HWK 3 - Eng. Management

Harvard Business School 9-795-011 August 18, 1994

Research Associate Greg Keller prepared this case under the supervision of Assistant Professor Anita M. McGahan and in consultation with Visiting Professor Arnoldo Hax as the basis for class discussion rather than to illustrate either effective or ineffective handling of an administrative situation. The costs associated with each of the investment alternatives described in this case have been estimated by the casewriters.

Copyright © 1994 by the President and Fellows of Harvard College. To order copies or request permission to reproduce materials, call 1-800-545-7685, write Harvard Business School Publishing, Boston, MA 02163, or go to http://www.hbsp.harvard.edu. No part of this publication may be reproduced, stored in a retrieval system, used in a spreadsheet, or transmitted in any form or by any means—electronic, mechanical, photocopying, recording, or otherwise—without the permission of Harvard Business School.

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Saturn Corporation’s Module II Decision

In the spring of 1994, Saturn Corporation was setting sales records by attracting more than 25,000 buyers per month. These results surprised many observers who had predicted an end to the company’s growth after a slow first quarter. Since starting production of small cars in 1990, the newest division of General Motors (GM) had increased sales every year, putting 239,000 of its models on the road in 1993. Saturn officials believed there was a long-term opportunity to sell 400,000 to 500,000 cars per year in the U.S. and selected international markets.

To reach these sales levels, however, the company needed to convince GM to finance additional production capacity. Since 1985 GM had spent $3.5 billion to build a dedicated factory and establish the small car brand. Although Saturn earned its first operating profit in 1993, several analysts questioned whether GM could earn an adequate return on its investment. Saturn president Richard “Skip” LeFauve argued that the best way to build profits was by committing to opportunities that leveraged the company’s fixed costs of manufacturing and marketing.

LeFauve and other Saturn managers had been reviewing options for a second assembly plant (known as “Module II”) with GM since the beginning of the year. One possibility was to expand capacity at Saturn’s existing production facilities in Spring Hill, Tennessee. The plant had been constructed between 1986-1990 after GM’s management endorsed a “clean sheet” approach for the new nameplate. A second set of options involved refitting one of several GM plants that had been mothballed or was scheduled to close shortly. This approach required a lower fixed investment, but would create additional operating challenges as well as added operating costs.

Saturn’s Achievements

By 1994, Saturn had achieved “cult car” status. Most buyers were aware that the company had been founded to make GM competitive with Japanese imports in the small car market. Advertisements explained how manufacturing and retailing practices had been restructured to improve the overall ownership experience. Saturn’s union workers exchanged hourly wages for salaries and bonuses tied to product quality and company profitability. A “no haggle” pricing system and extensive training of salespeople helped build positive relationships with customers. When something did go wrong, the company and its dealers made unprecedented efforts to solve the

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problem in a positive way. As a result, Saturn regularly earned a place alongside luxury brands in rankings of product quality, dealership satisfaction, and overall customer satisfaction.

Saturn was attracting a new audience for GM. About 45% of Saturn owners listed Japanese imports (primarily Toyotas and Hondas) as the car they would have purchased otherwise. Another 30% listed Ford and Chrysler models. Further research revealed that Saturn owners had higher than average education levels and household incomes. With a median age of just over 40, the typical Saturn owner was likely to buy 4 to 5 more new cars over his or her lifetime than an owner of GM’s Cadillac, Buick or Oldsmobile models (see Exhibit 1).

The company also served as a proving ground for new ideas. On the technical side, for example, Saturn’s engine plant was the first to adopt an innovative casting method developed by GM’s Technical Center during the mid-1980s. Similarly, the Saturn was the only car with durable thermo-plastic panels that covered most of its body. These panels resisted minor damage from rust or dents, and were inexpensive to replace if they were cracked or scraped. At the retail level, the company implemented new approaches to inventory tracking and service management by using information systems to link dealerships with the factory and corporate offices.

Saturn was governed through a team structure that included suppliers, dealers and union workers. Each member of a Saturn team participated in training programs that emphasized breaking down barriers among people with competing interests. Several Saturn officials said that on the best functioning teams, it was difficult to distinguish members of management from union representatives because of their focus on a common goal.

As a corollary to teamwork, the company committed to exchange what it learned with GM. Saturn’s founders had reinforced this objective by including it in the company’s mission statement. Information initially spread through corporate meetings, plant visits and training sessions. In particular, GM’s Oldsmobile group tried to incorporate styling features and customer service ideas to appeal to Saturn buyers who wanted larger cars. GM supported the knowledge transfer by promoting engineers and managers from Saturn into other divisions.

Despite these accomplishments, industry observers were divided over whether Saturn could be considered a success. Several Wall Street analysts questioned whether the company could sell more cars without competing with GM’s other divisions. They argued that GM should devote its resources to its established car brands. Others believed Saturn should be judged by criteria other than just financial returns. Small cars had never been very profitable, and Saturn was breaking even after three-and-a-half years in production. Moreover, GM relied on Saturn sales to boost the average fuel efficiency of its fleet above the 27.5 mile per gallon threshold required by U.S. law.

Options for Expansion

Saturn finished 1993 with its first annual operating profit, estimated at $100 million on sales of about $3 billion. Officials said the company had been consistently profitable since May, excluding a two-week summer shutdown for retooling. The retooling would allow Saturn to offer updated models in 1995 without changing platforms. Toward the end of 1993, Saturn added a third shift of production workers, which allowed the Spring Hill complex to operate at near its capacity of 320,000 cars per year. This move relieved pressure on the first two shifts, but gave the company additional production capacity in the midst of the slower winter sales period. Company sources said they had not expected the third shift to reach its production targets so quickly. Analysts suggested that Saturn had overestimated demand for its models; first quarter sales increased just 4% over 1993. Regardless, dealer inventories grew beyond their typical 30-40 day levels to more than 90 days in February 1994, and Saturn discontinued the third shift to limit output.

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The production slowdown coincided with meetings between company managers and GM officials to review proposals for expanding manufacturing capacity. Saturn’s setback highlighted two of the key issues in the discussions—first, whether sales would continue to grow, and second, what sales level the company could maintain over the long run. Saturn’s managers believed that the Spring Hill complex would be running near capacity levels during the late summer and fall. Longer term, they thought the company was capable of selling 400,000 cars in the U.S. and another 100,000 internationally.

These estimates depended on customer perceptions of the value of the Saturn models. When the cars were introduced in 1990, the company priced them at $1,000 to $2,000 less than their target competition, the Honda Civic and Toyota Corolla. New products such as Chrysler’s Neon were introduced with claims that they redefined the price/value relationship in the small car market. In addition, surveys of dealers showed that Saturn’s product quality rating had declined from a high of 9.8 in 1993 to 9.2 in 1994 (on a scale of 1 to 10).1

The company’s managers argued that Module II would provide the necessary economies of scale to remain competitive. By increasing production and sales levels, Saturn could leverage its investments in design, engineering, sales and marketing. New assembly lines would also reduce the complexity of introducing new platforms. To change platforms with the current capacity, Saturn would have to build inventory in anticipation of an 8-10 week shutdown for retooling. Then the startup phase would have to run smoothly in order to restock the retail network. Saturn’s competitors faced similar risks when they introduced new products, but were generally able to support dealers with other models during the changeover. With a second module, Saturn could match this capability by shutting down one plant at a time.

GM was also considering the flexibility a plant expansion would provide for meeting Corporate Average Fuel Efficiency (CAFE) ratings. Even though the standard had remained relatively stable for 10 years, the Clinton Administration had hinted that the level could be raised significantly. New capacity at Saturn would put GM in a better position to respond to a CAFE increase since small car models were among the most fuel efficient vehicles in the corporation’s fleet. In addition, GM had not determined the future of its other leading small car, the Geo Prizm, which was produced in collaboration with Toyota at NUMMI. This joint venture agreement was scheduled to expire in 1996.

At the beginning of 1994, Saturn favored building Module II on extra land at the Spring Hill complex but was having trouble convincing GM that this was the best option. GM’s senior managers focused on several issues, including:

• the initial investment and long run operating costs for each option • the preferences of the United Auto Workers (UAW) leadership • Saturn’s relationship with other NAO divisions • the risks for Saturn

Option 1: Expand at Spring Hill

Locating the Module II site alongside the existing complex was viewed as the least disruptive option for expansion. Excess capacity at the engine systems and body systems factories would supply major components, while the company’s current vendors would provide most smaller parts. The increased volume was expected to lower the production costs for these inputs. A second advantage was the presence of trained assembly workers and managers who understood the team management system. These seasoned employees would lead training sessions and could reinforce the lessons by

1NADA dealer survey, Winter 1993/1994.

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example on the factory floor. Company officials also emphasized the value of informal communication between Module II and the other groups at the Spring Hill complex. They hoped this process would encourage innovation across the sites and reinforce Saturn’s team-oriented culture.

UAW vice president Stephen Yokich was not as enthusiastic about the Spring Hill option.2 He contended that it did not make sense to uproot workers from communities where factories had been shut down or were scheduled to close; GM should be spending any new investment to renovate these plants and retrain local workers. Yokich had been an outspoken critic of Saturn’s flexible work rules and had asked to renegotiate the contract on several occasions. This position differed from that of Saturn’s local union president, Mike Bennett, who had not given Yokich permission to re-open the agreement. Saturn could expand at Spring Hill without further negotiations, but the Saturn contract could not be applied to another site without the national UAW’s approval.

Yokich was particularly interested in renegotiating Saturn’s overtime policy. At other GM plants, assembly employees were paid overtime wages for working more than 8 hours per day. At Spring Hill, union workers did not have a similar provision, allowing schedules of four ten-hour days per week. Bennett said this flexibility made it easier for Saturn to schedule three shifts per week, while saving the company up to $60 million per year in overtime pay.

Cost had been another deterrent to building Module II next to the existing complex. Constructing a new factory to raise capacity by 178,000 units would require an initial investment of $900 million, an amount GM was reluctant to spend during its turnaround phase. On the other hand, the advantages of lean supply lines and concentrated volumes were expected to reduce variable manufacturing costs to $7,200 per car by 1998,3 a year after the module would be completed. Variable manufacturing costs currently averaged about $7,600 per car (excluding factory overhead, preproduction expenses, and depreciation charges). An incremental expansion of Spring Hill over a longer period would cost proportionately more per unit of capacity (see Exhibit 2 for a summary of options).

Option 2: Convert an Existing GM Factory

By investing at an existing GM site, Saturn and GM could reduce the initial cost of the project and generate goodwill with the UAW. This choice would signal a commitment to adapt Saturn’s management and manufacturing lessons into GM in cooperation with the national union leadership. The process of “Saturnizing” an established plant would also provide vital information about programs and practices that could be transferred to other GM factories. Saturn expected to transfer about 1,500 of its current employees to serve as a core for the new assembly site. Another 1,500 would be recruited from within GM and from the UAW rolls of laid off workers. These additional hires could come from any GM plant, although the applicant pool was likely to include a high concentration of people who had previously worked at the site Saturn chose. Saturn’s trainers would lead all employees through classes to emphasize the company’s values and initiate the team-building process. Teams would make recommendations on the factory’s design, but they would be encouraged to replicate the assembly processes of the Spring Hill plant.

Saturn’s financial planners attempted to determine the optimal distance between a new site and the Tennessee complex. Many auto makers built cars in separate regions to reduce delivery time and transportation expense to dealerships. Saturn weighed these factors against the costs of stretching its supply lines. Any Module II plant would rely on Spring Hill for major components.

2Local unions were covered by an umbrella contract negotiated by the national UAW, but were given flexibility to modify some areas of the agreements through bargaining with local plant managers. 3The figures in this paragraph are estimates by the casewriter.

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The company also wanted to avoid having different suppliers for the new site. Expanding on the West coast had been ruled out, even though this alternative offered advantages for exporting to Asia.

Alternatives to expanding Spring Hill were suggested and explored by Saturn management. One choice was a closed plant in Willow Run, Michigan—20 miles west of GM’s Detroit headquarters. This assembly plant had produced larger cars prior to closing in September 1993. Willow Run’s local union had negotiated one of the most flexible contracts among GM plants in an attempt to avert a shutdown. This selection would signal a strong symbolic commitment to GM’s constituency in the Detroit area. Another possibility was an underutilized Chevrolet Corvette factory in Bowling Green, Kentucky. Proponents said that this location, 50 miles north of Spring Hill via a major highway, would allow Saturn to retain many of its suppliers. Company officials also felt that Bowling Green’s proximity would encourage cross-plant communication.

Saturn estimated the costs of converting Willow Run at $850 million, including relocation and training expenses. The facility could be operational in 36 months and would be capable of manufacturing 178,000 cars annually. Bowling Green would require a $900 million investment and would be ready for production within 30-36 months. Because of its smaller size, however, this site’s capacity would be limited to 100,000 cars per year.

As a prerequisite to converting Willow Run or Bowling Green, the company had to negotiate a separate contract with the UAW. Differences in the contracts at Spring Hill and the new site could lead to variability in the terms and levels of compensation. Assuming some sort of agreement could be reached, Saturn would have to adapt its organizational structure in response to the challenges of coordinating two locations. For example, the company had attempted to push decision-making down to the factory floor, but with two plants, the choices made by teams might vary. If these differences were not reconciled over time, the modules might eventually disagree on larger issues, such as choices of suppliers or designs for the cars. Similarly, managing the array of cooperative relationships could be more difficult across two plants, especially if the labor-management partnership deteriorated at either one.

From a marketing and sales perspective, expanding outside of Spring Hill would probably enhance interest in the company. Saturn had attracted the public’s attention in the late 1980s and early 1990s by advertising its ambitions to change the way cars were manufactured and sold. Spreading its methods to another production location would be an intriguing second chapter for “The Saturn Story.” The potential disadvantage besides higher costs, however, was that any setbacks— such as quality problems or internal tensions—would occur under a spotlight of media attention. If these issues were not resolved to the public’s satisfaction, Saturn could lose many of its admirers.

Option 3: Source Models from Another GM Plant

Company officials noted that this option would leverage Saturn’s brand equity and sales network. Industry studies showed that customers had such a positive perception of the Saturn name that they would be willing to pay a premium for any car the company sold. Therefore, even though GM was likely to sell a hybrid of the new model through Chevrolet or Pontiac dealerships, Saturn’s marketing and customer service would help distinguish the products.

Analysts offered mixed opinions of this option. While the financial details looked positive, some questioned the long term effects of diluting the Saturn brand. Customer enthusiasm could diminish if the company was seen as deviating from its original goal of doing things differently. The move would also represent a shift in Saturn’s mission of “market[ing] vehicles developed and manufactured in the United States,” a fact that might be highlighted by the news media.

In addition, these changes would have major implications for the relationships among the various interest groups within and outside the company. Saturn’s retailers might not be willing to

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maintain their “no haggle” pricing approach when a customer could negotiate a lower price for virtually the same car at a Chevrolet or Pontiac dealership. In addition, engineers would be likely to consider the outsourcing choice as an indication that they would eventually be transferred to the centralized NAO design center.

Option 4: Delay Expansion

“We can be profitable without [Module II], but we can be far more profitable over time by having added capacity,” said Don Hudler, Saturn’s vice president of sales, service and marketing.4 David Cole, the director of the University of Michigan’s Center for the Study of Automotive Transportation, seconded this opinion while discussing Saturn’s labor contract, the need for new products, and the plant expansion decision: “These are all important things that need to be done... but if they’re not done in the next six months, it’s not the end of the world.”5

GM and Saturn had been trading proposals regarding Module II since the end of 1993, but no decision had been announced. Analysts suggested three likely reasons for the delays. First, when Saturn began meeting with its parent, GM’s decision-making ability was affected by its limited resources. Consequently, GM seemed to focus on other priorities while waiting for its cash balances to recover. Second, Saturn’s sales forecasts may have been questioned because of concerns about Chrysler’s Neon introduction. The Neon had received strong endorsements from critics and was advertised at $1,000 less than Saturn’s base model. Third, GM was pursuing closed-door negotiations with the national UAW to see whether the two sides could reach a compromise related to a Saturn contract for a converted GM facility.

By June 1994, two of these three constraints had relaxed somewhat. GM’s strong performance in the first half of the year generated capital to invest in the car divisions. Saturn had set a sales record in May, while the Neon’s momentum had been slowed by a recall shortly after the model’s introduction. One source said GM’s final decision hinged on the outcome of bargaining with the UAW.

Meanwhile, every month of delay shifted the relative advantages of the options. Each one had a window of opportunity influenced by the required lead time (options 1 and 2) or by the planning processes at other divisions (option 3). In addition, Saturn incurred extra costs related to planning around several different outcomes. Mike Bennett, Saturn’s local union president, noted that as the company had adjusted its business plans since 1992, several projects had been postponed or canceled. This process was especially difficult for teams preparing Saturn’s international strategy since they did not know what types of new products the company would be able to provide.

General Motors’ North American Automotive Operations

GM’s North American Automotive Operations (NAO) encompassed seven car and truck lines6, as well as numerous components suppliers. In 1993, the group accounted for 70% of GM’s $134 billion in revenues and contributed $190 million in profits following three consecutive years of negative net income (see Exhibit 3).

4“A Falling Star; Mission Accomplished, Saturn Joins GM’s Struggles,” Chicago Tribune, May 1, 1994, p. 3. 5“Saturn Showing Growing Pains,” Gannett News Service, June 23, 1994. 6Buick, Cadillac and Saturn were strictly car brands, while Chevrolet, Pontiac and Oldsmobile marketed passenger trucks in addition to cars. GMC Truck, the seventh division, sold larger utility trucks and vans.

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The 15 years between 1979 and 1994 had been difficult for NAO divisions. In 1979, GM sold nearly half of all new cars in the U.S. By 1993, its share had slipped to under 35%. Initial losses were attributable to competition from low-priced Japanese models that offered better fuel economy and superior reliability. In the late 1980s and early 1990s, GM faced increasing competition from its domestic rivals, Ford and Chrysler. These companies had taken steps to improve product development and manufacturing quality that were beginning to pay off.

GM’s CEO Roger Smith had pursued a range of plans to revitalize NAO but achieved mixed results during his 9 years at the helm. When he retired in August 1990, he told reporters he wanted to be remembered as someone who helped prepare GM for the next decade. He had invested heavily in plant technology and led GM into joint ventures with other auto makers. However, he had also presided during the period of NAO’s share declines that forced GM to close factories and lay off thousands of union workers.

NAO’s problems escalated under Smith’s successor, Robert Stempel. The continuing U.S. recession, coupled with increases in labor and benefits expenses, contributed to GM’s losses of $2.0 billion in 1990 and $4.5 billion in 1991. In April 1992, the Board of Directors promoted John F. “Jack” Smith (no relation to Roger) to the presidency and placed John Smale, Procter & Gamble’s former CEO, in charge of the GM executive committee. Stempel retained his duties as chief executive but his influence waned. In October of 1992, the board asked Stempel to step down and elevated Smith to CEO. Jack Smith had managed GM’s international auto operations during the mid-1980s. His efforts to cut costs and streamline decision-making were widely credited for transforming GM-Europe into a consistent profit center. As CEO, he issued a similar blueprint for GM’s North American divisions.

By the spring of 1994, NAO had regained profitability. Customers were returning to showrooms as the U.S. economy rebounded from a long recession. GM’s divisions posted gains of more than 19% in the first quarter, while the industry as a whole grew by about 14% on a unit basis. Analysts attributed the auto maker’s better-than-average results to improved products and a strong yen, which eased price competition from Japanese imports. Smith also predicted that NAO’s share would grow as a result of new product introductions planned for later in 1994 and 1995.

The Car Divisions

Alfred Sloan organized GM around car divisions in the early 1920s to offer “a car for every purse and purpose.” Chevrolet targeted entry-level buyers, while Pontiac, Oldsmobile and Buick offered models that moved progressively up the price scale. Cadillac staked out the high-end market by providing the largest and most luxurious cars on the road.

From the 1930s to the late 1950s, each of GM’s five divisions sold a distinct model. While the cars shared basic components to save costs, every brand offered a different engine, chassis and body style to create individual personalities. The corporation began deviating from this formula in 1959 when it introduced smaller cars that shared “platforms” (i.e. engine and chassis). This practice became known as “badge engineering.” A decade later the company offered 18 models, many of which differed in only cosmetic features. For instance, the Buick Skylark, Oldsmobile F-85, Pontiac Tempest, and Chevrolet Chevelle were virtually identical except for their body panels and upholstery.

Analysts believed GM’s increasing reliance on badge engineering and other cost-saving measures during the late 1960s and early 1970s reflected concerns about antitrust scrutiny by the U.S. government. The firm had achieved a 50% market share and could no longer aggressively increase sales without the threat of prosecution. Management therefore focused on increasing profits by taking costs out of the vehicles. Over time, organizational units from different divisions were merged until their boundaries were indistinguishable. This approach produced strong financial results until the late 1970s.

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In the face of new competitive challenges, GM attempted to revive the divisions’ separate identities under a major reorganization plan in 1984. The company’s leaders considered reconstituting the five divisions, but eventually decided to separate Buick, Oldsmobile and Cadillac (BOC) from Chevrolet, Pontiac and Canadian operations (CPC). One executive recalled, “as we got to looking at the individual areas of expertise..., it was clear that you couldn’t cut them into fives without losing your critical numbers in any one of the capabilities. We finally concluded that two [groups] was as many as you could do.”7

Saturn was formed outside the BOC/CPC framework to insulate the new division from budget pressure and tensions between brands. This independence was intended to provide flexibility for testing new ideas. Saturn was allowed to produce its own engines and transmissions to infuse the models with a unique feel. New features and styling choices reinforced the claim that Saturn was offering “a different kind of car.”

The Turnaround Plan

Starting in 1992, Jack Smith pursued an aggressive plan for improving GM’s financial results. Costs were trimmed by shedding layers of management and by following through on plans to close more than 20 assembly factories by 1996. Smith also dismantled the BOC/CPC structure, replacing it with a unified NAO strategy board. This group aimed to eliminate redundancies across divisions by centralizing the design, engineering and purchasing functions for all brands but Saturn. Smith also announced plans to shrink the number of basic car platforms from 12 to 5, while supplementing the lineup with designs from GM-Europe.

During this transition, several observers predicted that GM would merge Saturn with Oldsmobile or Chevrolet. GM sources denied the rumors, but did not end speculation about the brand’s future. Analysts said Saturn could achieve its volume targets by broadening its product line with either larger cars or subcompacts. A more conservative course involved building sales of its current class of products by adding dealerships in the U.S. and moving into international markets more aggressively. Every option carried implications for Saturn’s capacity expansion, as well as for GM’s other divisions.

Chevrolet GM’s largest division was leading the NAO recovery during the spring of 1994. First quarter car sales increased 21% over the same period in 1993, and the division’s truck sales were up 20%. Managers said the gains could be attributed to Chevrolet’s product “renaissance.” The division had recently introduced several redesigned models and was planning to bring out at least five more by the end of the year. These models were part of the first wave of products flowing from the NAO’s “common parts” strategy.

As a full line manufacturer of passenger cars, Chevrolet epitomized GM’s difficulties during the past 15 years. General manager Jim Perkins told reporters: “We lost our place in the ‘80’s... We let our products slip.”8 Between 1979 and 1993, Chevy’s share of the U.S. car market fell from 20% to just under 12%.9 In the interim, the division had made numerous efforts to keep buyers from defecting to imports, especially in the smaller car classes. For example, the division had established the Geo brand of subcompact cars which were produced by NUMMI, a joint venture between GM and Toyota, and by other Japanese manufacturers. These models received better-than-average ratings from auto critics but captured only 8% of the small car market. Chevy also pursued entry- level buyers with its Cavalier, a mid-size model that was aggressively priced to compete with smaller imports.

7Keller, MaryAnn, Rude Awakening: The Rise, Fall, and Struggle for Recovery of General Motors, p. 110. 8“Compact Cars Loom Large for U.S. Makers,” Advertising Age, April 4, 1994, p. 4.

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When Saturn was introduced, several Chevrolet managers complained that the new brand was cannibalizing their sales. Further research revealed that only about 6% of Saturn’s buyers listed a Chevy or Geo as a second choice. Moreover, sales trends showed that Chevrolets were most popular in the Midwest and South, while Saturn’s core territories were in the East and West.

Chevrolet had recently dropped its “Heartbeat of America” advertising in favor of a more nostalgic “Genuine Chevrolet” theme. Several observers noted that the ads were reminiscent of Saturn’s early spots. The first commercial in the campaign showed Chevrolets in slice-of-life scenes from the 1950s to the present. In background, a neighborly voice said:

You’ve probably never thought much about it but chances are, at one time or another, you’ve had a Chevy in your life.... [W]e’ve always believed what it’s all about is finding a car or truck you love, no matter where you are in life or how much you have to spend. It’s getting you the safety, comfort and style you expect, for just a little less than you’d expect to pay. It’s being dependable enough to have 36 million people driving around with a Chevy emblem on their front end. It’s realizing that while body styles and paint colors may change, the right way to treat a customer doesn’t.

Pontiac Sales gains in 1994 made Pontiac the third-best selling brand in the U.S., behind Chevrolet and Ford. General manager John Middlebrook said the division thrived by offering sporty models at a more affordable price than the competing imports. In particular, the brand’s two best-sellers, the Grand Am and the Grand Prix, were mid-size models that listed for several thousand dollars less than the Honda Accord and Toyota Camry. First quarter sales of these products increased to 100,000 cars, while the brand as a whole had grown 34% to more than 170,000 vehicles versus the same three month period in 1993.

Pontiac’s performance had been particularly strong in California, where dealers were experimenting with a “Value Selling” concept. Cars were packaged with popular features and offered at a “suggested value price” to eliminate haggling. Managers hoped the program would enhance the buying experience by minimizing the need to shop at different dealerships.

National advertising emphasized styling and performance, appealing to a younger group of buyers than traditional GM brands. The median age of ownership was in the mid 40’s, comparable to most imports and slightly above Saturn. Pontiac sold cars in the medium, large and sporty segments. It dropped its small car, the LeMans, in 1993, so dealers relied on a variation of the Chevy Cavalier (sold as a Sunbird) to attract entry-level buyers. Industry sources also speculated that Pontiac would eventually put the LeMans name on a small car imported from one of GM’s international divisions.

Oldsmobile GM’s oldest brand was trying to rebuild its base in the mid-range of the divisions. During the mid 1980s, Oldsmobile had sold more than 1,000,000 cars annually. By 1993, however, sales had slipped to under 400,000, prompting analysts to question the brand’s viability. In response, Olds’ managers committed to remodel after Saturn—a process the media called “Saturnization.” Dealers were schooled in team-building and customer service principles. The division also set up a governance board with dealer representatives that endorsed “no haggle” pricing and moneyback guarantees.

Oldsmobile received above average reviews on its line of mid-size and larger cars but seemed to have trouble shaking a stodgy image. To reshape this perception, the brand was launching the Aurora, a $32,000 sedan that was designed to challenge the best of the luxury imports. Although Aurora sales would not turn the division around, Olds’ marketing staff hoped the car would bring curiosity seekers into showrooms, where they could become familiar with other models and

9Chevrolet’s share of the combined car and truck market was 16.7% in 1993.

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experience the new sales techniques. Olds wanted to attract the same profile of customer as Saturn who might be shopping for a larger vehicle. Oldsmobile offered seven different models, including a minivan and a sport utility vehicle.

Buick During the 1980s, Olds and Buick models were so similar that some called the cars “OldsmoBuicks.” Over the last several years, Buick had distinguished itself by appealing to more conservative tastes. The division’s general manager, Ed Mertz, described the brand’s image as “distinctive, powerful and mature.” Buick had tested several of the customer service ideas developed by Saturn, but determined that were not relevant to its target customer population. For example, the division’s market research found that most of its buyers liked to bargain over the price. Moreover, Mertz said that Buick’s customers generally did not consider import models.

Cadillac GM’s top-of-the-line brand traditionally produced the largest cars on the road. Within the past decade, the division had been challenged by European and Japanese imports that offered new performance and safety features. Cadillac responded by emphasizing product quality. Efforts to improve product and process design earned it a Malcolm Baldrige award in 1990. The first new products following the quality initiative proved popular with critics and customers. The mid-sized, sportier cars showcased Cadillac’s ability to integrate technology, style and comfort, and drew a younger audience (median age of 52) to the brand.

The LSE, a new model scheduled for 1996, aimed to expand Cadillac’s reach in the luxury segment. The smaller sedan and coupe were being developed by a GM-Europe division to give the cars a European look and feel. This design approach also fit Jack Smith’s plans to limit the number of platforms GM produced. Cadillac expected the average LSE buyer to be 45 years old and have an income of $75,000.

GM’s Competitors

Automotive News listed more than 150 car models and over 50 passenger truck lines in the U.S. GM marketed about one quarter of these products and captured 35% of the overall market. Ford Motor Company finished second with a 24% share, followed by Chrysler (16%), Toyota (7%), Nissan (5%), and Honda (5%) Exhibit 4 shows each company’s market share by product segment and Exhibit 5 compares 1993 financial results.

Ford

Like GM, Ford was benefitting from the recent buying surge in the U.S. First quarter sales were up about 15% over the same period in 1993, largely because of increases in light trucks and cars with newer platforms. In addition, since 1991 the company had added two points to its market share, recapturing the level it held in the late 1970s. These gains let Ford run its plants at close to full capacity, contributing to reduced manufacturing costs for each vehicle.

The company marketed vehicles under three brands. About four-fifths of the vehicles were sold with the Ford name. Market research showed that customers viewed this line as a close competitor of Chevrolet’s in most segments. Other sales were split between the Mercury, a midrange brand, and Lincoln, a close rival of Cadillac and Buick. Analysts noted that the company was seeking ways to improve customer service among its dealers but had not committed to major changes.

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Chrysler

The smallest member of the Big Three was riding a wave of new product introductions, which helped build sales by 19% in the first quarter of 1994. Chrysler surprised competitors with product development cycles as short as 30 months, roughly half the industry standard. This capability reduced pre-production costs and allowed the company to respond quickly to market conditions. Critics were also impressed with the results. The Neon, a new small car model, won Automobile magazine’s “Car of the Year” honor in 1994, and other recent introductions were frequently mentioned in lists of the top ten new products. Early in 1994, however, the Neon and a Jeep sport utility vehicle had suffered through recalls that some analysts attributed to the firm’s quick product development cycles.

Chrysler had taken advantage of a renewed interest in passenger trucks by offering a strong lineup of minivans, pickups and four-wheel-drive Jeeps. The products provided high margins and accounted for more than 60% of first quarter sales. Cars were sold through four divisions. The Plymouth brand handled low-priced small and mid-size models. Dodge carried some of the same platforms but included sportier features, similar to Pontiac’s product line. Eagle, a relatively new brand, targeted import buyers in the middle segment, while the Chrysler name appeared on upper- end models.

Toyota

Japan’s largest car manufacturer was a pioneer of continuous improvement in manufacturing processes. By consistently adding new features and enhancing reliability, the company developed a strong reputation for product quality in the small, medium and sporty categories. Toyota used this credibility to establish the Lexus brand, which was an instant success in the lucrative luxury market. In 1993-1994, however, analysts believed that Toyota had been too aggressive in raising its prices. Competing products were matching the brand’s features and eroding the company’s market share. Consequently, Toyota was trying to reduce manufacturing costs so it would have more flexibility to price its models.

Part of this plan involved steadily increasing the company’s production base in North America. This strategy mitigated the pressures of the rising yen, which had raised the auto maker’s costs. In addition, Toyota’s local presence reduced the company’s impact on the U.S. trade deficit, helping to defuse nationalist concerns.

Nissan

Nissan, another Japanese auto maker, had established U.S. assembly facilities in Smyrna, Tennessee, to produce cars and trucks. Nissan rebounded from a lackluster year in 1993 to post sales gains of over 27% in the first quarter of 1994. The recovery was led by increased demand for minivans, pickups and sport utility vehicles, as well as moderate growth in the company’s small and mid-size lines.

Nissan’s models received above average ratings from consumer guides, yet the company was not viewed as a market leader. The recently introduced Altima and Maxima were mid-size models intended to change this perception. The sporty Maxima listed for about $20,000, while the Altima was aimed at budget-conscious customers with a starting price in the $13,000 range.

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Honda

Like Toyota, Honda had entered the U.S. with small, fuel efficient models but gradually moved up-market into higher margin mid-size and luxury cars. In 1994, the company introduced its first sport utility vehicle but was sourcing the model from another Japanese manufacturer. In contrast to the Big Three manufacturers, Honda had trouble entering the passenger truck segments because its factories were designed to produce smaller cars.

During the first quarter, Honda’s sales increased 20% following a disappointing 1993. The biggest gains came from the Accord, a mid-size model that had been redesigned for the previous fall. All of Honda’s products received above average ratings in consumer guides for reliability and performance, though the company finished below the industry average in dealer service rankings.

GM in June 1994

GM’s strong sales results continued through the spring of 1994. As Jack Smith prepared for the annual shareholders’ meeting, analysts predicted second quarter profits of $1.8 billion, bringing the corporation’s total to $2.7 billion for the first half of the year. Smith had succeeded in reducing manufacturing costs by $2,000 per car, and additional changes were expected to produce another $2,000 in savings by 1996. On the sales side, J.D. Power’s surveys of customer satisfaction gave GM the highest ratings among domestic car makers. Saturn finished third on the list of all brands, followed by Cadillac (#10) and Buick (#12).

Keeping up with demand appeared to be GM’s most pressing problem. Dealers were compiling customer waiting lists for new platforms, while retooling was taking 4-5 months at some factories. One analyst estimated that GM lost $65 million to $85 million in pre-tax profits every month a plant remained idle. The factories also tended to operate at slower speeds during the first months of production to ensure quality. GM executives said the divisions were trying to reduce changeover time to two weeks by the year 2000. Smith addressed the issue of capacity constraints by announcing that GM would convert 13 plants that had been mothballed or were scheduled to close shortly for new production. He had not specified whether these decisions would affect Saturn or the sites its managers were considering.

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Exhibit 1 Buyer Loyalty by Age

Median Age of Owner

Percent Likely to Repurchase Brand

Ford Lincoln 65 74 GM Cadillac 65 71 GM Buick 65 70 GM Oldsmobile 63 68 Chrysler Mercury 61 62 Chrysler 61 61 Ford 54 64 Chrylser Plymouth 52 59 Subaru 51 59 GM Chevrolet 49 58 Dodge 49 56 Acura 47 61 GM Pontiac 46 56 Toyota 45 72 Honda 45 66 Mazda 44 56 GM Saturn 43 67 Mitsubishi 43 45 Nissan 42 55 Hyundai 42 38

Percent of owners that definitely will buy the

same brand

Percent of owners that definitely will buy from

the same dealership

Percent of owners that definitely will buy from the same salesperson

Under 30 16.0 23.0 26.8 30-49 23.9 29.9 35.8 50+ 32.5 35.8 37.3

Source: Automotive News/Advertising Age survey of car owners.

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Exhibit 2 Saturn’s Options for Expansion

Option 1 Option 2 Option 3 Option 4

Expand at Spring Hill Convert an Existing GM Factory Source Models from Another GM Plant Delay Expansion

Full Scale Low Scale Willow Run Bowling Green

Investment (millions) $900 $700 $850 $900 $200 n/a

Incremental Annual Capacity 178,000 110,000 178,000 100,000 50,000 n/a

Time Until Onstream 30-36 months 18-24 months 36 months 30-36 months 6 months n/a

Targeted Manufacturing Costs per Car* $7,200 $7,600 $7,400 $7,300 $6,700 to $7,100 for lower-priced model

n/a

* Variable costs per car after start-up at the new facility, including charges for transportation of components from Spring Hill (if applicable); these figures are estimates intended only to illustrate broad trade-offs, and are sensitive to assumptions about wage rates, productivity, and design changes

Source: Casewriter estimates

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Exhibit 3 Selected 1993 Financial Results for GM

Total a North America a Saturn b ---------------($000’s)---------------

Net Sales and Revenues $124,869.9 $97,179.5 $3,000.0

Operating Income n/a n/a $100.0

Net Income $2,465.8 $870.9 n/a

Total Assets $188,200.9 $162,307.2 $3,500.0

No. of Employees (000’s) 711 547 8

Notes: aCovers GM automotive operations and non-automotive subsidaries, except for GM Acceptance Corp. (financing and insurance). Revenues from Automotive Products totaled $107.9 billion in 1993. bEstimates

Source:

GM 1993 10-K Report, Casewriter Estimates.

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Exhibit 4 U.S. Automobile Sales in 1993

4A. Sales Classified by Market Category

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Exhibit 4 (continued)

4B. Leading Models and Unit Sales

Make 1993 Sales

Subcompact

Ford Escort ..................................................................................................................... 269,034 Honda ............................................................................................................................. 255,579 Saturn ............................................................................................................................. 229,356 Toyota Corolla ................................................................................................................ 193,749 Nissan Sentra ................................................................................................................. 168,846 Total Subcompact ..................................................................................................... 2,177,671

Compact

GM Chevrolet Cavalier ................................................................................................... 273,617 Ford Tempo .................................................................................................................... 217,644 GM Chevrolet Corisca-Berrett ........................................................................................ 171,794 Ford Mustang ................................................................................................................... 98,648 GM Pontiac Sunbird ......................................................................................................... 93,223 Total Compact............................................................................................................ 1,255, 014

Mid-sized

Ford Taurus .................................................................................................................... 360,448 Honda Accord................................................................................................................. 330,030 Toyota Camry ................................................................................................................. 299,737 GM Chevrolet Lumina..................................................................................................... 219,683 GM Pontiac Grand Am ................................................................................................... 214,761 Total Mid-sized........................................................................................................... 3,180 ,006

Large

Buick LeSabre ................................................................................................................ 149,299 Ford Crown Victoria.........................................................................................................101,685 Chrysler Dodge Intrepid ....................................................................................................89,127 GM Pontiac Bonneville ......................................................................................................88,591 Ford Mercury Grand Marquis ............................................................................................85,195 Total Large .................................................................................................................... .892,766

Near Luxury

GM Buick Park Avenue .................................................................................................... 59,533 BMW 3 series ................................................................................................................... 45,590 Toyota Lexus ES300 .........................................................................................................35,655 Volvo 940 series ................................................................................................................32,495 Volvo 800 series ............................................................................................................... 28,367 Total Near Luxury ......................................................................................................... 300,3 20

Luxury

GM Cadillac DeVille........................................................................................................ 115,650 Ford Lincoln Town Car ................................................................................................... 110,046 Acura Legend ................................................................................................................... 38,866 GM Cadillac Seville .......................................................................................................... 35,280 Ford Lincoln Mark VIII ...................................................................................................... 31,852 Total Luxury .................................................................................................................. 5 96,372

Specialty

Mazda MX-5 Miata ........................................................................................................... 21,588 GM Chevrolet Corvette..................................................................................................... 20,487 GM Dodge Stealth ............................................................................................................ 14,556 Mitsubishi 3000GT ........................................................................................................... 13,006 Ford Mercury Capri............................................................................................................. 9,723 Total Specialty .............................................................................................................. 11 4,546

Source: Automotive News Market Data Book

Note: Categories may not exactly match Exhibit 4A due to reclassification.

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Exhibit 5 Financial Results for Auto Manufacturers

($ millions) 1993 1992 1991 1990 1989

Chrysler Corp Net Sales 42,260 35,501 28,162 29,797 34,922 Cost of Sales 32,382 28,740 23,338 23,604 26,629 Selling, General & Administrative 4,901 4,350 3,713 3,013 4,058 Operating Income 4,977 2,411 1,111 3,180 4,235 Net Income (2,551) 723 (795) 68 359 Working Capital 11,356 11,727 9,200 10,764 33,234 Stockholders’ Equity 6,836 7,538 6,109 6,849 7,233 Total Assets 43,830 40,653 43,076 46,374 51,038

Ford Motor Co. Net Sales 108,521 100,132 88,286 97,650 96,146 Cost of Sales 89,887 86,488 76,808 82,165 73,772 Selling, General & Administrative 4,968 4,434 3,993 4,000 4,165 Operating Income 13,666 9,210 7,485 11,485 18,209 Net Income 2,529 (7,385) (2,258) 860 3,835 Working Capital 25,037 25,018 25,027 21,668 20,540 Stockholders’ Equity 17,032 15,836 23,490 24,038 23,528 Total Assets 198,938 180,545 174,429 173,663 60,893

General Motors Net Sales 133,622 128,533 119,753 122,021 123,212 Cost of Sales 106,422 105,064 97,551 96,156 94,683 Selling, General & Administrative 14,107 14,434 15,185 14,633 9,925 Operating Income 13,093 9,035 7,017 11,232 18,604 Net Income 2,467 (23,498) (4,453) (1,986) 4,224 Working Capital 127,774 124,666 121,627 120,100 121,995 Stockholders’ Equity 5,597 6,226 27,328 30,047 34,983 Total Assets 188,202 191,013 184,326 180,237 173,297

Honda * Net Sales 35,533 33,059 30,507 24,385 26,433 Cost of Sales 25,688 24,083 22,225 17,494 19,274 Selling, General & Administrative 7,196 6,373 5,865 4,446 4,427 Operating Income 935 1,154 1,041 1,270 1,341 Net Income 329 488 541 517 737 Working Capital 11,761 11,346 11,475 9,745 9,615 Stockholders’ Equity 8,913 8,301 7,714 6,864 34,983 Total Assets 25,876 23,757 20,946 17,998 17,306

Toyota * Net Sales 95,428 81,307 71,414 60,084 Cost of Sales 83,610 70,172 59,616 48,883 Selling, General & Administrative 10,118 9,387 8,176 6,999 Operating Income 1,700 1,748 3,622 4,203 Net Income 1,649 1,903 3,126 2,884 Working Capital 42,334 41,443 35,141 33,772 Stockholders’ Equity 44,510 37,751 33,174 27,685 Total Assets 87,985 76,662 65,132 55,105

* Honda’s fiscal year ends March 31st; Toyota’s fiscal year ends June 30th

Sources: Annual Reports