No Detroit Bailout

That the Big Three CEOs flew into Washington, D.C., on sleek company jets to beg for a $25 billion taxpayer bailout should not be surprising. After all, these are the same companies infamous for spending half a billion dollars a year to maintain a "jobs bank" for thousands of unneeded UAW employees to sit around and watch television or play cards. Prudent business practices have eluded Detroit of late.

Once in Washington, the Big Three delivered a confused message. On one hand , they were upbeat, claiming they were close to regaining competitiveness and market share in North America. GM CEO Rick Wagoner asserted on Tuesday that until the recent economic slow down, "we were well on the road to turning our business around." On the other hand, the Big Three are blackmailing the taxpayer, stating they can "lose $25 billion now or lose $156 billion later."

But America is in no mood to reward a legacy of poor management and unrealistic, inflexible union contracts. Just off landslide victories, Speaker Nancy Pelosi and Sen. Harry Reid have no stomach to own the Detroit bailout, knowing it is doomed to failure. Instead, Democratic leadership is sending the CEOs back to the drawing board to try again in December. It's time to sober up and make a choice between a fundamental restructuring and propping up a failed business model.

Ten years ago, the Big Three posted a combined profit of over $16 billion. During the good times, management failed to invest this profit in a diversified product pipeline, but rather assumed that Americans would never stop buying high-profit SUVs and trucks. Now that market conditions have changed, the Big Three's business plan is to call on Congress to bail them out from reality.

High labor costs and inflexible work rules, staggering legacy costs, an unwieldy dealer network, and a failure to overcome negative consumer sentiments have combined to bring Detroit's automakers to their knees. To put it bluntly, the Big Three remain weighed down by unmanageable legacy costs resulting from unrealistic union contracts made decades ago, leaving the car manufacturers no flexibility to respond to market changes.

Now the Big Three want to make their inability to control labor costs or to create products that consumers want a taxpayer problem.

What they really need is a major restructuring, the kind only Chapter 11 can bring about. The market reality is that the American consumer is looking to buy only 12 million vehicles in 2009 and 2010, down from 16 million in 2007. Bailout or not, factories will close and hundreds of thousands will need to find other work.

It is clear what must happen.

GM, Ford, and Chrysler will need to produce fewer cars, ditch their legacy costs, significantly reduce the size of their dealership networks, and not just meet but beat the quality of the competition. GM has eight brands with a market share of 22 percent, while Toyota has three brands with a 17 percent market share. GM has some 4,000 dealers, compared with Toyota's more efficient network of 1,200. The average labor cost per hourly worker at GM is $75, compared with $50 per hour for Toyota employees.

With the market shift toward smaller, more efficient cars, the Big Three can no longer rely on consumer demand for large SUVs to make up for their inefficiencies. Passenger cars come with tighter profit margins, and there is simply no room for the estimated more than $1,600 in legacy costs built into the price tag of each car produced by the Big Three.

The U.S. steel industry faced a similar challenge. After decades of devastating headlines, the little-known story is that more steel was made in the United States in 2007 than in 1970, with one fifth the employees and one twelfth the man-hours per ton. The industry had to go through a painful process of bankruptcies, reorganization, and innovation, which serves as a model for the auto industry.

In the long run, bankruptcy and reorganization may be the final chapter of the rustbelt, as the region will no longer be hostage to the anti competitive culture of the UAW. It is no secret that for the past 40 years, companies, jobs, and population have shifted from the old-line industrial Great Lakes down to the Sun Belt in search of lower taxes and a pro-business regulatory climate. Detroit needs to learn how to compete with Alabama.

In 1985, 3,200,000 vehicles were made in Michigan, compared with 2,400,000 today—a loss of 800,000 units. In 1987, the first car rolled off the assembly line in Alabama. Today, 750,000 cars are made in Alabama, almost completely offsetting losses in Michigan.

The story was slightly different in Ohio, where 1,900,000 cars were built in 1985. Auto production dropped slightly, to 1,800,000 vehicles in 2007. But while the Big Three dramatically shed jobs across the Buckeye State , Honda set a record in 2007 by producing 700,000 vehicles in Ohio. GM, Ford, and Chrysler are all shedding jobs at UAW facilities in Dayton, Cleveland, and Toledo, but non union Honda factories in rural Ohio employ 16,000 and are stable.

In the long run, the automobile industry faces dramatic changes, with new sources of propulsion and a greater focus on design and marketing. In the not-too-distant future, we will design and purchase vehicles online. The winners in this era will be the most flexible companies able to respond to consumer demands overnight.

If this is where the industry is heading, why should the cash-strapped American taxpayer bankroll failed management teams and the UAW in Detroit, who are clearly not prepared for this new automotive era?

Even if the Big Three get their bailout from reality, it only postpones the inevitable as they continue to grapple with an inflexible workforce and catastrophically high legacy costs. Consumers will still get a piece of the 1970s with every new car they purchase. It will be a repeat of the British bailout of the automotive giant British Leyland. After nearly $15 billion, the British taxpayer is left with nothing but nostalgia.

Recession is like nature's wildfire: It cleans out the deadwood from the economy. The Big Three will survive only as auto companies, not employee benefit organizations propped up with taxpayer money.

After a successful reorganization—not a bailout—the Big Three (or two, by that point) will be able to escape the past and emerge as competitive companies. Chapter 11 might be the last shot for the Big Three to credibly claim it is a new day in Detroit and to win back the faith of the consumer.

Matt Kibbe is president of FreedomWorks Foundation, a grass-roots education organization that believes in lower taxes, less government, and more freedom.