Vice President Joe Biden, addressing union workers in Detroit, famously said: “Bin Laden is dead, General Motors is alive.” True...but at what cost?
Was it worth it for taxpayers to sink $50 billion into General Motors
(NYSE:GM) during the financial crisis? Is it worth it now for taxpayers to continue to provide tax credits—potentially up to $10,000 to cars such as the Chevy Volt?
On June 1, 2009, in the wake of the financial crisis, GM filed for bankruptcy. Six weeks later, the company emerged with fewer brands, fewer plants, fewer workers, a lot less debt…and some very disgruntled bondholders. Controversy still swirls over how the Obama administration handled the process: Circumventing bankruptcy law, shortchanging bondholders, and giving the heavily Democratic UAW preferential treatment.
At first glance, the government rescue seems to have worked. General Motors, Ford
(NYSE:F), and Chrysler which is now owned by Fiat
(BIT:FI), all posted strong US August sales as the “Big Three” rebounded from their near-death experience. Total auto sales in the US are now projected to reach 14.5 million vehicles in 2012—up sharply from 2009’s 10 million.
Share prices, however, don’t show such a rosy picture. Both GM and Ford are down nearly 25% or more over the past two years. The Wall Street Journal
recently reported that if the government sold its current 26.5% stake in GM today, taxpayers would lose $15 billion. GM’s share price would need to reach $53 for the US to break even.
Global Economics Are Deteriorating
Until recently, China’s automotive market, the world’s largest, has shown stunning growth. GM has had the good fortune to be among of the leaders. GM’s Excelle was the best-selling car in China in 2011. In the last few months, however, Chinese growth has slowed considerably.
China is not the only country seeing a slowdown. Trade is slowing around the world as the US. Europe, Japan, and now Latin America face contraction.
Europe in particular has been a challenge for US automakers. In August, European car sales dropped 8.5%, an 11th straight monthly decline. Ford, General Motors, and Fiat led the way down. Pension Fund Obligations
Unlike most of their global competitors, GM, Ford, and Chrysler are saddled with large legacy pension fund obligations. At the end of 2011, GM alone had $134 billion in pension obligations ($25 billion unfunded). If the companies can’t meet these obligations, the already financially strapped Pension Benefit Guarantee Corporation (or PBGC) may need to take them over. Taxpayers may, once again, need to foot the bill if the PBGC itself needs a bailout.
To their credit, the auto companies are making efforts to reduce the liabilities with buyouts and management changes.
Subsidies: A Sugar High?
Have you have wondered why your pizza delivery boy drives a Lexus? Well, it’s easy to get a car loan nowadays, even if you have lousy credit. The Fed’s zero interest rate policy is helping fuel a boom in sub-prime auto loans.
Generous subsidies (bailouts, tax credits, long-term low interest loans, etc.) to automakers and auto loan companies such as Ally Bank (formerly GMAC, now 64% owned by the US government) help keep US auto sales artificially high.
As the solar industry has shown, when subsidies are discontinued, share price declines can be brutal. Some say the government is now subsidizing a highly dysfunctional auto industry--and it will end badly.
Japan is Back
In March 2011, a devastating earthquake struck off of Northern Japan, triggering a deadly tsunami. In addition to killing thousands, the tidal wave severely disrupted Japan’s auto industry and port traffic. Japanese vehicle production plunged. Toyota
(NYSE:TM) and Honda
(NYSE:HMC) are now seeing sales rebound as they reclaim lost market share.
Meanwhile, South Korea’s Hyundai
(KRX:005380), the world’s fastest-growing automaker, is reporting record sales, both in the US and globally, while Volkswagen
(ETR:VOW) continues to do very well in European and Chinese markets.
All this portends fierce competition for US automakers, both in their home country and overseas. Bullish Fundamentals
Thanks to its bankruptcy and recent strong sales, GM has a very strong balance sheet. The company is mostly debt free, has almost $21 cash per share (current share price: $24), and shows a forward price-to-earnings (P/E) ratio of 6.
Can GM, given its new lease on life, use its strong balance sheet to reclaim its former position of global dominance? If you believe that it can, GM stock is an excellent buy.
Because its debts weren’t wiped out by bankruptcy, Ford must contend with $100 billion in debt. GM only has $15 billion in debt.
If, on the other hand, you believe GM and Ford are only kept alive by government subsides, threatened by pension obligations, and under UAW constraints, consider the rapidly growing Japanese and Korean automakers instead.
Toyota and Honda make some of the best cars in the world. They, too, have strong cash positions, relatively low debt, and single digit forward projected P/E ratios. As an alternative to the US carmakers, Toyota and Honda are good buys now.
As to South Korea’s Hyundai: US investors are advised to indirectly invest in the company through the South Korean Index ETF
(NYSEARCA:EWY), which has Hyundai as its second-largest holding.
Explosive growth in emerging markets will lift shares of Hyundai, which has a strong presence in less-developed nations. Investors in the company will enjoy a long and profitable ride.
This article by Bruce Vanderveen was originally published on Investing Daily.
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