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Chapter Three— Chrysler Corporation: Bailing Out the Banks
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Setting the Stage:
Managerial Decision Making, the Economy, and the Banks

Until the mid-1970s Chrysler did relatively well. It enjoyed a healthy share of the domestic market as one of the three firms dominating the U.S. auto industry. Its sales increased from $3.01 billion in 1960 to a peak of $16.71 billion in 1977. Its profits grew from $32.1 million in 1960 to $209.7 million in 1968, peaking at $423 million in 1976 (U.S. Congress, House 1979a, 487, 488). By 1978 Chrysler was the tenth largest firm in the United States, employing 250,000 workers (New York Times , 12 Aug. 1979, F15). Its market share in the automobile industry for 1976–1978 averaged 12 percent (U.S. Congress, House 1979a, 25). Yet in 1978 the corporation reported a loss of $205 million and began pleading for aid from the federal government.

By 1979 Chrysler laid off 23,800 blue-collar and 5,000 white-collar workers (New York Times , 12 Aug. 1979, F15). At the close of that year, the firm reported an annual loss of $1.1 billion, with $4.75 billion owed to more than four hundred banks and insurance firms (Iacocca 1984, 240). The first quarter of 1980 looked similarly bleak, with a loss of $449 million (New York Times , 29 June 1980, F2). Chrysler's share of the market declined as well, dropping from 16.3 percent in 1968 to 13.6 percent in 1974 and skidding in 1979 to 9.3 percent (U.S. Congress, House 1979a, 476). The firm blamed federal regulations for its financial difficulties. Chrysler's chairman, John J. Riccardo, cited "federal standards for fuel economy, clean air and safety in the 1980's" as the source of Chrysler's "serious problems in raising $8.5 billion to redesign its vehicles to meet" these standards (New York Times , 14 Aug. 1979, D3; see Dramatis Personae 2). Chrysler asked the fed-


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Dramatis Personae 2. The Chrysler Bailout
(in order of appearance)

John J. Riccardo

Chairman, Chrysler Corp. (1974)

Elinor Bachrach

Aide to Senator William Proxmire

Congressman Stuart B. McKinney

Member, House Committee on
Banking, Finance, and Urban
Affairs

Congressman Richard Kelly

Member, House Committee on Banking, Finance, and Urban Affairs

Lee Iacocca

President and chief executive officer, Chrysler Corp.

Lynn A. Townsend

Chairman, Chrysler Corp. (until 1974)

Michael Blumenthal

Treasury secretary (until 1979)

G. William Miller

Treasury secretary (1979–1980)

John F. McGillicuddy

Chairman, Manufacturers Hanover Trust

Senator William Proxmire

Member, Senate Finance Committee

Gerald Greenwald

Executive vice president and senior financial officer, Chrysler Corp.

Tom Killefer

Chairman of the board, U.S. Trust Co. of New York

Congressman Bruce F. Vento

Member, House Committee on Banking, Finance, and Urban Affairs

Congressman Norman D. Shumway

Member, House Committee on Banking, Finance, and Urban Affairs

Congressman Norman E. D'Amours

Member, House Committee on Banking, Finance, and Urban Affairs

Congressman Ron Paul

Member, House Committee on Banking, Finance, and Urban Affairs

David W. Knapp

President, American National Bank and Trust Co.

Rodney E. Rohrbaugh

Executive vice president, American National Bank and Trust Co.


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Douglas A. Fraser

President, United Auto Workers

Senator Robert C. Byrd

Senate majority leader

Senator Russell Long

Chairman, Senate Finance Committee

Alfred E. Kahn

Chairman, Council on Wage and Price Stability (1979)

Congressman James J. Blanchard

Committee on Banking, Finance, and Urban Affairs

Lane Kirkland

President, AFL-CIO

eral government for a two-year reprieve from compliance with the standards.

In 1978 Chrysler realized that it was going to suffer an annual loss of $200 million. Riccardo made another trip to the White House to plead his firm's case and to ask for $1 billion in tax credits. He proposed that Chrysler defer its 1980 taxes, which it would pay at a future date from the profits the firm's management assumed they would have in 1981 and 1982. Elinor Bachrach, Senator William Proxmire's aide, called the proposal "an appeal for a thinly veiled grant" (Moritz and Seaman 1981, 272). The Treasury Department's Domestic Finance Capital Markets division was assigned to "keep track" of Chrysler's situation, but the federal government took no concrete action at the time (New York Times , 14 Aug. 1979, D3).

Chrysler continued to argue that federal regulations and standards had "imposed a disproportionate burden on the smallest of autodom's Big Three." The firm claimed that compliance with such regulations cost it $620 per car, compared, for example, with $340 for General Motors, because the top two manufacturers could "spread the cost" of these regulations "over the larger number of cars sold" (Newsweek , 13 Aug. 1979, 53; see also Iacocca 1984, 197). Furthermore, Chrysler claimed that compliance with federal regulations would cost $1 billion more in 1979 and 1980 (Business Week , 20 Aug. 1979, 103; Iacocca 1984, 197). "Because the government has helped bring Chrysler to its knees," the company argued, "the government now has an obligation to bail it out" (Newsweek , 13 Aug. 1979, 53).

Despite Riccardo's insistence on government responsibility, it appears that managerial decisions within Chrysler helped produce


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the company's financial difficulties. For example, in 1976 Chrysler decided not to invest in the costly construction of a four-cylinder engine plant for its Omni and Horizon models. Instead, the company decided to make a contract with Volkswagen to purchase 300,000 engines a year (Newsweek , 13 Aug. 1979, 55). But the small cars became extremely popular, and Chrysler found that 300,000 cars could not satisfy the demand. The soonest Chrysler could receive more four-cylinder engines was early 1981—a delay that severely restricted the number of small cars the company could produce, left it unable to meet the surging demand for small fuel-efficient cars, and caused it to lose a great share of the market to its competitors. Had Chrysler made the correct decision, it would have improved its market position and had more research-and-development money for the future. In his opening statement for the House Subcommittee on Economic Stabilization hearings for a Chrysler bailout, Congressman Stewart B. McKinney named poor management rather than the burden of regulation as the cause of the firm's financial difficulties:

We could probably ease all of the regulations that Chrysler objects to and the company would still not be able to survive in today's market. Chrysler chose to make big cars, trucks and vans when the competition decided to concentrate on smaller and lighter cars. Chrysler continued to produce cars without orders while the competition produced to meet orders. Chrysler used outside suppliers for its components while the competition manufactured its own. (U.S. Congress, House 1979a, 5)

Congressman Richard Kelly concurred:

Chrysler is in trouble because through a long series of bad judgments it has rendered itself non-competitive. . . . In 1969, before any of the Federal regulations being blamed by the company were in place, a failure to downsize its automobiles caused Chrysler to suffer a drop in earnings of almost 70 percent, while its long-term debt soared almost 400 percent. . . . These factors are in no way attributable to government regulations. (U.S. Congress, House 1979a, 6)

Moreover, results of a National Highway and Traffic Safety Administration (NHTSA) study contradicted Chrysler's assertion that regulations placed a disproportionate burden on the smallest of the Big Three automakers. The study concluded that regulations actually imposed higher costs on the larger automobile firms: "Total


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investment costs tend to be roughly proportionate to sales volume. This occurs because although compliance costs may be equal per model, or per engine or per transmission line, the larger firms have more of these than the smaller ones." The study also rejected the argument that compliance with regulations was more expensive per car for the smaller firms: "In fact, the exact opposite is the case. Historically, GM's capital investments per vehicle were about 15 percent higher than Ford's. Ford's were at least that much higher than Chrysler's, and Chrysler's were several times more than American Motors" (U.S. Congress, House 1979a, 451–452).

Finally, although Chrysler argued that fuel efficiency standards forced the firm to invest in expensive retooling, consumer demand for fuel-efficient cars (after the 1974 fuel disruptions) was forcing the firm to retool as a marketing strategy: "According to recent statements made by . . . GM and Ford, the market is now demanding more fuel economy than current regulations require, thus mitigating the investment effect of fuel economy standards" (U.S. Congress, House 1979a, 453). Even Iacocca admitted that the Big Three automakers ignored the public's demand for small cars, pursuing instead the higher profits derived from the sale of big cars and producing poor-quality small cars (such as the Ford Pinto): "We owe the public a little more than we've been giving them" (Business Week , 22 Sept. 1980, 84; see also Iacocca 1984, 151–166, 217). Thus federal regulatory standards were largely irrelevant. "Any regulatory relief would have failed to provide Chrysler with what it needed most: hard cash" (Moritz and Seaman 1981, 270).

Other managerial decisions dating back as far as 1949 contributed to Chrysler's financial difficulties. Before 1949 Chrysler had steadily cultivated a "reputation for sound engineering" and by 1946 enjoyed a 25.7 percent share of the national market (Newsweek , 13 Aug. 1979, 58; see also Iacocca 1984, 148–149). An NHTSA study pointed out that between 1949 and 1953 the firm "had no funded debt and maintained a rate of dividend payout which averaged about 65 percent of earnings (identical to GM)." Yet in 1950 Ford overtook Chrysler's position. The NHTSA study listed "poor market acceptance" of Chrysler's revamped 1953 models as a factor contributing to its loss of market share, which "dropped from 20 to 13 percent [by 1954]—a position never to be


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recovered" (U.S. Congress, House 1979a, 505–506). Chrysler's management decided to focus on style rather than engineering to defend its share of the U.S. market, but its position continued to slip.

The NHTSA study revealed a number of strategies from this period that backfired on Chrysler:

In the mid-1950s, Chrysler's passenger car divisions had nearly the same number of total dealer franchises as GM, even though Chrysler had only one-fourth the sales of GM. This plan was originally intended to maximize Plymouth sales; however, it resulted in smaller dealer margins as well as poor dealer-manufacturer relations. (U.S. Congress, House 1979a, 506)

Despite these problems—and the disappointing profit performance of its expensive foreign subsidiary, Simca—Chrysler decided to maintain a high dividend payout rate and to raise investment capital through debt financing. By 1957 "Chrysler's capital structure included 34 cents of funded debt for each dollar of shareholder's equity," compared with 5 cents for GM and 9 cents for Ford (U.S. Congress, House 1979a, 506). This high debt-to-equity ratio laid the foundation for Chrysler's later cash flow shortage.

In an attempt to compete with Ford and GM, Chrysler's chairman, Lynn A. Townsend, decided in the 1950s to "match every Ford and GM product line with one of his own." But this emphasis on matching styles in short-term competitiveness for market share produced long-term hazards. "Chrysler neglected to update its core facilities," and this neglect eventually pushed Chrysler's production cost per car 10 percent higher than GM's (Newsweek , 13 Aug. 1979, 58). Moreover, the decision to produce models similar to the other auto manufacturers' placed Chrysler in "more direct competition with GM and Ford" (U.S. Congress, House 1979a, 507). Chrysler could not hope to prosper in this head-to-head confrontation in the market, since the other two manufacturers had already staked out substantial market shares.

Chrysler's production strategy also differed from GM and Ford's, a choice that was to haunt Chrysler later. GM and Ford built vehicles strictly by order from dealers. "By doing this, the companies are immediately paid as the cars roll off the assembly line" (U.S. Congress, House 1979a, 502). Chrysler produced cars for its inventory rather than as a response to orders, and this strategy resulted in enormous stockpiles of unsold cars.


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Chrysler had been adhering to this practice since the 1960s as a means to store cars in slow periods and quickly take advantage of anticipated market surges. Although this procedure worked for awhile, it started to backfire during the early 1970s when sales growth was low. In the recession of 1975, Chrysler had a backlog of 60,000 cars in its "sales bank" . . . and 110,000 units in June 1979. (U.S. Congress, House 1979a, 502–503; see also Iacocca 1984, 162–164)

In another critical strategy that set Chrysler apart from GM and Ford, Chrysler's management purchased parts from outside suppliers rather than vertically integrating as GM and Ford had done. By 1964 Chrysler's outside purchases amounted to 64 percent of revenue, compared with 52 percent for GM and 62 percent for Ford (U.S. Congress, House 1979a, 508).

Between 1968 and 1970 Chrysler gambled by stepping up its investment program during an economically unstable period, "basing its decision on factors such as strong growth in population, rising incomes and improved highways. This decision, unfortunately, coincided with the 1969–70 recession" (U.S. Congress, House 1979a, 508). Meanwhile, Townsend decided to expand the firm's focus from the U.S. market to the world market, constructing factories in Europe, South America, South Africa, and Australia. This move further eroded the company's available resources to compete on the domestic market (Newsweek , 13 Aug. 1979, 58; see also Iacocca 1984, 154–155). Moreover, Chrysler's attempt to become a multinational came too late, long "after Ford and GM had acquired the best operations" (U.S. Congress, House 1979a, 912). Chrysler's rate of profit dropped dramatically from 5.8 percent in 1950 to –3.4 percent in 1958. The firm's global expansion marked an effort to raise its falling rate of profit and to compete effectively with GM and Ford. But the expansion seriously "drain[ed] the corporation of funds, depleting monies for domestic investment and creating for the company a huge and unmanageable debt burden" (Detroit Socialist Collective 1980, 8, 23).

Finally, in 1974 Riccardo replaced Townsend as chairman and proceeded to pare down Chrysler's staff to reduce costs. But by then the damage had been done, and Riccardo faced the additional problem of the recession of 1974–1975. Despite his efforts to reverse Chrysler's problems, the firm lost $260 million in 1975. Moreover, many observers argue that Riccardo's drastic paring down of staff caused Chrysler to get "a late start on redesign


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of new products" after the recession, "and it was that late start that really hurt them the most" (Newsweek , 13 Aug. 1979, 58). Chrysler's vulnerability at that time was clearly a result of poor management decisions. The company had decided not to produce a subcompact car "to compete with GM's Vega and Ford's Pinto, both introduced in the 1971 model year." Townsend decided instead to "redesign Chrysler's big cars," which were marketed in the fall of 1973, "just months before the Arab oil embargo destroyed the market for gas guzzlers" (Business Week , 20 Aug. 1979, 105). Whereas GM responded to the gas crisis with a major shift in product emphasis, Chrysler responded by laying off "hundreds of engineers, which obviously set the company back further in terms of planning future projects." According to Howard J. Symons, staff attorney for Public Citizen's Congress Watch, by 1974 Chrysler had "laid off 80% of its engineering staff" (U.S. Congress, House 1979a, 171, 913). When gas prices doubled once more in 1979, Chrysler was pummeled again for its emphasis on large cars, recreational vehicles, vans, and motor homes as sales on these gas guzzlers plummeted. Van sales, for example, fell by 50 percent (Iacocca 1984, 183). Thus Chrysler was hardly the innocent victim of circumstances; poor management decisions made it especially vulnerable to economic recession and fuel disruptions.

By the time Chrysler reentered the compact car market with its Volare and Aspen models in 1976, sales of intermediate-size cars had already begun to slow down. In addition, these models were poorly made in the rush to get them to market. "More than three and a half million cars were brought back to the dealers for free repairs—free to the customer, that is. Chrysler had to foot the bill" (Iacocca 1984, 160). Over this long series of decisions management was clearly out of touch with the market and with consumers.

Chrysler wanted government assistance because it could not get assistance from normal business sources—mainly the banks. The firm therefore contrived a set of arguments to justify a federal bailout. The rationales Chrysler offered for the various strategies it adopted or attempted reflect the inherent constraints on nonfinancial corporations that need to access capital flows. Chrysler first pursued government assistance by claiming that the government was responsible for the automaker's deepening financial difficulties.


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When this claim was refuted, Chrysler appealed instead for loan guarantees from mostly hostile congressional banking committees. Chrysler was in for a long struggle.


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