Sunday, December 14, 2008

Fear of a worthless car warranty

One poster on the Sojourners forum, where Jim Wallis asked us to take the automakers' apology at face value, expressed deep skepticism that consumers would shy away from buying a car from an automaker in bankruptcy. This was in response to my post asserting that they would do so, and that therefore, a Chapter 11 bankruptcy by any of the Detroit 3 was likely to lead to that automaker's liquidation.

CNN Money cites a survey by CNW research showing bankruptcy concerns were the single biggest reason potential buyers were avoiding GM cars in their survey.

It's impossible for me to assess the quality of CNW's research. I'm sure that the auto makers and the UAW will be relying heavily on their figures. A previous article by Morningstar stated that "Industry research has found 80% of vehicle buyers would not buy a vehicle from a bankrupt company, indicating bankruptcy is not the path to viability some claim it to be." In formulating public policy, one should not rely exclusively on industry research. Public policy survey research should ideally use a large, randomly selected sample. If CNW is a smaller shop, it might not have the resources to conduct a sufficiently large sample. Besides that, there are plenty of ways for random error or researcher bias to intrude into a study, thus affecting the validity of its results. I would be more inclined to take research by relatively neutral parties like the Congressional Budget Office at face value.

That said, I find that CNW's contentions seem reasonable on the face of things. From the CNN article:

Among GM owners who bought their next car from another manufacturer, 32% cited a potential bankruptcy as the reason. The next biggest reason - dealership or pricing issues - pushed away only 11% of shoppers.

If GM (GM, Fortune 500) were to go bankrupt, 97% shoppers intending to buy a car within six months said they would stay away from the automaker, according to a different CNW survey. The figure for Chrysler was even higher at 98%.

Some bankruptcy supporters point to airlines like Delta that successfully emerged from Chapter 11 protection while customers continued to fly, but auto manufacturers present a special challenge.

A $300 plane ticket for a three-hour flight is one thing. $25,000 for a car you will drive for years is quite another. Consumers are concerned that the company might not be around when it's time for warranty work.

Car shoppers' concerns about automakers' survival are justified, said Art Spinella of CNW. "It's one thing when you hear about Circuit City," he said. "I can always get my TV fixed somewhere else."

The CNN article reports that some people are seeing the opportunity to get a bargain:

But for some shoppers, the fear of a worthless warranty is mitigated by big bargains. "The people that will be buying in today's climate are clearly people who are balancing the risk with what kind deals they can get," Reed said.

He recently advised a friend who was considering buying a Chevrolet Traverse crossover SUV to try to get the best deal he could. "If you bought a Chevy Traverse today and the company went out of business," said Reed. "it's not like there's a computer chip in it that's going to blow out on the highway." Whatever happens, parts will always be available for GM vehicles, he said.

Spinella of CNW was less sanguine. If a major U.S carmaker were to go bankrupt, dealerships would close and it would take some time to work out where cars would be serviced. "You're probably looking at two or three years just to figure out what's going on," he said.

A related, and possibly more serious, issue is resale value. It plummets for discontinued brands, even in cases where the manufacturer stays in business and fully supports the warranty, according to data from Kelley Blue Book.

After Chrysler's Plymouth and GM's Oldsmobile brands died, two-year-old cars with those badges suddenly had the value of five-year-old cars, according to KBB.

But even that kind of a financial hit could be covered by negotiating enough of a discount on the car when it's first purchased, said James Bell, publisher of the automotive Web site

"It depends on whether you're a glass-half-full or a glass-half-empty kind of person," he said.

However, bargain hunters won't keep Chrysler or GM in business if either is in Chapter 11. If they're selling their products at a steep discount, they'll obviously be losing money on every vehicle they sell. Unless the skeptics can come up with contradictory evidence, policymakers should assume there's a significant risk of consumers not wanting to buy cars from an auto manufacturer in Chapter 11.

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