GM: Solid in North America, But Europe Weighs on Profits
RJ is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
Automaker General Motors (NYSE: GM) recently reported second quarter earnings that were slightly better than expected. GM earned a profit of $0.90 per share, higher than consensus estimates, but down substantially from last year’s $1.54 in the second quarter. Revenue fell 5% to $37.6 billion, which was about $1 billion shy of the Street’s expectations. Automotive free cash flow remained strong at $1.7 billion, albeit down 55% from a year ago. GM expects strong performance in North America during the third quarter, though the company doesn’t explicitly give guidance.
Speaking of North America, revenue fell about $200 million year-over-year to $22.9 billion. Market share for cars in the US fell over 300 basis points to 15.4% thanks to supply from Honda (NYSE: HMC) and Toyota (NYSE: TM) coming back online, as well as strong performance from competitors like Ford (NYSE: F). Honda, for instance, sold 45% more cars during July of 2012 compared to July of 2011. Toyota sold 26% more cars, equivalent to 165 thousand vehicles. Toyota also intends to boost production in North America, which is a much stronger region than Japan and won't negatively impact results as much as exporting vehicles from Japan--Honda will follow-suit. As we’ve stated earlier, we aren’t overly enthusiastic about GM’s product mix relative to its competitors, and we think the company is struggling to eliminate the “Government Motors” perception. Additionally, GM doesn't really have a good competitor to the Prius, as the Chevy Volt hasn't really been a hit with consumers. However, we think strong sales data from Cadillac and Buick in July could support the theory that some of its brands are beginning to resonate with consumers. GM also remains committed to financing subprime car buyers. Unlike housing, subprime car loans aren’t nearly as risky, as the loans carry reasonably high interest rates and the collateral (in most cases the car itself) is easier to repossess than a home.
Not surprisingly, Opel, GM’s European brand, was a disaster. Revenue fell 21% and the segment swung to a $361 million loss compared to a $102 million profit during the same quarter a year ago. Management changes have run rampant at Opel, and the company remains committed to expanding its brand in Europe. The firm announced a $559 million deal with legendary English soccer club Manchester United to be the team’s jersey sponsor for seven seasons starting in 2014-2015, which the company hopes will raise brand awareness and prestige globally. We don’t think this will make Europe profitable overnight, and we think the company likely overpaid for its advertising rights.
International results remained relatively strong, as sales increased 8% year-over-year to $6.9 billion, though profits remained flat. GM is acquiring a stronger market position than Ford in China, and the ability to win share in a car market that could sell 30 million vehicles by the end of the decade could be a tremendous asset. The firm had 13.8% market share during the second quarter. Although we tend to like Ford better, GM’s presence in China is far superior, in our view.
Regardless, we think shares of GM are cheap…just not as cheap as Ford. We think Ford's cost structure in North America is much stronger (based on operating margins), and the firm has a considerably more attractive small car line-up. The firm’s pension is currently underfunded by $15 billion, but the company’s improved cost structure and lump sum payments should allow it to close the gap going forward (as long as capital markets cooperate). Though we aren’t crazy about GM’s current position in the US or in Europe, we think the company has strong potential in China and that the automotive refresh cycle in the US will continue to benefit North American operations, even if the firm loses some share to its competitors. GM scores just a 3 on our Valuentum Buying Index (our stock-selection methodology), and since we already have exposure to the auto OEMs through Ford (which also pays a dividend), we won’t look to add shares to the portfolio in our Best Ideas Newsletter unless the valuation becomes too cheap to ignore.
Valuentum has a position in Ford.. The Motley Fool owns shares of Ford. Motley Fool newsletter services recommend Ford and General Motors Company. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.If you have questions about this post or the Fool’s blog network, click here for information.