Morning everyone. This supports a bit ,my thesis of why I am staying long GM here is BAML's research note on GM. Consistent with my take. Thinking about adding some more if we open around $35.
Unfortunate tragedy, but impact on stock likely limited
The deaths associated with the alleged faulty ignition switch on 1.6mm old GM vehicles are a human tragedy. From a financial perspective, the impact to GM is likely small, in our view. GM’s recall reserves appear more than sufficient to cover the cost of repair and potential liabilities while the sales impact will likely be negligible based on past recalls, in our view. Furthermore, although GM may choose to pay for costs associated with the alleged faulty ignition switches, the total liability may not even reside at General Motors Company, but at the former bankrupt entity though the issue may take time to resolve. Therefore, we believe the ultimate financial impact will be relatively small. Nonetheless, the headlines are depressing sentiment on the stock, and DOJ/congressional investigations are never good news, so the negative impact on the stock may linger temporarily.
Reserves are robust, repairs likely more than covered
GM reserves about $500 per vehicle wholesaled for recalls and similar costs for the lifetime of a vehicle, which in total equates to about $3bn annually. Total reserves at the end of 2013 stand at about $7.2bn. We’d estimate the cost of the repair at less than $50 per occurrence including labor, so on a base of 1.6mm vehicles the total cost of repairs would be about $80mm, well below existing reserves.
Vehicles no longer sold in US so impact on volume is limited
Historically large recalls have had a temporary impact on volumes for the vehicles impacted, which would be a risk. However, all of the vehicles being investigated in the US so far are no longer being sold including the Chevrolet Cobalt, Pontiac G5, Saturn Ion, Chevrolet HHR, Pontiac Solstice, and Saturn Sky. Furthermore, about half of the volume is from the discontinued brands of Pontiac and Saturn.
Sentiment may take time to recover
Although the basics of the recall and investigation may not have a material impact on the stock in the long run, a DOJ and congressional investigation are never good news. Until the rhetoric eases the negative pressure on the stock may persist. We believe there should be more concern about the soft start to US sales early in 2014 and elevated inventory levels, but even these risks are temporary, in our view, as sales appear poised to accelerate into the key Spring selling season.
Price objective basis & risk
General Motors Company (GM)
Our $46 price objective is based on 12x our 2014 EPS, which is at the higher end of the company's historical range but implies an EV/EBITDAP multiple of about 4.5x, which is within the company's normal range. Downside risks are: 1) A slower-than-expected global economic recovery and/or slower recovery in production volumes, 2) General consumer confidence, 3) Another wave of stress in the supply base, 4) New management team, 5) Rising raw material cost, 6) Potential overhang from continued government ownership, 7) Pricing pressure, 8) Inability to retain operating leverage as volumes recover further, 9) Inability to successfully execute future follow-on offerings or capital raises, 10) Risk of further regulation by foreign governments, 11) Higher oil and gas prices.
