Is GM Screwed in Europe?

It’s been a sad story for the automotive industry in Europe the past few years. The European Automobile Manufacturers’ Association is predicting a market contraction of 8 to 10 percent in 2012 as double-digit sales drops become commonplace. Overcapacity plagues every automaker in the region as prices collapse and cut into margins.

General Motors (NYSE:GM) expects to lose between $1.5 and $1.8 billion in Europe this year, and only plans to break even in the region by the middle of the decade. In order to curb its losses, the company sought a parts-buying and partial production-sharing relationship with French car maker Peugeot (PEUGY.PK) that initially aimed at saving $2 billion between the companies through 2015. The arrangement could have helped repair systemic problems in GM’s Opel unit, which has been struggling for years with operational issues compounded by the brutal European market.

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When bankruptcy hit in 2009, GM floated a plan to sell the unit, but the idea was ultimately abandoned at the last minute. Frederick Henderson, president and CEO of GM at the time, determined that Opel would be able to turn itself around and see sustainable profitability. While current CEO Dan Akerson recently told staff that GM still stands behind the unit, Opel has yet to stabilize.

Complicating things, the partnership between GM and Peugeot has hit a roadblock. In October, Peugeot received a $9.1 billion bailout from the French government to stabilize its financing arm. Government assistance was critical to ensure that the manufacturer could offer low-cost credit to dealerships and customers, but the money comes with some caveats. Primarily, Peugeot is not allowed to cut any jobs in France.

This is a problem because Opel is based in Germany, and the original plan involved laying off workers from both sides of the equation. The labor laws in Europe are such that if one country is forced to have workers laid off, so must the other. With French workers locked in place because of the bailout, German workers are safe from a joint venture workforce reduction.

While the synergies of a parts-buying and production-sharing relationship will help the companies, many executives and investors alike believe that the only real way to stabilize in Europe is to cut capacity down to size. As noted, demand is, has been, and will continue to be in contraction, at least for the foreseeable future. Overcapacity stands as the largest glaring issue in the face of most manufacturers.

Ford (NYSE:F) has earned headlines when it announced that it would be cutting three plants in Europe, the largest being in Belgium. Understandably, workers are protesting the decision, but Ford management and investors see the closures as the only way forward. Ford expects to take a loss of $1.5 billion in Europe in 2012, an absolutely unsustainable number.

GM is approaching Europe with a different strategy that appears more dubious than Ford’s. Workforce and capacity reduction is a well-tested solution to the kinds of problems the European market faces, while GM seems determined to navigate its recovery in the region with a softer hand. The concern is that this relative softness will result in a much slower recovery at a time when losses are particularly unbearable. Strong sales in the American market can only support so many overseas losses.

For their part, Japanese manufacturers Toyota (NYSE:TM) and Honda (NYSE:HMC) have cast cautious eyes at the European market. Both have addressed the problems in the region, but have also indicated that they may become more aggressive in the market because of ongoing issues in China. Japanese manufacturers could readily compete in Europe with small, fuel-efficient models that are seeing increasing success compared to larger vehicles such as SUVs and trucks.

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