Can Chrysler escape liquidation?

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When President Obama announced that Chrysler would file for bankruptcy, he gave it a positive spin. The basic idea was that with another $8 billion in U.S. loans -- bringing the total to $12 billion -- Chrysler could emerge as a division of Fiat with a cleaned up balance sheet in at most two months.

To be polite, that spin is a best case scenario. Other scenarios include Chrysler takes a year or two to emerge from bankruptcy, or the bankruptcy court liquidates its assets to settle with creditors. I'd guess the second scenario, a longer bankruptcy, is most likely.

Chrysler, which makes Chrysler, Dodge, and Jeep brands, employs many people. It has 39,000 employees and 3,300 dealers which employ another 140,000 and its Chrysler Financial has 3,400 workers. It filed for bankruptcy because a handful of hedge fund honchos were not happy with the U.S. government's settlement offer.

To be fair, the details of the first scenario of a quick bankruptcy process seem to have been well worked out. Fiat has offered to provide technology to Chrysler in exchange for its plants and dealers in a deal that would give the UAW 55 percent of Chrysler; Fiat 20 percent with the option of boosting the stake to 35 percent; the U.S. government eight percent, and Canada two percent.

What could go wrong? Here are three things that come to mind:

  • Court battles over settlement amount. First, bankruptcy court gives all Chrysler creditors the right to get more money than is likely available from liquidating Chrysler's assets. Specifically, in a bankruptcy any single creditor is entitled to get the liquidation value of its claim. So any creditor can assert that what it would get if Chrysler sold its factories quickly would be more than the 32 cents per dollar that Treasury had guaranteed Chrysler's secured creditors before the government deal fell apart this week.
  • Delays due to conflict among TARP and non-TARP creditors. Second, there is a big legal conflict resulting from the fact that some of Chrysler's creditors -- the big banks -- have received TARP funds and others -- the hedge funds -- have not. In bankruptcy, votes by creditors must be given in good faith and the hedge funds will argue that TARP banks were unduly influenced in voting to accept Treasury's 32 cents per $1 offer by the fact that Treasury was keeping them afloat with federal subsidies.
  • Lack of profitable business model. Finally, there's the basic problem that in order for the business to be profitable, it needs to make products that enough people will buy at a price that exceeds Chrysler's costs to build, sell, deliver and finance those products. American consumers need to embrace the small cars that Fiat -- which had to withdraw from the U.S. in the 1980s due to quality problems -- will sell through the Chrysler's dealer network in the U.S. -- but not until 2011 at the earliest and probably not profitably since only Asian automakers have figured out how to make money with small cars in the U.S. Even with Fiat's help, one analyst expects Chrysler's market share to fall from 11 percent in 2006 to 5.1 percent by 2012.

Finally, there's the matter of a cultural clash between Chrysler and Fiat -- which almost always happens in mergers.

All this makes me think that the first scenario is pretty unlikely and the second, the long bankruptcy, is the most likely. I am not sure what the odds are for each scenario. My guess is that quick bankruptcy has a 10 percent chance; a long bankruptcy has a 60 percent chance; and liquidation has a 30 percent chance.

One thing's for sure, this Chrysler bailout will be a far cry from the turnaround that Lee Iacocca led in 1979.

Peter Cohan is president of Peter S. Cohan & Associates. He also teaches management at Babson College. His eighth book isYou Can't Order Change: Lessons from Jim McNerney's Turnaround at Boeing. He has no financial interest in the securities mentioned.

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