Summary
In just this year Cerberus' accountants may have inadvertently exposed the seamy side of cost cutting in the American OEM automtoive industry: 1. Overcharging by non-competitive politically correct suppliers, 2. Underbidding by suppliers desparate to keep their own factories open, and now 3. Short-weighting of exchange traded commodities. Doesn't this expose the corrupt core of OEM automotive cost accounting in general?
Analysis
What is it that feels good for the moment but exposes those who are seen to do it, from a distance, to ridicule for asocial self-indulgence? One simple answer to this question is masturbating in public. Another answer is the public announcements of cost-cutting programs based on mandatory price cuts from suppliers by OEM automotive assemblers. This simplistic approach to cost reduction is known as "The Lopez System" in American OEM automotive. It is the paradigm for all shortsighted consequence ignoring purchasing programs now in place in American OEM automotive, and it is the main cause of the precipitous decline of the ability of American owned and operated car makers to compete globally or domestically.
Cereberus' accounting are now unraveling some of the more common ways that OEM automotive suppliers have devised to keep from going bankrupt sooner rather than later.
One way has been, until recently, to create a minority 'pass-through front' which allowed the car maker and a mentoring supplier to both take credit for having minority 'content' in their products. This allowed both companies to meet the arbitrary targets for such minority content set by the SBA's Office of Minority Business Enterprize and to thus avoid fines and maintain the ability to bid on and get government contracts, tax subsidies, and the like. Almost all such programs resulted in out-of-control cost over-runs due to the added need for double overhead and quality control. The original idea was to give a lift up to disadvantaged minorities. n practice a few minority group 'good old boys' fronted for business as usual and the targeted class for uplift, African-American males, was impacted, if at all, negatively. Only cooperating minorities got 'assistance.' Actual entrepreneurial minorities usually found out that there was no money left over to invest in their ideas and no other support unless they played the 'game.'
Chrysler had extended 70 million dollars to Plastech Engineering, called the largest minority vendor to OEM automotive, with no hope of ever getting back the 'prepayment' funds when it decided, as Cerberus, to pull the plug. Plastech, a private venture, with a 'billion dollar' order book and 34 plants had NEVER made a profit yet its Vietnamese-American woman owner drew a multimillion dollar salary and had a company paid cook and driver.
Note well that JCI, if the charges are true, could not make a profit selling batteries honestly at the prices Chrysler wished to pay. How does this bode for the lithium batteries that JCI is supposedly going to mass produce for GM, for example?
Another game played by many suppliers to get around mandatory price reductions was to agree and then raise the prices due to unexpected rises in labor and commodity raw material costs after the contract was awarded. The reset back to the original prices, or even higher ones, was rarely, if ever, recorded against the trumpeted cost savings.
Finally, short weighting has become standard operating procedure in the OEM automotive supply business. Standard drums of paint, adhesives, and sealants, for example, are filled to within 2 or 3 inches of the top but labeled as 'full' and/or the weights of production chemicals are reduced by adding cheaper fillers with lighter weights but the original weights are invoiced.
It is even better with metals. For example, General Motors uses approximately 0.2 grams of rhodium in each catalytic converter. Last July 15, 2008 this tiny amount of rhodium had a base cost of $60 dollars. If the supplier were to utilize only 0.19 grams per converter the difference, only $3 a car would add up to $27,000.000 a year for all of GM's production. The same opportunity presents itself for platinum and palladium for catalytic converters although the rewards per .01 gram are not quite so high they still amount to millions of dollars of difference in cost per .01 gram when distributed across GM's annual production.
For batteries it seems that JCI was allowed to 'index' its price of lead each month to reflect the London Metal Exchange's price that month for lead. Chrysler seems to think however that no one bothered to see how much lead was actually used in comparison with what was invoiced. One pound less of lead per 25 pound battery when amortized across Chrysler's production equals 5 million dollars a year. Add in replacement batteries for the existing fleet (typically every three years) and 15 million dollars is a rather small figure, but it may be provable as against even the recent past when no records were kept.
Some car companies, such as GM, were buying commodity metals for their suppliers and releasing them to the supplier to meet contractual demands. This has been standard practice at GM for example for platinum group metals since a situation arose more than 20 years ago where GM found that a supplier was short weighting them. For companies like Ford or Chrysler such inventory building and holding has not been possible due to a lack of expertise in hedging and/or a lack of capital or both.
If the OEM automotive supplier buys its own metals, as is common, then the opportunity to short weight presents itself daily. Unfortunately many suppliers seem to have taken advantage of this opportunity in order to meet arbitrary price reductions imposed by the OEM American car makers. The result has been bankruptcy, poor quality, and financial chaos.
