You know how the saying goes: "When it rains, it pours." In theory, the first half of 2016 should have been near perfect year for major automakers, as profitability was soaring, financing remained cheap, and sales of SUVs and trucks were flying higher. Instead, their stocks were sold off due to the following worries:
- The sales cycle is peaking.
- The Brexit vote brought unforeseen issues for automakers with a presence in the U.K.
- For General Motors (NYSE: GM), one of its suppliers filed for Chapter 11 bankruptcy protection.
Unfortunately for investors, supplier headaches might become much more common going forward. Let's look at GM's current situation to see what the rest of the industry might be facing.
To better understand the situation with GM, we'll have to better understand its supplier and its relation to the company. Clark-Cutler-McDermott Co. (CCM), a longtime General Motors supplier, officially filed for bankruptcy on Thursday, July 7. GM has filed a motion to acquire some of the supplier's equipment, GM-specific tooling, and certain inventory.
Normally, a major automaker would simply switch production to another supplier; but as the industry has increasingly used more parts across multiple vehicle platforms, and consolidated the number of suppliers, that possibility isn't always a given. In fact, GM has no other supplier for the parts that CCM produces: CCM supplies GM with 175 acoustic-insulation and interior-trim parts that are used in nearly every vehicle it produces in North America.
Ironically, GM is, in a way, a large cause of CCM's bankruptcy. As major automakers are consolidating suppliers and increasing the amount of parts ordered through each, they have more leverage to push prices down. Considering that CCM generates about 80% of its revenue through GM, the company finds itself in a tough spot. That's led to CCM losing more than $30,000 per day, and more than $12 million since 2013, according to court records per Detroit News.
The worst-case scenario for GM is a halt in production -- and as automakers keep as little supplier inventory as possible, a disruption to the parts CCM provides could hinder sales of profitable vehicles amid the strong-selling summer season. That scenario could cost GM "millions of dollars per day per plant," the automaker said in court documents.
"A continued disruption in the supply of component parts will also cause a catastrophic disruption in the supply chain and the operations of countless GM suppliers, dealers, customers, and other stakeholders, including the potential layoff of tens of thousands of workers in the event GM's North American operations are completely shut down," the automaker said in court filings, according to Detroit News.
Investors will find out more information today as a U.S. Bankruptcy Court hearing is scheduled to discuss several issues between CCM and GM. The judge could rule on motions in favor of CCM to reject GM contracts, which the supplier calls unprofitable, or rule in favor of GM, which would call for the supplier to send inventory to GM and turn over tooling, as well as honoring its contracts with GM. Investors should hope for the latter, which would ensure continued production.
Either way, investors won't see any impact from this during GM's second-quarter earnings, which are due out later this month. By the time the third quarter rolls around, GM will likely have been able to mitigate most, if not all, of the potential negative impact should the judge rule in favor of the supplier. However, as major automakers continue to squeeze suppliers to improve margins, use the same parts in an increasing number of vehicles, and consolidate the number of suppliers, incidents like this are likely to increase.
Daniel Miller owns shares of General Motors. The Motley Fool recommends General Motors. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.