General Motors Death Watch 82: Cut and Run

Ron Tadross. Say it softly and it’s almost like crying. If you’re GM that is. The Banc of America Securities analyst isn’t exactly what you’d call bullish on GM. Unlike his evil twin, analyst John Murphy, Tadross sees GM heading for a cash burn flame-out. "We believe GM management is glossing over the current and future cost of rightsizing the business," Tadross declared. More to the point, he recommended that investors sell their GM stock, with a target that’s literally half of its current price. In other words, when Merrill Lynch talks, nobody should listen.

Although the media types persist in calling GM plant closures and worker buyouts “rightsizing,” there is nothing “right” about the amount of debt GM is piling onto its bottom line. GM reported today that 35k workers are heading for the exits. The severance checks for these soon-to-be ex-employees will cost The General a net, after-tax charge of $3.8b. At the same time, 12,600 Delphi workers are heading for the hills. GM’s down for half, so that’ll add another $1b or so to the tab. Remember: many of these workers will continue to receive pensions, only 4600 lose their health care benefits, and shuttering factories incurs some pretty heavy additional expenses.

Clearly, GM CEO Rabid Rick Wagoner has decided that he can pay off tomorrow the costs of trimming production today. Tadross doesn't share Rick's belief that GM's tomorrow never dies. The analyst points to GM’s newly arranged $4.5b secured credit line as a sure sign that the company is cash-strapped– at a time when the demands on GM’s hoard are mounting like a tsunami nearing land. Tadross predicts "serious cash burn" at the end of the year, as GM’s production drops an estimated eight percent and its “product pipeline peaks.” In other words, GM can’t make money now, won’t make money later, and its bills are about to come due.

Rick Wagoner insists that the cuts have put GM on the right track. In a statement issued today, The General’s General declared "These moves have given us a fast start toward achieving our stated objective of reducing GM's global structural cost from approximately 34 percent of revenue in 2005, to 25 percent of revenue by 2010, and setting us up to be successful for years to come." That’s great news for people who forgot the old maxim that the secret to business is to take in more than you spend. GM may end-up spending less, but it won’t mean anything unless it starts making more money.

GM’s earnings situation is both dire and deadly. In a note to his clients, Deutsche Bank analyst Rod Lache estimated that every point of market share GM surrenders to its competitors equals roughly $1.3 billion in lost [pretax] earnings. In May, the world’s largest automaker’s US market share fell three percentage points to 22.5%. Using Lache’s calculations, if GM’s market share doesn’t recover, the world’s largest automaker is looking at $3.9b in lost income AND $3.8b for its worker buyouts. No wonder they’ve announced a fire sale.

Wait; it’s worse than that. It isn’t a fire sale. Instead of launching an employee discount program to match Chrysler’s, instead of slapping cash on the hood, GM has decided to offer potential customers zero percent financing for 60 months. The deal reflects GM’s desire to maintain its “value pricing," GM's attempt to bring its vehicles' manufacturer’s suggested retail price (MSRP) closer to the dealer’s invoice. (Translation: the advertised price is closer to the actual sale price, and no funny business.) But here’s the problem: because of falling demand for trucks and SUV’s, the vast majority of GM’s (and everyone else’s) truck and SUV buyers are thousands of dollars backwards on their loan. They owe more on their vehicle than it’s worth.

Traditionally, GM dealers have used rebates to pay off the difference between what their potential customer owes on their old vehicle and what it’s worth in trade. Now that there’s no cash on offer, now that there’s a smaller difference between MSRP and invoice, dealers won’t be able to bail out customers who are “underwater.” Zero percent financing is wonderful (for those who qualify), but it maxes-out at 100% of a new car’s price. So anyone who’s backwards on their current vehicle is going to have to reach into their own pocket to pay off most of their old debt. No doubt dealers will call it a “deposit,” but the fact remains: a lot of customers will drive away in the same truck they drove in.

But zero percent allows Rabid Rick’s mob to maintain appearances. See? We stayed the course. Once these ‘06’s are clear, once our new vehicles hit the dealer lots, once we’re right-sized, we’ll be back in the black. Yes, well, there are an increasing number of well-informed GM watchers who believe that the black in question will be funeral attire.