Analysis of General Motors Co (GM:NYQ)

As it becomes increasingly difficult to find quality stocks that trade at a good price, I thought I would tell you today about a stock that is well known to dividend-oriented investors: General Motors. Before it went bankrupt in 2009, it was in fact one of the famous "Dogs of the Dow", the ten stocks in the Dow Jones that pay the juiciest dividends. GM had the merit at the time of making part of the financial world understand that focusing solely on dividend yield is often a very bad idea, even when you are dealing with a large capitalization that has been around for a hundred years.

Today, after being saved by the American government, it is continuing its journey alone again and paying handsome royalties to its shareholders. The investor who would stop at the usual financial ratios could quickly feel tempted by its dividend and its cheap price. GM is, in spite of itself, once again today a very good example of what not to do in terms of investment. The devil is in the details and history seems to want to repeat itself.

Valuation & dividend

Let's start by looking at what traditional valuation ratios tell us. At first glance, GM is a real opportunity since the stock is trading at:

• 6.03 times current recurring earnings
• 6.41 times average recurring earnings
• 1.5 times tangible assets
• 1.28 times book value
• 0.34 times sales

Let us imagine that we want to estimate the intrinsic value of GM using the method of Benjamin Graham. The formula (Graham number) is: √(22.5 x earnings per share x book value per share), or √(22.5 x 6.43 x 29.12). This would give us 64.9$, while the current price is only 35.6$. WOW. The stock is trading at almost half of its fair value! Almost too good to be true...

In terms of dividends, it is just as interesting, with a yield of 4,26% and an average annual growth rate of 4,84% over the last five years. Despite this generosity, the distribution rate remains very prudent, since it amounts to only 25,69% of current recurring profits and 27,30% of average recurring profits.

So all the lights are green. Well, at least those on the "average investor" panel. Because if we look at the less common ratios, the situation is quite different. First, free cash flow has been negative for several years. This is explained by very high capital expenditures, representing almost 3 times the profits on average over the last five years. In other words, GM is not managing to transform its profits into available cash that it could return to the shareholder in one way or another. This can be seen in the dividend, which has not changed since 2016 and which could even be called into question, at least partially, in the future.

The other interesting point is GM's capital structure, with significant debt and very little cash reserves, as we will see later. This has a significant impact on its valuation since EBIT and EBITDA represent only 3.37% of the enterprise value. In other words, the latter is equivalent to almost 30 times earnings before interest and taxes, which contrasts sharply with the very attractive PER of 6 that we had above.

Balance sheet & result

Over the past five years, earnings have grown and so have asset values. The dividend, as we have already mentioned, started to increase before leveling off in 2016. As for cash reserves, they tend to decline. General Motors is therefore having some difficulty creating value for its shareholders, which is reflected in the share price, which has been stagnating since 2013.

Immediately available liquidity is very low, with a current ratio of only 0.92 (a very slight increase) and a quick ratio of 0.8. This already raises some serious questions in terms of solvency. GM's enormous capital expenditure needs are literally sucking up all cash inflows and the company finds itself stuck with short-term liabilities exceeding its current assets. The American automobile giant therefore has little choice for the moment but to resort to the banks, thereby worsening its situation (and that of its shareholders), as we will see later.

The gross margin is low, with only 9,12% (a fairly sharp decline since 2017). Surprisingly, the net margin still amounts to 5,63%, which is certainly not huge, but still relatively good given the situation. On the other hand, there is no need to draw you a picture of the FCF margin, which is obviously negative.

Where it gets funny is when we stop at profitability, since the ROE climbs to 21.3%. Here again, the average investor, generally quite fond of this indicator, could say to himself that GM is definitely very cheap (in appearance), and very profitable. Be careful though because as we have already mentioned, the capital structure of General Motors relies heavily on debt. If the ROE is so high, it is mainly linked to the fact that the equity is low! The ROA, with 3.64%, and the CFROA, with 6.71% actually paint us a much less glamorous picture.

Let's now take a moment to consider the debt that seems closely linked to GM and that also causes it some "small" problems. The long-term debt ratio compared to assets is very high, at 32,14% (increasing). The total debt, which has been increasing for several years, represents 2.7 times the equity. Given that the car manufacturer is not currently generating any free cash flow, it is impossible to say when or even if it will one day be able to repay this mountain of debt. Over the last five years, the use of debt has represented an average negative annual return of -23,75% for shareholders! This makes the "juicy" dividend of 4,26% much less interesting. Let's note a small positive point, however, the reduction in the number of shares in circulation, which gives back a small 2.5% per year on average to shareholders.

Conclusion

The average annual return of General Motors owners, taking into account the dividend, the reduction in share capital, but also the use of debt, has been miserable for five years, at -17.25%. We can clearly see the limit of an approach that would focus only on the dividend yield, which in this case seems very interesting at first glance. Obviously, GM pays its bills, its share buybacks and its dividends by contracting debt. There must be a whole new economic model that has just emerged. We usually see this with startups, except that they tend to issue shares and not pay dividends...

To really drive the point home, the Z-Score (Altman), with only 1.03 (red zone), simply tells us that GM is at risk of going bankrupt. The F-Score is fortunately better, with 6 points out of 9. On closer inspection, however, two of these points were obtained in extremis. So we would end up at 4, which is already much less glorious.

Add to that an annual volatility of 29%, for a beta of 1.37 and it all becomes explosive.

In short, GM is an exceptional value, not for its fundamentals, but for the lessons that can be learned from them. If we stop at the usual ratios and indicators, it seems to be a very good opportunity. If we dig a little deeper, it is a real nightmare.