Overcoming a Costly Legacy

    Japanese car manufacturers that operate plants in the U.S. still have relatively young labor forces and few retiree obligations. Not so Detroit’s Big Three. And Ford’s recently announced downsizing means the company will have even fewer active workers supporting an expanding retirement population.

    Legacy costs have a dramatic effect on profits for a company like Ford. Art Smalley, a manufacturing consultant who has studied and worked in the auto industry, estimates that a Toyota Camry has a production cost advantage of $2,500 over a Ford Taurus. He figures that up to $2,000 of that difference can be attributed to higher pension, retiree health insurance and other legacy costs at Ford.

    Peter Cappelli, a professor of management at the University of Pennsylvania’s Wharton School of Business, says that a company like Ford can never wrest enough savings out of efficient labor management to offset the drain of legacy costs. "If Ford was to rank the things that worry them, the labor pool would not be at the top of the list. It would be pensions and health care," Cappelli says. "The enormous advantage foreign companies have operating in the U.S. is that they don’t have legacy costs."

    In 2002, Vincent Kerr, Ford’s director of health care management, testified before Congress on the growing financial strain of supplying the company’s retirees with health benefits. Kerr said that in 2001, Ford spent $2.5 billion providing health coverage to 560,000 employees, retirees and dependents. Spending on retirees represented 66 percent of the total ($1.6 billion), although retirees and their dependents made up 44 percent of those covered (246,000 people).

    Health care costs have continued rising since then. Ford spent about $3.5 billion on health care benefits in 2005, with about $2.4 billion going to retirees. Watson Wyatt Worldwide recently estimated Ford’s total liability for its retiree health care obligations at about $25 billion, second only to GM for American companies.

    Ford struck a deal with the United Auto Workers in December to reduce that total liability by $5 billion. Company chairman and CEO Bill Ford suggests that the company will need to do more to gain control over those legacy costs, but he has ruled out, at least for the moment, using bankruptcy court as a vehicle to slash pension and health care obligations.

    In addition to getting some concessions out of the UAW, Ford has also been trying to better control spending within its health insurance program. It has an audit under way to purge ineligible dependents from the Ford health care rolls. And it partnered with other domestic automakers to create an online prescription service for its workers and retirees.

    Where else can Ford look for help? Try Washington. "We can’t solve this problem alone, not when health care costs nationally are rising 8 percent a year and the system is full of disincentives to control costs," Bill Ford said in a recent presentation. "This problem will only be solved with business and government working closely together."

    But with the federal deficit soaring and Congress attempting to rein in Medicare costs, Bill Ford may have trouble convincing Washington to shoulder more of his company’s health care burden. It’s a legacy that won’t be easily overcome.

Workforce Management, March 27, 2006, p. 28 -- Subscribe Now!