Hedge Funds Eyeballing Shares of GM
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General Motors (NYSE: GM)
(This write-up is an edited and greatly-abbreviated pitch from the SumZero community.)
Recommended Action: Long
Current Price: $24.38 Target Price: $33.00
Source: Hedge Fund. New York, NY
An investment in GM offers upside to the cyclical recovery in the North American markets, as well as the best possible exposure to the secular growth in the BRIC countries, particularly China, but also Brazil. Balance sheet and operation restructurings have meaningfully reduced GM’s break-even point, allowing it to generate strong margins and cash flows even in the current depressed demand environment.
- Current demand in North America and Europe is well below replacement. With 18-19% market share in North America, GM is best positioned to take advantage of an expected ramp-up in auto sales. Moreover, while GM’s new launch cadence in 2011 was below industry average, it is well above average in both 2012 and 2013, just in time to capture the improved industry demand. As consumer sentiment improves, demand should continue to rebound back to the normalized level and may even overshoot due to pent-up demand that has built up over the last few years.
- At 13%, GM has the largest market share in the BRIC markets and is best positioned to benefit from the rapid growth as car penetration increases. This compares to GM's closest peer Ford (NYSE: F), which has a low single digit market share (1.9%). China’s growth continues to be spectacular, as the penetration of cars (car/household) is still well below that of developed Asian markets. China’s penetration is still below 100 vehicles per 1000 people, while Brazil (GM #3 in the market) is at 150, Russia at 180 and Mexico at 200. Again, with 13% share (#1 position), GM is best positioned to capitalize on this growth.
- During the bankruptcy, GM cut approximately $9 billion of cost from its North American cost structure causing its break-even to improve to 10.5-11.0 million U.S. SAAR from 15.5 million previously. The largest component of GM's cost savings is labor - from 2007 to present, GM cut its North American labor cost by 55% from $11 billion in 2007 to $5 billion presently.
- Global capacity reductions have led to improved pricing throughout the industry. A main driver of the improved pricing has been lower incentives, especially for GM. During the last three quarters, incentives for GM have fallen from over $4,000 per vehicle to approximately $3,000 per vehicle. In addition to lower incentives, over the past 12-18 months, GM increased price by 11%, which equates to an additional $8 billion of revenue.
At $24.30, 2.24x 2012 EBITDA, 6.4x 2012 earnings, and 0.25x 2012 revenue, GM is cheap on an absolute basis, especially given its solid growth prospects driven by the cyclical recovery in North America and Europe and the secular growth opportunity in the BRIC markets, where it is the market share leader.
On a relative basis, GM trades at a significant discount to Ford (7.5x 2012 earnings, 0.34x 2012 revenue), its closest peer, even though its growth prospects are better. In my view, GM's relative value gap vs. Ford will close as it continues to execute and the overhang from bankruptcy lifts. In addition to being cheap on a relative basis, GM is in an industry where there is an opportunity for a multiple re-rating.
Most investors still think of legacy issues when they think of GM. However, GM does not have the pension or health care liabilities that are likely to overrun the company. Instead, GM sits with $33 billion of gross cash, which represents nearly its entire current market capitalization.
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