and additional curtailment of auto production.

Both companies plan to reduce the number of models they offer to car buyers over the next few years.

Help Chrysler find a buyerCerberus find a buyer for Chrysler, or roll it into GM and let them go bankrupt together.

A GM Bankruptcy?

I say, go for it! If in fact it's a viable plan, it seems like a much better option than limping along, surviving only with infusions of taxpayer money.

The viability of a GM bankruptcy might also give Congress the backbone to give Cerberus the overdue instruction that it needs to live up to its claims of being a turnaround specialist, and require it to pay for its own mistakes.