DETROIT (Nov. 24, 2008) — A bankruptcy filing by a Detroit 3 auto maker would kill many of its dealerships quickly even if the company successfully reorganizes, dealers' lawyers predict.
Many car dealerships that already are struggling with frozen credit and an economic recession would not survive the instant cash crunch if an auto maker decides to seek Chapter 11 bankruptcy protection, the lawyers say.
At that point, according to attorneys, money due to dealerships from the factory for sales incentives, holdbacks and warranty reimbursements would become unsecured debt. A Bankruptcy Court could allow the auto maker to pay dealerships just pennies on the dollar and to delay even those payments.
Dealers would “have to get in line with everybody else,” said Ron Coleman, a lawyer in Tacoma, Wash. “Cash flow is a big issue.”
As the Detroit 3 pleaded with Congress last week for emergency financial aid, some lawmakers suggested the companies would do better to file for bankruptcy so they could cut their dealer networks and renegotiate labor contracts. In response, General Motors Corp. (GM) CEO Rick Wagoner cited independent research suggesting 80 percent of consumers who are thinking of buying a new vehicle would not consider a bankrupt auto maker.
The Detroit 3 note that they already are slashing their retail networks. In 2001, GM, Ford Motor Co. and Chrysler L.L.C. operated 16,669 U.S. dealerships. At the beginning of this year, the companies had 14,199 dealerships—down nearly 15 percent.
If a Detroit 3 auto maker went bankrupt, dealers could feel these effects.
* Bankruptcy Court could delay incentive, warranty reimbursement and holdback payments from the factory.
* Dealers could get just a fraction of the payments due them before bankruptcy filing.
* Dealers could not offset money owed the factory with what is owed to them.
* Customers likely would expect dealers to honor factory warranties, even though dealers would not be liable.
Martin NeSmith, a GM dealer in Claxton, Ga., said a bankruptcy by the auto maker “would make it very difficult for us.”
“I don't have the option of selling other brands,” Mr. NeSmith told Automotive News, a sister publication of Tire Business. “I have been putting away a little money for a rainy day, for two or three years. One day I thought I might have to use it.”
Mr. NeSmith said he doesn't foresee a GM bankruptcy. But if it occurs, he warned, “It will put America into a depression.”
Lawyers note that many dealers are having trouble finding lenders to finance their inventory and are slashing new-vehicle prices to make sales.
Dealers “are selling new vehicles below net cost and counting on factory incentives to make a profit or break even,” said Jeff Roberts, a lawyer in Raleigh, N.C. “If the incentives never materialize, it will be a substantial hit to many dealers. Frankly, many will not survive.”
Factory incentives and warranty payments to a dealership can amount to hundreds of thousands of dollars. Likewise, auto makers pay dealers hefty subsidies to renovate their stores to comply with factory image programs.
Moreover, many dealers have cash management accounts—some worth millions of dollars—with captive finance companies. A bankruptcy filing by an auto maker also would jeopardize those accounts, lawyers said.
Mike Charapp, a lawyer in suburban Washington, D.C., noted another aspect of bankruptcy law: Dealers can't offset money they owe the factory with money the factory owes them but isn't paying because of a bankruptcy reorganization.
“A dealer can't say, 'I'm not going to pay for my parts because you didn't reimburse me for warranty work,'” Mr. Charapp said.
Dealers who want to avoid their own bankruptcies must keep their accounts current on the money due them from the auto maker, lawyers advised.
“If you have been submitting claims for manufacturer payments monthly, submit them weekly or even daily,” Mr. Charapp said.
Dealers who hold Detroit 3 and import-brand franchises should set up those dealerships as separate businesses, Mr. Roberts recommended. In that way, he said, a Detroit 3 bankruptcy would not cripple a successful import dealership.
Dealers also need to keep their vehicles and parts inventories lean, said Leonard Bellavia, a lawyer in Mineola, N.Y. Bankruptcy law would trump state franchise laws that govern factory buyback obligations when a dealership closes, he noted.
And if all else fails? Mr. Bellavia warned: “Dealers who have very little hope of sustaining themselves may wish to consider a voluntary termination now.”