For GM, April is the cruelest month
General Motors gets whacked by the housing crisis, as GMAC's mortgage unit delivers another blow to the automaker's finances.
NEW YORK (Fortune) -- Until a couple of months ago, hardly anyone outside the mortgage business paid attention to ResCap, the residential mortgage unit of auto finance giant GMAC. Yet financial problems at ResCap continue to bedevil GMAC and its 49% owner, General Motors - at a time when the auto giant has plenty of problems of its own.
The latest hit came last week when Moody's Investors Service changed the rating outlook for GM (GM, Fortune 500) to negative from stable and raised more questions about the automaker's long-term outlook - all because of ResCap.
The reasoning behind the downgrade sounds like a line of falling dominoes. Moody argues that problems at ResCap might undermine the ability of GMAC to provide financing to GM dealers and customers, which, in turn, could impede the ability of GM to offer competitive finance rates to buyers of its cars and trucks. Moody's believes that GMAC might have to provide more capital for ResCap, which would weaken GMAC and its ability to provide loans when needed.
It all brings to mind the image of mighty Gulliver tied in knots by the six-inch-tall Lilliputians. Investors and other interested observers will get an update on the financial health of both ResCap and GMAC Tuesday, when GMAC announces its first-quarter earnings.
With the collapse of the housing boom followed by the subprime mortgage crisis, GMAC has been pumping money into ResCap to keep it solvent: $3 billion in cash along with the retirement of some $2 billion in debt since the beginning of 2007. Since GMAC is none too financially stable itself these days - it lost $2.3 billion last year - the additional drain hasn't been warmly received.
ResCap's financial problems have created chaos on its board of directors. Last week two of its independent directors, who are supposed to look after the company's creditors, quit. They were seen as blocking the sale of assets to GMAC - something it was their fiduciary duty to do, as guardians of the interests of ResCap's creditors in certain matters. If ResCap should declare bankruptcy, ResCap would want to keep those assets.
The commentary that accompanied Moody's downgrade raises the prospect that ResCap could become GM's Typhoid Mary. As noted in a MotorWorld column earlier this month ("Rick Wagoner's worst nightmare," April 8), GM expects to get a boost to its fortunes in 2010, when lower health care expenditures from last year's UAW agreement kick in, accompanied by improving demographics for car buyers and a cyclical upturn in industry sales.
Until then, however, GM is expected to generate negative cash flow - for the rest of 2008 and 2009. As of now, Moody's figures GM has $34.6 billion in gross liquidity - cash and committed credit facilities - which should provide enough liquidity to get it through this year.
The year 2009, however, begins to look a little dicey, according to Moody's. There are scheduled debt repayments and additional restructuring expenditures, as well as the possibility that Delphi, the strike-afflicted American Axle, and (you guessed it) GMAC require more cash. Says Moody's: "GM's 2009 cash requirements have the potential to strain the liquidity requirements the agency expects to be available at that time."
A GMAC spokesperson strongly disputes Moody's analysis. "Cost of funds aside, we have excellent liquidity to support GM," she says. "Liquidity has been our number one priority."
The second shoe in this affair drops Wednesday, when GM itself announces first-quarter results. Chances are the name ResCap will never come up in the discussion. But the mortgage company's health - or lack of it - lies at the very foundation of GM's business prospects and its chances for survival.
Lately, it has seemed that bad news finds a way to attach itself to GM like iron filings to a magnet. What happens this week will signal whether GM is finally able to start breaking that bond. 
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