Wednesday, June 16, 2010

Fortune: What to Expect from General Motors IPO

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The General Motors "rebirth" whenever it happens, is going to be a very interesting event.  This Fortune article has some pros and cons of the company and its prospects as a financial entity (I don't necessarily agree 100%) but what it is missing is the huge UAW concessions given over the past few years.  While the old guard is grandfathered (and hence it will take quite a while for labor costs to drop dramatically), the auto companies negotiated a tiered wage system so that new blue collar hires are going to be making just a tad more than your local Walmart associate.  (for what I consider to be much harder work)  Not to mention a huge amount of debt was discharged in the bankruptcy which is a huge advantage.  And the fact GM is a big player overseas (esp. Asia) where the real growth is.

On a tangent, obviously I see a lot of parallels with the auto companies & many layers of our government; in fact the public sector - despite being a fraction of the size of the private - now has more union workers than the entire U.S. private sector.  [Jan 24, 2010: For the First Time, More Union Workers Work in Government versus Private Sector]  The idea of the union itself is not harmful but eventually it reaches a size and scope where it becomes as powerful as the forces it originally organized against.  We saw this in the auto companies "then", and we now see this throughout government or its affiliates, such as public education where pay for merit is attacked as unfair.  Which again paralleled the situation in many auto companies over the past 30 years.  But since the government need not run at break even (forget a profit!) it is much more debilitating - after all the auto malaise went on for decades.  Meanwhile the 2 class system grows betwene public and private worker -  the geographical area around Washington D.C. has become the center of American wealth.  [Mar 11, 2010: [Video] America's 3 Wealthiest Counties Now Ring Washington D.C.]   Obviously we are nothing like Greece. ;)

Frankly I am watching in awe as the "socialists" in Europe actually are taking a knife to their public sector with many countries cutting worker pay, consolidating departments, et al, while the capitalist corporate socialist U.S. government lives in a parallel universe.  As long as the global credit card can be charged ever higher we'll just borrow more money to keep the status quo, rather than adjusting to a world the private sector is painfully forced into. That worked for a long while in the auto sector; indeed Ford took a huge gambit and effectively mortgaged all its assets (down to the blue oval!) just before the the Great Recession - which ironically was the only reason it was not forced into BK itself.  Two of the big 3 finally reached the point the credit card was cut off - unfortunately they don't have ability to print money or there would be "no problem" (just ask Tim Geithner)  But I digress!

Lost in the (justified) rage over the bailouts is the fact the auto companies are adjusting, unlike government.   The events of the Great Recession just forced their hand since it is such a fixed cost business which does not allow for much short term flexibility that a 5M drop in annual auto run rate requires - unlike many other U.S. private sectors which simply slashed their top cost en masse: labor.  While this future of far lower wages is going to be a painful path for auto workers, it poses a potential windfall for shareholders.  This will be an IPO I potentially will be quite interested in....

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Via Fortune:


  • Is it worth buying when your government is selling? That will be a big question when the colossal, and once colossally troubled, General Motors finally has its coming out party, which could occur as early as the end of this year.
  • The question became timely when news leaked on Friday, stating that General Motors had chosen Morgan Stanley and JPMorgan Chase  as the prospective underwriters for the deal, which could top $10 billion and mark the first major IPO to hit the market since Visa went public in March 2008.   Treasury better hope it still gets full-fare treatment from the investment banks, because selling investors on GM -- still known to many as "Government Motors" -- could be as hard as pitching a new GM car to once loyal customers.
  • <Investors will recall the shellacking so recently received by owners of the old GM, with stockholders virtually wiped out and many bondholders in GM's bankruptcy forced to accept tiny or inequitable recoveries. That's not to say that investors can't get over previous hurt feelings or develop some patriotic flourish, if the price is right. But a good deal for the US government -- and in extension the US taxpayer -- may not be so appealing to potential investors putting new skin in the game.  (a fair point)
  • <As with any insider, the US government, which holds a stake in GM worth more than $42 billion, obviously would like to maximize its profit, or at least minimize its loss. By extrapolating from current pricing on existing GM bonds, Eric Selle, a debt analyst at JPMorgan, has calculated that investors might support a GM market capitalization of somewhere between $70 billion and $90 billion, potentially providing the US government with a tidy profit.
  • Such a valuation would be a significant premium to its more profitable rival Ford, which is worth about $40 billion today. But analysts say GM can justify a higher multiple to cash flow due to the company's much lighter debt load and its recent operational improvements.

Pros
  • GM has made major strides since entering bankruptcy in June 2009. Last month the car company beat analysts' estimates when it announced that it had earned $865 million in the first quarter. The numbers were helped by GM's ability to get incentive-happy auto buyers and by an increase in global sales, including important emerging markets like China. This is an improvement from the same quarter last year when GM lost $6 billion.
  • In many ways, GM rode a tide that lifted all boats, and one that could continue to aid the entire automotive sector. Efraim Levy, an auto analyst at Standard & Poor's Equity Group, believes the industry bottomed in the second quarter of 2009 and he projects strong overall growth in car sales in China, India, most of Asia and in parts of Latin America. "We are in a bull market for automotive demand," says Levy. "The world is wealthier, there is more demand for vehicles and this will help automakers."
  • But GM also benefitted from its near-death experience in 2009. Following a $6.7 billion U.S. government loan, union concessions and a contentious bankruptcy, GM cut more than $45 billion from its debt noose, brought its multitude of brands down to a manageable four in size and began trimming its sprawling dealer network. It improved its car design and worked to optimize its manufacturing.
  • "What previous management did and what was accomplished in bankruptcy is one of the most dramatic transformations of any company in American industrial history," notes William J. Holstein, the author of Why G.M. Matters: Inside the Race to Transform an American Icon.
Cons
  • That doesn't mean GM is out of the woods. While GM may be "on the comeback trail," Holstein also says that the dealer network remains underinvested and too sprawling, and that the company's marketing "has yet to prove that it can fire a thirst for GM's undeniably improved vehicles."
  • GM has long struggled with the perception that its cars were clunkers. Although the first quarter's warranty payments dropped to about $821 million, or 10% compared with a year ago, consumers have been reluctant to believe quality has improved.
  • Also, GM's recent profit may not be as rosy as it seems. The company benefitted from a bankruptcy gift of $863 million, the amount of interest expense it no longer had to pay on its old debt. (while a gift, that is a permanent gift!) 
  • And its stellar U.S. sales figures -- 212,800 units in May -- was largely driven by fleet customers, such as car rental agencies and government buyers, who accounted for 38% of the purchases, according to Edmunds.com. The number of retail consumers actually fell in May, and those that bought were still being enticed by pretty hefty profit-squeezing incentives, including 0% financing. 

Takeaway:
  • The new GM may have a brighter future than the legacy GM left on the bankruptcy heap. But for those looking to buy in, value could be increased if political expediency made the US government a more motivated seller, if GM was knocked from what Whiston calls its current "sweet spot," or if GM's boosters turned more tepid.  As Holstein notes, GM "could be very attractive in five years. Everything just depends on where it is priced.

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