Oh Lord Wont You Buy Me a Mercedes Benz Factory2

On October 1, 1993, Alabama emerged victorious as the site of Mercedes-Benz AG's first U.S. car plant. States like Alabama are vying more desperately than ever to lure new industrial jobs and hold on to those they have. To start with, they give away millions of dollars in free land. After that come fat checks for site clearance, training, even employee salaries. Both foreign and domestic companies are finding ingenious ways to cash in.

Mercedes initially had so little interest in Alabama that Andreas Renschler, who headed Mercedes's site-selection team and is expected to run the new factory, says he did not even plan to visit. Of more than 20 states that Mercedes looked at seriously, it initially leaned toward North Carolina, where Mercedes's parent, Daimler-Benz AG, already builds Freightliner trucks. North Carolina officials say Governor Jim Hunt pursued Mercedes harder than he ever had pursued a potential investor. Mercedes officials were reportedly surprised at the various states' ardor, but they quickly cashed in on it. Mercedes would get offers for certain things from certain states, put it on their ideal contract proposal, and then come back to the other states and ask if they would be willing to do the same. For example, Mercedes persuaded all the main competitors to offer $5 million for a welcome center next to the factory, where customers could pick up cars, have them serviced, and visit an auto museum. It got commitments for free 18-month employee-training programs. It also got state governments and utilities to promise to buy large quantities of the four-wheel-drive recreational vehicles that the new factory will produce. Perhaps the biggest bombshell, Mercedes officials even asked the states to pick up the salaries of its 1,500 workers for their first year or so on the job, at a cost of $45 million. The workers would be in a training program and would not be producing anything, Mercedes explained. Although North Carolina and other state officials said no, Alabama said yes, even to the salary request. "The Mercedes project simply was worth more to us than it was to any other state," says Billy Joe Camp, Alabama's economic development director.

When Mercedes found North Carolina proposing to build a $35 million training center at the company's plant, the German automaker enticed Alabama to more than match the North Carolina offer. To outbid the competition, the Alabama governor hurriedly won legislative approval for special, lavish tax concessions—dubbed Alabama's Mercedes Law—and offered to spend tens of millions of dollars buying more than 2,500 Mercedes vehicles for state use. In the bargain, Mercedes says it agreed to limit itself to using just $42.6 million per year in income and payroll tax credits; Alabama officials say that was all Mercedes expected to be

2 Rick Brooks, "How Big Incentives Won Alabama a Piece of the Auto Industry," The Wall Street Journal, April 3, 2002, A1, A24.

CASE STUDY (continued)

able to use, based on profit projections. It also will be allowed, however, to escape more than $9 million a year in property taxes and other fees, as permitted under existing law. Although South Carolina offered $80 million in tax credits over a period of 20 years, Alabama granted Mercedes a more attractive tax credit, available in advance in the form of an interest-free loan. Mercedes officials also say Alabama's promised education spending was double any other state's promise. Alabama officials even agreed to place Mercedes's distinctive emblem atop a local scoreboard in time for the big, televised Alabama-Tennessee football game. The price? Why, free, of course.

In all, Alabama wound up promising Mercedes over $300 million in incentives, which economic development experts call a record package for a foreign company. How has it worked out in the long run? Very well, say supporters of the Alabama program. On August 30, 2000, DaimlerChrysler announced it will invest another $1 billion in a major expansion at its Tuscaloosa, Alabama, site to double production for the next generation Mercedes-Benz M-class sport utility vehicle. The expansion is expected to double production capacity from 80,000 units to roughly 160,000 units at the Tuscaloosa facility and generate up to 2,000 new jobs. In announcing the expansion, company officials stressed that their success would not have been possible without the great partnership they had formed with the state of Alabama and the strong workforce that they found there. With the new expansion, DaimlerChrysler could become the fifth largest employer in Alabama, with more than 7,000 employees between its Chrysler electronics plant in Huntsville, Alabama, and the Tuscaloosa Mercedes-Benz factory. The total capital investment made by DaimlerChrysler since 1994 in Alabama is expect to rise to more than $2.5 billion, once the expansion is complete

A. With $300 million in state aid to attract 1,500 new jobs, the initial marginal social cost to Alabama taxpayers of attracting the Mercedes plant was $200,000 per job. Estimate the minimum marginal social benefit required to make this a reasonable expenditure from the perspective of Alabama taxpayers. Do the facts of this case lead you to believe that it is more likely that Alabama underbid or overbid for this project? Explain.

B. Does the fact that the bidding process for the Mercedes plant took place at the state and local level of government have any implications for the amount of inducements offered? Would these numbers change dramatically if only the federal government could offer tax breaks for industrial development? Explain.

C. In 1993, Ypsilanti, Michigan, lost a court battle to reverse General Motors Corp.'s 1991 decision to close a plant. Local authorities had just given it a $13 million tax credit in a vain attempt to keep the plant open. In its ruling, the Michigan Court of Appeals said, "It has never been held that . . . an abatement carries a promise of continued employment." Explain how such risks could be accounted for in a benefit-cost analysis of the Alabama Mercedes project.

D. Explain how a benefit-cost analysis of the Alabama Mercedes project could account for any potential erosion of the local tax base at the state and local level.

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