Can America build luxury cars?

When GM launched the CTS in 2002, executives said it heralded the revival of the beleaguered brand, which had been losing customers to foreign rivals since the 1970s. Leading up to the launch, $4 billion was directed to the Cadillac project — at the time, that meant a whopping 10% of GM's total capital budget was earmarked for a brand that made up fewer than 4% of total sales. Since then, the company has introduced the rear-wheel-drive STS, a re-skinned DTS, the SRX crossover, and a next-generation Escalade. "Overall, the brand's been moving in the right direction," says Wes Brown, a partner in Iceology, a Los Angeles-based consumer marketing research firm.

If only the same could be said for Lincoln, Ford's perennial also-ran in the domestic luxury market. The company makes a high-end SUV, the Navigator, that's every bit as good and flashy as the Escalade, but in 2006 the Cadillac sold more than 41,000 (ESV and EXT models included) to the Navigator's 23,947. In fact, in a year when light-truck sales were down 6.7% overall, according to Automotive News, Escalade sales were up more than 30%. Even worse for Ford, where Cadillac was up 13.6% for the year, Lincoln plummeted 24.5%.

MORE FROM BUSINESSWEEK Forgotten Luxury Car Brands The Best New In-Car Infotainment Systems Great American Motorcycles Most Luxurious Auto Interiors Halo Cars

Lincoln is clearly wrestling with its brand image. Recent models, such as the MKZ sedan and the MKX crossover, are targeted solidly at the less-expensive "premium" market. And while the company recently debuted a rear-wheel-drive concept, it most likely won't be on line until 2009. Long term, it remains to be seen whether Lincoln will continue to pursue its traditional luxury customer. And Cadillac isn't above a little trash-talking. "We don't really consider Lincoln a competitor," says Caldwell.

Will they buy?
And yes, there are some other U.S. car companies, such as Saleen and Mosler, that are turning out very expensive, ridiculously fast cars. But they do so in extremely low volume, and despite their exorbitant prices, tend to favor performance over luxury.

Even with a new product that's strong both inside and out, questions remain about the direction Cadillac's turnaround will take from here. For one thing, even though Cadillac is in a comeback mode, are its customers psychologically willing to accept it as a luxury brand on par with BMW and Lexus? The Escalade isn't a good example, because even though it can cost nearly $70,000, it's still a large SUV. To succeed in this category, Cadillac needs to offer competitive sedans and coupes. The CTS may lead to better things, but the sporty XLR convertible stands as a cautionary tale.

The XLR has an MSRP of $78,000 — and fully loaded, it can cost almost $100,000. Since it went on the market in 2003, it has been a sales disappointment, selling only 3,203 models in 2006, down 14% from the previous year. There are a number of things wrong with the XLR, not the least being its cramped, cheap interior and lack of luggage space. But the main problem is that Cadillac's core customers may be priced out of their league. Even for those who do have the money, would they want to spend it on a Caddy when at that price point there are so many other excellent, albeit imported, cars to choose from?

Missing models
It is, of course, possible for Cadillac to win back the hearts and minds — and wallets — of affluent Americans. After all, look at the success of brands such as Lexus and Acura, which spearheaded the drive to convince buyers that Japan could build a luxury car.

Still missing from the CTS line are variants — a coupe, convertible, or wagon — like those that have helped expand sales of the BMW 3 series. GM is said to be working on at least two of these, but some analysts expected such models to be out the gate by now. "To do it right in that segment you've got to have variants," says Brown. "I assume it's in the game plan." Cadillac product director John Howell adds: "It will take more than three sedans to be competitive."

For now, at least, the CTS is a great place to start.

MORE FROM BUSINESSWEEK

BusinessWeek Section Front

How One Private Equity Firm Beat the Odds The Intel-AMD Settlement: A Play-by-Play Investing: Should You Test-Drive a Hybrid CD? Stock Picks: Wal-Mart, Hewlett-Packard, Brocade After AMD: Intel's Next Big Battle Stocks Fall as Dollar Rebounds Stocks Finish with Modest Gains How to Move Beyond the DIY Transition to Encore Careers The Case Against Retirement Stocks Finish Mixed BusinessWeek Section Front