What do you get when you combine rising labor costs and unfavorable currency conditions? For General Motors (GM), you get the beginning of a pullback in your manufacturing activity in South Korea.
According to a recent Reuters story, the U.S. auto giant has begun the process of gradually reducing its manufacturing efforts in the Asian nation largely because of increased labor costs associated with a powerful union presence. Currently, GM’s South Korean production accounts for approximately 20% of its total global car output, but that could be pared down significantly going forward, beginning with the cessation of new Chevrolet Cruze and Opel Mokka models.
The Reuters story quoted an anonymous source, presumably with knowledge of the GM decision, as saying, “We need to make sure we mitigate risk in (South Korea), not over the next 2-3 years but over time, not to become too dependent on one product source.”
Of course, the concept of diversifying production facilities in different companies is something multinational giants do all the time, but the admission of the need to “mitigate risk” in South Korea is the salient feature for GM.
The need to mitigate risk from rising labor costs might also apply to South Korean automaker Hyundai Motor. Last week, some 45,000 union workers voted to strike over unfilled labor demands such as a payment of $2.45 billion from the company’s 2012 profit, and so-called “gold medals,” which are bonuses for long-time workers. The threat of a work stoppage this year comes after a costly strike just a year ago that cost Hyundai approximately $1.5 billion in unproduced vehicles, or about 82,000 cars.
I bring up the Hyundai strike in the GM context because the last thing General Motors wants is to be subject to a significant bottleneck in production because of labor issues. The company also doesn’t want to pay through the nose to make vehicles. According to the Reuters story, GM officials claim that labor costs have “risen sharply over the past decade.” Moreover, over the past year or so, the South Korean won has risen in value vs. rival foreign currencies, and that’s also caused the cost of production in the country to climb.
For GM, labor issues from Korean unions aren’t just a mere possibility. In fact, the company recently suffered production losses of an estimated $90 million thanks to two weeks of partial strikes in July. To end the dispute, the automaker agreed to a settlement that included some 10 million won ($9,000) per union member in annual bonuses.
Given the additional labor costs, and the prospect for even more labor costs down the road, it’s no surprise that GM is purposely putting out there the prospect of scaling back South Korean operations. Interestingly, union leaders in the country aren’t buying the GM threat, and might think it’s some sort of bluff to keep the unions from getting too aggressive going forward.
I suspect that GM could indeed be bluffing; however, if South Korean unions and a rising won make producing cars in the country too costly for GM, the company definitely will pack up and seek lower labor costs and favorable currency elsewhere — and that’s exactly what it should do. GM’s management has a fiduciary duty to shareholders to make sure it maximizes profits. If that results in a curtailment of South Korean production, so be it.
Oh, and in case the South Korean unions didn’t get the memo yet, I recommend labor leaders in that country do a little case study on GM’s history before they get too bold. Specifically, they might want to read up on where the company used to manufacture most of its cars, how it went bankrupt due to hefty labor and pension costs, how it had to get bailed out by U.S. taxpayers, and the role it played in helping Detroit become the largest major U.S. city to declare bankruptcy.
For GM, the South Korean issue will be something to keep a close watch on. If labor issues continue to become unfavorable, it could impede the company’s bottom line. For shareholders, that’s precisely what you don’t want to see, as this has the potential of putting the brakes on the company’s impressive 20% year-to-date rev higher.
As of this writing, Jim Woods did not hold a position in any of the aforementioned securities.