Doing the Math on Obama's Detroit Bailout

By David Welch

President Obama served up red meat for his hard-core supporters in Detroit yesterday, proclaiming that the government’s bailout of General Motors and Chrysler to be a success. Had he not intervened and invested in the two companies, Obama said, they would have fallen into liquidation and 1.1 million jobs would have evaporated. In the past year, the auto industry has regained 55,000 of the 334,000 jobs lost, he went on. “The fact that we’re standing in this magnificent factory today is a testament to the decisions we made,” Obama said while visiting Chrysler’s Jeep Grand Cherokee plant in Detroit. His comments were aimed clearly at the critics on the other side of the political aisle who opposed the bailout 18 months ago and who still criticize government ownership of GM and Chrysler to this day.

So far, it is tough to argue that the bailout hasn’t worked. GM is in the black, having reported an $865 million profit in the first quarter with black ink looking likely for the rest of the year. GM’s results are strong enough that the company is preparing for an initial public offering that should start selling stock in November. Chrysler is at least making an operating profit, which puts the company in much better shape than most analysts thought it would be a year ago. With much lower costs, both companies should be able to make money going forward. Let’s not forget that GM, Chrysler and cross-town rival Ford cut out 2.9 million cars worth of production capacity during the crisis, according to the Center for Automotive Research. That was a quarter of capacity in the U.S., Canada, and Mexico. Cutting out the fat has allowed them to post profits even though sales are slow.

The real test will be if the government breaks even on its investment, or at least comes close. Obama Administration officials say they are hopeful that the taxpayers will be paid back in full. GM got $49.5 billion from the feds and Chrysler took $10.8 billion. For the government to break even on GM, the company must be worth at least $66 billion, and even more if the bondholders and United Auto Workers union exercise warrants and dilute the government’s investment. But nearly breaking even would still be an accomplishment. Here’s what I mean: Based on where GM’s bonds trade, the company is worth about $53 billion right now. That would be an 80% return on the government’s investment if GM’s stock were so valued. Stock in GM will be more liquid than its current bonds, so it should be worth even more, analysts say. But for the sake of argument, assume an 80% recovery on the $60.3 billion direct investment in GM and Chrysler. That would leave $12 billion unpaid. Would that be a reasonable price to save two industrial icons and hundreds of thousands of jobs? I would have taken that deal in the depths of the financial crisis, and I wager that most critics would have, too.

Read the original story at BusinessWeek Automotive Blog