With GM stock at low, should you buy or wait?
Your decision depends on your appetite for risk. At any rate, GM should be on investors' watch lists. With video on GM's prospects.
By Jake Lynch, TheStreet
The new General Motors (GM)went public in November, collecting proceeds of $23 billion, which ranked as the second-largest offering in US history. The automaker was assisted by lead book-runners JPMorgan Chase (JPM) and Morgan Stanley (MS).
Although GM's stock -- initially valued at 7.8 times forward earnings, a sizable peer and market discount -- appeared cheap, it has tumbled from $33 to just over $29, as of Tuesday's close. The stock has tumbled 24% from a recent high around $39 to a fresh post-IPO low. What happened?
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In its current trough, GM is squeezing institutional money managers, namely, hedge funds that were optimistic about the stock's trajectory for 2011. GM ranks as the 10th most widely held hedge fund stock, according to Goldman Sachs (GS). (The government still owns a 35% stake.)
Top-performing funds, including John Paulson's Paulson & Co. and David Tepper's Appaloosa Management, were eager to initiate positions in 2010. Among the largest hedge-fund investors in GM is Pershing Square, run by Bill Ackman, which held 7.2 million shares, when it last reported, or 0.5% of shares outstanding. Currently, there is an opportunity to purchase GM shares at prices lower than those paid by top hedge funds.
Yet, individual investors should be hesitant to pull the trigger. GM's stock is indisputably cheap. It trades at a 2011 earnings multiple of 7.8, a free-cash-flow multiple of just 4.4 and an enterprise value to EBITDA multiple of 3.6, equivalent to respective automotive industry discounts of as much as 68%. Furthermore, its bankruptcy restructuring helped the company shed or, at least alleviate, many of its legacy problems, including an untenable debt burden and excessive pension and health-care liabilities. GM's balance sheet stored a lofty $29 billion of cash and investments, compared to $10 billion of long-term debt, at quarter's end.
Profit margins remain lackluster, with a trailing 12-month gross spread at 18% and an operating spread at 4.4%, well below respective industry averages. Still, GM's post-bankruptcy improvement is undeniable, even as Americans continue to purchase cars at a below-trend pace. Analysts are overwhelmingly bullish on GM, which receives 14 "buy" recommendations and six "hold" rankings. No researchers rate GM "sell." However, it's worth noting that the majority of brokerages evaluating GM participated in its IPO and earned fees, as a result, thus indicating an obvious bullish bias for the stock. Price targets suggest significant upside.
Citigroup (C) has the most aggressive forecast, predicting that GM shares will advance 70% to $50 in the next 12 months. On the opposite end of the spectrum, Jefferies (JEF) values the stock at $34, with a "hold" rating, implying that it has a modest 15% upside. GM is scheduled to report first-quarter earnings on May 16 and, given its stock movement around announcement dates, it may be prudent to delay a share purchase. Following announcement of fourth-quarter results, GM's stock tumbled 4.5%, even as the company exceeded the consensus earnings estimate by 18% and the consensus sales estimate by 6.7%. Given recent negative economic data, restraint is critical for individual investors.
GM's February sales exceeded analysts' estimates, but March sales, which advanced 6% from a year earlier, missed by a disappointing 16%. Fewer buying incentives were to blame, according to management. JPMorgan, which has an "overweight" rating and $42 target on GM, trimmed its earnings-per-share forecast by roughly 10% in response to fourth-quarter results and its target from $44, citing higher fuel prices' effect on consumer spending. March domestic vehicle sales, reported on April 1, came in at just over 9.9 million, trailing estimates by about 180,000.
GM's first-quarter earnings consensus has risen marginally in the past four weeks to 91 cents. However, the consensus for the second quarter, at $1.05, has fallen by 8 cents in four weeks as three analysts altered their 2011 financial models. Recent U.S. GDP growth downgrades at banks including Goldman and Morgan Stanley and at the International Monetary Fund have hurt the outlook for automakers. Hence, safety is merited at this juncture as Congress disputes what degree of fiscal tightening it will implement.
Some form of austerity and budget right-sizing, counteracted by ongoing monetary easing by the Fed, appears to be the most likely outcome for the rest of 2011. The Fed's most influential members, including Chairman Ben Bernanke and Vice Chairwoman Janet Yellen, have hinted that the central bank may maintain the size of its balance sheet and reinvest proceeds into Treasuries when QE2 ends in June. This suggests that the bank is still several steps away from increasing the federal funds rate. The equity market has become highly correlated to policy decisions since the economy emerged from recession. And stocks like GM will benefit from an ongoing accommodative stance, though that outcome is still uncertain.
Betting on sustained growth for GM is a gamble ahead of earnings. Yet, its stock is quickly approaching too-cheap-to-pass-up territory. If Congressional woes precipitate a market sell-off in coming weeks, GM is among the most important stocks to watch. Brand power, stemming from a product portfolio that includes the iconic American models of Chevrolet and Buick, provide the company with an economic moat. GM should be at the top of investors' watch lists. Its fast-growth China unit is another reason to consider the stock, but core operations, with 61% of 2010 sales coming from North America, are wed to U.S. prosperity.
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After enjoying a smooth rise in stock prices since May, investors are about to be hit with another bout of volatility.
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