GM and Chrysler on the brink?

Investors and vendors to the automakers believe bankruptcy proceedings for one of the Big Three are as likely as not, judging by a range of financial indicators. GM and Ford bonds trade between 20 to 40 cents on the dollar. Investors have valued $9 billion worth of Chrysler debt at about $3.4 billion. On Thursday, Daimler, which owns 19.9% of Chrysler, wrote its investment in the automaker down to zero.

The GM-Chrysler plan would effectively scrap large parts of 83-year-old Chrysler. Even people involved in the deal concede a tie-up would be risky because consolidation would have to take place quickly.

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In a merged company, GM would take the driver's seat in product-development activities, say several people involved in the talks. It would retool several existing Chrysler products to base them on GM-designed vehicles, or kill some products outright, these people said.

GM is expected to save Chrysler's popular minivans and Jeeps. GM could also sell certain vehicle lines, such as the profitable Dodge Ram, to an auto maker seeking entry into the U.S. light-truck market.

The human toll of such a move could be high. The companies would slash duplicated functions from engineering to marketing. One internal estimate predicts at least 40,000 jobs could be cut from the roughly 166,000 people employed by the two companies in the U.S., Canada and Mexico.

GM's cash cushion has been eroding for some time. Each month, the company spends $1 billion more than it brings in. At that burn rate, GM could effectively run short of cash next summer, without even taking into account further sales declines.

The 100-year-old company has about $20 billion on hand today, but needs at least $11 billion to $14 billion of working capital at all times so it can keep paying its bills, GM has said.

The company has been trying for months, without success, to raise at least $5 billion by selling assets, such as its Hummer brand, and by pledging unencumbered assets, such as profitable international operations, as collateral for loans.

But lenders are reluctant to invest. GM debt, once considered the highest investment grade, has tumbled to low-rated, junk status.

Many lenders approached to invest in a combined GM-Chrysler have also balked. One large private-equity investor said it would take too many years for the combined entity to realize a forecast $10 billion in annual cost savings.

Meanwhile, this person said, it's safer to invest in the company's debt instead of its shares, because creditors get better protection than shareholders in the event of a bankruptcy filing.

When Cerberus purchased Chrysler in the spring of 2007, the capital markets were at full throttle. The firm basically bought Chrysler for free, in exchange for taking on its considerable debt. Cerberus expected that once Chrysler was private, the fund could build a smaller, stronger company with the ready help of debt investors.

It hasn't turned out that way. In two years, Chrysler has fallen from third to fifth in U.S. auto sales. J.P. Morgan estimates it has $11 billion on hand. It uses $3 billion to $5 billion of that as working capital to meet payroll, pay vendors and pay other bills. Its monthly cash burn is estimated at $300 million to $400 million. That figure may grow as vehicle sales slow, suggesting that it could run out of money by late 2009.

To conserve cash, Chrysler has halted certain new-product plans, a sign that it sees a deal with GM as the only path out.

Continued: Beyond the Motor City

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