General Motors: Best Laid Plans

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Summary

  • Another activist investor is taking on the largest carmaker in the U.S.
  • However, David Einhorn's financial engineering plan has fallen on deaf ears.
  • But this is a potential positive, as GM needs to be preparing for a topping of the auto market.

General Motors (NYSE:GM) has a new activist of sorts. It faced an activist investor group, headed by Harry Wilson, back in 2015, who pushed the company to install a massive buyback. GM ultimately, and reluctantly, gave in.

Now, David Einhorn's Greenlight Capital is making another activist run at the company. This comes as shares of GM have grossly underperformed over the last two years. The stock has fallen 6% in the last 24 months, while the S&P 500 (SPY) is up 15%.

GM is a carmaker first and foremost, but can it be more? David Einhorn certainly things so, but his timing comes at an interesting juncture.

In particular, the auto sales market might be topping out. March auto sales were anything but appealing, and we might be seeing a topping of auto sales in the U.S. March auto sales were below expectations, coming in at an annualized rate of 16.5 million - below the 17.3 million expected. For the first time since August, the annual auto sales rate is now below 17 million.

With this, Einhorn has already been working on other ways to unlock value for GM shareholders. His activist hedge fund owns 0.88% of GM shares and approached the company about seven months ago. Greenlight's presentation suggests GM is too cheap, at under 6x earnings. The fix is to create two classes of stock - one class for the dividend, and one for growth-focused investors. A relatively simple move that Greenlight says could get shares up to $60, or 70% upside.

Essentially, Einhorn is looking creating value out of thin air. All he's proposing to do is to create, in effect, a preferred class of stock for GM. He's hoping that by creating a separate class of "dividend" shares, other investors (those not owning GM shares) will take notice of the dividend and/or the growth and purchase the stock.

The idea is to bring in new buyers, new GM shareholders, by creating something for everyone. If you want income, you can get it with the dividend shares. More interested in playing the growth angle of the auto industry? There's GM growth shares.

However, much like the pushback Harry Wilson saw in trying to get GM to boost its dividend, the company has already pushed back against Einhorn. At the end of the day, a split class structure like Einhorn proposed would likely lead to more confusion than it's worth. Plus, it does little to help the company sell more cars. And lest we forget, GM has been down the road of trying out tracking stocks, having done so in the 1980s. It created GME shares for its Electronic Data Services acquisition and GMH (Hughes Electronics) shares to give investors exposure to those respective operations and the dividends tied to them. The move proved to be more confusing than anything else.

GM cites a possible weakening of its balance sheet if it went with Einhorn's proposal. And the company has been working hard since the 2009 bankruptcy to clean up its balance sheet. This was one of the big reasons that GM resisted Harry Wilson so adamantly.

Basically, the move to create a class of dividend shares would be very similar to having a preferred stock with fixed dividends. In the eyes of credit rating agencies like Moody's and Standard & Poor's, the dividend shares would be just like debt and put a strain on the company's creditworthiness and lock it into an "inflexible cash outflow burden."

But let us not lose sight that Einhorn is still a longer-term GM shareholder, having owned shares since 2011. The better move for Einhorn, and GM, would be to push the company on further cutting costs and preparing for what looks to be a topping in the auto sales market.

Given its superior dividend and already discounted valuation, GM may well hold up better than its peers if (and when) we see a further fall in auto sales. The problem is, if we are to see a weakening auto industry, studious investors will be best served looking for returns elsewhere. GM's cheap valuation and high dividend can't make up for the fact that industry dynamics are working against it right now.

This article was written by

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At Activist Stocks we use hedge funds and activist investors to find actionable investing ideas. That is, stocks with catalysts to unlock and generate shareholder value. Activist Stocks also offers a catalyst and event-driven idea forum for investors looking for unique idea generation, Catalyst-Driven Small-Caps, where I share daily activist and turnaround insights and deep dives.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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