Troubled Asset Relief Program: Continued Stewardship Needed as Treasury Develops Strategies for Monitoring and Divesting Financial Interests in Chrysler and GM
Published: 2009-11-02T00:00:00

Fast Facts:

Highlights:
section_title: Why GAO Did This Study
paragraphs: The Department of the Treasury (Treasury) provided $81.1 billion in Troubled Asset Relief Program (TARP) aid to the U.S. auto industry, including $62 billion in restructuring loans to Chrysler Group LLC (Chrysler) and General Motors Company (GM). In return, Treasury received 9.85 percent equity in Chrysler, 60.8 percent equity and $2.1 billion in preferred stock in GM, and $13.8 billion in debt obligations between the two companies. As part of Government Accountability Office's (GAO) statutory responsibilities for providing oversight of TARP, this report addresses (1) steps Chrysler and GM have taken since December 2008 to reorganize, (2) Treasury's oversight of its financial interest in the companies, and (3) considerations for Treasury in monitoring and selling its equity in the companies. GAO reviewed documents on the auto companies' restructuring and spoke with officials at Treasury, Chrysler, and GM, and individuals with expertise in finance and the auto industry.
section_title: What GAO Found
paragraphs: Chrysler and GM have made changes since December 2008 to address key challenges to achieving viability, but the ultimate effect of these changes remains to be seen. The companies have eliminated a substantial amount of their long-term debt, reduced the number of brands and models of vehicles they sell, rationalized their dealership networks, and lowered production costs and capacities by reducing the number of factories and employees. It is difficult to fully assess the impact of these changes because of the short amount of time that has passed since reorganization and the low level of new vehicle sales. Moreover, Chrysler and GM are revaluing their assets and liabilities based on their reorganizations in 2009 and expect to prepare financial statements based on this effort in the coming months. Treasury does not plan to be involved in the day-to-day management of Chrysler and GM, but it plans to monitor the companies' performance. Treasury developed several principles to guide its role as a shareholder, including the commitment that although Treasury reserves the right to set up-front conditions to protect taxpayers and promote financial stability, Treasury will oversee its financial interests in a hands-off, commercial manner. The conditions that Treasury set for the companies include requiring that a portion of their vehicles be manufactured in the United States and that they report to Treasury on the use of the TARP funding provided. Treasury officials told us that they are also requiring that Chrysler and GM submit financial information on a regular basis and that they plan to meet with the companies' top management on a regular basis to discuss the companies' financial condition. Treasury should make certain that its current approach for monitoring and selling its equity in Chrysler and GM fully addresses all important considerations financial and industry experts identified. For example, Treasury initially hired or consulted with a number of individuals with experience in investment banking or equity analysis to help assess Chrysler's and GM's financial condition and develop financing packages for the companies. Many of these individuals have recently left as the restructuring phase of Treasury's work has been completed. Treasury will need to ensure these staff and any staff that depart in the future are replaced as needed with similarly qualified personnel. Also, Treasury does not currently contract with or employ outside firms with specialty expertise for its work with the auto industry but may need to do so in the future, to make sure sufficient expertise is available to oversee the government's significant financial interests in Chrysler and GM. In addition, although Treasury officials told us they are considering all options for divesting the government's ownership interests, including an initial public offering or private sale, they have focused primarily on a series of public offerings for GM and have not identified criteria for determining the optimal time and method to sell. Regardless of the option pursued, however, Treasury is unlikely to recover the entirety of its investment in Chrysler or GM, given that the companies' values would have to grow substantially above what they have been in the past.

section_title: Letter
paragraphs: After authorizing more than $80 billion in financial assistance to the ailing  domestic automotive industry since December 2008, the Department of the  Treasury (Treasury) is in the unprecedented position of having ownership  stakes in two of the nation’s three largest auto manufacturers—Chrysler  Group LLC (Chrysler) and General Motors Company (GM). Although  most automakers experienced declining sales in the last couple of years as the economy slipped into a recession, the current economic conditions  have particularly hurt the sales of Chrysler and GM, resulting in signific ant  financial losses and necessitating the use of billions of dollars of borrowed  money or cash reserves to keep operating. In December 2008, the chief  executive officers of Chrysler and GM testified before Congress that  without federal assistance, their companies would likely run out of the  cash needed to keep operating.
Concerned that the collapse of one, or both, of these companies could  pose a systemic risk to the nation’s economy, the previous Administration  established the Automotive Industry Financing Program (AIFP) under the  Troubled Asset Relief Program (TARP) in December 2008. Through AIFP,  Treasury provided loans to help Chrysler and GM continue operating as  the companies restructured. In exchange for the funding it provided,  Treasury received 9.85 percent equity in the new Chrysler, 60.8 percent  equity and $2.1 billion in preferred stock in the new GM, and about $13.8  billion in debt obligations between the two companies. The companies  still struggle to remain competitive with other automakers and to regain  market share.
We have previously reported that in a market economy the federal role in  aiding industrial sectors should generally be of limited duration and  establish clear limits on the extent of government involvement. Regarding  assistance to the auto industry, we have noted that Treasury should have a  plan for ending its financial involvement with Chrysler and GM that  indicates how it will both sell its equity and ensure adequate repayment  for the financial assistance it provided. The current Administration has  stated that it is a “reluctant shareholder” in Chrysler and GM, but that it  would be irresponsible to “ away the equity stake to which taxpayers  were rightly entitled.” As such, Treasury has said that in managing its  equity it will seek to exit as soon as practicable, maximize return on  investment, and foster strong companies that can be independently viable.
As part of our statutorily mandated responsibilities for providing timely  oversight of TARP, we are continuing to monitor Treasury’s assistance to  the auto industry, including how Treasury is managing its equity in  Chrysler and GM and how it plans to sell this equity. This report will  explore the following issues related to Treasury’s ownership of Chrysler  and GM: (1) steps Chrysler and GM have taken since December 2008 to  reorganize, (2) Treasury’s oversight of its financial interests in Chrysler  and GM, and (3) important considerations for Treasury in monitoring and  selling its equity in the companies.
subsections: section_title: Scope and Methodology
paragraphs: To identify steps Chrysler and GM have taken since December 2008 to  reorganize, we reviewed information on the companies’ finances and  operations, including financial statements, select documents from their  bankruptcy proceedings, and company-provided data, and interviewed  representatives of the companies.
To determine how Treasury will monitor its financial interests in Chrysler  and GM, we reviewed transaction documents related to the restructuring  of Chrysler and GM that Treasury was a party to, such as the secured  credit agreements and shareholders’ agreements, which set forth  Treasury’s rights with regard to the companies and certain requirements  the companies must comply with. We also reviewed information on  Treasury’s plans for overseeing its ownership interests in the companies,  including White House and Treasury press releases, and testimony  statements. In addition, we interviewed officials from Treasury’s Office of  Financial Stability (OFS), which was established to administer TARP,  about their plans to monitor the government’s financial interests, including  Treasury’s enforcement of the reporting requirements that were  established for Chrysler and GM. We did not, however, independently  verify the processes and procedures Treasury has established to monitor  and enforce the reporting requirements.
To identify important considerations for Treasury in monitoring and  determining how and when to sell its equity in Chrysler and GM, we  conducted a review of the academic literature on government ownership  of private entities, including both domestic and international cases of  private equity investments, privatization, and nationalization, and  reviewed analyses of the potential future value of Chrysler and GM and  Treasury’s equity stake. We also interviewed individuals with expertise in  the financial condition of domestic automakers, principles of corporate  restructuring, and government ownership of private entities. The financial  and business experts whose opinions are represented in this report were  selected from a list of experts identified for us by the National Academy of  Sciences (NAS) for our earlier report on challenges facing Chrysler and  GM. Of the panel of experts we interviewed for that report, we contacted  a subset whose expertise was particularly relevant to structuring an exit  strategy. In addition to individuals identified by NAS, we spoke with  individuals NAS experts themselves identified as being knowledgeable in  this area. We also added two experts with investment experience  specifically in the auto industry. We chose experts in government  management of investments in private companies by identifying former  federal government officials who were involved in well-known cases of  government assistance to private entities, such as the federal assistance  provided to Chrysler in 1979. We conducted individual semistructured  interviews with these individuals, both in person and by telephone. Once  this review was completed, we analyzed the content of the literature and  the interviews for recurring themes and summarized these common  results. A list of the individuals we spoke with is provided in appendix I.
We conducted this performance audit from August 2009 to November 2009  in accordance with generally accepted government auditing standards.  Those standards require that we plan and perform the audit to obtain  sufficient, appropriate evidence to provide a reasonable basis for our  findings and conclusions based on our audit objectives. We believe that  the evidence obtained provides a reasonable basis for our findings and  conclusions based on our audit objectives.
section_title: Background
paragraphs: Treasury’s decision to provide substantial amounts of funding to the auto  industry—more than 12 percent of the TARP funds authorized to date— and to accept equity in the companies as a form of repayment for a portion  of the assistance reflects Treasury’s view of the importance of the industry  to the financial health of the United States as a whole. The auto industry— including automakers, dealerships, and automotive parts suppliers— contributes substantially to the U.S. economy by, for example, directly  employing about 1.7 million people, according to industry and government  data. To help stabilize this industry and avoid economic disruptions,  Treasury authorized $81.1 billion through AIFP from December 2008  through June 2009 for the following purposes.
Funding to support automakers during restructuring. Treasury has  provided financial assistance to Chrysler and GM to support their  restructuring as they attempt to return to profitability. This assistance was  provided in loans and equity investments in the companies.
Auto Supplier Support Program. Under this program, Chrysler and GM  received funding for the purpose of ensuring payment to suppliers. The  program was designed to ensure that automakers receive the parts and  components they need to manufacture vehicles and that suppliers have  access to liquidity on their receivables.
Warranty Commitment Program. This program was designed to  mitigate consumer uncertainty about purchasing vehicles from the  restructuring automakers by providing funding to guarantee the  warranties on new vehicles purchased from them. Funds were provided to  Chrysler and GM under this program but have been repaid in full because  both were able to continue to honor consumer warranties.
Funding to support automotive finance companies. Treasury has  provided funding to support Chrysler Financial and GMAC LLC, financial  services companies whose businesses include providing consumer  financing for vehicle purchases and dealer financing for inventory.  Chrysler Financial is following Treasury’s directive to liquidate its  business and is planning to wind down its operations by the end of 2011.   GMAC has agreed to provide Chrysler customers and dealers with  financing for retail and wholesale purchases.
Table 1 provides information on the funding levels Treasury authorized  under AIFP, the amounts Chrysler, GM, and the finance companies have  repaid, and Treasury’s plans to be repaid or otherwise compensated for  the outstanding funds. Treasury officials have said the agency does not  intend to provide more funding to Chrysler or GM.
As a condition of the initial federal financial assistance provided in  December 2008 and January 2009, the Bush Administration required that  Chrysler and GM develop restructuring plans that would, among other  things, identify how the companies plan to achieve and sustain long-term  financial viability. President Obama rejected the restructuring plans that  Chrysler and GM submitted in February 2009, and required the companies  to develop more aggressive plans. After reviewing the revised plans, the  President announced in April 2009 and June 2009 that the government  would provide additional financial assistance to support Chrysler’s and  GM’s restructuring efforts, respectively. To effectuate the restructuring  plans, both companies filed voluntary petitions for reorganization under  Chapter 11 of the U.S. Bankruptcy Code. Through the bankruptcy process,  the newly organized Chrysler and GM purchased substantially all of the  operating assets of the old companies. In June 2009 and July 2009,  respectively, the new Chrysler and new GM emerged from the bankruptcy  process with substantially less debt and with streamlined operations. The  old companies, which retained very few assets but most of the liabilities,  remain in bankruptcy, where their remaining liabilities are being dealt  with. These liabilities include a portion of the loans Treasury provided to  the companies prior to bankruptcy in the amounts of $5.4 billion for  Chrysler and $986 million for GM. As noted, Treasury has stated that it has  no plans to provide additional assistance to Chrysler and GM. Figure 1  describes other key events in the funding and restructuring of the auto  companies.
section_title: Chrysler and GM Have Addressed Some Challenges Important to Achieving Viability, but the Effect of These Actions Remains to Be Seen
paragraphs: Since the condition of the domestic auto industry first came to the  forefront of national attention in December 2008, Chrysler and GM have  made changes to address key challenges to achieving viability, but the  effect that these actions will have on the companies remains to be seen. As  we previously reported, a number of operational and financial challenges  stand in the way of Chrysler’s and GM’s return to profitability. Some of  these challenges are beyond the companies’ control, such as current  economic conditions and limited credit availability. However, other  factors the companies can exert more control over include the companies’  debt levels, dealership networks, and production costs and capacity. Aided  by substantial government assistance and bankruptcy reorganization, they  have begun to address a number of these challenges. Although the  companies’ restructuring efforts started before receiving government  assistance under TARP, our analysis focuses on the period between first  receiving TARP assistance (around the end of 2008) and after bankruptcy  reorganization (June 2009 and July 2009 for Chrysler and GM,  respectively). The following are some key challenges that Chrysler and GM  have begun to address.
Reducing debt. Through the bankruptcy process, Chrysler and GM  eliminated a substantial amount of their long-term financial liabilities,  including debt owed to bank lenders and bondholders. In our previous  work, we discussed the importance of reducing debt for companies to  achieve long-term viability. By reducing the amount the companies pay in  interest expense, cash flow is improved, freeing up more money for  research and development and other activities that can help the businesses  prosper. The precise amount of the companies’ total debt reduction is not  known because the value of some debts will not be determined until the  companies’ post-reorganization accounting is complete. However, some  reduced or eliminated debts whose values are known include $6.9 billion  of secured bank debt owed by old Chrysler, of which $2 billion was repaid  and none carried forward to new Chrysler; $5.9 billion of secured bank  debt owed by old GM, substantially all of which was repaid by old GM,  leaving new GM with none of this debt; substantial reductions of the  companies’ monetary obligations to the trusts established to provide  health care benefits to retirees of the International Union, United  Automobile, Aerospace and Agricultural Implement Workers of America  (UAW); and about $27 billion in unsecured GM bondholder debt and $2  billion in unsecured Chrysler obligations, which stayed as a liability of the  old GM and old Chrysler, leaving new GM and new Chrysler with none of  this debt.
Reducing the number of brands and models. GM is reducing its North  American brands from eight to four. In November 2007, Chrysler  announced it would eliminate four models within its three primary  brands—Chrysler, Dodge, and Jeep—and in October 2009 it announced  that it would create a fourth brand by splitting the Ram brand out of the  Dodge brand. As we have previously reported, advantages of reducing  brands and models include eliminating costs such as factory tooling and  product development, reducing intracompany competition for sales of  similar models, and allowing more focus and resources on the remaining  models’ quality, image, and performance.
Rationalizing dealership networks to align with sales volumes. Both  Chrysler and GM have made cuts to their dealership networks since year- end 2008. As we reported in April, the companies’ dealer networks were  too large to be supported by recent sales levels. As of April 2009, Chrysler,  Ford, and GM dealerships—most of which are independently owned and  operated—were more numerous and, in general, sold half or fewer  vehicles per dealership than dealerships selling vehicles from foreign  automakers. Higher sales per store allow for a greater return on the  dealer’s fixed costs of running the business, allowing for more investment  in facilities and advertising—which ultimately benefits the automaker by  improving the price for which its cars are sold. As of June 30, 2009, shortly  after the new Chrysler emerged from bankruptcy, Chrysler had reduced its  U.S. dealerships to 2,382, a reduction of about 28 percent from the year- end 2008 level of 3,298. As of July 2009, when the new GM emerged from  bankruptcy, its number of dealers had declined to 6,039 through normal  attrition, down from 6,375 at year-end 2008. GM is executing “wind-down”  agreements with another approximately 1,300 dealerships and expects  another 600 Saturn, Saab, or Hummer dealerships to be transferred to  another manufacturer or be phased out. With additional normal attrition,  GM expects to have between 3,600 and 3,800 dealerships by the end of  2010, which will represent a 44 percent reduction from 2008 year-end  numbers.
Reducing production costs and capacity. Both companies have made  reductions in their production costs and capacity since year-end 2008,  according to company-provided information. In our April report, we noted  such reductions are important because the companies’ pre-reorganization  cost structures were not sustainable given the decline in their sales and  market shares in recent years. Table 2 shows the reductions the  companies made between year-end 2008 and the dates they emerged from  bankruptcy. In addition to the reductions made during these time periods,  the companies implemented restructuring efforts prior to 2008 and plan  additional reductions in the future. For instance, Chrysler closed two  factories, reduced a number of shifts, and cut nearly 29,000 hourly,  salaried, and supplemental employees between year-end 2006 and year- end 2008. GM announced in September 2009 that it will add a third shift at  three U.S. assembly plants as part of a plan to close other plants to  increase the efficiency of its manufacturing operations. Chrysler and GM  have also reached agreements with the UAW, in accordance with the terms  of the companies’ prebankruptcy loans from Treasury, which will result in  further reductions in production costs. Under these terms, the companies  were required to use their best efforts to reduce total compensation paid  to U.S. employees, including wages and benefits, to be comparable with  the total compensation Honda, Nissan, or Toyota pays to employees at  their U.S. facilities. The companies were also required to use their best  efforts to make changes to work rules to be comparable with the work  rules of Honda’s, Nissan’s, or Toyota’s U.S. facilities. Changes the UAW  agreed to as part of restructuring included cancellation of cost-of-living  adjustments for current workers and restructuring of skilled trade  classifications, among other things.
Whether and to what extent these changes will improve Chrysler’s and  GM’s profitability and long-term viability remains to be seen. Many  elements of a company’s financial statements are also used in measures of  financial health, but neither Chrysler nor GM has finalized new financial  statements based on their reorganization. Chrysler and GM have agreed to  provide certain financial information, as outlined in agreements between  Chrysler and its shareholders, including Treasury, and between GM and  the Securities and Exchange Commission (SEC).  Consistent with the  agreements, Chrysler and GM plan to complete the process of determining  the fair value of the assets and liabilities transferred to the new companies  for their audited 2009 year-end financial statements, which they expect to  complete by April 2010 and March 2010, respectively.  Chrysler will  provide its 2009 audited annual financial statement to Treasury and its  other shareholders, and GM will provide its 2009 audited annual financial  statement to SEC, where it will also be available to the public. Chrysler  will begin filing quarterly and annual financial reports with SEC beginning  with its 2010 audited annual financial statements, which will be publicly  available through SEC.  Before audited annual financial statements are  filed with SEC, Chrysler and GM will make other select information  publicly available.
Moreover, whether enough time has passed for the impact of the structural  changes to be seen is unlikely, especially given that the automakers have  not completed restructuring, the economy is still recovering, and new  vehicle purchases remain at low levels. For instance, although the federal  Car Allowance Rebate System program resulted in a sales spike in  August, September sales returned to historically low levels. These and  other challenges are likely to delay the companies’ recovery beyond what  it would be under more favorable economic circumstances.
section_title: Treasury Does Not Plan to Be Involved in Chrysler’s or GM’s Day-to-Day Operations or Management, but It Plans to Closely Monitor the Companies’ Performance
paragraphs: Treasury, which has a sizable financial stake in Chrysler and GM, does not  plan to be involved in the day-to-day management of the companies, but it  has established certain requirements that will be in effect as long as it  holds debt or equity in the companies. Treasury has distinct rights as  both a creditor and an equity owner. Its rights as a creditor are  documented in the secured credit agreements, which set forth the terms  and provisions of the loans Treasury provided to new Chrysler and new  GM. Its rights as an equity owner are documented in a number of  transactional documents related to the formation of the new Chrysler and  the new GM, including shareholders’ agreements, equity registration rights  agreements, and organizational documents. Treasury’s role as an equity  owner focuses on monitoring the financial health of the companies in  order to protect the value of Treasury’s equity stake.  Treasury developed  several principles to guide its role as an equity owner, including the  commitment that, although Treasury reserves the right to set up-front  conditions to protect taxpayers and promote financial stability, Treasury  plans to oversee its financial interests in a commercial manner, in which it  will focus primarily on maximizing its return and take a hands-off  approach to day-to-day management. Treasury plans to reserve its  involvement for major transactions such as the sale of a controlling share  of the companies. Treasury’s role as a creditor is not as clearly delineated,  but much like in its role as equity owner, Treasury has said it will focus on  monitoring the companies’ financial health.
Conditions set by Treasury in the credit agreements include requiring that  the companies comply with provisions applicable to companies receiving  TARP assistance, in accordance with the Emergency Economic  Stabilization Act (EESA), as well as other requirements that are specific to  Chrysler and GM. According to the agreements, Chrysler and GM must  do the following:    Produce a portion of their vehicles in the United States. Chrysler  must either manufacture 40 percent of its U.S. sales volume in the United  States or its U.S. production volume must be at least 90 percent of its 2008  U.S. production volume. GM agrees to use its commercially reasonable  best efforts to ensure that the volume of manufacturing conducted in the  United States is consistent with at least 90 percent of the level envisioned  in GM’s business plan.
Comply with the executive compensation requirements of EESA.  These requirements state that bonuses or incentive compensation paid to  any of the senior executive officers or the next 20 most highly  compensated employees based on materially inaccurate earnings must be  repaid, no golden parachute payments may be made to a senior executive  officer or any of the next five most highly compensated employees,  compensation in excess of $500,000 per executive may not be deducted for  tax purposes, and the companies must establish a compensation  committee of independent directors to review employee compensation  plans and the risks posed by these plans.
Have an expense policy that is in compliance with TARP standards  for compensation and corporate governance. The policy must govern  hosting and sponsoring for conferences and events, travel  accommodations and expenditures, office or facility renovations and  relocations, and entertainment and holiday parties, among other things.
Report to Treasury on the use of government funds. The companies  are to provide Treasury with a report each quarter setting forth in  reasonable detail the actual use of the TARP funding they received upon  exiting from bankruptcy.
Have internal controls to ensure compliance with the  requirements. The companies are to promptly establish internal controls  to provide reasonable assurance of compliance in all material respects  with each of the credit agreement’s requirements for executive privileges  and compensation, aircraft, expenses, and the Employ American Workers  Act. The companies must also have documentation of these controls and  the companies’ compliance with them.
Report on events related to pension plans. The companies must  report to Treasury if actions occur that could result in the companies  failing to meet the minimum funding requirements for their pension plans,  or if the companies plan to terminate any of their plans.
To protect the value of its equity share and the likelihood of loan  repayment, Treasury has also established requirements under which the  companies must report financial information, and it intends to use this  information to closely monitor the financial condition of Chrysler and GM.  The financial reporting requirements are set forth in Treasury’s credit  agreements with the companies and other agreements that specify the  rights of the companies and their shareholders, which include Treasury  and other parties. GM is also subject to additional reporting requirements  related to the reserve portion of its loan from Treasury that is being held in  escrow. Treasury has agreed with the companies on additional financial,  managerial, and operating information, which the companies will provide  in monthly reporting packages, along with items specified in the  agreements. Tables 3 and 4 provide details on Chrysler’s and GM’s  reporting requirements.
According to Treasury officials, they plan to review and analyze the  reports they receive under creditor and equity owner requirements to  identify areas of concern, such as actual market share lagging behind the  projected market share, an excess of inventory, or other signs that  business is foundering. Treasury does not have authority to direct the  companies to take specific actions to address such findings, but Treasury  said it plans to notify the companies’ management and the Secretary of the  Treasury if it sees any cause for concern in the financial reports. In  addition to reviewing financial information, Treasury’s team of staff  responsible for overseeing AIFP (subsequently referred to as the auto  team) plans to meet monthly via teleconference and quarterly in person  with the companies’ top management to discuss the companies’ progress  against their restructuring plans. Important findings that result from the  review of financial reports or management meetings will also be conveyed  to key staff in OFS and other Treasury offices with responsibilities for  managing TARP investments. Treasury also intends to use financial  reports as a basis for decisions on how and when to sell its equity in the  companies, as discussed below.
While Treasury has stated that it plans to manage its investments in  Chrysler and GM in a hands-off manner and will not interfere in day-to-day  operations of the companies, Chrysler and GM will be subject to  requirements regarding compensation, expenses, and reporting that other  auto companies are not. For example, as discussed above, each company  is subject to certain requirements about the vehicles it is to produce, such  as the requirement to produce a portion of its vehicles in the United States.  In addition, Chrysler’s shareholders, including Treasury, have agreed that  Fiat’s equity stake in Chrysler will increase if Chrysler meets certain  benchmarks, such as producing a vehicle that achieves a fuel economy of  40 miles per gallon or producing a new engine in the United States.  Treasury officials stated that they established such up-front conditions not  solely to protect Treasury’s financial interests as a creditor and equity  owner but also to reflect the Administration's views on responsibly  utilizing taxpayer resources for these companies. While Treasury has  stated it does not plan to manage its stake in Chrysler or GM to achieve  social policy goals, these requirements and covenants to which the  companies are subject indicate the challenges Treasury has faced and  likely will face in balancing its roles.
section_title: Treasury’s Approach for Monitoring and Selling Its Ownership Interest in Chrysler and GM Does Not Fully Address All Important Considerations Experts Identified
paragraphs: Treasury’s general goals of exiting as soon as practicable, maximizing  return on investment, and improving the strength and viability of Chrysler  and GM are reasonable but possibly competing, according to the group of   financial and industry experts we spoke with. For example, if Treasury  sells its stake as soon as practicable, it may not maximize its return  because too little time may have elapsed to demonstrate to investors the  companies’ potential for future profitability. Similarly, maximizing return  on investment might require actions that do not contribute to making the  companies strong and viable—for example, if Chrysler or GM does not  return to profitability, Treasury may need to act to liquidate the  companies, with the proceeds divided among its shareholders and  creditors, to maximize its return on investment. Treasury will ultimately  have to address these inherent trade-offs, decide which goal is most  important, and then manage its interest in a way that prioritizes that goal  over others. Treasury officials told us that they have considered these  trade-offs and scenarios, including the worst-case scenario of Chrysler and  GM not attaining long-term viability, and that they intend to balance these  competing goals when deciding when and how to exit.
Treasury’s current approach for monitoring its equity in Chrysler and GM  does not fully address the considerations that our group of experts  identified as important. In particular:    Retain necessary expertise. Experts stressed that it is critical for  Treasury to employ or contract with individuals with experience managing  and selling equity in private companies. Individuals with investment,  equity, and capital market backgrounds should be available to provide  advice and expertise on the oversight and sale of Treasury’s equity. This is  crucial because prior to TARP, Treasury did not typically buy and sell  stakes in private companies, so it has needed to employ appropriate  personnel and to retain consultants, such as investment bankers and  private equity analysts and firms, who are knowledgeable about such  investment decisions. One expert we interviewed noted that housing such  individuals in a program office created specifically and solely to oversee  the government’s investment in the companies could be beneficial.  Program staff would be devoted solely to this purpose, and staff turnover  would be low so that institutional knowledge would be preserved over the  life of the program. The literature also stressed the importance of  designating staff to oversee equity sales.
In assessing Chrysler’s and GM’s financial condition and future prospects  and putting together financing packages for the companies, Treasury hired  or consulted with a number of individuals with experience in investment  banking, equity analysis, and the auto industry, but it has not established a  program office to oversee its investment in the auto companies. As with  the rest of the TARP programs, OFS oversees the investment in the auto  companies.  Some OFS employees work exclusively on the automotive  companies, while others divide their time among multiple TARP programs.  While the auto team has experienced a significant decline in its number of  staff, and presently has limited engagements with outside firms with  specialty expertise such as investment banking or equity analysis to assist  in its management of its investment in the auto companies, Treasury  officials stated that the rest of OFS is available to “backfill” as necessary  and acts as a program office for Treasury’s investment in the auto  industry.  However, OFS is not a dedicated program office for overseeing  Treasury’s investment in Chrysler and GM, in that it has responsibilities for  Treasury’s investments in other companies.  Treasury officials also stated  that the reduction in the number of staff on the auto team has been a  reflection of the team’s reduced workload now that the intensive process  of restructuring the companies is over and that the size of the team  required for monitoring the government’s investment is smaller than for a  restructuring process.
Because of the particular needs of the auto companies and the  unprecedented nature of providing such assistance, Treasury hired or  contracted with a number of individuals with expertise in the auto  industry, equity investment, and relevant areas of law throughout the first  half of calendar year 2009 as Treasury assessed Chrysler’s and GM’s  financial condition, assembled financing packages for the companies, and  helped with restructuring efforts. When Treasury was heavily involved in  the restructuring of the companies, Treasury’s auto team consisted of 12  professional staff and 4 administrative staff, and it used the services of  investment banking, consulting, and law firms. Since those agreements  have been finalized and the workload has declined, two-thirds of the  original professional staff has left, leaving Treasury with 4 of the original  professional staff dedicated to auto issues, other OFS staff who have also  helped monitor these investments, and limited use of investment or  industry consultants.  The leader of the auto team, who also serves as a  senior adviser to the President on the auto industry, was recently  appointed Senior Counselor for Manufacturing Policy, requiring him to  split his time between the auto team and his new role. Moreover, Treasury  officials told us that there will likely be additional staff reductions in the  future because they plan to disband the auto team over time as other OFS  staff assume the role of monitoring the financial condition of the  companies. In commenting on a draft of this report, Treasury officials  stated that in light of recent and expected staff turnover, they are prepared  to hire personnel from within Treasury or externally to fill Treasury’s  monitoring function. Nonetheless, given the wind-down of the auto team— and the associated loss of dedicated staff with industry- and company- specific knowledge and expertise—we are concerned that Treasury may  not have sufficient expertise to actively oversee and protect the  government’s ownership interests, including determining when and how to  divest these interests.
In general, Treasury has faced challenges hiring the full complement of  staff necessary to administer the TARP programs, in part because qualified  candidates can often find a more competitive salary with a financial  regulator, which has the authority to establish its own compensation  programs without regard to certain requirements applicable to executive  branch agencies. We have reported on the importance of Treasury  documenting the skills and competencies it needs to administer the  program and continuing to expeditiously hire personnel. The quality of  human capital policies and practices including, but not limited to, hiring  affects the control environment. A strong control environment will  depend, in part, on the managerial and other staff hired. Treasury has  made progress in hiring staff to administer TARP duties, but Treasury  officials have not formally evaluated whether the staffing level to oversee  AIFP is appropriate for their current and projected needs. Officials said  that they had considered future needs and determined that Treasury’s  monitoring role could be achieved with fewer staff. In response to a  request for documentation of their evaluation of staffing needs, Treasury  provided us with a document showing the current and projected number  of staff working on AIFP, but this document did not show how Treasury  determined the appropriate number of staff or areas of expertise that  would be needed for future workloads.  In commenting on a draft of this  report, Treasury officials stated that they had not had difficulty hiring  qualified professionals to work on the auto team and did not anticipate  having difficulties finding qualified staff in the future should the need arise  for additional hiring.
Monitor and communicate company, industry, and economic  indicators. All of the experts we spoke with emphasized the importance  of monitoring company indicators such as financial and operating  performance, automotive industry-wide indicators such as vehicle sales,  and broader economic indicators such as interest rates and consumer  spending. Monitoring these indicators allows investors, including  Treasury, to determine how well the companies, and in turn the  investment, are performing in relation to the rest of the industry. It also  allows an investor to determine how receptive the market would be to an  equity sale, something that contributes to the price at which the investor  can sell. Some experts also noted that Treasury should assign an  individual with expertise in investment banking or private equity to be in  charge of monitoring these metrics, which Treasury officials told us they  had done. In addition to monitoring the investment, communicating a  clearly articulated vision for TARP programs is important, as we have  previously reported. Understanding the different TARP programs and the  distinct rationale for each can be difficult for Congress, the markets, and  the public, because many of the programs address specific developments  and have similar guidelines and terms. Specifically for AIFP, what  Treasury’s goals are for its investment in Chrysler and GM, and in turn,  which indicators and metrics are necessary to determine progress in  achieving these goals, is important information for Congress and the  public to have. Although Treasury provides public information on  activities in the TARP programs, including AIFP, through its legally  mandated monthly reports to Congress, transaction reports, and others,  these reports do not provide information on the indicators Treasury plans  to use in assessing its goals for its auto investments. Identifying these  indicators for Congress, and sharing as much of this information as  possible, while still respecting the need for certain business sensitive  information not to be released, could help Congress and the public better  understand whether the investment in the auto companies has been  successful.
Treasury’s auto team plans to closely monitor the performance of Chrysler  and GM by way of financial reports from the companies such as balance  sheets and liquidity statements, which, in general, measure the financial  health of a company at the time of the statement. It also plans to monitor  industry and broader economic indicators. The auto team plans to use this  information to alert Chrysler and GM management to any problematic  areas in the companies, and to help determine the best time and strategy  for divesting the government’s interest. Finally, Treasury officials have not  informed Congress which components of the reporting package will be  shared or how they plan to use the information contained in these  packages to assess and monitor the companies’ performance.  In  commenting on a draft of this report, Treasury noted that it will not make  the components of these reports public because the release of certain  information could put Chrysler and GM at a competitive disadvantage,  thereby harming the potential recovery of taxpayer funds.  Treasury  further noted that the companies will publicly report on certain financial  information—similar to what publicly traded companies report—in the  future.
To the extent possible, determine the optimal time and method to  divest. One of the key components of an exit strategy is determining how  and when to sell the investment. Given the many different ways to dispose  of equity—through public sales, private negotiated sales, all at once, or in  batches—experts noted that the seller’s needs should inform decisions on  which approach is most appropriate. For example, if an investor is  interested in selling quickly but the company has not demonstrated the  level of performance necessary for a successful initial public offering  (IPO), in which the company first sells stock to the public, the investor  should consider other sale options, such as a private sale. According to  experts, a successful IPO requires that the companies show signs of  earnings growth and future profitability, something that will take a  considerable amount of time for Chrysler and GM, as they only recently  emerged from bankruptcy. Attracting investors to the market is essential  because lack of sufficient investor interest may result in depressed value  of shares. Experts noted that a convergence of factors related both to  financial markets and to the company itself create an ideal window for an  IPO; this window can quickly open and close and cannot easily be  predicted. This requires constant monitoring of up-to-date company,  industry, and economic indicators when an investor is considering when  and how to sell. As Treasury evaluates these indicators, considering all  possible sale strategies is important.
Members of the auto team said that they plan to consider indicators such  as profitability and prospects, cash flow, market share, and market  conditions to determine the optimal time and method of sale.  The ultimate  decision on when and how to sell will be made by the Secretary of the  Treasury, but auto team staff will be in charge of monitoring these  indicators and recommending a strategy to the Secretary and Assistant  Secretary for Financial Stability. Although Treasury officials said they plan  to consider all options for selling the government’s ownership stakes in  Chrysler and GM, they noted that they believe the most likely scenario for  GM is to dispose of Treasury’s equity in the company through a series of  public offerings.  Treasury has publicly discussed the possibility of selling  part of its equity in the company through an IPO that would occur  sometime in 2010. However, by publicly discussing a method and a time  for a sale of GM shares now, the extent to which Treasury is using the  indicators to inform method and timing decisions is unclear. Moreover,  two of the experts we spoke with said GM might not be ready for a  successful IPO by 2010, because it may be too early for the company to  have demonstrated sufficient progress to attract investor interest, and two  other experts noted that 2010 would be the earliest possible time for an  IPO. For Chrysler, Treasury officials noted that the department is more  likely to consider a private sale because its equity stake is smaller, and  several of the experts we interviewed noted that non-IPO options could be  possible for Chrysler, given the relatively smaller stake Treasury has in the  company (9.85 percent, versus its 60.8 percent stake in GM) and the  relative affordability of the company.  In commenting on a draft of this  report, Treasury officials stated that they were aware of the diversity of  opinions on divesting the government’s interest in the auto companies and  would make an appropriate determination to maximize the taxpayers’  return. To achieve the maximum return for taxpayers, Treasury also said it  plans not to disclose more information about its strategy to divest its  ownership interests than is necessary.
Treasury officials said that on the basis of their analysis of the companies’  future profitability, they believe that Chrysler and GM will be able to  attract sufficient investor interest for Treasury to sell its equity. With  regard to the possibility that there may not be sufficient investor interest,  Treasury officials said they would monitor the financial markets and the  companies’ operations in order to identify any issues that could affect  profitability, and work with the companies’ boards of directors and  management to address them. In the event that the companies do not  return to profitability in the time frame Treasury has projected, Treasury  officials said that they will consider all commercial options for disposing  of Treasury’s equity, including liquidation.
Manage investments in a commercial manner. Experts emphasized the  importance of Treasury resisting external pressures to focus on public policy  goals over focusing on its role as a commercial investor. For example, some  experts said that Treasury should not let public policy goals such as job  retention interfere with its goals of maximizing its return on investment and  making Chrysler and GM strong and viable companies. They said that this is  especially important because making the companies financially strong and  competitive may require reducing the number of employees. Nevertheless,  one expert suggested that Treasury should consider public policy goals and  include the value of jobs saved and other economic benefits from its  investment when calculating its return, since these goals, though not  important to a private investor, are critical to the economy.
As long as Treasury maintains ownership interests in Chrysler and GM, it will  likely be pressured to influence the companies’ business decisions. Treasury  has said that it plans to manage its investment in Chrysler and GM in a  commercial way. Yet Treasury faces external pressures, such as to prioritize  jobs over maximizing its return. For example, Congress is currently considering  a number of bills to restore automotive dealers’ contracts terminated in  restructuring, and Treasury officials noted that they receive frequent calls from  Members of Congress expressing concern about dealership closings. To protect  Treasury’s investment from these external pressures, a recent Congressional  Oversight Panel report recommended that Treasury hold its equity interests in  the auto companies in a trust managed by an independent trustee. Treasury  officials told us they cannot currently establish a trust managed by independent  trustees because of a requirement in EESA that states that troubled assets are  subject to the supervision of the Secretary of the Treasury. The officials stated  that if Treasury created a trust with the assets managed by independent  trustees, the Secretary would not be able to exercise his authority over the  assets as required by law. Congress is considering legislation that would  authorize and require the Secretary to transfer to a limited liability company all  equity in TARP recipients in which the government has a certain equity interest  as a result of TARP assistance. The bills further provide that the equity is to be  managed in trust for the benefit of taxpayers. Treasury officials told us they  believe their planned approach for managing Treasury’s equity in Chrysler and  GM is sufficient for now.
Regardless of the sales strategies used, the companies will have to grow  substantially in order to reach values at which Treasury would recover the  entirety of its equity investment upon sale of its equity, which Treasury  and others consider to be unlikely. On the basis of our analysis, shown in  table 5, we estimate that Chrysler and GM would need to have a market  capitalization of $54.8 billion and $66.9 billion, respectively, for Treasury  to earn enough on the sale of its equity to break even. A recent  Congressional Oversight Panel report reached similar conclusions on what  the companies would have to be worth. As a point of reference for these  values, in 1997, the last year Chrysler was a publicly traded company, its  market capitalization value ranged between $23.1 billion and $31.7 billion,  and in 1998, when it merged with Daimler, it was valued at an estimated  $37 billion. GM, at its peak in 2000, had a market capitalization of $57  billion. In commenting on a draft of this report, Treasury officials noted that  the companies’ past equity values are not comparable to today’s equity values  because the companies have substantially restructured their balance sheets  through bankruptcy.  Although we recognize the changes the companies have  experienced in recent years, we believe this information provides a sense of  the magnitude of growth that will be required of the companies.
Treasury’s own analysis suggests that the circumstances necessary for the  companies to reach market capitalizations high enough for Treasury to fully  recover its equity investment are unlikely. Treasury officials also noted that  considering the companies’ enterprise values—a measure of a business’s total  value, including the value of equity and debt—in addition to equity value is  important, because enterprise value takes into account the likelihood of  repayment of loans and other obligations extended to the companies as well  as the value of equity stakes.
However, these estimates do not take into account other benefits and costs  that are more difficult to measure, such as the impact of Treasury’s  investment on jobs and local and national economies and the opportunity  costs Treasury incurred in providing financial assistance. The impact on the  economy is difficult to measure because, according to the Council of  Economic Advisors, it involves predicting what employment and economic  performance would have been without government investment. Nevertheless,  a more comprehensive analysis that takes these effects into account would  yield a richer picture of the value of Treasury’s net investment and net return,  especially given that the government’s goal upon first providing assistance to  the auto industry was to prevent economic disruption.
section_title: Conclusions
paragraphs: Treasury’s substantial investment and other assistance, including loans  from the Canadian government and concessions from the UAW, have  contributed to the current stability of Chrysler and GM. However, because  of the challenges continuing to face the auto industry—including the still  recovering economy and weak demand for new vehicles—the ultimate  impact that the assistance will have on the companies’ profitability and  long-term viability is uncertain. Although the immediate crisis of helping  Chrysler and GM maintain solvency has passed for now and Treasury has  no plans for further financial assistance to the companies, the significant  sums of taxpayer dollars that are invested in these companies warrant  continued oversight.  It is critical that Treasury remain focused on  protecting the government’s interest in the coming months as Chrysler and  GM work to become profitable. However, most of the original staff on  Treasury’s auto team either have left Treasury or may do so in the future.  Treasury officials told us that OFS personnel will continue to provide  oversight.  Given the substantial decline in the number of staff and lack of  dedicated staff for this oversight moving forward, however, we are  concerned whether Treasury will continue to have the needed expertise to  provide oversight of the use of government funds, assess the financial  condition of the auto companies, and develop strategies to divest the  government’s interests. Monitoring industry conditions and determining  when to divest will require a certain expertise, including a robust  monitoring function through which detailed financial data from Chrysler  and GM are reviewed on a regular basis. Transparency as to how the  companies are being monitored also will be important to ensuring  accountability and providing assurances that the taxpayers’ investment— including both the loans to and equity in the companies—is being  appropriately safeguarded. While we recognize that not all information  that the companies report to Treasury should be made public because of  concerns about disclosing proprietary information in a competitive  market, Treasury’s approach for evaluating the success of the AIFP should  be as transparent as possible, given the large taxpayer investment.
While Treasury has stated that it plans to review all possible options for  divesting itself of its ownership interest in Chrysler and GM, Treasury  officials have focused primarily on an IPO for GM, both in our discussions  with them and in their public statements. However, given the complexity  of the economy and the financial markets, considering all of the options in  the context of the companies’ financial progress and current financial  conditions will be important for Treasury. The past year has indicated the  extent to which a company’s financial situation can change within a period  as short as a few months. Given the fluidity of conditions and the number  of factors that will need to be considered when determining how and  when to divest, it is important that Treasury identify the criteria it will use  to evaluate the optimal method and timing for selling the government’s  ownership stake. Determining when and how to divest the government’s  ownership stake will be one of the most important decisions Treasury will  have to make regarding the federal assistance provided to the domestic  automakers, as this decision will affect the overall return on investment  that taxpayers will realize from aiding these companies. Currently, the  value of the companies would have to grow tremendously for Treasury to  approach breaking even on its investment, requiring that Treasury temper  any desire to exit as quickly as possible with the need to maintain its  ownership interest long enough for the companies to demonstrate  sufficient financial progress. Therefore, it is important that Treasury be  able to explain why and how it decided to divest when the time arrives,  and clearly established criteria will help Treasury communicate this  decision to Congress and the public at the appropriate time to prevent this  disclosure from negatively affecting the full recovery for taxpayers.
section_title: Recommendations for Executive Action
paragraphs: To improve the stewardship of the federal government’s substantial  financial investment in the auto industry, we recommend that the  Secretary of the Treasury take the following three actions:    Ensure that the department has the expertise needed to adequately  monitor and divest the government’s investment in Chrysler and GM, and  obtain needed expertise in areas where gaps are identified. In addressing  any existing or future expertise gaps, Treasury should consider both in- house and external expertise.
Report to Congress on how it plans to assess and monitor the companies’  performance to help ensure the companies are on track to repay their  loans and to return to profitability.  In reporting to Congress, Treasury  should balance the need for transparency with the need to protect certain  proprietary information that would put the companies at a competitive  disadvantage or negatively affect Treasury’s ability to recover the  taxpayers’ investments.
Develop criteria for evaluating the optimal method and timing for  divesting the government’s ownership stake in Chrysler and GM. In  applying these criteria, Treasury should evaluate the full range of available  options, such as IPOs or private sales.
section_title: Agency Comments and Our Evaluation
paragraphs: We provided a draft of this report to the Department of the Treasury for  review and comment.  Treasury generally agreed with the report’s findings,  conclusions, and recommendations, and provided written comments,  which are reprinted in appendix II.  Treasury also provided technical  comments and clarifications via e-mail, which we incorporated as  appropriate.  In their technical comments, Treasury officials emphasized  that they believe they have individuals within OFS who can provide the  needed oversight of the government’s investments in Chrysler and GM.   We added Treasury’s views on its current staffing and expertise levels to  the final report.  While we recognize that OFS employs a number of  qualified individuals who have worked on the government’s efforts to  stabilize the auto industry, we nevertheless remain concerned about the  loss of industry- and company-specific knowledge and expertise that  Treasury has experienced and will continue to experience with the wind- down of the auto team.  Such knowledge and expertise will be critical as  Treasury monitors the financial health of Chrysler and GM and develops  plans to divest its ownership interests in these companies.  We are pleased  that Treasury—in both its written and technical comments—commits to  continue to take steps to assess and maintain the expertise required to  monitor and manage Treasury’s investments in these companies.
In their written and technical comments, Treasury officials also stressed  the need to strike a balance between the goal of transparency and the need  to avoid compromising the competitive positions of Chrysler and GM or  the government’s ability to recover its investments. We recognize the need  to strike this balance and added language to the final report, including one  of our recommendations, to acknowledge this difficult trade-off.  We  believe our revised recommendation that Treasury report to Congress on  its plans to monitor the performance of the companies provides Treasury  with sufficient flexibility to strike the appropriate balance.
We also provided relevant portions of a draft of this report to SEC,  Chrysler, and GM for their review and comment.  SEC, Chrysler, and GM  provided technical comments and clarifications that we incorporated as  appropriate.
We are sending copies of this report to other interested congressional  committees and members, the Department of the Treasury, and others.  The report also is available at no charge on the GAO Web site at  http://www.gao.gov.
If you or your staff have any questions about this report, please contact  Katherine Siggerud at (202) 512-2834 or siggerudk@gao.gov or A. Nicole  Clowers at (202) 512-2843 or clowersa@gao.gov. Contact points for our  Offices of Congressional Relations and Public Affairs may be found on the  last page of this report. GAO staff who made major contributions to this  report are listed in appendix III.
section_title: Appendix I: Financial and Industry Experts GAO Interviewed
section_title: Appendix II: Comments from the Department of the Treasury
section_title: Appendix III: GAO Contacts and Staff Acknowledgments
subsections: section_title: GAO Contacts
section_title: Staff Acknowledgments
paragraphs: In addition to the contacts named above, Raymond Sendejas, Assistant  Director; Orice Williams Brown; Sarah Farkas; Timothy Guinane; Heather  Halliwell; Terence Lam; Matthew McDonald; Susan Michal-Smith; Joshua  Ormond; and Susan Sawtelle made important contributions to this report.  .