General Motors: Future Proof, Profitable, And Cheap
- Holding General Motors for the past few years has been a challenge, but performance gap with the broad market is closing.
- GM's legacy businesses are among the best-in-class while new mobility platforms are getting crucial corporate recognition.
- In spite of the recent run-up in price, a sum-of-the-parts valuation shows that GM is still very conservatively valued.
Since I first wrote about General Motors (NYSE:GM) back in October 2017, the company's share price has been going sideways, while management continued to execute well across all business units.
The reason for this poor performance has been that both the sector and the company itself are far from being the market's favorites due to the recent problems and the disruption raging across the industry.
However, it appears that performance gap with the rest of the market is closing while GM is also the best performing stock among the Detroit's Big Three.
While GM performance is still lagging behind the broad market since I started covering the company, returns relative to the market have been vastly different over the past year.
Source: prepared by the author
Thus, everyone interested in the company's long-term potential who has also been adopting a dollar-cost-averaging strategy has been enjoying much better performance over the period.
Moving away from the share price, during this same period GM was hit by a strike, pandemic lockdowns and now semiconductor shortage. Competition also intensified significantly over the period, with new electric vehicle and mobility platform startups accumulating billions of fresh capital globally.
And yet GM continued to execute strongly, not only in its legacy businesses but also across all areas of future mobility - from electric vehicles, fleet management, autonomous driving and fuel cells.
Why Legacy Businesses Matter
General Motors ambitious restructuring plan that focused on its U.S. operations and involved disposing of less profitable business units overseas have been a linchpin in the company's long-term strategy.
By doing so, GM's automotive division has become much leaner and retained its profitability. In contrast, GM's major peer - Ford (F) has gone in a very different direction as far as legacy automotive businesses are concerned.
Source: prepared by the author, using data from annual reports
The gap in operating profitability between the two companies is even more pronounced with GM automotive division generating operating profit of $4.1bn over 2020, compared to a loss of $7bn for Ford.
Source: prepared by the author, using data from annual reports
Not only did GM disposed of and restructured most of its overseas operations, but it focused almost entirely on its high margin Truck and SUV portfolio which further improved profitability.
Source: General Motors Investor Presentation
Even though many saw the GM retreat from the European and Australian markets as a sign of weakness, this move has allowed GM to allocate significant amount of resources to its future mobility solutions.
In addition, GM also scaled up its captive finance arm which further improved profitability and was also a major source of cash during the turbulent 2020.
Source: prepared by the author, using data from annual and quarterly reports
Importance of Partnerships
These lean and profitable legacy operations allowed GM management to focus on developing its future mobility solutions in batteries, autonomous driving, fleet management, fuel cells and other.
As a result, GM is not only among the leaders in each of these areas, but also attracted key strategic partners that will play a crucial role in scaling up many of GM's future technologies.
In the battery space, GM and LG Chem are already planning a second plant in the U.S. which will allow for a quick scale up of future EV models based on Ultium platform.
In the fuel cells space, GM and Honda have been working together on their hydrogen based technology. While fuel cells technology is lagging behind the battery solutions, it appears that this could change in the years to come as far as larger commercial vehicles are concerned.
In autonomous driving GM has done what no other auto OEM has done. After acquiring Cruise in 2016 for close to $600m the driverless business unit has been growing in value extremely fast, reaching a $30bn valuation in January this year.
Source: various publication sources
In the process Cruise has attracted investments from Softbank's Vision Fund, Honda (HMC) and now Microsoft (MSFT). In addition to the funding provided, each of these companies has also become a strategic partner of GM, with MSFT playing a key role.
In addition, GM will work with Microsoft as its preferred public cloud provider to accelerate its digitization initiatives, including collaboration, storage, artificial intelligence and machine learning capabilities. GM will explore opportunities with Microsoft to streamline operations across digital supply chains, foster productivity and bring new mobility services to customers faster.
Walmart was also recently announced as a key partner of Cruise in the area of self-driving deliveries.
GM's latest venture in the field of fleet management and last mile deliveries - BrightDrop is also being a partner of choice for one of the largest logistics corporations.
During its launch it was announced that FedEx (FDX) has already placed an order for 500 vehicles.
FedEx will receive 500 of the company’s electric light commercial vehicle, the EV600, later this year.
While having the right technology, scale and expertise plays a key role in securing these partnerships, active stakeholders could also help.
With Warren Buffett's Berkshire Hathaway (BRK.B) being one of the largest shareholders of GM, owning 5% of the company, it appears likely that his close relationship with Bill Gates might have played a role in bringing in MSFT, WMT and even FDX as either partners or clients. The highly concentrated portfolio of Bill & Melinda Gates Foundation Trust gives us a hint on why this could be the case.
Valuing GM Is Not a Straightforward Process
Valuing GM has become an increasingly complex task over the recent years. Valuing a highly cyclical business is hard task to begin with as it's heavily dependent on the macroeconomic environment and the business cycle, which in turn has been manipulated to the extremes as part of the current monetary and fiscal experiment. In addition, GM's captive finance arm and its long list of Chinese Joint Ventures bring in another layer of complexity. However, the real problem comes when you throw in the EV and batteries business alongside GM Cruise, BrightDrop and a number of other businesses.
Since the profitable ICE business is expected to slowly decline, it will be prudent to first value each of GM's other businesses and assign the residual value to the internal combustion automotive business.
Starting with GM Financial, I valued the captive finance arm at $9.2bn or $6.4 per GM share back in January based on a Dividend Discount Model. However, based on GM's latest 10-K SEC Filing, the book value of the business comes at $12.5bn which after applying a P/B multiple comparable to that of Ally Financial (ALLY) gives us a valuation of $14.4bn or $10 per GM share.
Putting a fair price on GM's batteries and EV businesses appears nearly impossible at this point in time as valuations of pure EV companies is subject to wild fluctuations.
Taking Tesla (TSLA) as the perfect example of a more established pure EV player, it clearly illustrates how much speculation is currently going on in the sector. Its P/S multiple varied from low single digits to around 30 in a matter of just one year.
Thus, it appears that a growing EV business could be temporarily valued at nearly any multiple, while long-term competitiveness and rates of return are uncertain.
Moreover, for some reason the market rewards pure EV players with significantly higher multiples, even though the EV space will be much more competitive, their source of funds are highly uncertain and business models are unproven.
A research paper by Research Affiliates covers the mania that has grappled the industry in more detail so I will not repeat its findings here. I encourage you to read it, if you are interested in an alternative opinion.
In my GM analysis from August last year, I calculated that based on an extremely conservative P/S multiple of 1.0, GM's EV business in North America and China could be worth $36bn ($25 and $11bn respectively) in 2025. Thus, based on a discount rate of 10% (beta of 1.34, risk-free rate of 2.5% and equity risk premium of 5.5%) and 1,442m of GM shares outstanding, this business could be priced at $17.1 per GM share in today's terms.
In my last analysis on GM, I also calculated that the company's stake in Cruise was worth $9.2 per GM share based on the then latest financing round with Softbank, Honda and T. Rowe. However, literally on the same day that my analysis got published, GM and Microsoft (MSFT) announced the new $2bn financing round in Cruise, this time bringing the total valuation of GM's driverless unit to $30bn which is also at par with Google's (GOOG) (GOOGL) Waymo.
While more details around the latest deal were not announced, it is estimated that GM owns around 70% of Cruise or roughly $24bn.
GM hasn’t updated its precise stake in Cruise after taking in additional investment. But the century-old auto maker likely owns roughly 70% of Cruise. That means the value increase of Cruise for GM shareholders is about $7 billion to $8 billion today.
And GM’s roughly $24 billion stake amounts to almost one-third of its current market capitalization.
Based on these calculations GM's stake in Cruise should be worth around $16.6 per GM share.
Having said all that GM shares today trade at $57.5, which after deducting $10 for GMF, $17.1 for the EV business and $16.6 for Cruise results in all other businesses being priced at $13.8 per GM share or roughly $19.8bn.
This is the price of the ICE automotive business that during the marked by pandemic closures year of 2020 generated more than a $100bn worth of sales and an operating profit of $4.1bn. Thus GM's highly profitable ICE business, which although is likely to be slowly declining, comes at a price-to-sales multiple of x0.18 or price-to-operating profit of x1.8.
Additionally, this also includes other GM ventures, such as its hydrogen business and the newly announced BrightDrop. The number also includes GM Defense which is getting renewed interest from the U.S. Military.
There are lots of risks facing General Motors, from the overall state of the U.S. and global economy to automotive industry disruption. While volatility is to be expected, GM's execution across all of its businesses is outstanding - from the high margin Truck and SUV ICE business, to its EV platform, autonomous driving unit, captive finance arm, fuel cells, Chinese JVs and other ventures. At the same time the company still appears to be very conservatively priced relative to its potential in all these areas.
This article was written by
Vladimir Dimitrov is a former strategy consultant with a professional focus on business and intangible assets valuation. His professional background lies in solving complex business problems through the lens of overall business strategy and various valuation and financial modelling techniques.
Vladimir has also been exploring the concept of value investing and in particular finding companies with sustainable competitive advantages that also trade below their intrinsic value. He supplements his bottom-up approach with a more holistic view of the markets through factor investing techniques.
Vladimir made his first investment in farmland right out of high school in 2007 and consequently started investing through mutual funds at the bottom of the market in 2009. In the years that followed he has been focused on developing his own investment philosophy and has been managing a concentrated equity portfolio since 2016. Vladimir is LSE Alumni and a CFA charterholder .
All of Vladimir's content published on Seeking Alpha is for informational purposes only and should not be construed as investment advice. Always consult a licensed investment professional before making investment decisions.
Analyst’s Disclosure: I am/we are long GM. 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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