Monday, September 10, 2012

No, GM Is NOT Losing $49,000 On Every Volt It Builds


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An otherwise informative Reuters article on the economics of the Chevy Volt makes the erroneous claim that "GM is still losing as much as $49,000 on each Volt it builds."

No, it isn't. The reporter and editor of the story just don't understand mircoeconomics.

I take a back seat to nobody in criticizing GM for its outrageous bailout, its poor management, its rapacious unions, and its money-sucking boondoggle called the Volt. If you doubt this, then see here, here, and here.

But I try to rely on arguments with a factual basis. If I didn't care about that, I'd just become a liberal and wallow in the smug self-satisfaction that comes from knowing that real-world results matter less than the fact that I care

Besides which, a reliance on demonstrably false claims is injurious to the long-term project of convincing the skeptical of the validity of conservative arguments.

Which is why I bother to point out that Reuters' claim of a $49,000 loss per unit is clearly the byproduct of the author's economic ignorance. 

The calculation confuses sunk costs - i.e. the $1.2 billion GM spent developing the Volt - with marginal costs - i.e. the incremental cost of parts, labor and other inputs to produce the next Volt. Spreading out the sunk costs across the Volt's modest production volume gives us an average all-in cost, which is important to know for the purpose of analyzing the overall profitability of the Volt, but it is not the right benchmark to gauge whether or not GM is better off producing that next unit.

The article cites estimates of $20,000 - $32,000 to build an incremental Volt. If these estimates are accurate, then GM can discount the $39,995 base price significantly and still earn a profit on every incremental Volt it sells.

That doesn't justify the Volt's existence, because they plainly have no hope of selling enough Volts to earn back their $1.2 billion in sunk costs, let alone turn a profit on the enterprise. But that is very different from claiming that GM is losing money - i.e. is made financially worse off - with every Volt it sells.

And there are other concerns raised by the article.

One is the discounting in an effort to juice sales, perhaps not coincidentally in an election year. GM seems to be aggressively discounting leases, which is especially interesting because it can mask losses through the term of the lease through optimistic assumptions about the residual value of the car when it comes off lease. 

This seems especially risky since there is no real history of used plug-in hybrid values on which to base such estimates. So I would not be at all surprised to see that the surge in Volt leases in 2012 results in a sizable write-down related to lower-than-expected residual values in 2014. Which happens not to be a Presidential election year.

It is also a red flag that GM seems to have abandoned any pretense of turning the Volt into a profitable product line in the next few years:

"It's true, we're not making money yet" on the Volt, said Doug Parks, GM's vice president of global product programs and the former Volt development chief, in an interview. The car "eventually will make money. As the volume comes up and we get into the Gen 2 car, we're going to turn (the losses) around." 

Whether or not volume ever reaches profitable is uncertain. What is certain is that the Gen 2 car, and any and all successors, will entail their own development costs, just like the $1.2 billion spent developing the first generation Volt, about which GM used to dream the same big dreams it now has for the Gen 2 iteration.

The Volt is a loss-making enterprise even with the massive subsidies it enjoys. It is an easy enough target on the merits. There is no need to risk one's credibility to bash it with an ill-informed argument from a reporter who doesn't grasp Econ 101.


  1. Much better analysis that Reuters. Thank you.

  2. Is this accounting method consistent in the auto industry for all models ?

    1. It's just not how you would measure marginal profitability, which is how Reuters positioned it.

      The sunk costs are costs, but they don't go up or down based on whether GM builds any more Volts or not. The $49,000 figure would be an accurate epitaph for the Volt product line if a) GM killed it today and b) the technology had no remaining value. Neither of those conditions hold.

      I hope this helps.

  3. Given your analysis, the Reuters article may represent an optimistic view rather than acknowledging the $1.2B in sunk costs that they pretty well know they will never recover. Doing some very quick calculations, if GM had a 30% margin on the Volt, and assuming sales figures remain equal to current levels, they should recover their development costs by 2076 (not adjusted for inflation, so I guess it would be even later using NPV).

    1. Isn't it striking that GM now acknowledges they won't make any money on the 1st generation Volt, and reverts to the Pee Wee Herman "I meant to do that" defense?

      Obviously GM hopes that technological and cost advances will turn the Volt into more of a mass market vehicle, and I'd wager that based on that hope they will continue to throw good money after bad through the development of successive generations of the Volt, with prosperity always remaining just around the corner.

  4. I was thinking the same thing, and fortunately the original article provided both sunk and marginal costs.

    The real question for GM is the value of the technology created with the Volt. They have created their own version of a hybrid/electric system, and from reviews it seems like an excellent system. Let's say they eventually used it on every GM vehicle made. If they do, it may well have been a wise investment since it makes them way ahead in the fuel economy race. If they put the Volt's system in their most economical cars, they can probably sell a lot more high-end pickups (where the profits are) than they could otherwise.

    Now, the odds are that this is a really expensive system to build and so you can't put it in a low-end car. But then again, look at how Toyota is expanding the Prius range. I seem to remember they invested comparable amounts into the original Prius and really didn't expect to get it back. Now they have. Perhaps the Volt can work out in a similar way.

    On the other hand, the Volt is the child of politics and I think that's a big reason it hasn't succeeded. I think they should have made it a Cadillac so it would appeal more to upscale early adopters, just as Teslas are. For $60k-odd they could have a beautifully assembled, richly detailed car that would have really looked like something great. And they would have made money on every one.


  5. Well the plant capacity that is represented by the sunk costs could be used to make vehicles that contribut better to recovering the sunk costs. Sink enough costs without recovery and you are sunk.

  6. Great response.

    As far as the technology investment goes, I love my Volt and I was was of those people who were never going to buy a GM car again. I'm up to 620 MPG.

    I bought the Volt because when I did the math it came out a bargain. We've reached a tipping point where the cost of gas plus maintenance on a non Volt over 5 years is going to cost you $15K. Add the $9k from CA and the Feds and my car looks $24K cheaper.

  7. The Volt gives the lie to the conspiracy theories concerning the demise of GM's earlier electric vehicle -- the EV1.

    The EV1 was supposedly killed by the oil companies or some other evil corporate entity.

    And here's the Volt -- many, many years later, newer technology, newer battery technology, funding by the frigging United States government and extolled by His Holiness Obama The Magnificent himself, and it still doesn't sell and no matter how you cut it, will never make back its development costs.

    No conspiracy needed, coal powered, taxpayer subsidized, UAW-built cars are not ready for the road.

  8. Lost in the hubbub of GM's per Volt loss, is the fact that the number one trade in on the Volt is the Toyota Prius. The fact that owners are trading up from the Prius to the more expensive Volt says to me that it's a competitive product in the hybrid/EV segment, if not in terms of price then in terms of appeal to that target market.

    That market, though, will likely never naturally grow to more than single digit percentages of total vehicle sales.

    I think the honorable Sen. Blutarsky is someone inaccurate when he says that future generations of the Volt will have their own sunk development costs, making it sound like GM's going to spend another $1.2 billion on Volt version 2.0. It's unlikely that the 2nd gen Volt development will cost anywhere near the cost of developing a completely new drivetrain and control system from scratch.

    As for the Pee Wee Herman response, it's absolutely true that car companies make models that aren't themselves profitable. Ford lost $1,000 on every 1956 Continental Mark II they sold and that was when $1K was real money. GM lost even more money on every '57 Cadillac Eldorado Brougham. Toyota lost money on the Prius for years. Some cars are loss leaders, like cheap turkey at the grocery store just before Thanksgiving. McDonalds might break even on a burger but they rake it on on fries and coffee.

    1. In other words: it makes them 'feel good'. That's not a viable business strategy.

  9. <blockquote>I think the honorable Sen. Blutarsky is someone inaccurate when he says that future generations of the Volt will have their own sunk development costs, making it sound like GM's going to spend another $1.2 billion on Volt version 2.0.

    Didn't sound like that at all to me. Common sense says the development cost of any future Volt will depend on many things but whatever they are they will not be zero. I figure the dear Senator wished to pre-empt quibblers by noting that any Volt follow-ons will have their own sunk costs.

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  10. It is completely predictable that some Prius drivers would turn them in for Volts. Neither car makes financial sense to anyone on a tight budget, but both are designed for the smug liberals who seek to feel morally superior to their neighbors with an empty gesture to "save the planet".

  11. But I try to rely on arguments with a factual basis. If I didn't care about that, I'd just become a liberal and wallow in the smug self-satisfaction that comes from knowing that real-world results matter less than the fact that I care.

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