By DAN REYNOLDS, senior editor of Risk & Insurance®.
Trade credit risk, workers' compensation, professional liability and environmental coverage are four areas where insurers offer guarantees if the risk is not deemed too astronomical and the price is right.
But the size of losses in these areas in the stricken automotive sector threaten to be massive, whether those losses be insured or not, and no one can be certain that the federal government's attempts at a fix, whether they be limited to billions in loans or brokered bankruptcies or mergers, will help.
Here comes the bailout for the automakers. Chrysler has received $4 billion in loans and asked for another $5 billion on Feb. 17. General Motors has received $13.4 billion in loans so far and told the federal government that it plans to cut 47,000 jobs worldwide, according to published reports.
In late February, General Motors reported a full-year loss of $30.9 billion, the second biggest loss in the company's 100-year history. The company reported a fourth-quarter loss of $9.6 billion and warned that auditors might question the company's viability.
There's even talk that, as part of the federal rescue, Chrysler and GM could be forced to merge, which could lead to even more job cuts and problems for suppliers, which are in an even greater fix financially than are the original equipment manufacturers.
Troy, Mich.-based Delphi Corp. has been undergoing a court-supervised restructuring, otherwise known as bankruptcy, since October of 2005. Van Buren Township, Mich.-based Visteon Corp., an auto-parts supplier with annual sales of $16 billion and 35,000 employees, is also said to be on the verge of a bankruptcy filing, according to a report in the Wall Street Journal in late January.
WORKERS' COMP RISKS
Risks like workers' compensation, which is already a big cost for OEMs and their suppliers, figure to get even more costly and even more difficult to manage if General Motors and Chrysler merge as many think they eventually will, with the prodding of the government.
"Even without a merger, there is going to be layoffs, and then the fact that salaries and compensation are likely to be completely restructured and then how people view the working environment I think is certainly driving some of the workers' comp," says Greg Myers, a New York-based executive managing director in Beecher Carlson's automotive practice.
Myers says fears over job stability and an industry that is fear-based because of imminent bankruptcies could lead to increased claims and more difficulty in managing return-to-work programs, which have proven to be an important part of managing workers' compensation costs.
"I think you are going to be in a more difficult environment to manage that return-to-work in the sense that people aren't going to want to if they come back on a return-to-work program and if they are in a light-duty program for a month and then are expected to go back to regular duty. They may not stay as motivated to work themselves to get to be full duty again because they're concerned that their job could be one of those in a layoff situation," Myers says.
And how best to face those difficulties in workers' comp?
"Traditionally, we would proactively move resources to that facility or to that plant to review all of the incident reports, review all of the potential claims sources that we know about, and take proactive steps to intercede and put in some preventative care programs and put in some back-to-work-type therapy programs: in other words, proactive case management," says Tim Guerriero, general counsel for the U.K.-based global parts supplier and manufacturer TI Automotive, with operations on six continents.
"Historically, the worst thing that can happen is to let these types of claims fester, and they go on and on and all of a sudden you have a portfolio of orphan claims for which no plant manager or HR manager or claims manager is responsible," Guerriero says.
SUPPLY CHAIN RISK
A federally dictated merger of Chrysler and General Motors would create a sea change in the business models of suppliers and simply eradicate some of the weaker ones, according to one U.S.-based automotive risk manager.
"I believe it will quickly become clear that Chrysler/GM suppliers will have tocompletely re-engineer their current business model and bid on the new combined entity's business," says Mark Fischer, a senior manager in insurance services for BMW Financial Services, N.A.
"Given thegovernment stake in the new entity, profit margins will be slim andthe suppliers will have toreduce operating expenses and headcount accordingly. The downstreamsupplier consolidation wave that would ensue will be painful short-term but more efficient/viable in the long-term.The weakest players will simplydisappear from the landscape," Fischer wrote in an e-mail to Risk & Insurance®.
But the problems that the bailout don't end with U.S.-based OEMs and their U.S.-based suppliers. A global melting of demand for automobiles has led even Japan's most stalwart producers to halt construction on new plants and adjust sales expectations.
"If we are truly returning to a 10 million units/year of newvehicle sales paradigm (for, say, the next 5 years), the merger of Chrysler/GM would only be one of many pressures impacting the supply chain inNorth America," Fischer says.
"If the administration truly believes that the auto manufacturingbusiness is of strategic importance to the U.S. economy and national security, it will have no choice but to extend TARP-like benefits to the strongest suppliers, to ensure their mid-term survival," Fischer says.
But federal intervention on behalf of U.S.-based companies could create more problems, tilting the field of play against their better-run competitors. Companies like BMW, Toyota and Subaru, to name just a few, and their non-U.S.-based suppliers may find themselves shut out of any TARP-like benefits by protectionist Democrats in the U.S. Congress and may have to seek such support from their home governments.
"This will only add to the distress of the U.S. suppliers, as there will beextensive periods of uncertainty regarding business opportunities," Fischer says.
TRADE CREDIT RISK
The global credit crunch that has brought financial institutions to their knees is also having an impact on the U.S. automakers and their suppliers ... and at the worst possible time.
As the demand for cars and trucks has undergone a massive correction, dropping by double-digit percentages in recent months, the ability of automakers and suppliers to guarantee their receivables has disappeared at the very moment when they need trade credit the most.
"Obviously, the thing that is at the fore today is trade and credit risk. That is No. 1 on everybody's list," says Guerriero.
"The markets for credit insurance and credit risk management in the automotive sector have completely dried up in the last six months," he says. The little credit insurance that is available will likely go to companies with solvent balance sheets, not the Big Three manufacturers in North America, he also notes.
A part of General Motors' recovery plan calls for the creation by the government of a $4.5 billion credit insurance program to help the hardest hit of the manufacturer's parts suppliers.
Guerriero says that's probably a good idea.
"I think in the climate that we're in whatever the government can do that is helpful and addresses the key issue, which is the freezing of credit and the freezing of liquidity, is probably a good idea," Guerriero says. "The flow of a government guarantee into that market would be very positive."
But the government's intervention is a double-edged sword. Whereas the hope is that government help will thaw the lending markets, it will likely result in more pain for auto suppliers.
The proof of that, according to Marshann Varley, a former risk manager for General Motors who is now a senior vice president for Marsh based in Los Angeles, are the viability reports that both General Motors and Chrysler have submitted to U.S. officials in exchange for the bridge loans the government has extended.
Varley says those viability plans call for more streamlined supply chains, which will in turn not only affect the future of General Motors and Chrysler, but which will also affect the Japanese automakers with whom she now works.
"My clients are under a huge financial stress looking at their own supply chains and the risks that are involved in getting product to market and the right amount of product to market," Varley says.
Another leading automotive broker agreed.
"We have been looking at a lot of trade-disruption coverage for our clients," says Beecher Carlson's Myers.
"The automotive industry is one that has a very critical need and has one of the most complex interrelationships for business interruption and contingent business interruption," Myers says.
Forget about carbon footprints and global warming. The environmental risks facing the automotive industry are literally going to grow at a rate inversely proportional to the industry's rate of contraction.
Empty manufacturing spaces that comprise hundreds of thousands of square feet, dealerships that house fuel storage tanks, paint shops and repair bays represent yet more exposure to the tune of tens of millions of dollars, says Varley.
Last year, for example, GM announced it would shut its Oshawa, Ontario, pickup truck factory. The company also said it would gradually shut down plants in the states of Ohio and Wisconsin and in Mexico.
Ford is cutting its production by more than 40 percent and Chrysler, in December last year, said it would close its 30 manufacturing plants for a month to save money.
The plant closures by GM have meant thousands of employees out of work, millions of dollars' worth of machinery on standby and properties falling quiet as the hum of the shop floor drifts into the past.
"There is going to be a lot of property that was at one time fully valued, fully utilized going concern-type assets that are going to now be abandoned and or liquidated and or otherwise impaired significantly," says TI's Guerriero.
Factories, the older ones in particular, contain latent, pre-existing conditions that were likely not addressed when times were flush and assembly lines were stamping sheet metal at maximum capacity, he says.
Now the factories are headed for brownfields status as they turn into environmental risk issues, and the real estate portfolio of the parent company, be it Chrysler, Ford or GM, begins to change. Chemicals used in steel manufacturing, painting and automobile interiors are some of the toxins that can be found in the soil underneath an automobile manufacturing facility.
And don't forget, some of these facilities have been around for decades, long before environmental risks have gotten the attention they have in recent decades.
Dealerships are another story entirely.
"You've got dealerships that have underground storage tanks that have been doing the repairs on-site with chemicals leaking into the ground," says Varley, who notes that, in her own hometown, four out of eight dealerships have closed.
DIRECTORS' AND OFFICERS'
The good news in all of this, if there is any, is that unlike trade credit risk coverage, which is nonexistent, there is plenty of capacity for directors' and officers' liability coverage for automakers.
Directors and officers of Chrysler, Ford and GM may be running companies on life support, but their outfits fell victim to changing consumer demand. Unlike their counterparts in the financial services industry, no one has accused directors and senior managers of the Big Three of fraud or malfeasance.
But that still doesn't guarantee bulletproof protection for GM's directors and officers from shareholder suits, not with valuations reduced to penny-stock levels andbond ratings shredded. It's a good time for buyers of D&O coverage to make sure GM CEO Rick Wagoner and his peers are adequately covered.
"It has not dried up at all; there is plenty of capacity for D&O," says Varley. "But I think that is certainly one of the things that we will see as we go through this. There have been some large claims in other industry sectors over the last few years."
With analysts unsure about whether GM can survive much longer without filing for bankruptcy protection, and should the recession prolong itself, brokers say there's no better time to make sure a D&O policy is ironclad.
"There is more exposure there, and from a director's point of view, there is a greater need to make sure there is coverage," Myers says, particularly if directors and managers are staring at short tenures because of impatient stockholders.
Myers, like Varley, works mostly with Japanese automakers, but he says brokers for domestic and foreign automakers are going to be scrambling to install coverages for D&O, trade risk and other exposures.
"If I was working for one of the Big Three, I think I would see an even greater increase," Myers says. "A lot of those challenges are facing our clients. But with a lot of our clients, they aren't publicly companies here in the United States, so they don't have the same executive liability issues," Myers says.
"We have it for other clients, not in the automotive industry. But if I was working for a GM or a Chrysler that was looking very closely at a merger or a default, the work load would be even greater."
"It is such an enormous question," Marsh's Varley says.
It certainly is.
April 1, 2009
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