GM needs to double earnings to repay taxpayers

August 18, 2010

General Motors’ much anticipated initial public offering filing finally landed on Wednesday. But investors shouldn’t get too caught up in the hype. Sure, the automaker looks in pretty decent shape thanks to last year’s bankruptcy clean-up, and car sales are motoring away from last year’s lows. But to repay U.S. taxpayers in full, GM needs to at least double its earnings.

That’s assuming the carmaker is valued at the same earnings multiple as Ford Motor. Granted, GM and its bankers could argue that it has advantages over its cross-town rival that may warrant a higher valuation. It has far less debt, for starters. And it has a stronger position in fast-growing China.

But operationally GM is still lagging: the pre-tax margin on its global autos business was 5.7 percent in the second quarter. After years of losses and in a fairly low-margin industry, that’s worth shouting about. But it falls shy of Ford’s 7.2 percent margin in the same period. There’s an even bigger gap of more than three percentage points between the margins the two manufacturers make in the key North American market.

Being generous to GM, assume the company should trade on the same price-to-earnings multiple as Ford — 6.4 times next year’s consensus earnings estimates, according to Reuters. The U.S. Treasury converted $43 billion of emergency loans into a 61 percent equity stake in the revamped GM that emerged from Chapter 11. That means the Motown manufacturer has to be worth about $70 billion for Uncle Sam to break even.

On Ford’s PE multiple, GM needs to earn just shy of $11 billion next year to hit the desired target. Extrapolating earnings in the second quarter, GM would make as much as $5 billion this year. But thanks in part to higher commodity prices and other costs expected in the second half of the year, that figure is probably flattering.

If car sales continue to improve GM reckons it can increase production without pushing costs up too much, meaning the bottom line should get a significant boost next year. But it would require a heroic combination of bumper sales and stringent cost control to more than double profit. Until the new GM can prove it’s caught — if not overtaken — Ford, it doesn’t merit a valuation that will make taxpayers whole.

CONTEXT NEWS

– General Motors has filed its S-1 with the Securities and Exchange Commission, signaling its intention to launch an initial public offering of common stock. An IPO could happen as early as November and could aim to raise as much as $20 billion.

– Only current shareholders are to sell stock in the offering: the U.S. Treasury, which owns around 61 percent; the Canadian and Ontario governments, which together own around 12 percent; the UAW healthcare trust, which owns 17 percent; and the old GM’s unsecured bondholders, who own 10 percent.

– While GM will not be selling any new shares, it will raise as much as $3 billion from a planned sale of mandatory convertible preferred stock.

Comments

Mr. Currie has made an excellent analysis. The US government is selling its stake at a loss. I think that this is mostly due to political pressure to declare victory for Obama’s decision to nationalize GM and Chrysler last year.

On the business side Mr. Currie points out that GM seriously lags F in North America profit margin. Even more remarkable since GM’s labor agreement is more favorable than Ford.

The China results mean nothing since the success of the GM brand in China is due to the fact that GM’s partner there (SAIC) runs the business very well (SAIC also has successful JV with VW and also runs its own SAIC brands). GM had nothing to do with the success in China.

All in all go short GM and long Ford so you can be net neutral to the Unionised US auto industry. GM management is clearly inferior largely because the Ford family still controls Ford and is unwilling to see it collapse. This ensures that Ford will take the necessary steps to survive and prosper while GM flounders under its hired hands and government ownership.
What this all means is that

Posted by dallasdave | Report as abusive
 

Good report. This is precisely why I have been critical of Tim Geithner’s strategy for GM and the IPO. What is the hurry? GM needs to replace all of the Ally/GMAC financing operation and thereby internalize all profits from car finance. GM cannot hit the profit targets you cite — if ever — unless all of the captive finance is in the house. That still leaves about 50% of sales to the banks, but GM cannot compete globally without replacing GMAC. Thus my bear view on Ally/GMAC.

Posted by rcwhalen | Report as abusive
 

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